A self-managed super fund (SMSF) is just that: a private super fund managed by the members. You have the ability to choose the investment strategy and consider any requirements for insurance.
While SMSFs can really help contribute to wealth creation, they do come with some responsibilities along with the added benefits and can be tricky if you don’t have any investment experience. You may have up to four family members (soon to become six) involved as members in your SMSF, which can really help with tax-effective retirement income planning, whilst keeping management and administration costs to a minimum.
Whilst the management is the responsibility of the members personally, it is often best achieved by establishing a corporate trustee. Most commonly, these trustee responsibilities are assisted by the client’s accountant and investment advisor. To better understand the implications of SMSFs, here is an overview of what makes them appealing for wealth creation and the risks they present.
Benefits of SMSFs
There are many reasons people choose the SMSF to help build wealth including:
Wide range of investment choices: Because you have a wider range of investment options, you are not tied down such as you may be when choosing retail superannuation funds. If there is an industry that interests you, or where you have some knowledge, you can choose this option so you feel a little more connected with the investment. Commonly a business may, for example, acquire their business premises in their SMSF, charging deductible rent to the business. This creates a deduction in a higher taxed entity, which is, in turn, assessable income in a lower-taxed entity.
- Borrowing: You are permitted to borrow money to purchase an asset. Some banks include SMSF loans in their lending products. Your accountant will be familiar with establishing such a structure.
- Small businesses: Many small business owners and self-employed people choose super contributions as an annual tax planning tool.
- Flexibility: You have some flexibility in the rules of the SMSF since you are the trustee. This can work well to meet specific needs and circumstances.
- Effective tax management: SMSFs have the same low tax rates (15% on income) as other superannuation funds, but you can introduce tax strategies suited to your situation to reduce this further.
- Accountability: Because you become both a trustee and member, there is greater transparency with respect to investments as well as accountability, so tracking is easier and can even be tracked in real-time. This allows you to make more mindful decisions.
- Cost: In most cases, as your fund grows, your costs reduce as the costs are fixed and, increasingly, accounting and taxation administration is becoming automated – further pushing down costs.
- Partners: A SMSF can form part of a syndicate to acquire more substantial and investment-worthy assets such as a commercial building or even a trading enterprise (subject to your investment advice and the rules of the fund). You may go into the SMSF with up to three other people, which can really open up how much you invest.
One important commercial risk management benefit is that creditors can not access your superannuation benefits provided you haven’t transferred your assets to avoid debt repayment.
As mentioned, when you choose a SMSF you, the members, select the type of investment. That means you need to have the responsibility to balance your goals as well as your risks. You can choose the options that suit your risk-preference and align them with your short and long term goals. You also have to keep in mind the impact of changes to your financial “stage of life” situation, as well as in market conditions. The different types of investment options include:
Australian and international shares (listed and unlisted)
- Residential or commercial property
- Cash and term deposits
- Fixed income products
- Physical commodities
- It is always prudent to consider ways to diversify and balance your portfolio. For example, as market conditions change many people look at adding to the more traditional asset classes such as cash or shares. This helps mitigate risk. Some common alternatives include:
- Corporate bonds
- Commercial real estate
- Infrastructure investments
Fund trustees often consult with both their investment advisor and accountant, working in collaboration to achieve the optimal outcome for their investment, taxation, succession planning and retirement income objectives. Clarke & Brownrigg have established many productive such relationships.
What Needs to Be Considered When Selecting Investments in SMSFs?
The most important things to consider when selecting the suitability of investments are:
- Capital growth: Capital growth is defined as the increase in asset values over time. It is important for long-term investments but also for those managing life savings and as an inheritance asset to pass on to their children. Growth assets tend to offer higher aggregate returns compared to defensive assets such as cash. However, you can experience higher volatility which means a higher short term risk for capital loss.
- Income generation: Investments which have an emphasis on stable income and regular payments of rent, interest or dividends. If you need to fund expenses this can be the right emphasis in asset mix; however, the trade-off is income assets might not offer as much or possibly any asset growth. This is an important element of diversification strategy.
- Risk management: Trustees also need to consider if it is more important to protect your capital savings or if you are willing to take more risk. If you go for less risk, you help protect your assets but may have to accept lower returns and vice versa. Lower risk may include something like bonds and term deposits. This is often the preferred emphasis for retirees who have less time to recover from short term losses and who are looking for additional income to help cover living expenses.
- Liquidity: Will the investments need to support pension payments, and if so, what liquidity will be required in the short and medium term.
As trustees, each member of your SMSF is obliged to comply with various laws and is involved in decisions.
Managing the administrative tasks on your own comes with some risks including:
- Trustees can be penalised under the SIS Act for non-compliance under the legislation. All decisions you and your members make leave you personally liable to the consequences.
- Because you are responsible for your own investment decisions, there is little recourse to third parties in the event of losses being incurred choosing the types of investments. You might choose an option that doesn’t see the results you wanted, or even put you at risk for loss.
- Your trustee role is continuous, even as you become older, and potentially lose capacity to manage, so this succession needs to be considered as well.
- Regardless of your financial situation, you are still required to manage the fund, including if you become unemployed.
- Trustee planning needs to consider matters of death of a member and practical issues such as adequate liquidity for pension payments.
- Should you lose money or be exposed to fraud you do not have recourse / are not covered by the Superannuation Complaints Tribunal.
Adding to the list, managing a SMSF may be some-what time-consuming. If you don’t have sufficient assets to warrant the cost of administration or have time to manage the administration, it might not be right for you.
Assistance with SMSF Management
Although they can be a highly beneficial to members, a SMSF is not for the novice investor, nor will it work if you don’t have time to commit to its success. Ongoing administration for your SMSF includes:
- Researching investments
- Planning an investment strategy
- Following your strategy
- Records keeping
- Arranging an audit each year by an approved SMSF auditor
You should be prepared to spend a few hours each month managing a SMSF. If this sounds like too much work, you can engage a SMSF accountant in conjunction with an investment advisor to manage everything for you. This is an option that allows you to enjoy the benefits and not worry about the administration.
If you are interested in working with Clarke & Brownrigg to learn more about Self Managed Superannuation, book a complimentary discovery meeting and we’d be happy to point you in the right direction.