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COVID-19 and early access to super

People financially affected by the coronavirus pandemic can access some of their super, but what will it cost long-term? 

Who is eligible to access super early?

In response to the disruption to the job market caused by COVID-19, the government has eased the rules around early access to super.

Several new groups of people are now eligible to access their super early:

  • unemployed people
  • those eligible to receive JobSeeker payment, Youth Allowance for job seekers, Parenting Payment, Special Benefit or Farm Household Allowance
  • those who’ve been made redundant or had their working hours reduced by 20%, or sole traders whose business has been suspended or faced a reduction of 20% or more since 1 January 2020.

However, just because you can access your superannuation doesn’t mean you should. 

We’ll help you weigh the pros and cons before deciding to dip into the funds meant to provide for your future and long-term financial security.

What are the risks of accessing your super early?

Taking out money before retirement means losing the benefit of compound interest over a number of years. Depending on how old you are, withdrawing money now could see you miss out on more than double that amount by the time you retire.

With this in mind, Super Consumers Australia director Xavier O’Halloran says you should weigh all of your options before dipping into your retirement savings. 

“There are a number of financial assistance options to help people through these tough times. Super will be the right option for some, but you should be looking at what else is available and possible cuts to discretionary spending before raiding the cookie jar.”

Although making a withdrawal now and/or next year will eat into your retirement savings, don’t forget that you may also be eligible to receive a pension.

The Moneysmart retirement calculator lets you enter in your details (including any breaks from the workforce) to see how much you would get in retirement from your super and/or the pension.

How will early access affect my savings?

An important point to consider is that the amount you withdraw from your super will no longer be invested. This means you may miss any eventual recovery in the market.

Super Consumers Australia modelling found that, for a 30-year-old, the impact of withdrawing $20,000 would be $49,823 by retirement age.

People with lower super balances will be more impacted by early withdrawal of the allowable amount, as it will be a larger proportion of their savings.

Super Consumers Australia has previously highlighted that women generally retire with lower super balances. The median superannuation balances for people approaching retirement age (60–64 years) was 26% higher for men ($154,453) compared to women ($122,848). Women also have greater needs in retirement due to a longer life expectancy.

Taking your super out early may mean you miss out on the market recovery

Experts like to say that ‘time in the market’ beats ‘timing the market’. This means that simply staying invested in the share market over the long term has historically produced higher returns than attempting to move in and out of the market to capitalise on fluctuations.

Analysis from finance publisher Firstlinks illustrates this point. It found that if you were invested in the S&P 500 (a US stock market index) between the start of 1999 and the end of 2018, the return was 5.6%. 

But if you weren’t invested for the best 10 days during that 20-year stretch, your returns fall substantially – to 2%. 

And if you missed the best 20 days, your returns would actually be negative.

This shows that missing out on being invested when the market surges, which can happen without notice over a very short period of time, can be very costly indeed. 

Trying to ‘time’ the market or pick the right point to put your money back in is extremely difficult. Most experts can’t consistently beat the market with timing or investment picking.

In the event that you do access your super early, you can make extra contributions to your super once back in secure work, in order to catch up. But you may not be in a position to start making those extra contributions before the recovery begins.


 

Many people are finding themselves in a financial situation they have never experienced before; if considering early access to your superannuation it is important to get independent advice about all of your options. 

Source: Super Consumers Australia & CHOICE 

The do’s and don’ts of property investing for SMSFs

Self Managed Super Fund trustees are no different to many other Australians – they relish the opportunity to invest in direct property.

Australian Taxation Office figures show property comprises about 13 per cent of SMSF assets of about $750 billion – third on the list of investments behind Australian equities and cash and fixed deposits.

Investment is split between commercial and residential direct property, with the former comprising about 9 per cent and the latter 4 per cent.

The heavier weighting in commercial property in SMSF portfolios should not be a surprise.

For many small-to-medium-size businesses (SMEs), the opportunity to transfer their business premises into their SMSF and then lease them back at the market rate has two attractions – the fund has an asset that, in all likelihood, will appreciate in value, and it removes any risk from the “landlord-tenant” relationship.

For other SMSFs owning direct property, the benefits are rental income and a lower capital gains tax rate when the property is sold.

The rental income adds to a super balance and it comes with an added bonus of incurring only a 15 per cent tax rate (or zero tax for members in the pension phase). And, like any rental property, expenses are tax-deductible.

The cream on the cake comes if a property is held for more than 12 months before sale, with just two-thirds of any capital gain taxed at 15 per cent (nil tax for those in the pension phase).

However, SMSF trustees must be fully aware of some specific rules about owning and renting property in their fund, with the ATO taking a dim view of those who breach them.

In particular, there are restrictions on how you or a related party can buy and use the property. For example, the law prohibits an SMSF acquiring residential property from any related party to the fund (such as fund members or their relatives).

Investment issues

It is important to note that commercial property is exempt from this ruling, provided the ATO is satisfied it falls within the definition of business real property. A commercial office, factory or productive farm land are prime examples.

It is not just about the regulations; there are investment issues involved.

 

Acquiring a property can result in an SMSF’s investment portfolio lacking diversification.

Although there are no golden rules about portfolio diversification, both the Australian Securities and Investments Commission and the ATO have raised concerns about SMSFs having the bulk of their investments in a single asset, notably retail housing.

The regulators’ concerns are magnified if an SMSF has used a limited-recourse borrowing arrangement (LRBA) to acquire the property.

Trustees also have to ensure the acquisition of direct property falls within the guidelines outlined in the SMSF’s investment strategy – a legal document. It will detail how much exposure the fund should have to the property market, the form that exposure should take, and whether it is appropriate in the circumstances for the fund’s members.

 

The investment strategy document is not something that can be allowed to gather dust at the bottom of a drawer.

All investments must fall within the guidelines devised by trustees and set out in the strategy.

One of the duties of an SMSF auditor is to ensure there is an investment strategy in place and the trustees adhere to it.

One final cautionary note relates to property’s lack of liquidity. Unlike shares, selling a property takes time so if there is an unforeseen circumstance, such as the early death of a member or a divorce, it can cause complications.

 

None of these warning signs is reason not to buy direct property – whether it be commercial or residential. The long-term returns can justify the investment.

However, seek specialist advice before acquiring this asset class, especially if it involves debt (LRBA) or will comprise the bulk of a portfolio.

Written by John Maroney, CEO, SMSF Association 

 

What expenses can an SMSF deduct?

Self-managed super fund (SMSF) expenses can be tax deductible provided that they comply with Australian taxation legislation.

It’s important to understand that SMSFs should only pay expenses that are:

  • Allowed for under superannuation legislation and the SMSF’s trust deed
  • Consistent with implementing the SMSF’s investment strategy

What are the general principles to follow?

Some SMSF expenses are tax deductible and some are not. It depends on whether the expenses relate to the fund gaining taxable income or not.

Expenses are tax-deductible if they relate to the fund gaining taxable (i.e. assessible) income. Superannuation funds (including SMSFs) are taxed on member contributions and their investment earnings. These contributions and earnings are taxed at the concessional super rate of 15% in Australia, up to certain contributions limits.

SMSF expenses are not tax deductible if they are capital expenses, such as the cost or purchasing fund assets.

Does it matter whether the SMSF members are in the accumulation or retirement phases?

Yes. SMSF expenses are not tax-deductible if they relate to the gaining of any non-taxable (i.e. non-assessable) income. Non-taxable SMSF income includes earnings form assets held to support member retirement phase income streams.

