Who is the expert steering your SMSF?

If you’re not across non-arm’s length expenditure rules or whether a six-member fund would suit you, it’s probably time you got specialist advice. 

While the Productivity Commission’s major report into super in 2018 focused on Australian Prudential Regulation Authority-regulated funds, there were two important findings about self-managed super funds.

First, SMSF members, along with those approaching retirement or with higher balances, were more engaged with their superannuation. Second, the quality of financial advice provided to some super fund members – including those with SMSFs – was questionable and often conflicted.

To quote the PC, “the need for information and affordable, credible and impartial financial advice for retirees will increase as retirement balances grow with a maturing system and given the rising diversity and complexity of retirement products”.

These are telling comments. The PC is saying that SMSF members are engaged with their super – but often can’t get the advice they often sorely need. Yet considering SMSF members total more than 1.1 million, the number of funds is about 600,000 and assets at June 30, 2021 stood at $822 billion, clearly there is an imperative for them to be able to do so.

Certainly, the PC thought so, making the following recommendation: “The Australian government should require specialist training for persons providing advice to set up an SMSF; require persons providing advice to set up an SMSF to give prospective SMSF trustees a document outlining ASIC’s (Australian Securities and Investments Commission) ‘red flags’ before establishment; and extend the proposed product design and distribution obligations to SMSF establishment.”

Three years later, the need for this advice has only grown. The legislation underpinning SMSFs is more complex (including temporary changes because of COVID-19) and, as trustees well know, is subject to constant change. This is why it’s critical that advisers providing SMSF advice have specific SMSF competencies.

Disagreement in numbers

To take three recent examples, the proposed introduction of a retirement income covenant, the Australian Taxation Office’s non-arm’s length expenditure (NALE) ruling and the increase in the maximum number of SMSF members from four to six are all timely reminders of the need for SMSF specialist advice – and why the PC’s recommendation has never been more relevant.

Being able to transact with related parties is one of the attractions of SMSFs – whether it be acquiring a business premise from a related party that is then leased back to a related party, doing your own fund’s bookkeeping or investing in related entities within the confines of the legislation.

Many funds have such transactions, explaining why they need to be fully cognisant of the latest ATO ruling on NALE after changes to the non-arm’s length income rules in 2019. Failure to do so can result in the imposition of significant tax penalties, with some or all of a fund’s income being taxed at 45 per cent.

On the issue of the recent increase in the maximum allowable number of SMSF members from four to six, it might sound like a great idea, but there are risks. For example, more decision makers around the table is likely to lead to more disagreements.

Before adding new members, consideration must be given to how any decisions will be made and whether enduring powers of attorney should be put in place to reduce the likelihood of disputes. In these circumstances, an SMSF specialist adviser is well-placed to tailor an outcome specific to a fund’s situation.

Including as a potential problem the proposed introduction of the retirement income covenant (which aims to increase member engagement with their superannuation and retirement planning) might seem odd considering SMSFs have been specifically excluded from the legislation.

But the absence of a legal requirement doesn’t mean SMSFs shouldn’t consider the retirement needs of their members and retirement products in the market – and this will be difficult to do without specialist SMSF advice.

This advice could include:

  • Developing specific drawdown patterns that provide higher incomes in retirement;
  • Providing tools such as expenditure calculators to identify income and capital needs over time;
  • Providing information about key retirement topics, such as eligibility for the age pension, the concept of drawing down capital as a form of income or the different types of income streams available; and
  • Providing guidance to beneficiaries early in accumulation about potential income in retirement through superannuation calculators or retirement estimates.

In its report, the Retirement Income Review said a simplification of the superannuation system should be a policy imperative. It’s a motherhood statement that everyone concurs with. The only problem is that most legislative and regulatory changes tend to add complexity to the system, making it progressively more difficult for SMSFs to navigate the system. Specialist advice would seem one way to stay inside the regulatory fence and avoid the onerous penalties that can befall those who stray outside.

Opinion piece written by John Maroney, CEO, SMSF Association.
First published in the Financial Review on 5th October, 2021


Over the past few years, the SMSF industry has been heavily focused on the application of the new non arm’s length expenditure rules and working with the ATO to ensure the application of these rules to general expenses is pragmatic and does not result in a disproportionate tax outcome.

Yes, these are big issues for the industry and the SMSF Association continues to strongly advocate for more clarity, however they can overshadow other, equally important issues such as the interaction of the non-arm’s length income (NALI) rules with the capital gains tax (CGT) and exempt current pension income (ECPI) provisions.

Many just presume that a non-arm’s length capital gain is intended to cause NALI, even if the gain relates to an asset supporting a retirement phase income stream. This view is correct from 1 July 2021, however due to a technical deficiency in the law, the law does not currently operate this way for SMSFs with segregated pension assets (i.e. where specific assets of the fund are set aside to fund one or more retirement phase income streams).

