SMSF trustees: Your investment diversification, or otherwise, is coming under scrutiny

The ATO has stated its intention to write to about 18,000 SMSF trustees and their auditors near the end of August where its records indicate that the concerned fund may not be adhering to the investment risk requirements as set out in the SIS regulations.

The trigger for the ATO is where it finds that an SMSF is holding 90% or more of its funds in one asset or a single asset class. “We’re concerned some trustees haven’t given due consideration to diversifying their fund’s investments; this can put the fund’s assets at risk,” the ATO says, adding that lack of diversification or concentration risk can expose the SMSF and its members to unnecessary risk if a significant investment fails.

Wide conjecture is that investments in cryptocurrency such as bitcoin, whether under an LRBA or otherwise, may be one of the focus points for ATO scrutiny. Naturally, concerns are also held, as the ATO states, for too great a concentration on one asset or asset class.

“We’ll ask trustees to review their investment strategy and clearly document the reasons behind the investment decisions. We’ll also ask trustees to have their documentation ready for their SMSF’s approved auditor for their next audit to help the auditor form an opinion on the fund’s compliance with these requirements,” the ATO says.

The mention of the auditing function of SMSF regulation comes on the back of recent regulator focus on the auditing industry. See SMSF auditor number identifiers found to have been misused, ATO takes aim at ‘you-scratch-my-back’ auditing arrangements, and Parliament launches an inquiry into the regulation of auditing.

With the latest communication strategy, the ATO in particular points to SISR reg 4.09, Operating standard – investment strategy. Noting that this regulation is written under subsection 32(1) of the act, the SMSF regulator repeats that trustees must “formulate, review regularly and give effect to an investment strategy that has regard to the whole of the circumstances of the entity.”

The ATO states that this includes, but not limited to, the following:

  1. the risk involved in making, holding and realising, and the likely return from, the entity’s investments, having regard to its objectives and expected cash flow requirements;
  2. the composition of the entity’s investments as a whole, including the extent to which they are diverse or involve exposure of the entity to risks from inadequate diversification;
  3. the liquidity of the entity’s investments, having regard to its expected cash flow requirements;
  4. the ability of the entity to discharge its existing and prospective liabilities;
  5. whether the trustees of the fund should hold a contract of insurance that provides insurance cover for one or more members of the fund.
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