If an SMSF has members that are in both the accumulation and retirement phases, its expenses must be split appropriately between its taxable and non-taxable income. SMSFs in this situation should hire the services of an actuary to determine their non-taxable income. Only the expense amount that is apportioned to taxable income is tax-deductible.

No expense-splitting is necessary for any costs associated with collecting and processing fund member contributions or on the insurance premiums paid on behalf of members. However, splitting is necessary for most other types of SMSF expenses.

What SMSF expenses are tax deductible?

SMSF tax-deductible expenses can be grouped into the following categories:

  • Operating expenses
  • Investment-related expenses
  • Tax-related expenses
  • Insurance premiums
  • Statutory fees and levies
  • Legal expenses
  • Collectables and artwork expenses

We’ll now look at each of these categories in more detail.

Operating expenses

Operating expenses include:

  • Fund management and administration fees that trustees incur in carrying out their obligations. For example, collecting and processing member contributions.
  • Audit fees. SMSF trustees are legally obliged to appoint an approved SMSF auditor to examine their fund’s operations each year to ensure its compliance with super legislation.

Investment-related expenses

Investment-related expenses include:

  • Fees paid to fund investment advisers, provided that these fees are directly related to an investment that earns assessable income for the SMSF. Financial advice fees that do not meet this requirement include any of the following situations:
    • General financial advice
    • Financial plan preparation
    • Initial or upfront adviser fees
    • Ongoing advice fees for accumulated super in the fund
    • Advice for non-assessible pension income.
  • Bank fees.
  • Rental property expenses if the fund holds one or more investment properties in its portfolio of assets.
  • Brokerage fees (e.g. for share investments).
  • Interest on any SMSF funds borrowed for investment under a limited recourse borrowing arrangement.
  • Depreciation on investment assets (such as the plant and equipment in a commercial property owned by the fund).
  • Claiming subscriptions and attending seminars.

Tax-related expenses

Any expense associated with preparing and lodging an SMSF’s financial statements and annual return to the Australian Taxation Office (ATO) is tax deductible. In addition, funds can deduct any actuarial costs that they incur to determine the amount of tax-exempt income for any of their members.

Insurance premiums

Insurance premiums that SMSFs pay on behalf of their members are tax deductible. SMSFs are legally entitled to take out the following types of insurance for their members:

  • Life
  • Income protection
  • Total and permanent disablement
  • Terminal illness

Other types of insurance (such as trauma or health insurance) can’t be taken out by SMSFs on behalf of their members.

Statutory fees and levies

SMSFs must pay an annual ATO supervisory levy and this amount is tax deductible.

In addition, SMSFs that have a corporate trustee structure must also pay an initial Australian Securities and Investments Commission (ASIC) registration fee, as well as ongoing annual fees. All of these ASIC fees are also tax deductible.

Legal expenses

Some SMSF legal expenses are deductible, including costs associated with:

  • Amending the fund’s trust deed so that it remains compliant with any changes to super legislation.
  • Ensuring the fund’s compliance with its tax obligations.

Collectables and artwork expenses

Storage and insurance costs for any collectables and artwork that are owned by an SMSF are tax deductible. The insurance for these assets must be in the name of the fund and it must be taken out within seven days of them being acquired.

What is the process for claiming these expenses and deductions?

Tax-deductible SMSF expenses can generally be claimed in the year that they are paid. The only exception are any depreciation claims, which are “non-cash” expenses that are claimed over the estimated life of their associated assets.

All SMSF tax-deductible expenses should be claimed in the annual ATO return so that the appropriate tax debt or refund each year can be determined. Fund trustees should ensure that:

  • All tax-deductible expenses (excluding depreciation) are paid directly from their fund’s bank account.
  • All receipts and invoices are in their fund’s name.
  • They retain all their receipts and invoices for at least five years after their annual returns have been submitted to the ATO.

What expenses can’t you claim?

SMSF expenses that you can’t claim (and which you might expect that you can) include:

  • Any expenses associated with non-taxable income.
  • Travel expenses relating to residential investment property.
  • Legal expenses, such as those involved with preparing an SMSF’s initial trust deed (or significantly amending it a later date).
  • Any other costs associated with establishing the fund, as these are regarded as capital expenses.

In addition, if the trustees of the fund incur any administrative penalties from the ATO for non-compliance, these expenses cannot legally be paid by the fund. The trustees also cannot legally be reimbursed by the fund for the payment of these penalties. Administrative penalties are therefore not paid by SMSFs and accordingly are not tax deductible.

The bottom line

SMSF expenses that relate specifically to the fund’s taxable income are tax deductible. Some SMSFs have both taxable and non-taxable income. In this situation, fund expenses must be split between these two types of income, and the amount apportioned to non-taxable income is not tax deductible.

Source: superguide.com.au

What type of dishonesty disqualifies a person from having an SMSF?

This article examines the nature of disqualification and what convictions can preclude a person from forever being an SMSF trustee/director. Given the serious consequences of disqualification, it is important to consider the circumstances in which a person may have been automatically, and even unknowingly, disqualified.

SMSF members should also consider that their children, as a child who gets caught out with a petty conviction, may subsequently discover that they can no longer be or become a member of their parents’ SMSF. This might seriously impact the family’s succession plans.

What is a ‘dishonest’ offence?

A person can be disqualified if they are convicted of an offence involving dishonesty. This is regardless of whether the conviction was in Australia or anywhere overseas. There is also no time limit that applies — a conviction in one’s youth even if they are under 18 years of age can forever preclude that person from becoming an SMSF member.

Unfortunately, there is no clear guidance on what convictions constitute “dishonesty”, and indeed, “dishonest conduct” is not defined in the legislation. However, the ATO has provided several broad examples of such convictions, including fraud, theft and illegal activities or dealings. Notably, disqualification can occur for convictions occurring at any time, including convictions that were not recorded by the court for reasons of the person’s age or due to the conviction no longer being publicly available.

While dishonesty may be apparent or obvious in many cases, there is often some grey areas where the specific intent and severity of certain acts may not readily constitute dishonesty and require expert advice to determine whether there is an issue.

For example, is a teenager who is convicted of fare evasion on public transport forever precluded from being a member of their family’s SMSF?

If we refer to the Explanatory Memorandum to the legislation, there is guidance including an example of a minor (under 18 years) shoplifting 20 years ago charged with an offence involving dishonesty that would disqualify them as an SMSF trustee/director.

This raises an interesting dilemma in terms of comparative culpability, as arguably a violent assault or even murder could be done without dishonest intent, and therefore would not result in disqualification.

Should the legislation be designed to apply this strictly? Are there any exceptions to being disqualified?

Generally, a person convicted of an offence involving dishonest conduct is a disqualified person for life. However, there is one important exception in cases which do not involve “serious dishonest conduct”.

Serious dishonest conduct is an offence where the penalty imposed can involve a term of imprisonment for more than two years or a fine of more than 120 penalty units. This equates to a monetary penalty of $25,200 (a penalty unit is $210 on 1 July 2019 and this amount is indexed each 1 July).

In a case where the dishonest conduct was not deemed “serious” (i.e. it involves less than two years’ imprisonment or less than 120 penalty units), an application can be made to the ATO seeking a waiver of the disqualified person status. Such an application must be made within 14 days of the conviction, unless good reason for the delay is provided to the ATO’s satisfaction. (See, for example, Mourched v FCT [2014] AATA 223 where the ATO refused to grant an extension of time beyond the 14-day deadline.)