Here’s where it starts to get technical so we will try to keep it as simple as possible.

The ordinary and statutory income an SMSF earns from assets held to support retirement phase income streams is exempt from income tax unless it is NALI.

The technical deficiency is that NALI only applies to ordinary income or statutory income and a capital gain per se, is neither ordinary income nor statutory income. However, a net capital gain is statutory income and so only a net capital gain can be NALI.

However, before a capital gain can become a net capital gain, a number of provisions operate. One such provision is s118‑320 of the ITAA97, which states that if the gain is made from a segregated current pension asset the gain is simply disregarded. Therefore, if the gain is disregarded, it cannot become a net capital gain and it cannot become statutory income. Ultimately, it cannot become NALI.

On 17 December 2020, Treasury Laws Amendment (2020 Measures No. 6) Act 2020 (Cth) received Royal Assent to amend this defect in the law. Subsection 118-320(2) was introduced to ensure that non-arm’s length capital gains in relation to segregated current pension assets are no longer disregarded and are treated as NALI.

Not only is the technical issue complex but there was also confusion relating to the date of effect of the new provision. If you are like many and rely on legislation websites such as https://www.austlii.edu.au/ or https://www.legislation.gov.au/, the amendment is already showing as being operative so you would think that a non-arm’s length capital gain made from a segregated current pension asset currently causes NALI. On the other hand, if you refer to the relevant explanatory material, you would conclude that the new provision only has effect from 1 July 2021.

So which one is it? In determining the date of effect, the SMSF Association sought clarification from the ATO and has received confirmation that s118-320(2) applies from the 2021-22 income year.

Effectively, this means that if a non-arm’s length capital gain is made by a segregated current pension asset before 1 July 2021, it does not cause NALI. If a non-arm’s length capital gain is made by a segregated current pension asset on or after 1 July 2021, it does cause NALI.

Let’s look at an example

A number of years ago, an SMSF acquired an asset on non-arm’s length terms. More specifically, the asset’s market value was $500,000 but the SMSF only paid $300,000.

The SMSF is fully being used to pay an account-based pension and the asset is a segregated current pension asset. On 22 April 2021, the SMSF signs a contract to sell the asset. The capital gain is disregarded and is not NALI.

However, if the SMSF signs a contract to sell the asset on or after 1 July 2021, the capital gain would not be disregarded and thus would cause NALI.

So, from 1 July 2021, where an asset has been impacted by the NALI provisions, any net capital gain will be taxed as part of the fund’s NALI component at the highest marginal rate. This includes, SMSFs that are paying a retirement phase income stream to one or more members, regardless of whether the fund is using the segregated or proportionate method to calculate their exempt income.

Naturally, in addition to non-arm’s length income, there are other issues that should still be considered, including:

  • general anti-avoidance provisions (ie, part IVA);
  • deemed contributions and excess contributions tax;
  • promoter penalty laws; and
  • SIS regulatory issues (eg, arm’s length rules etc).

Understanding the interaction of the NALI, CGT and ECPI provisions is complex at the best of times. Add a layer of uncertainty in relation to deficient law and it highlights the importance of seeking specialist advice to ensure other super and tax laws are not at risk of being breached.

Written by Mary Simmons, Technical Manager, SMSF Association 

SMSFs with collectables need to read the fine print

Got art, jewellery or cars in your collection? Watch out how they’re insured, where you store them and who uses them.

The rules around the holding of collectables and personal-use assets owned by self-managed super funds are quite straightforward – and have been for more than a decade. Yet confusion still reigns, especially with insurance.

Since July 1, 2011, the rules have required trustees of SMSFs to insure these assets within seven days of acquiring them in the name of the fund. The only exceptions are memberships of sporting or social clubs – and yes, these can be owned by SMSFs.

Unlike other forms of insurance, it’s not optional. The Australian Taxation Office wants the items to be insured to “protect” the fund’s assets and therefore the members’ retirement benefits. So, in case of a mishap where the asset is damaged, the fund is not financially exposed.

The ATO also insists the insurance is in the fund’s name to ensure assets are kept separately from the trustee’s other assets, thereby giving the process more transparency and greater integrity.

It all seems quite simple. Yet it’s surprising how much confusion still surrounds the insuring of collectables and personal-use assets, particularly from an audit perspective.

Written by John Maroney, CEO, SMSF Association

Running an SMSF is far from set and forget

The decision to set up an SMSF should not be taken lightly. 

Although it puts SMSF trustees on a journey towards financial self-funding in retirement, it also comes with a commitment to continually improve their knowledge about all aspects of their fund.

Running an SMSF requires a considerable amount of financial literacy.

Trustee responsibilities require a commitment of time, resources and knowledge, ranging from preparing and implementing an investment strategy, ensuring contributions are invested according to that strategy, making minimum payments when in pension phase and submitting annual tax returns and organising an annual audit.

