Superannuation & Bankruptcy - all you need to know

 Superannuation is generally protected if you become bankrupt, but there are important exceptions. 

The way your super is treated depends on when you receive it, whether you're a member of a retail or industry fund, or whether you have a self-managed super fund (SMSF). This guide explains how bankruptcy can affect your superannuation and what you should consider before making any financial decisions.

An individual’s superannuation is generally considered to be somewhat of a safe haven when contemplating asset protection, financial risk management, and the implications of bankruptcy. The safe-haven concept generally arises as under the law a bankrupt’s superannuation is considered to be “non-divisible property” in the event of bankruptcy i.e. it is considered to be a property that is not otherwise recoverable/realisable by the Trustee for the benefit of creditors.

This is subject, of course, to the various anti-avoidance, regulatory, and family law considerations that can apply. These can include contributions that were made to a superannuation fund to defeat the interests of creditors, the rights of a spouse to pursue family law orders relating to matrimonial property, and certain technical concepts pertaining to regulation of superannuation funds, exemptions, and compliance with the Act.

Is superannuation protected during bankruptcy?

The implications of bankruptcy for those with SMSFs are complex and for that reason are covered separately below.

For those that are not members of an SMSF, some of the key considerations if bankruptcy is a possibility or you are currently an undischarged bankrupt are as follows:

 Superannuation Payments Received Prior to Bankruptcy 

• Remaining superannuation held as cash are generally claimable by your trustee in bankruptcy; and
• Your trustee will generally be able to recover and sell assets that you have acquired from superannuation received prior to a bankruptcy.

 Superannuation Payments Received During/After Bankruptcy 

• Superannuation payments received during and after bankruptcy are generally not claimable by your trustee in bankruptcy if it is a lump sum and your trustee would not generally be entitled to recover and sell assets you purchase with those funds.
• Rather than a lump sum, if you receive superannuation payments effectively as a pension during your bankruptcy this is considered to be an income stream and will form part of your assessable income and be applied in the calculation of any compulsory income contribution that you may be liable to make during the term of the bankruptcy.

Self-Managed Superannuation Funds (SMSFs) and Bankruptcy

The use of SMSFs has steadily grown and is considered to be a particularly useful tool for business owners seeking to control their own superannuation and avoid their superannuation decisions being made by third-party fund managers.

However, the laws that pertain to SMSFs and bankruptcy are considered to be complex and require special consideration when contemplating the risks of bankruptcy in conjunction with other asset protection and financial risk management considerations.

The special rules apply whether a bankrupt is a sole member or one of a number of members of an SMSF.

Whilst not exhaustive, here are some of the matters to consider in respect of SMSFs and the effects of bankruptcy:  

• A bankrupt is automatically deemed to be a disqualified person under superannuation legislation when they become bankrupt and must not act as trustee or as a director of a corporate trustee. Fines and penalties can apply if the person concerned does not take immediate steps to resign their position upon bankruptcy.
• In the case of the SMSF having a corporate trustee ASIC must be notified immediately of a director becoming a disqualified person.
• If a disqualified person continues to act in respect of an SMSF it can be considered to be non-complying and lose concessional status ie tax implications.
• A bankrupt must inform the ATO that they have become a disqualified person immediately. There is a standard form for this purpose.
• There is generally considered to be a six-month grace period for an SMSF to resolve trusteeship issues arising from a member’s bankruptcy and to implement alternatives trustee arrangements to ensure ongoing compliance.
• The options to ensure ongoing compliance may include rolling the bankrupt’s interest into a retail superannuation fund or appointing an approved professional trustee to manage the SMSF for the period of the bankruptcy via a small APRA fund.
• If the superannuation of the bankrupt member is held in cash or other liquid assets it may generally be a straight forward exercise to roll over, however other considerations may also apply to cash and other investments such as break fees, cash-out costs, market valuation requirements, any impacts on other members, etc.
• Complications can arise when real property or other property is held, particularly jointly, that is incapable or difficult to split or realise within a short period of time (ie the 6 months). An example of this may be fit for purpose commercial property being utilised by business partners.

Whether a particular solution to a bankrupt member is appropriate for an SMSF depends on the special circumstances of each SMSF. There is, unfortunately, no uniform solution and much depends on the complexity of the SMSF, the members, the unique asset mix, and investment strategy.

In particularly complex scenarios careful planning is required in advance and when approaching bankruptcy. Such complexities can include:

• Complex/strained member relationships;
• Unique asset mix and strategies;
• Binding death nominations and member insurance arrangements;
• Commercial property, illiquid assets, borrowing and leases, etc; and
• Costs and the decision to either roll over, appoint a small APRA fund or find a solution to the debt issue either prior to the looming bankruptcy or within the 6 months of such an appointment.

When should you seek professional advice?

If you're experiencing financial difficulty or believe bankruptcy may become necessary, seeking professional advice as early as possible can provide more options and help you avoid unintended consequences. Decisions involving your superannuation, property and other assets should be made with a clear understanding of how bankruptcy laws may apply.

An experienced restructuring adviser can assess your financial circumstances, explain how bankruptcy may affect your retirement savings, discuss alternatives where appropriate and help you understand your legal obligations. Obtaining advice before taking action can help you protect your interests and make informed decisions with confidence.