What happens to an individual’s superannuation if they become bankrupt can be a complex scenario depending on their individual circumstances.
Protection of a bankrupt’s interest in a fund
In broad terms an individual’s interest in a superannuation fund is protected following bankruptcy provided that interest is held in a regulated superannuation fund as defined by the Superannuation Industry (Supervision) Act 1993 (SISA), an approved deposit fund or an exempt public sector superannuation scheme. The fund must be a complying fund.
The protection extends to withdrawals from a superannuation fund post-bankruptcy, that are withdrawn as a lump sum. This is an important exemption as most assets acquired post-bankruptcy vest in the trustee as after-acquired property. The protection is also afforded to assets purchased with those funds post-bankruptcy.
Withdrawals that are in the nature of a pension or income stream will form part of an individual’s income to be assessed on an annual basis through the period of the bankruptcy, in determining whether a bankrupt is required to make income contributions.
If a bankrupt has made withdrawals from a fund prior to bankruptcy and those funds remain in a bankrupt’s bank account at the time of bankruptcy, they are treated as an asset of the bankrupt estate and, subject to quantum, may be recovered by a trustee.
The consequences of an interest in a Self Managed Superannuation Fund (SMSF)
The situation becomes more complex when an individual’s interest is held as a beneficiary entitlement in a SMSF. In order to be a complying fund, the members of an SMSF must also be trustees of the fund. In the event the trustee is a corporate entity, the members must be directors of the fund. A consequence of bankruptcy is that a bankrupt is disqualified from being a director of a company, impacting a corporate trustee of an SMSF. SISA also prohibits a member who is bankrupt from being a trustee of the fund. The consequence of the disqualification as trustee is that the individual can no longer be a member.
SISA allows a period of 6 months from the date that a trustee becomes disqualified to appoint an alternative trustee and transfer the bankrupt’s interest in the fund to an alternative fund. If the bankrupt fails to take the necessary steps within 6 months the fund becomes non-complying. While technically a trustee may potentially take steps to take control of the bankrupt’s entitlement from the fund in the event of non-compliance, the process would involve an application to Court which is a costly exercise. Many SME SMSFs do not have the asset value to justify such an application.
Once an individual is released from bankruptcy any disqualification to act as trustee of the SMSF is lifted.
Transfers to a superannuation fund to defeat creditors
Several years ago it was not unusual for a person facing possible bankruptcy to transfer funds to a complying superannuation fund in the knowledge that those funds would be protected. The Bankruptcy Act 1966 (Act) was changed to provide trustees with the power to recover funds paid to a superannuation fund after 28 July 2006 in circumstances where those funds would otherwise have become property of the bankrupt estate and the main purpose was to prevent the transferred property from becoming property of the estate. A trustee has powers under the Act to apply to the Official Receiver for a superannuation account-freezing notice, which while in place, prevents a bankrupt from accessing funds. The bankrupt has the ability to seek revocation of the notice.
Substantiating a claim that any transfer to a fund was an attempt to defeat creditors depends on the individual circumstances in each case but will largely depend on a trustee being able to demonstrate that the pattern of payments into the fund changed significantly in the lead up to bankruptcy. The powers to claw back payments to a fund also cover payments from a third party to the fund in respect of payments for the benefit of the bankrupt.
Superannuation payments that form part of a Family Court settlement
Superannuation entitlements are often a significant issue in Family Court matters involving the division of assets between the parties. Transfers into a superannuation fund pursuant to a court order that provides for a payment split under Part VIIIB or VIIIC of the Family Law Act 1975 are protected.
Further Information
This article highlights the intricacies of dealing with superannuation in bankruptcy. We are happy to discuss the issues highlighted further if you have any questions in relation to this topic.
For more information call us today on 1800 246 801.
Article written by Hillary Orr (Consultant) – Adelaide