These tasks can be undertaken with the assistance of specialist SMSF advisers. However, the ultimate responsibility for the fund sits with the trustee, who must sign off on every document.

If you get it wrong, there are consequences: falling foul of the Australian Taxation Office (ATO) could involve financial penalties as high as $50,000. If the non-compliance is serious enough, a trustee could be disqualified.

Trustees need to be on a financial self-improvement journey over the life of their SMSF.

Although much of the focus is on investment strategy, this is not the full story if the fund is to be fully compliant.

As the ATO has stated, common mistakes committed by SMSF trustees involve the sole purpose test, loans, in-house assets and the separation of assets and borrowings – better known as limited recourse borrowing arrangements.

So, how do trustees ensure they remain abreast of everything they need to know to run their SMSF?

For many, seeking out specialist advice is crucial. Significantly, most trustees do this, with 63 per cent of SMSFs established on the suggestion of a financial adviser and 81 per cent paying for advice in some form or another.

This highlights the fact trustees recognise the importance of quality advice to oversee their retirement income strategies, and, in many instances, are prepared to rely on it heavily.

Nowhere is this need for trustees to get specialist advice more crucial than in setting the fund’s investment strategy.

Over time circumstances change and trustees must respond accordingly.

The strategy must reflect the purpose and circumstances of a fund, such as the members’ retirement goals, liquidity (especially in the pension phase) or growth.
However, specialist advice about investment is just part of the equation. Trustees need to be aware of what is happening in financial markets, as the COVID-19 induced market sell-off early last year and subsequent rally highlighted.
There is no shortage of information available to help SMSF trustees. Aside from the financial media, there are specialist publications covering all asset classes and investment modes. There are also seminars, investment forums, videos and podcasts generating a wealth of information.
For trustees, the problem is not about getting news, it is about being able to separate the good from the very best information. This is why having a trusted adviser to bounce ideas off can be so crucial.

The SMSF Association hosts a SMSF Connect website that contains extensive educational material.

The ATO also offers an authoritive range of resources, tools and services to make managing the regulatory and tax aspects of an SMSF easier. It includes about 30 short videos that provide a comprehensive overview of the sector as well as links to free online education courses.

The ATO can direct a trustee to undertake an educational course if they have contravened superannuation law.

Running an SMSF can be fulfilling, as about 1.1 million Australians are discovering. It puts them in direct control of their retirement income strategy.

However, with that control comes responsibility and that can only be achieved if trustees continually improve their financial literacy. The information and specialist advisers to help do this are available – they just need to be accessed.

Written by John Maroney, CEO, SMSF Association

Deeper, specialised processes required to fully measure SMSF operating cost

Understanding the complete picture of the operating expenses of an SMSF will require research to dig deeper, as limitations can be seen due to the various complexities during the calculation.

In a report released last year, Costs of Operating SMSFs 2020, the SMSF Association and Rice Warner conducted research to determine the minimum cost-effective balance for SMSFs. The new research questioned previous statements by ASIC that SMSFs with balances lower than $500,000 are generally uncompetitive with APRA-regulated funds.

In a recent Topdocs webinar, SMSF Association deputy CEO Peter Burgess said there are several figures being quoted out there about how much it costs to run an SMSF, but there are limitations when it comes to understanding the complete picture.

“The source of all of these figures is the ATO’s statistical overview reports which they release every year,” Mr Burgess said.

“I think it’s important for advisers and also clients to understand the limitations of some of these figures, particularly if you’re using this information to compare the cost of an SMSF with other superannuation entities.

“From our research, what we do know is that average costs or the average expense calculations that the ATO undertakes or referred to by others is not really an appropriate measure of the operating cost of itself, it’s not fit for purpose and it includes many expense items that you don’t associate with most SMSFs.

“So, if you’re trying to compare costs with other super funds, then I wouldn’t be using the average expense calculations.”

Mr Burgess said average and median costs are probably closer to the mark, and while they’re useful, in many cases for smaller SMSFs, they will be paying a lot less than that, “so the figures don’t break it down, it just gives us a high-level average figure”.

“Now Rice Warner was given access to data on 100,000 funds, so that did enable them to do a comparison of actual costs versus potential costs because, of course, the fee schedules are just what service providers say they charge, whereas the data is telling us what was actually charged, and so we’re able to do a reconciliation between the two,” he said.

“I guess, some of the interesting points to note here is what Rice Warner found is that for some of the smaller SMSF balances (less than $150,000), the actual fees being charged by service providers were much lower than what their fee schedule suggested and, in some cases, only marginally off the statutory costs that will be charged by those funds.

“Also, what they have done in this research is they have looked at the 95th percentile, so they separate out the low, medium and high costs, and I think by separating it out this way and showing the 95th percentile, you can really see the impact of some of these one-off costs, these outliers such as establishment cost, wind-up costs and costs associated with having a real property in your fund.