Consequences of disqualification

If someone continues to act as an SMSF trustee when they are disqualified, they will be committing an offence with significant criminal and civil penalties. Furthermore, it is an offence for an SMSF trustee/director to become disqualified and fail to notify the ATO immediately.

It is also important to note that a person’s legal personal representative (e.g. an attorney acting under an enduring power of attorney) is also precluded from being a replacement trustee/director in place of a member who is a disqualified person, which generally forces a disqualified person to forever cease to be an SMSF member within a six-month period of their conviction. This is based on the usual six-month grace period that an SMSF has to restructure to comply with the trustee-member rules in s 17A of the Superannuation Industry (Supervision) Act 1993 (Cth) before ceasing to be an SMSF. That is, a member who is convicted of an offence involving dishonesty must cease immediately from being an SMSF trustee/director, but the SMSF will not contravene s 17A until after a six-month period.

Are there any other options?

Where an SMSF has a member who is a disqualified person who cannot obtain a waiver, the following options are available:

  • The first is to roll over the disqualified person’s account balance to a large (Australian Prudential Regulation Authority, i.e. APRA) super fund; for example, an industry or retail super fund.
  • The second is to convert the SMSF into a small APRA fund by appointing an APRA-approved trustee (which is more correctly known as a Responsible Superannuation Entity Licensee, i.e. RSE Licensee).
  • The third, where the disqualified person has retired, attained age 65 or satisfied another condition of release with a nil cashing restriction, is for the disqualified person to withdraw all their benefits from the SMSF. Careful consideration should be given prior to withdrawing money from the super system, as the contribution rules are now very limited.

Note that any corrective action must generally occur within six months of disqualification.

Conclusions

SMSF trustees, advisers and especially SMSF auditors should continually monitor the eligibility of members to ensure they have not been disqualified. Naturally, clients are not always forthcoming about prior offences and previous indiscretions, and therefore, it is particularly important for advisers to actively consider the issue of disqualification. Advisers should include appropriate checks in their procedures to ensure no disqualified person is admitted or remains for more than six months in an SMSF. Finally, advisers should check to see if any of the SMSF member’s children may be disqualified and fine-tune their estate and succession plans accordingly.

Daniel Butler, director, DBA Lawyers

Catch-up concessional contributions

It’s been a long time coming but members are finally able to use the catch-up concessional contribution rules for the first time this year (2019–20).

The new rules represent a shift away from the government’s previous “use it or lose it” approach to super contributions and provide members with an important opportunity to make additional contributions in later years, when they may be better able to afford it.

However, the new rules also potentially make salary sacrifice and personal deductible contribution advice more complicated, as advisers need to determine both a member’s eligibility to use these concessions as well as the value of the member’s effective concessional cap in a year.

Catch-up concessional contribution recap

Under the catch-up concessional contribution rules, a member is able to carry forward and contribute any unused concessional contribution cap amounts that accrued in the previous five years (commencing from 1 July 2018) where their total superannuation balance (TSB) at the end of the previous financial year is below $500,000.

For example, taking into account the existing concessional cap of $25,000, the new rules allow an eligible member that had $10,000 of concessional contributions in 2018–19 and a total super balance under $500,000 on 30 June 2019, to make total concessional contributions this year of up to $40,000 ($15,000 + $25,000).

As time goes on, the catch-up rules could allow members to make quite high levels of concessional contributions over one year as members will have access to both the standard concessional cap in that year plus any unused cap amounts from the previous five financial years.

For example, taking things to the extreme, the new rules could allow an eligible member to make total concessional contributions of up to $157,5001 in the 2023–24 financial year, assuming they had no concessional contributions in any of the preceding five financial years. Alternatively, someone earning a salary of $70,000 in 2019–20 and only receiving employer SG contributions would accumulate an unused cap amount over the next two years of $36,5002, allowing total concessional contributions of $64,003 in 2021–22.

Once a member starts to use some of their unused concessional cap amounts, the rules operate on a first-in, first-out basis. For example, assume a member had the following unused cap amounts for the following years:

  • 2018–19 – $15,000
  • 2019–20 – $13,000
  • 2020–21 – $5,000

If the member then exceeded the standard annual concessional cap in 2022–23 by $20,000, the unused concessional cap for 2018–19 would be reduced to nil and the unused cap amount for 2019–20 would be reduced to $8,000. 

Finally, it is important to note that a member will only be able to carry forward any unused concessional cap amounts for a maximum of five years. For example, a member’s unused concessional cap amount for 2018–19 must be used by the end of 2023-24.

Unused concessional contribution amounts continue to accrue where TSB is over $500,000

It is important to note that while the $500,000 TSB eligibility requirement restricts a member’s ability to make catch-up concessional contributions in a year, it does not prevent the client from accruing unused concessional cap amounts in that year.

For example, if a member had a TSB of $501,000 on 30 June 2019, the member would be ineligible to contribute any unused concessional cap amounts that accrued in the 2018–19 year in the 2019–20 year. However, if their TSB declined due to negative investment returns or lump sum withdrawals during 2019–20, and was below $500,000 on 30 June 2020, the member could contribute the unused concessional cap amounts that accrued in 2018–19 and 2019–20 during the 2020–21 year.

Practical catch-up contribution advice issues

Before recommending catch-up concessional contributions, advisers need to confirm a range of issues, including:

  1. Value of member’s TSB as at 30 June at the end of the previous financial year;
  2. Value of member’s unused concessional cap amounts for the previous five financial years (commencing from 2018–19); and
  3. Amount of additional catch-up concessional contributions a member can make in a year, taking into account any other concessional contributions, such as employer SG contributions, that will be made during the year.

1. Total superannuation balance

To determine whether a member is eligible to make catch-up concessional contributions, advisers need to confirm that the member’s total superannuation balance (TSB) is below $500,000 at the end of the previous financial year.

Advisers can determine the value of a member’s TSB by making their own investigations or by getting the client to confirm their TSB value with the ATO — potentially via the myGov website. However, advisers should exercise caution relying on any ATO TSB data and should confirm the data is up to date and accurate and includes all amounts that are included in the calculation of TSB.

For example, the value of a member’s interests in an SMSF will not be reported to the ATO until the fund lodges its SMSF annual return. Depending on an SMSF’s circumstances, this may not be until May the following year. Therefore, SMSF members with a TSB that is likely to be close to the $500,000 threshold may need to wait until the values of the member balances have been confirmed.

2.  Value of unused concessional contributions cap amounts

Advisers will need to calculate the value of a member’s unused concessional cap amounts for previous years (commencing 1 July 2018) by making their own investigations, as at the time of writing the ATO does not report this figure. However, the ATO has announced it intends to start reporting unused concessional contributions cap amounts via myGov by the end of 2019.

However, once again, advisers will need to exercise caution relying on ATO unused concessional cap data and should make reasonable inquiries to confirm it is accurate and up to date. In the interim, or as an alternative, advisers should consider contacting the member’s super fund to obtain concessional contribution details for the previous financial years.

In this case, advisers should take care to contact all funds that may have received concessional contributions for the member during the relevant catch-up period. For example, some members could have received contributions to various funds over a number of years due to:

  • the member having chosen to roll over to a different fund during the catch-up period and redirecting their employer contributions to the new fund;
  • the member having changed jobs during the catch-up period and their new employer contributing their SG contributions to the employer’s default fund;
  • the member having multiple jobs and each employer contributing to a different fund;
  • the member’s employer contributing SG and salary sacrifice amounts to different funds.

