According to statistics released by the ATO in December 2015, “SMSFs account for 99.5 per cent of all superannuation funds and 29 per cent of the $2 trillion in total superannuation assets in Australia”
SMSF or Self Management Superannuation Fund is a trust set up with the sole purpose of providing for your retirement. Here, the members are also the trustees and personally responsible for running the fund. The ATO requires SMSFs to comply with strict tax regulations and non-compliance can lead to strict penalties for the members.
SMSFs are becoming more and more popular with Australians every year. Here’s what makes them lucrative:
- More control over your super.
- Flexibility to invest and manage your retirement fund.
- Tax benefits – Lump sum payments or pensions payable from SMSFs to members more than 60 years in age are tax-free.
SMSF Investment Strategy
An SMSF Investment Strategy lays down what all the fund can invest in. It is the responsibility of the trustees to make an investment strategy according to the requirements of the fund members and keep an eye on how the assets are performing.
The investment strategy much be reviewed yearly and SMSFs are liable for yearly audits. A good investment strategy must focus on the following factors:
- Risk – The risk profile of the folio must be aligned to the fund objectives.
- Diversification – In order to mitigate risk and maximize profits, investing across diverse assets is key.
- Liquidity and cash flow – Liquidity is important for the fund to realise pensions for retiring members and lump sum payments for outgoing ones. Cash flow needs to be maintained to meet running costs such as taxes and other liabilities.
- Sole purpose test – All investments must pass the sole purpose test. The only aim of SMSFs is to fund your retirement, you can’t use the proceeds for any other purpose.
What can SMSFs invest in?
An SMSF gives you access to a broad range of investments. You can invest in shares, property or even an art, wine or vintage car collection.
The whole aim of SMSFs is diversifying investments and one must not make the folly of investing in a single class. A healthy mix of various asset classes can mitigate the risk when any one sector is going down.
Staying on top of the stock market needs patience, knowledge and skill. It also needs a lot of time. Before you start an SMSF to invest in shares, ask yourself the following questions:
- Do you have enough cash for a diverse share portfolio?
- Do you have time and expertise to analyze the share market?
Remember, the SMSF is totally your responsibility. While you can hire a professional to help with your investments, liability for any misdemeanor falls squarely on your shoulders.
As the property prices surge with every passing year, investing in property has become a popular investment option for SMSFs. However, complex rules regulate financial borrowings for SMSFs and not understanding these could lead to severe legal implications.
Borrowing for assets
SMSFs can fund a property by using cash in the fund and borrowing the rest under Limited Recourse Borrowing Arrangements (LRBA). This basically means that during the life of the loan the property is held in the name of a Security Trustee (other than the SMSF) under a special purpose trust.
- Most lenders require 20% deposit and an additional 5% for accessory costs such as stamp duty and legal fee.
- Under LRBAs, in case of default, the lenders’ right to recourse is only limited to assets under the special purpose trust.
- The rental income from the property is taxed at the rate of 15% and no tax is payable if fund is in the retirement phase.
Holding property out of an SMSF offers several potential benefits such as tax rebates on rent and no capital gains tax when property is sold in the retirement phase. It is also possible to make larger investments if the SMSF is cash healthy. However, the illiquid nature of property, the cost of setting up an SMSF and not understanding the rules properly can outweigh the benefits.
In order to ensure good cash-flow management, take advice from a seasoned accountant and go in for a positively geared property in an area of potential growth. Requesting a free property report from HashChing can help you with your property search.
It is possible to hold art collections or wine or jewellery as assets in your SMSF. However, the sole purpose of the SMSF is to fund your retirement and you are not allowed to use any of these items for personal use.
Some tips to avoid the pitfalls:
- Have an investment strategy and review it yearly in terms of past performance.
- Understand the rules before you jump in the fray.
- Don’t invest in only one class of assets. Choose a mix of assets for healthy growth.
- Don’t use SMSF proceeds for personal benefits. Remember the ‘Sole Purpose’ test.
- Be tax compliant at all times.
- Seek professional help while setting up your SMSF.
- Lastly, make sure to insure the death and disability benefits of each member.