“You can really see the impact of those outliers and the distortion that happens if you try to combine all these together and calculate an average operating expense for the SMSF. We also found that the figures were not entirely rigorous due to the inconsistent recording of transactions.”

Mr Burgess said this is a key reason as to why the SMSF Association has been doing some work with the major software providers in the industry, in order to come up with a set of rules on how to standardise all the expenses in future research.

“We can ensure going forward that you know expenses are coded and recorded the same way, and we think we’re pretty close now to having a set of rules that will apply across the industry,” he said.

“Now the next phase will be the software providers having to make a few changes to their software, and then there’ll be an education phase where we’ll be looking to educate users to make sure that they understand how certain expenses should be encoded.

“I guess, once we get to that stage, we can then really start to get some very accurate figures coming out of its research on the operating costs for this because the actual data, as I said, is a little difficult because there are some inconsistencies from how certain expenses will be coded.”

Digging deeper for investment data

In looking at some of the other findings from the research in regard to investment return, Mr Burgess said Rice Warner was able to pinpoint the investment performance of SMSFs, which they did by fund size.

“This was interesting in that it really did support the views that the position that ASIC has so clearly articulated in a lot of their regulatory materials, that funds with smaller balances tend to underperform when it comes to investment returns,” Mr Burgess said.

“So, while we found that from an expense point of view that $200,000 estimates can be cost-effective compared to APRA funds, at that level, they are typically underperforming from an investment perspective and around 22 per cent of all SMSF are in that $200,000–$500,000 range.

“That’s not overly surprising when you look at the asset allocation of these smaller funds, as they do have a large weighting towards cash and term deposits if these interests are so low, so it’s not surprising that we’re seeing funds with those smaller balances underperforming APRA funds.”

Looking ahead, Mr Burgess said the association has its eyes set on future research, with a primary goal set to focus on funds in the $200,000–$500,000 range and try to benchmark the performance of these funds against relevant benchmarks.

“What we’re trying to do there is strip out those clients who have made a conscious decision to invest in cash either because that’s their risk profile or because they’re waiting for more money to come into the fund so they can invest versus those funds of that size that have made a conscious decision to invest into the market,” he said.

“We think by comparing to relevant benchmarks, we can really drill down and really see if there is an underperformance issue here at these ranges, and that’s some research that we hopefully will release later in the year.”

Source: SMSF Adviser

Pandemic puts investors in charge

In the three months to September 30 last year, the number of self managed superannuation funds increased 5530 as 5607 people decided they wanted to take direct control of their super. 

Last financial year tells a similar story. Although the numbers were slightly negative for the June quarter ( minus 398) – reflecting a historical norm where this quarter sees most wind-ups to coincide with the end of the financial year – the March (3922), December (3733) and September (5578) quarters took SMSF growth back to nearly 13,000 for the 2019-2020 financial year after slowing markedly in the previous two years.

It seems remarkable that two quarters of this growth occurred during a global pandemic when market volatility, job losses, business closures and social upheaval were the order of the day. But it fits a historical pattern; it also happened after the global financial crisis. Economic crises, it seems, push people to want greater control over their financial affairs.

And it was not just those nearing or in retirement who were setting up SMSFs. There is a growing cohort of younger people who are being attracted to SMSFs. Based on Australian Taxation Office statistics, the number of people under 50 years with an SMSF make up nearly 25 per cent of the nearly 1.1 million Australians who opt to manage their own superannuation. Of this number, 3.5 per cent are below 35. (As would be expected, the 50-75 age bracket remains dominant with 62.3 per cent of all SMSF members.)

For those opting for an SMSF, a recent report by the actuarial firm Rice Warner on costs would have been reassuring. Using data from more than 100,000 SMSFs, it found that funds with balances of $200,000 or more are cost-competitive with industry and retail superannuation funds and those with balances of $500,000 or more are typically the cheapest. Even balances between $100,000 and $150,000 are cost-competitive, provided a cheaper service provider is used or trustees do some of their own administration. Only below $100,000 do SMSFs stop being cost-competitive.

This is not surprising. As the report points out, over the past seven years SMSF costs have fallen (in large part due to technology), while the costs of APRA-regulated funds have increased. Most SMSF investors’ personal experiences did not reflect the costs attributed to SMSFs by the 2018 Productivity Commission report ($500,000 to be cost-effective) or the now-expired November 2019 ASIC flyer, titled Self-managed superannuation funds: Are they for you?, that included inflated SMSF annual running costs.

But setting up an SMSF has never been just about costs. Or investment performance for that matter. Of course, both costs and investment performance play a part in the decision-making process, but they are not top of mind, as a recent SMSF Association survey of 800 SMSF investors highlighted. What the survey revealed was the thinking process involved in setting up an SMSF is far more nuanced than simply looking at costs and investment performance – and it helps to explain why they are appealing to a growing number of Australians.