Advisers should also take care to confirm the status of any personal contributions made by the member in the previous year. For example, a fund may be showing a contribution as a personal non-concessional contribution; however, if the member subsequently gave the fund a deduction notice for the contribution, maybe on the advice of their accountant, the contribution would change status from a non-concessional contribution to a concessional contribution.

In addition, an adviser should exercise caution to confirm whether the amount of any deduction claimed on a personal contribution is likely to change. For example, a member that has already made a contribution and lodged a deduction notice may be able to vary the notice down to reduce the amount they claimed as a deduction — maybe because they did not earn as much income as they expected. Alternatively, if a member wishes to increase the amount of the deduction claimed, they could lodge another deduction notice specifying the additional amount they wish to claim. 

Where a member has not made any personal deductible contributions during the catch-up period, an adviser could also calculate a member’s unused concessional cap by checking the employer contribution details for the member via their myGov account. While myGov does not report unused concessional cap amounts, it does report employer contribution details for 2018–19, which could allow an adviser to calculate a member’s unused cap amount for that year (and later years). While the ATO has announced it intends to start reporting members’ personal deductible contribution information via myGov, this is not expected until sometime in 2020. Therefore, these amounts would need to be factored in separately.

Another alternative could be to check any payslips for superannuation contribution details. Once again, an adviser would need to check the member had not made any personal deductible contributions and had not changed jobs or had multiple jobs during the relevant bring-forward period.

Finally, as part of calculating the member’s unused cap amount, an adviser will also need to identify any amounts of unused concessional cap that the member may have already used and deduct those amounts from the relevant year. See catch-up concessional contribution recap above for more details. 

3. Calculate contribution amount

Once an adviser has confirmed the value of a member’s unused cap amounts, the next step is to determine the member’s effective concessional cap in a year, taking into account the value of any other concessional contributions made during the same year.

For example, if an eligible member had unused concessional cap amounts in 2018–19 of $5,000, their effective concessional cap in 2019–20 would be $30,000. However, if the member will have employer contributions of $21,000 this year, their cap space will only be $9,000.

Therefore, it will be important to take into account the level of a member’s employer contributions that will be made during a year, including any additional contributions due to salary sacrifice arrangements or bonus payments, when determining the additional contributions a member can make during a year.

Advice strategy opportunities

As previously discussed, the catch-up concessional contribution rules provide members with the flexibility to make additional concessional contributions via either a salary sacrifice arrangement or by making personal deductible contributions in a later year when they may be better able to afford it.

For example, the new rules allow members who have spent time out of the workforce caring for an elderly family member or on maternity leave to make additional concessional contributions to catch up for those contributions they missed out on. Alternatively, the catch-up contribution rules could allow members on average incomes that have only been receiving employer SG amounts to make extra contributions to fully utilise their concessional cap. However, in many cases, the ability to make additional contributions will be entirely dependent on the member’s level of income and their ability to afford extra contributions.

In this case, members wanting to make extra contributions could consider alternative strategies, such as: 

• selling assets to fund personal deductible contributions or transferring listed shares or managed funds into an SMSF as an in-specie personal deductible contribution;

• contributing some or all of an annual bonus as a personal deductible contribution;

• contributing all or part of a windfall, such as an inheritance, as a personal deductible contribution; or

• from preservation age, entering into a salary sacrifice arrangement and replacing the lost income with a transition to retirement pension. 

Disposal or transfer of assets

Where a member wants to transfer the capital value of assets into super, they could either sell the assets and contribute the proceeds or transfer the assets into an SMSF or super wrap as an in-specie contribution.

In either case, the disposal or transfer will trigger a CGT event and could result in the member realising a large capital gain. However, a member could potentially make a personal deductible contribution to offset some or all of the capital gain. In this case, the deductible contribution amount could be increased if they are eligible to utilise the catch-up contribution rules and have unused cap amounts available.

For example, assume a member earning $70,000 and receiving 9.5 per cent employer SG, sold an asset in 2020–21 realising a net (discounted) capital gain of $35,000. In this case, assuming the member was eligible to make catch-up concessional contributions and had an unused cap amount in 2019–20 of $18,350, they would have an effective concessional cap in 2020–21 of $43,350. Taking into account the 9.5 per cent employer SG contribution, this would allow the member to make a personal deductible contribution of up to $36,500 to fully offset the amount of the capital gain and still remain within their concessional cap. 

As a result, by contributing $35,000 of the sale proceeds as a personal deductible contribution, the member will have achieved their objective of boosting their super while also saving $6,800 in tax being the difference between the tax payable on the capital gain of $12,050 and 15 per cent contributions tax of $5,250.

Alternatively, where an eligible member receives an end-of-year bonus, they could achieve a similar result by using the catch-up concessional contributions rules to make a personal deductible contribution equivalent to the pre-tax value of the bonus amount. However, in this case it will be important to factor in any SG payable on the bonus (also taking into account the SG maximum contribution base for the relevant quarter where relied on by the employer) as well as the member’s salary as this could effectively reduce the amount of remaining cap they have available.

Member receiving a windfall

Members receiving a windfall, such as an inheritance, could potentially use the catch-up concessional contribution rules to fully utilise any amounts of unused concessional cap they have available. Also taking into account the deduction available, this could allow them to reduce their tax and further maximise their contributions to super. 

For example, an eligible member with $10,000 of unused concessional cap from 2018–19 would have an effective concessional cap in 2019–20 of $35,000. Assuming the member received a small $10,000 inheritance and were already salary sacrificing up to the concessional cap, they could use that amount to make a $10,000 personal deductible contribution — which would result in $1,500 tax payable and net contributions of $8,500.

However, assuming the member was on the 37 per cent tax rate, this would also potentially qualify the member for a tax reduction or refund of $3,700. Assuming the member then contributed that amount to super as a non-concessional contribution, the member would have net contributions of $12,200. 

Member has reached preservation age

Members reaching preservation age could also utilise their unused concessional cap by entering into a prospective salary sacrifice arrangement to fully utilise their unused concessional cap over one or more years and then commence a transition to retirement (TTR) pension to replace some or all of their lost income.

While the reduction in the benefit of the salary sacrifice TTR strategy since 1 July 2017 is well understood, it is important to appreciate that this has been due to the combined impact of both: 

  • the removal of the tax-free status of earnings on assets supporting TTR income streams, and
  • the reduction of the concessional cap for members over age 50 from $35,000 to $25,000.

Therefore, the ability of eligible members to use the catch-up concessional contribution rules to salary sacrifice unused cap amounts that have accrued over the previous five years (from 1 July 2018) could see eligible members get an increased benefit from implementing the strategy.

For example, a 60-year-old member on a $100,000 salary with a total super balance of $450,000 on 30 June 2021 would likely accumulate approximately $633,169 in super by age 65, assuming they just continued to receive employer SG contributions over that period.

Alternatively, if they entered into a standard TTR strategy and salary sacrificed up to the standard concessional cap each year and commenced a TTR pension to replace their lost income, they would instead have total super savings of $651,817 by age 65.

However, if the member had $50,000 of unused concessional cap from the previous three years, they could salary sacrifice up $67,500 in the first year to have total concessional contributions of $77,500. In this case, the member would then have an income shortfall of $44,450, which they could replace by commencing a TTR income stream with their super savings of $450,000. After year one, the member would need to reduce their salary sacrifice arrangement to align with the standard concessional cap and roll part of the TTR pension back to accumulation phase to reduce the pension payments. However, by doing so, the member would have total super savings of $662,781 by age 65. 

