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The taxation of unrealised gains following the introduction of Division 296 tax will pose severe financial risks for more volatile investments, a specialist auditor has cautioned.
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Practical scenarios demonstrate dire consequences of Div 296 tax, auditor warns
13 November 2024
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With the bill to implement the Division 296 tax expected to be debated in the Senate this month, an SMSF auditor has highlighted how the method of taxing unrealised gains under the new tax could have significant implications where capital gains are fleeting and the timing is unfortunate.
Tactical Super director Deanne Firth said in some of the recent SMSFs she has audited, she has seen examples where the new tax could pose severe financial risks driven purely by short-term spikes in asset value.
Firth said it was important that all senators were aware of what taxing unrealised gains would mean for super funds and individuals.
She gave a recent example of an SMSF that held a stake in a mining company, a decision which would have cost him his super and his house if the Division 296 tax had already been in place.
This is due to the unfortunate timing of a large unrealised gain followed by a massive unrealised loss, Firth explained.
"In this instance, the member’s balance had grown and was sitting comfortably above $3 million on 1 July 2022 due to the mining investment’s performance," she said.
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"Under the Div 296 rules, if they had applied at this point, the member would have been subject to the additional tax, given their balance exceeded the legislated threshold."
By 30 June 2023, the mining stock value spiked, rocketing the SMSF's unrealised gains to over $7.7 million.
However, this gain was fleeting and by June 2024 the mining stock's value had plummeted, leading to an unrealised loss of $10 million in the fund.
"The timing was what truly turned this into a nightmare scenario," Firth said.
"By the time the fund's financials for 2023 were finalised, and the Div 296 tax notice issued, the stock value would have returned closer to its original levels.
"Despite this, the Div 296 tax would still be due—effectively representing 40 per cent of the remaining balance of the SMSF."
To pay this tax, Firth said the SMSF would be forced to liquidate most of its assets, with the mining shares at the core of the issue potentially unsellable due to their sharply declining value.
Other SMSF assets wouldn’t cover the Div 296 liability, she said.
"Here’s where it gets particularly concerning: Div 296 tax is a personal liability for the member. In this case, the member, already retired, doesn’t have an extra $1.1 million in personal assets to cover the tax. This leaves them with a single option—selling their family home to cover the balance of the tax."
"Had Div 296 been in place in 2023, the member would now face an unsettling outcome: zero super, no family home, and a worthless carry-forward loss of $10 million in an SMSF with an empty balance."
Firth said this would leave them with no choice but to rely on the government for pension and rental support, all due to the timing of an unrealistic stock price spike.
"This case illustrates just how unfair the proposed Div 296 legislation can be and why taxing unrealised gains is not appropriate."
"It highlights the pressing need to remove unrealised gains from Div 296 tax as temporary market swings can leave members and trustees financially stranded by short-lived gains."
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