In a nutshell, what motivates many investors is the control an SMSF gives them. When that is teased out, it comes down to being able to make flexible investment choices, dissatisfaction with their existing fund, and tax and estate planning.

With this mindset, it helps explain why some younger SMSF investors with lower balances that are not cost-competitive with APRA-regulated funds still opt to set up a SMSF. It also explains why they are not deterred by lower average investment returns because, while an SMSF’s investment performance correlates to fund size, the actual investment performance of an individual SMSF will be driven by the investment strategy chosen for that SMSF.

As shown in the Rice Warner research, in 2017 and 2018, an average SMSF balance of between $100,000 and $200,000 had returns 4.56 per cent and 3.86 per cent, respectively, lower than APRA-regulated funds. But once an SMSF passes the $200,000 barrier, the difference starts to narrow. SMSFs with balances between $200,000 and $500,000 returned 7.07 per cent in 2017 and 6.02 per cent in 2018, not far behind APRA funds, and at $500,000 the difference is negligible.

Some of those SMSFs will have very conservative investment strategies because they are in pension phase and are very focused on capital preservation. Others will have more aggressive investment strategies and achieve higher than average investment returns. We are planning further research this year into better understanding the drivers of investment performance for smaller SMSFs.

So, when an SMSF reaches $500,000 (and, remember, 63 per cent of SMSFs had balances exceeding $500,000 and only 15 per cent had balances below $200,000 in 2019), they have more opportunities to diversify their investment portfolios, which can bring higher returns. By contrast, funds with lower balances are typically weighted towards cash and term deposits, reflecting more conservative investment strategies.

Many younger investors who want to take the time, effort and money to oversee their retirement income strategies also appreciate it’s a marathon, not a sprint. They know higher returns will come as their balances grow. And many grow quickly, as the Rice Warner research shows. Of 8043 funds with balances of less than $200,000 in 2017, 3208, or 40 per cent, had broken through this barrier by 2019, with 24 per cent doing so in the first year.

For many younger Australians, an SMSF will never appeal – far better to leave it to a large super fund to do the heavy lifting. But for those who embrace taking control of their retirement income strategy, the rewards are clearly there, whether it’s measured in terms of costs or investment returns.

Written by John Maroney, CEO, SMSF Association


Reform aims to cut costs and simplify SMSFs

Trustees frustrated by excessive paperwork and expensive advice frameworks will be watching two government initiatives with great interest.

There is growing momentum for financial services reform that could see the cost of administering a self-managed super fund fall, with federal Treasury and the Australian Securities and Investments Commission issuing independent consultation papers that could cut red tape and complexity.

Treasury has called for submissions to its consultation paper, Modernising Business Communications, which has the goal of “cutting business costs (including superannuation) and better reflecting the way Australians want to engage and communicate digitally”.

Running parallel to this is ASIC’s consultative paper 332 – Promoting Access to Affordable Advice for Consumers – that has asked the financial advice industry and other stakeholders to outline what impedes the delivery of good-quality, affordable personal advice.

The SMSF sector has benefited from coronavirus-induced relief measures that cut red tape, and the federal government’s stated aim is to build on this to improve efficiencies and further cut fees.

Research by actuarial firm Rice Warner shows the cost of operating an SMSF can range from $1,189 a year for SMSFs (with just accumulation members receiving a base level of compliance and administration services) to $3,359 a year (for SMSFs that have one or more members in the pension phase and are receiving a full range of administrative and compliance services). These costs exclude the cost of advice.

If the initiatives by Treasury and ASIC come to fruition, these figures could drop further.

The Treasury consultation paper wants to identify business communications that will benefit from technology neutrality changes (i.e., that different technologies offering essentially similar services will be regulated in similar ways), particularly those that lower compliance costs.

It identifies superannuation as one area for improvement, noting that much of the legislation is exempted from the Electronic Transactions Act 1999 that allows information to be recorded or retained in electronic form. This needs to change.

The administrative reality for SMSF trustees – whether establishing a fund or in ongoing financial reporting processes – is that a significant number of signatures, resolutions and record-keeping details are required that could be reduced by any efficiencies emerging from recommendations out of the Modernising Business Communications report.

Trustees know only too well the legislative demands to keep physical documents. One example is that trustees are required to retain physical written records of decisions made about the storage of collectables such as artwork, antiques, jewellery and similar items and to retain them for 10 years.

Trustees are also required to prepare a written rectification plan in situations where the fund breaches the 5 per cent in-house asset rules.

New trustees are also required to sign a physical trustee declaration to declare they understand their obligations and responsibilities. Completed declarations must be kept not only for the life of an SMSF but for at least 10 years after it is wound up.

All this paperwork is time-consuming. And costly. Some of it is also unnecessary – especially in a physical form. Allowing these records to be stored by any means as long as the information is readily accessible, in a format that can be easily reused and where the integrity of the information is maintained can only save trustees time and money.