The outcomes are summarised here:

Strategy 1 – employer SG contributions only

Total super balance: $633,169

Strategy 2 – salary sacrifice up to standard concessional cap to age 65 with TTR pension payments to replace lost income

Total super balance: $651,817

Benefit over strategy 1: $18,648

Strategy 3 – salary sacrifice up to effective concessional cap in year 1 then up to standard concessional cap to age 65 with TTR pension payments to replace lost income

Total super balance: $662,781

Benefit over strategy 1: $29,612

Therefore, the TTR salary sacrifice strategy could be used to allow members to fully utilise any unused cap amounts that accrued in the previous five years to maximise their final retirement balance.

Conclusion

The catch-up concessional cap rules may provide eligible members with additional flexibility to top up their superannuation. However, the rules are complicated, and advisers providing advice in this area will need to exercise caution to ensure they capture all relevant amounts so they can correctly calculate a member’s unused concessional cap amounts for previous years, and therefore a member’s effective concessional cap. 

Craig Day, executive manager, Colonial First State

Source: SMSF Adviser

Make the most of your super with a personal deductible contribution

personal deductible contribution

Would you like more flexibility with your superannuation but don’t have the option to salary sacrifice? You can now claim a tax deduction on your personal contributions. SMSF expert Bob Locke explains.

How much can you contribute?
Under the current rules, the maximum amount of “concessional” superannuation contributions that can be claimed as a tax deduction is $25,000.00 per person per annum. This is referred to as the “Concessional Contributions Cap”. This amount includes any super contributions paid by your employer; salary sacrifice contributions plus any other tax-deductible personal contributions you make to your super account.

On the other hand a “non-concessional” contribution is a payment made to superannuation after tax. It can be from a range of sources such as an inheritance, additional payment from your after-tax salary, property sale etc. The usual cap on non-concessional contributions is $100,000 per financial year.

Salary sacrifice vs Personal Contributions
Until 30 June 2017, only the self-employed, retirees or those who earned less than 10% of their income as an employee, could claim a tax deduction on a personal contribution.

This restriction meant that many employed individuals could not make deductible personal contributions to reduce their taxable incomes. The only way to maximize their total concessional contributions cap was to make arrangements with their employer for a salary sacrifice arrangement where they would reduce their gross salary in favour of the employer making a larger contribution (above the normal 9.5% of salary) to the employee’s super fund.

Now there’s an opportunity to give your super investment a boost and reduce your tax bill at the same time. With the changes effective from 1 July 2017, employees can make additional personal contributions and claim a tax deduction for the additional contributions, thus putting them on the same footing as self-employed people.

But how is that different from a salary sacrifice arrangement you may ask. Though salary sacrifice arrangements provide the same benefits one may not always be able to make such arrangements with their employer.

Compared to regular salary sacrifice contributions which can only be made prospectively a personal deductible contribution means you can make one lump sum contribution towards the end of the financial year. The additional flexibility of this system may be helpful in several different scenarios.

Take Mary’s case for instance. Mary works as a specialist teacher earning $110,000 annually. She has had an investment property for many years that she decides to sell in preparation for her impending planned retirement. On speaking to her accountant Mary finds out that based on the estimated sale price, there will be a taxable capital gain of $100,000 on the sale of the property which will cost her almost $45,000 in additional tax. She decides to make an additional contribution to superannuation of $14,500 and as a result, reduces her tax bill by around $7,000. Although Mary’s super fund will have to pay tax of $2,175 (15% of 14,500) on the additional contribution, she is still almost $5,000 better off.

Or take the case of Joe who is employed as a builder and earns $60,000 pa. In May, Joe receives a bequest of $25,000 from the estate of a recently deceased relative. He would like to retain around $6,000 of the money to take the family on a holiday trip and save the balance of $19,000. After talking to his financial adviser, Joe decides to contribute the full $25,000 to his existing superannuation fund; $19,000 is claimed as a concessional contribution and $6,000 as a non-concessional contribution.

As a result of claiming the additional contribution, Joe receives an additional tax refund of $6,800, which he uses for the family holiday. After allowing for the additional tax in the super fund on the concessional contribution of $2,850 (i.e. 15% of $19,000), Joe has increased his net savings by $3,150 and also has an additional $800 spending money for the holiday!

Super contributions over 65

Turning 65 years of age is a life milestone, but unfortunately, it does make putting money into your super a bit more difficult.

If you are over 65 you will need to pass the “work test” to continue making contributions – this means you will need to have worked a minimum of 40 hours in any 30-consecutive day period during the financial year.

Also, just like salary sacrifice superannuation contributions, Centrelink adds back any personal concessional contributions claimed when assessing entitlements that are subject to the “income test”.

Note that this age limit it propsed to increased to 67 from 01/07/2020.

Making extra contributions to your super

If you would like to make extra contributions to your superannuation, you can do it using either
‘before-tax’ or ‘after-tax’ money, keeping in mind that there are annual limits (caps) on how much
you can contribute to superannuation.

Consider your financial situation and decide whether making extra super contributions is right for you across the short and long term.


The information provided in this article is general in nature and does not take into account your personal circumstances, needs, objectives or financial situation. This information does not constitute financial or taxation advice. Before acting on any information in this article, you should consider its appropriateness in relation to your personal situation and seek advice from an appropriately qualified and licensed professional.


BOB LOCKE – CHARTERED ACCOUNTANT & SMSF SPECIALIST
Mr Locke has been an accountant and taxation expert for 35 years. His company, Practical Systems Super, provides an all-in-one SMSF solution with a full administrative service, SMSF management software, and independent, licensed advice, tailoring their package to meet the individual needs of trustees and SMSF professionals.
To find out more about Practical Systems Super, visit www.pssuper.com.au, or call 1800 951 855.

Estate planning health check

With end of financial year compliance now wrapped up, many practitioners are turning their attention to estate planning concerns. Cooper Grace Ward Lawyers partner Scott Hay-Bartlem flags some of the key aspects that should be reviewed.

What needs to be reviewed with trust deeds?

It’s a good time for everyone to look at documents like trust deeds for SMSFs. Lots of trust deeds still have issues with things like binding death benefit nominations and reversionary pensions and don’t deal with them well, particularly if they’re older ones. One of the issues I’m really seeing at the moment is that there’s a problem with an old change of trustee or an old variation hasn’t been done properly, and that can call into doubt later decisions. Certainly, things like pensions and binding death benefit nominations, and other death benefit planning can go awry because we don’t have an early document done properly. There was a case last year called Perry v Nicholson where an old change of trustee nearly derailed the estate planning, so it’s important to make sure you’ve got all your documents lined up from the past.

Following the introduction of the transfer balance cap and other super reforms, what are some of the estate planning strategies that need to be reviewed?

Everyone with money in super certainly should be reviewing their estate planning following the budget reforms for a couple of reasons.

Firstly, it’s always good to make sure that what you’ve done is what you remember you did, and it’s still current and effective because things change all the time. Also, with the new limits and transfer balance cap, the option that we used to have of just continuing the pension to the surviving spouse may no longer be there, and that means you may need to look at some alternatives to get the best estate planning results for the client.

We’ve certainly seen files from three years ago, where there was an estate plan set up with a great result, but because of the new limitations on how much we can have in pension phase, we’re not going to get that result we had anymore, and we need to do something differently and tweak the plan to continue getting the best result. With some clients, when we look at the old estate plan, we decide that we’ll have to do it differently, but what we set up initially is still going to work for us. With other clients, it’s clear that one of the other options is going to achieve a better result now, because we can’t do what we used to do.

Strategies such as binding nominations or reversionary pensions, for example, that force all the super to the spouse may not be the best answer or doable. Some clients will have to have a large amount of money leave the superannuation system when one of them dies. For example, some of the old estate planning that was done sent all of the money to the spouse, because you could with a pension. Now, it has to leave the super system as a lump sum. So, we’re now asking questions around whether it’s better to put that into the estate and have it go into a testamentary trust in order to create almost like a life interest for the spouse, so that it must go to the kids once the spouse has died. Rather than having $1 million come out of the super system and end up in the name of the surviving spouse, we have it go through the will and into a testamentary trust. That can provide some tax benefits to the adult children and their minor grandchildren. It may also give protection from a lawsuit that the spouse might be subject to, because they have professional or business risk. It might also provide protection if the spouse re-partners. So, for some people, having that as an alternative can be a better option than having it come out of the super system and end up with the spouse. If you’ve got a binding nomination to the spouse or reversionary pension that forces it all to the spouse, then we’re going lose that kind of option.

For some clients, we’re skipping the spouse altogether, and we’re planning to send the lump sum amount to the adult children or the young children. May not be as tax effective initially, but where the surviving spouse has enough money or the client is concerned about them repartnering or business risk issues, that can be an effective alternative to just forcing the super to go to the surviving spouse.

We’ve done a few reviews of clients from 2011 and 2012, back when the ATO came out with the tax ruling that said a pension stopped when you died, and, therefore, you lost the tax exemption for the income from the assets that were supporting the pension unless you forced it to continue to the surviving spouse. So, we’ve got a whole lot of estate planning from that era where, again, it forces it to the surviving spouse as a pension. That’s not always going to work anymore, and those strategies are ones that really need to be reviewed to make sure it’s still going to work for us. If the client is happy for their spouse to have the money and the choice, then they may not need a binding death benefit nomination anymore. They may want to give their spouse the flexibility of choosing an estate with a testamentary trust, or paying it to the kids or themselves, if they want to. They may not want the pension to revert to the surviving spouse because of the limits on the amount that they can take as a pension, and there’s going to be amounts coming out as lump sums.

The other side of it too is that in many cases, the structure of an SMSF will have changed. Those who once just had a pension interest now have a pension and a lump sum interest. So, they might have been relying on a reversion to pass all their super through to the spouse, but they’ve now got an accumulation interest as well, so they will need to do a binding death benefit nomination for that. Therefore, we need to look at whether the current arrangements, whether that’s binding nomination or a reversionary pension, are still appropriate and support the estate planning outcome. It might be the super fund itself has changed, and what we used to do is not going to get us the result anymore.

Is there anything else that should be reviewed on the estate planning front?

We’re still seeing lots of files where someone comes to us after a death with what they think is a reversionary pension or a binding death benefit nomination, and for a variety of reasons, they’re not. It’s a good time to do a health check. Look at all the documents and deeds, and make sure they still get the client the result.

I see lots of people with the old pensions, because often it’s hard to find pension documents from 1996 that are now well over 20 years old – so it’s a good time to make sure you know where those documents are, because, eventually, you’ll need to see these pension documents.

These days, with technology, we scan everything in, but back in the mid-90s, we didn’t do that, so putting hands on documents that are 20 years old can be a challenge. If we’re trying to establish that the pension automatically continues because it’s reversionary, we’re going need to see the pension documents, so if no one can find the pension documents, we can’t establish there’s a reversion, or it’s very hard to establish that there’s a proper reversion in place.

I also still haven’t seen many people embracing child pensions. I think with transfer balance caps, limiting the amount that can often go to a surviving spouse, it’s important to remember that there can be benefits in paying benefits to children as pensions. A child pension has to finish effectively at age 25, but if you’re looking at children under age 18 or even 25, or disabled children, they can be a good strategy for those categories. It’s not going to work for everyone, but you should be conscious that it’s there as an option.

Source: SMSF Adviser

How to pass the sole purpose test

Making sure an SMSF passes the sole purpose test (SPT) is one of the cornerstones of operating a compliant SMSF. One of the most important things to understand is that it’s not the type of investment dictating whether the SPT is met, but rather the purpose for which the investment is made and maintained that is relevant.

This is crucial given that the trustee and member are typically the same people, which can give rise to conflicts of interest when critical financial decisions need to be made.

What is the SPT?

The SPT is not an actual test, but more a rule of thumb where the fund must be able to demonstrate that it meets one or more core purposes at all times. The fund can also meet an ancillary purpose, but only if it also meets one or more of the core purposes at the same time.

In broad terms, section 62 of the SIS requires that any or all of the following core purposes must be met to provide benefits to members:

  • retirement
  • reaching age 65
  • death

Generally, where a current day benefit is provided to a member as a direct result of actively procuring that benefit, then s62 SIS will be breached.

The ancillary purposes, which must co-exist with one or more of the core purposes, are:

  • Termination of employment
  • Cessation of work due to ill health
  • Death or reversionary benefits
  • APRA-approved benefits

Remember, too, that SPT is concerned with how a trustee of an SMSF came to make an investment or undertake an activity which can vary from trustee to trustee.

Role of the SMSF auditor

The role of the SMSF auditor is to ensure that the fund complies with the SPT during the year being audited. All of the circumstances of the fund must be viewed by the SMSF auditor holistically and objectively to determine whether the SPT has been contravened.

The auditor will look for factors that would weigh in favour of a conclusion that an SMSF is not being maintained in accordance with s62, such as:

  1. The trustee negotiated for or sought out the benefit
  2. The benefit influenced the trustee to favour one course of action over another
  3. The benefit is provided by the SMSF to a member or another party at a cost to the SMSF
  4. There is a pattern of events that amounts to a material benefit being provided

Nevertheless, when an SMSF receives a benefit that is incidental, remote or significant, it does not necessarily result in the fund contravening the SPT. SMSFR 2008/2 deals with the application of the SPT where members receive benefits other than retirement, employment termination or death benefits.

Sole purpose test penalties

Failure to meet the SPT is one of the most serious contraventions as it goes to the very core of the superannuation legislation. Aside from the risk of a fund being made non-complying and losing its concessional tax treatment, penalties can be applied up to $10,800 per trustee.

The ATO has the discretion to freeze an SMSF’s assets where it appears the trustee’s conduct is likely to have a significant adverse effect on the SMSF, and they also have the power to disqualify trustees.

The court can also impose a sentence of five years’ imprisonment for individual trustees or longer for corporate trustees.

Voluntary disclosure or wind-up?

Other courses of action the trustee can take to rectify an SPT contravention is to engage early with the ATO through their voluntary disclosure service or decide to wind the fund up.

Where the trustee chooses voluntary disclosure, the ATO may continue to issue the SMSF with a notice of non-compliance and/or apply other compliance treatments.

Impact of Aussiegolfa case

The traditional approach to the SPT is seen in SMSFR 2008/2, which states that the SPT is a strict standard with exclusivity of purpose.

The outcome of the Aussiegolfa case, however, has provided a deviation from this strict interpretation of the law, in that the SPT is now an objective test and assessment based on the facts and circumstances of each case.

The ATO has acknowledged there are other factors giving rise to incidental advantages to members or other persons which would not, necessarily, give rise to a breach of the SPT. All circumstances and objective assessment of the decisions and actions of the trustee are relevant in determining whether the SPT is breached.