The ASIC paper is looking for ways to make financial advice, including SMSF advice, more affordable. As COVID-19 highlighted, there is a pressing need for a more efficient regulatory framework for financial advisory services, with trustee feedback to the SMSF Association revealing that they find the advice process lengthy, costly and prioritises compliance and the needs of Australian Financial Services Licences over them.

The system also prevents them obtaining limited SMSF advice they might require – a real source of frustration.

Many trustees only want specific strategic advice but instead often find themselves having to sign up for a comprehensive advice package that is simply too price-prohibitive for the actual information they seek.

Allowing advisers to offer limited strategic advice could be the foundation stone on which an SMSF trustee-focused advice framework is built, allowing well-educated advisers who are registered with a single disciplinary body to provide strategic advice on specific areas such as superannuation and cashflow without specific reference to financial products.

It would also have the side benefit of increasing their ability to provide strategic advice without conflicts of interest.

None of this push to simplify the system and cut costs should come at the expense of the integrity of the system or safeguarding the financial interests of every trustee.

Adequate and reasonable protections are needed so that trustees are not at risk from either poorly or illegally executed corporate documents or deficient financial advice. In any reform, the right balance must be struck.

SMSFs got a fillip late last year when the Rice Warner report found that they were cost competitive with APRA-regulated funds above $200,000 and the cheapest superannuation option above $500,000.

It was only below $100,000 that SMSFs were at a competitive disadvantage. If concrete reforms that drive SMSF costs lower eventuate from these two papers, it cannot help but make this superannuation model even more enticing.

Written by John Maroney, CEO, SMSF Association 

Life about to get more complicated for SMSF trustees


Rejoicing at the indexation of the transfer balance cap from July 1 because you’ll get more in tax-free pension phase? How it will work is likely to be frustrating.

Since July 1, 2016, the complexities in administering superannuation accounts, particularly SMSFs, has significantly increased. There are numerous thresholds, caps, indexation methods and limits that require constant monitoring and reporting.

This is not only difficult for trustees and members, but also their advisers, who in many cases are unable to access the necessary data in an accurate and timely fashion.

The different total superannuation balances (TSBs), individual transfer balance caps (TBCs) and imminent proportional indexation, the lack of SMSF adviser access to the Australian Taxation Office (ATO) portal and the intended removal of annual TBC reporting obligations all combine to create excessive complexity.

From July 1, this is only going to get more complicated.

Superannuation members have their own personal TBC that determines the amount they can transfer into retirement-phase income streams. Initially a personal cap will equal the general TBC in the year they first have a retirement phase income stream count against their transfer balance account. Currently, this is $1.6 million.

Due to the December consumer price index reading, the current general transfer balance cap will be indexed from $1.6 million to $1.7 million. So far, not so bad. However, when proportional indexation is considered, the situation changes.

Over time, a client’s personal cap may differ from the general TBC because of proportional indexation. Under proportional indexation, the unused portion of the client’s personal cap (based on the highest percentage usage of their TBC) will be indexed in line with the indexation of the general transfer balance cap. This is an overly complex situation that will result in many superannuation members having a personal TBC different from the general TBC.

Those who haven’t used any of their cap will have a TBC of $1.7 million; individuals who have used a portion of their cap (based on their highest percentage usage) will fall somewhere between $1.6 million and $1.7 million; and individuals who have used all of their cap will remain at the original TBC of $1.6 million. 

Because of the complex proportional indexation method, it is anticipated there will be a lack of understanding by professionals and individuals on how correctly to calculate a member’s personal TBC to avoid triggering an excess.

We will have a system where many individuals will need to calculate their own TBC that will be different to everyone else’s personal TBC. Not understanding and calculating your own balance accurately could leave trustees liable for excess transfers to the retirement phase.

Case Study

Leanne started a retirement phase income stream on October 1, 2017 with a value of $812,000. On May 13, 2019, she commuted $200,000 from her pension and her transfer balance account was debited by $200,000. Although the balance of her transfer balance account when indexation occurs is $612,000, the highest-ever balance of her transfer balance account is $812,000.

Leanne’s unused cap percentage is 49.25 per cent of $1.6 million. Her personal TBC will be indexed by 49.25 per cent of $100,000. Leanne’s personal TBC after indexation is $1,649,250.

Leanne must be aware that if she chooses to increase her retirement phase income streams, she must calculate her personal TBC based on her specific proportional indexation percentage and increase it to a maximum of $1,649,250 and not to $1,700,000. Leanne must also be aware that her personal TBC will be different to everyone else’s. It is likely she will need advice to calculate it accurately.

Other Fixes

The calculation and monitoring of indexation and the personal TBC are complex and introduce another element of confusion.

One solution is to remove the need for proportional indexation. This would be implemented by “locking in” an individual’s TBC to the general TBC when they first started a retirement phase income stream. For example, any individual who has started a pension currently would be subject to a $1.6 million TBC.

Although this option may cause some minor inequities, these are acceptable to avoid the cost and confusion that proportional indexation would cause.

Another proposal is to reduce the number of bands (currently 0 per cent to 100 per cent) of proportional indexation to just four (illustrated in the table).

In this example, the number of bands an individual’s personal TBC may fall into has been simplified. Individuals will know their highest TBC and know they will only fall into one of the four bands, hopefully making it easier for trustees to navigate their TBC calculations.

In the absence of providing everyone an additional $100,000 to their TBC (which goes against the intent of the TBC,)or simplifying the formula in some way, the only other step is to ensure that individuals and their advisers have access to timely and accurate data from the ATO and can act on it.

Unfortunately, this is not the case. Accountants can obtain information from the ATO portal but cannot provide advice on contributing to pensions and financial advisers are unable to obtain that information but are the advisers authorised to provide advice. This jeopardises the quality and efficiency of advice that is being provided to members.

The Retirement Income Review report found that the system is complex. The aim should be to keep complexity to a minimum – addressing proportional indexation would be a good start.

Written by John Maroney, CEO, SMSF Association 

Why SMSF trustees need to remain alert in 2021

While thankfully there has not been a lot of legislative change relating to self-managed super funds lately, there will still be much to occupy trustees’ minds over the next 12 months.

Auditing changes (whether it be stricter rules on auditor independence or more oversight over investment strategies), the winding back of COVID-19 relief measures and the likely indexation of the $1.6 million transfer balance cap (TBC) and the contribution caps, are all issues they may have to grapple with in 2021.

But perhaps the biggest issue looming is the government’s review into identifying what impedes the supply of good, affordable personal financial advice and then hopefully outlining the necessary steps regulators and industry need to take to improve consumer access to such advice.

This review – submissions to ASIC are due by January 18 – has the potential to lower the cost of advice to SMSF investors without sacrificing quality. Hopefully, it will make it easier for personal advice to be scaled up and down to cover only those areas relevant to the advice they are seeking, thus avoiding the need to pay for a complete – and expensive – advice package.

We saw a glimpse of how this could work when measures were introduced earlier this year, in a limited and temporary form, to help consumers impacted by COVID-19 obtain affordable and timely financial advice. Certainly, for those SMSF investors who shy away from advice because of the cost, this could prove very beneficial.

Although we will not know until the December 2020 quarter CPI figure has been released, it is looking likely that the TBC will be indexed and will increase from $1.6 million to $1.7 million from July 1, 2021.

SMSF investors who start to receive a superannuation pension from their fund, or any superannuation fund, for the first time on July 1, 2021 will have their pension balance assessed against this higher threshold.

For members who had already started a superannuation pension before July 1, 2021, their entitlement to indexation will depend on the amount of the TBC they have not previously used, so their TBC will be somewhere between $1.6 million and $1.7 million.

Spotlight on asset valuations

The concessional contributions cap is expected to increase from $25,000 to $27,500 from July 1, 2021, which means the non-concessional contributions cap will rise to $110,000 and the maximum two-year bring-forward amount will increase to $330,000. From the second half of 2021, this could create new opportunities for some SMSF investors to contribute more to their SMSF without triggering an excess contribution.

Expect SMSF auditors to pay close attention to investment strategies in the wake of new guidelines released by the ATO in early 2020. SMSF trustees must ensure they have properly considered their investment strategy in terms of asset diversification and whether the fund is structured to meet the fund’s investment objective and its liquidity and cash-flow needs.

This is particularly pertinent where a fund has a large proportion of its investments in one asset or asset class. In 2019, the ATO wrote to more than 17,000 SMSF trustees who, according to their records, had 90 per cent or more of the fund’s assets invested in a single asset or asset class. While investing in one asset, or only one asset class, is not necessarily a breach of the rules, the purpose of the ATO letter was to remind trustees of the need to ensure they have properly considered the risks associated with such a strategy.

It was also to remind SMSF trustees of the need to properly construct their fund’s investment strategy by considering the fund’s investment objective, the benefits of investment diversification and the fund’s liquidity and cash flow needs.

The ATO has also recently updated its valuation guidelines for SMSF trustees to ensure they can substantiate the value assigned to investments such as property and other unlisted assets. So asset valuations are also likely to be high on the list of SMSF audit hotspots.

The ATO has also announced stricter rules will apply to SMSF auditor independence. Accounting firms that use “Chinese walls” to prepare an SMSF’s financial accounts and then audit these accounts will, in most cases, no longer be able to do so. Although transitional rules apply, some SMSF trustees may find themselves needing to appoint a new auditor in 2021.

As the COVID-19 relief measures begin to be wound back, SMSFs that own property must ensure they adjust their lease agreements with tenants accordingly, particularly where there is a related-party tenant to ensure payments are consistent with a commercial arm’s length arrangement.