The ATO is still reviewing the impact of the decision across other related advice and guidance products.

Conclusion

The SPT represents only 8.3 per cent of all contraventions, which may indicate that SMSF auditors are either reticent to qualify funds on this basis or do not understand how to apply the SPT.

Given that loans to members account for 21.4 per cent of all contraventions and in-house assets account for 19.1 per cent, there is obviously scope for SMSF auditors to more carefully monitor the intentions of the trustees in light of all the circumstances of the fund.

There are many holistic factors to consider when applying the SPT to the operations of an SMSF. All the circumstances of the fund’s activities need to be reviewed, with closer scrutiny applying to the actions of the trustees to ensure regulatory compliance.

Shelley Banton, head of technical, ASF Audits

Source: SMSF Adviser

Reversionary pensions v BDBNs: Advisers’ risks

There has been a number of commentators suggesting that if a pension reversion nomination conflicts with a binding death benefit nomination (BDBN), the pension reversion nomination prevails.

While we acknowledge the answer is not necessarily black and white, as it depends on a careful examination of all the relevant documentation and each supplier’s documents differ in certain respects, we recommend that advisers should be mindful that they are comfortable with the way the documents they use are drafted and that they understand the legal risk and implications of using those documents entails.

In particular, advisers should ensure the strategies in the documents they supply their clients are legally effective and are supported by relevant legislation, case law or similar authority. An adviser procuring a document, for instance, from a web-based supplier is implicitly warranting that it is suitable for their client’s use. Hence why advisers need to be careful on what document supplier they use. Naturally, merely using a non-qualified supplier (that is, not a law firm) exposes an adviser to risk.

Indeed (pun intended), if the SMSF deed is silent, there is a strong argument to say that the BDBN overrides any conflicting pension reversion nomination.

However, there are certain SMSF deeds that expressly specify that a pension reversion nomination (e.g. a resolution in pension commencement resolutions) prevails over any conflicting BDBN. In that circumstance, there is a fair chance that a pension reversion nomination may prevail over a conflicting BDBN.

 

This article focuses solely on this issue. More specifically, this article asks whether you actually want a situation where a pension reversion nomination prevails over any conflicting BDBN.

This article concludes that — unless you are a lawyer — a pension reversion nomination overriding a BDBN is risky and that you should not use this type of documentation as there are more practical options available (more about this soon).

Why is there, on first glance, an appeal for reversionary pension nominations overriding BDBNs?

We have heard from some accountants and financial planners (which we will refer to from here on as “advisers”) that they favour reversionary pension nominations overriding conflicting BDBNs. When we ask why they have that preference, they typically maintain that it will allow them to implement the following sort of situation:

  • they can document a pension that, upon death, reverts to a spouse, for example; and
  • they can then document a BDBN to cover the remainder of the member’s SMSF benefits, which the BDBN might direct to be paid to, say, the estate or perhaps to a child.

However, there is a risk that recommending this arrangement could amount to a crime and give rise to other risks.

Recall the rules about ‘engaging in legal practice’

Each jurisdiction prohibits non-lawyers engaging in legal practice. In Victoria, for example, the Legal Profession Uniform Law Application Act 2014 (Vic) (the “Act”) provides that (sch 1 s 10(1)):

An entity must not engage in legal practice in this jurisdiction, unless it is a qualified entity.

Penalty: 250 penalty units or imprisonment for 2 years, or both.

We note that the Act defines “entity” to include individual, an incorporated body and a partnership. Accordingly, if you are, for example, an adviser, this prohibition applies regardless of how your business is structured.

This then raises the question of what it means to “engage in legal practice”. Section 6(1) of schedule 1 to the Act provides that “engage in legal practice” includes practise law or provide legal services.

There is no “bright line” demarcating with exact precision where “practising law” begins and ends, and where the “provision of legal services” begins and ends. However, we are of the view that there is a real chance that an adviser is practising law and/or providing legal services if:

  • he or she determines how a client’s death benefits should be structured (e.g. a pension that automatically reverts to a spouse and the balance to a child or the estate); and
  • he or she documents such a strategy (e.g. drafting the pension documentation and completing a template BDBN for the client).

We are particularly of this view as implicit in the above is that the adviser probably has led their client to believe that there is no need for the input of a lawyer. Indeed, an adviser who has not recommended that their client have all the relevant documents and advice reviewed by the client’s lawyer to check they are legally effective and are consistent with the client’s legal and estate planning position, would have provided legal services as the documents affect the client’s legal rights and obligations.

What else can commonly go wrong in practice?

Consider an accounting or financial planning firm that provides pension commencement documentation.

Now assume that the adviser provides such documentation to SMSF members of a particular SMSF whose deed states that a pension reversion nomination will override any conflicting BDBN. The pension commencement documentation states, among other things, that the pension is reversionary in favour of the member’s spouse.

Now assume that one such member did in fact have a BDBN in place, which was in favour of their legal personal representative (i.e. estate). The member then dies.

The SMSF trustee wishes to pay the deceased’s death benefits to the spouse, based on the pension commencement documentation. The executor of the estate might assert that the adviser is liable to the estate as the deceased did not properly understand the effect of the pension documentation. The adviser could try to counter this by responding that they advised the member of all relevant rights and liabilities and then drew up the documentation accordingly. However, if this indeed occurred, there is a real chance that the adviser has contravened the Legal Profession Uniform Law Application Act 2014 (Vic). Again, this is a serious crime.

Alternatively, the adviser may claim that they did not advise the deceased of all relevant information, rights and liabilities but nevertheless drafted the pension documentation. If so, the adviser may well have breached its duty of care owed not just to the deceased, but also to the deceased’s dependants, executor and any beneficiaries of the deceased estate (see Hill v Van Erp (1997) 188 CLR 159 where a lawyer was liable in negligence to potential beneficiaries of a deceased client’s will). The adviser may be liable to them under, among other things, the tort of negligence for any loss, damages and costs suffered.

We also note that some have asserted that since SMSF members typically also consent to various information in order to be trustees, they are taken to know all relevant information. We consider it high-risk to place much confidence in such an assertion based on cases like Ryan Wealth Holdings Pty Ltd v Baumgartner [2018] NSWSC 1502, which illustrate that a judge may not hold a member/trustee/director to having a sophisticated level of SMSF knowledge. Also, there is no information regarding succession planning in trustee declarations.

Naturally, each of the above two choices is an unfavourable outcome.

If advisers wish to rely on a deed that provides priority to a reversionary pension nomination, they should undertake sufficient due diligence to ensure that they do not cross a prior BDBN or interfere with their client’s succession planning. This analysis also attracts the risks that the adviser engages in legal practice.

A practical solution

DBA Lawyers has long considered that there is a simpler practical solution, which is to have a deed that expressly states that a BDBN overrides any conflicting pension documentation. This overcomes the immediate need for an adviser to undertake the due diligence discussed above, which is associated with an SMSF deed that provides the reversionary pension nomination priority. Simply stated, documenting a pension under this type of SMSF deed does not impact a BDBN.

Moreover, BDBN templates typically come with new deeds or deed updates and product disclosure statements. Thus, members can prepare and finalise their own BDBNs without adviser input. Accordingly, if a member wishes to make a BDBN under an SMSF deed providing a BDBN with priority, it is more likely that a member would expect that to impact their estate planning and be more informed as:

  • there is usually a product disclosure statement or other relevant material that comes with a template BDBN, and
  • the formalities that accompany the execution of a BDBN (e.g. two independent adult witnesses).

If you are not a lawyer, you do assume risk if you prepare a BDBN without recommending the client obtain a lawyer’s input. We anticipate that some readers might roll their eyes at this comment and think “typical lawyers — trying to create ‘jobs for the boys/girls’”. However, it is a simple fact that each profession has its limits and professional indemnity cover typically excludes advisers acting outside them.

Thus, it is best practice for advisers to always recommend that their clients have their BDBNs and similar documents impacting their legal rights and obligations, especially their succession planning, reviewed by a lawyer.

Conclusions

There is — if the deed is silent — a sound argument under many SMSF deeds that the default position is that a BDBN will override a conflicting reversionary pension nomination. However, if the deed expressly states that the opposite will occur (i.e. a reversionary pension nomination will override a conflicting BDBN), this may be the case. However, if your SMSF clients have a deed that stipulates that a reversionary pension nomination will override a conflicting BDBN, each time you prepare pension documentation there is a real chance that you could be “engaging in legal practice” and exposed to other legal risks.

The safer solution is to have a deed that expressly provides that a BDBN overrides a conflicting pension reversion nomination. This avoids these risks when documenting a pension.

Manage your risk and do not expose yourself or your firm where your professional indemnity insurance cover is not available.

Written by: Bryce Figot, special counsel, DBA Lawyers
Source: SMSF Adviser

SMSF investment strategies and diversification

The ATO has sent letters of concern to approximately 17,700 SMSFs that hold 90 per cent or more total investments in a single asset or asset class. The SMSFs’ auditors have also been contacted by the ATO, emphasising the need to consider the fund’s compliance with regulation 4.09.

What are the next steps for these trustees?

The ATO’s recent action regarding SMSF investment strategies has sparked discussion and controversy within the SMSF community. Important questions are being asked:

  • Is the ATO able to instruct SMSF trustees as to the adequacy of their investment mix?
  • Is it appropriate to hold 90 per cent of an SMSF’s value within a single asset class?
  • Does a financial adviser need to prepare an SMSF’s investment strategy?
  • What does it mean to “consider the risks of inadequate diversification”?

The answers are within regulation 4.09 of the Superannuation Industry (Supervision) Regulations 1994. Let’s start with the law and dispel some uncertainty.

Regulation 4.09(2) states: 

The trustee of the entity must formulate, review regularly and give effect to an investment strategy that has regard to the whole of the circumstances of the entity including, but not limited to, the following:

(a) 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;

(b) 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;

(c) the liquidity of the entity’s investments, having regard to its expected cash flow requirements;

(d) the ability of the entity to discharge its existing and prospective liabilities;

(e) whether the trustees of the fund should hold a contract of insurance that provides insurance cover for one or more members of the fund.

These are the minimum requirements for an investment strategy. In simple terms, this means that the strategy must be prepared and revisited often to ensure that it:

  • Is targeted to support the trustee’s objectives in running the SMSF, both in terms of the investment risk members are comfortable with and the return they hope to secure;
  • Prescribes an investment mix that is appropriate to the members’ needs;
  • Monitors solvency and balances the fund’s ability to liquidate assets against the need to pay superannuation benefits;
  • Conducts a check on whether the members are satisfied with the insurance they have in place.

In substance, the requirements are not complicated. They are grounded in common sense.

However, the regulation’s language is difficult to translate in everyday pen to paper. Many trustees give up trying to prepare their own investment strategy. They rely instead on their accountant’s software to generate a compliant document. This is unfortunate, as trustees frequently don’t bother reading an investment strategy they have not written. And the “compliant document” (while saying all the right things in the right places) often has little relevance to a particular SMSF and no value as an investment planning tool.

The ATO is aware of this and is alarmed that a large amount of retirement savings may be afloat in rudderless ships.

So, let’s revisit these questions:

Is the ATO able to instruct SMSF trustees as to the adequacy of their investment mix?

Absolutely not. An SMSF by definition is “self-managed”. Provided the investment rules are complied with, an SMSF trustee can invest their retirement savings as they choose. The ATO is not going to tell a trustee that they cannot invest 90 per cent of investment value in cryptocurrencies, gold bullion or real estate.

However, the ATO will assess (via SMSF auditors) whether the trustees have properly documented their investment decisions in the investment strategy. This applies to all SMSFs, but those with a high concentration of value in certain assets are now on the radar.

Is it appropriate to hold 90 per cent of an SMSF’s value within a single asset class?

This may be appropriate, yes. Regulation 4.09 requires that the investment strategy consider diversification. There is no requirement to be diversified.

It is not for the ATO (or the SMSF auditor) to comment upon the suitability of SMSF investments. But if your SMSF’s value is concentrated in a particular asset class, the auditor will be looking to see the rationale for this investment decision in your fund’s investment strategy. If a financial adviser has been consulted, the statement of advice should also be provided to the auditor.

Does a financial adviser need to prepare an SMSF’s investment strategy?

No. Regulation 4.09 does not require the involvement of any professional in preparing the investment strategy. In fact, it is the trustee who must formulate, review and give effect to the strategy. Your auditor will check that the investment strategy is executed by the trustees. The trustee may obtain whatever guidance they choose — but they must be involved in strategy preparation on a personal level.

What does it mean to “consider the risks of inadequate diversification”?

In explanation of their recent concerns, the ATO stated:

We’re concerned some trustees haven’t given due consideration to diversifying their fund’s investments… Lack of diversification, or concentration risk, can expose the SMSF and its members to unnecessary risk if a significant investment fails.

In its letter sent out to SMSFs with highly concentrated assets, the ATO reminds trustees to provide evidence in their investment strategies of having considered the risks of inadequate diversification.

SMSF auditors are tasked to evaluate this evidence.

Evidence is tangible proof.

It is not just a statement confirming “we have considered the risks of inadequate diversification”. Most strategies already include this phrase, and it does not demonstrate any real consideration.

To show that they have considered these risks, the trustees need to record consideration of risk specific to their own SMSF and the member’s personal circumstances. Evidence will appear as an answer to the questions:

What could a lack of diversification mean for THIS fund, invested in THIS particular asset?

Notwithstanding, why is the investment appropriate in THESE circumstances?

Discussions with a financial adviser may be of great assistance in exploring and documenting these risks. From an auditor’s viewpoint, some of the best investment strategies are handwritten documents that set out the members’ goals for their SMSF and how specific investments suit those needs. The investment plan is usually reviewed annually. It is a down-to-earth, practical tool that works the way the legislation intended.

That being said, many homegrown investment strategies require fine-tuning to ensure the right words are used and can be “ticked” against the regulation. Trustees do not usually get it right the first time. It’s time-consuming and most trustees look for help. Many rely on their accountant’s specialised software to generate an investment strategy. However, any such template requires customisation for fund-specific circumstances — particularly if the SMSF has a highly concentrated investment mix.

The auditor will assess an SMSF’s investment strategy for this detail. At Peak Super Audits, we recommend that trustees explain their investment rationale and consideration of risk to their accountant or financial adviser, who can then assist by incorporating this within an acceptable investment strategy format. Accountants must be watchful of providing advice and take care that this line is not crossed.

The ATO’s investment strategy offensive must not be taken out of context. No SMSF trustee will be fined for a lack of diversification. However, the days of a cookie-cutter approach to investment strategies for these types of SMSFs are over. Trustees must become personally involved in preparing this document.

After all, they are operating a self-managed superannuation fund.

Written by Naomi Kewley
Source: SMSF Adviser