The same principle applies where an SMSF may have borrowed money under a limited recourse borrowing arrangement. If the lender is a related party, it is very important that loan repayments are consistent with an arm’s length arrangement.

The last issue will only concern a small minority of SMSFs, but for those for whom it does, it could be hugely important. Although the legislation is yet to be passed, six-member SMSFs are looking increasingly likely, possibly as early as April. It could open new opportunities for family SMSFs, particularly in terms of reducing fees and providing extra investment flexibility.

Hopefully 2021 proves far less challenging – and stressful – than 2020. But even if that proves to be the case, trustees need to be on full alert. As always in the SMSF world, change is the only constant.

Opinion piece written by John Maroney, CEO, SMSF Association

The optimal size for SMSFs when it comes to costs

New research should finally lay to rest that old canard that self-managed super funds (SMSFs) with balances of $200,000 or more are not competitive on cost compared with APRA-regulated superannuation funds.
The report by actuarial firm Rice Warner, using information from suppliers of SMSF administration services and validated by data from more than 100,000 SMSFs, showed funds with balances of $200,000 or more are cost competitive with industry and retail superannuation funds, and those with balances of $500,000 or more, are typically the cheapest alternative.

The numbers are quite instructive. Even balances of between $100,000 to $150,000 are competitive with APRA-regulated funds, provided a cheaper service provider is used or trustees do some of the administration.

For balances of $250,000 or more, SMSFs become the cheapest alternative provided the trustees do some of the administration, or, if seeking full administration, choose one of the cheaper services.

It’s only when SMSFs fall below $100,000 that they stop being competitive compared with APRA-regulated funds, while funds with less than $50,000 are more expensive than all other alternatives.

The results of the Rice Warner report, which built on work the actuarial firm did on costs in 2013 for ASIC, would not have surprised SMSF trustees.

Over the past seven years, they have observed the average costs of APRA-regulated super funds rising while SMSF costs have fallen, in large part due to technology.

From personal experience they know it’s cost-effective to open and maintain an SMSF at much lower levels than declared by either the Productivity Commission or ASIC.

Important as the findings of this research are, it needs to be emphasised that costs – and investment returns for that matter – are not the prime reasons that individuals set up an SMSF.

Those two factors are important, but as a survey of 800 SMSF Association members found, individuals’ motivations for leaving the APRA-regulated system to take personal control of their superannuation are far more varied and complex.

Control is key

What the survey highlights is that perennial debate about whether APRA-regulated funds or SMSFs are the best superannuation option based on costs and investment returns is largely irrelevant to the very people to whom it is most important – SMSF trustees.

Instead, it’s the control that an SMSF gives individuals over their retirement income goals that plays an important role in the decision-making process when deciding to establish an SMSF.

In fact, the key reasons why trustees chose an SMSF are control, flexible investment choices, dissatisfaction with their existing fund, and tax and estate planning. Costs and investment returns don’t make the list. In essence, what trustees want is control of their financial futures.

When these qualitative factors are added to the mix of reasons as to why individuals set up SMSFs, it helps explain why trustees are prepared to pay the price of higher administrative costs and lower investment returns when their balances are low.

As the Rice Warner research shows, this is undoubtedly the case, with investment performance directly correlating to fund size.

When the average SMSF balance was between $100,000 and $200,000, their average investment returns lagged their APRA cousins, notching returns of 4.56 per cent and 3.86 per cent in 2017 and 2018, respectively.

But once an SMSF breaks through the $200,000 barrier in funds under management, the difference between the two superannuation sectors starts to quickly narrow.

SMSFs with balances between $200,000 and $500,000 returned 7.07 per cent in 2017 and 6.02 per cent in 2018, not far behind their APRA cousins.

And once a fund exceeded $500,000, average investment returns were comparable with the APRA funds, with SMSFs having balances between $500,000 and $1 million earning returns of 8.64 per cent in 2017 and 7.0 per cent in 2018.

What these numbers say is that once an SMSF reaches $500,000 (and, remember, 63 per cent of SMSFs had balances exceeding $500,000 and only 15 per cent had balances below $200,000 in 2019), their capacity for more extensive and diversified investment portfolios allows them to enjoy higher returns.

By contrast, funds with lower balances are weighted towards cash and term
deposits and have less exposure to shares, property and managed funds.

But as the survey found, those smaller SMSFs are prepared to play the waiting game, appreciating higher returns will come as their balances grow. And many grow quickly.

The Rice Warner research shows that of 8,043 funds with balances of less than $200,000 in 2017, 3,208 or 40 per cent had broken through this barrier by 2019, with 24 per cent doing so in the first year.

SMSFs are not for everyone. But for those who do opt for this superannuation vehicle, the Rice Warner research provides reassuring evidence they are not jeopardising their future retirements.

Opinion piece written by John Maroney, CEO, SMSF Association