ASK THE RIGHT QUESTIONS BEFORE STARTING YOUR SMSF

Self-managed superannuation funds (SMSFs) continue to attract interest from potential fund trustees eager to make the leap into taking control of their own retirement income. The problem that many of them face is in knowing what questions to ask and where to go to find the answers. To get them started, the most important information they need to know is how to go about setting it up.

At the start, many people assume that there is only one way to structure their fund, so when they find out differently, the first question they ask is about the differences between two options. They then find that the first option is to have individual trustees and the other is to establish a company acting as trustee for the fund. Both of these options should be discussed with a professional before making any decision, as they are difficult to change later.

The next question to be asked, naturally enough, is usually about costs. They find that there are no Australian Securities and Investments Commission (ASIC) fees for a fund with individual trustees, resulting in reduced establishments costs and lower ongoing administrative requirements. However, ASIC charges a fee for the initial registration of a corporate trustee, followed by annual review fees. In the case of both structures, trustees or directors cannot be paid fees for their duties or services relative to the fund.

The ownership of the fund assets is often the next question asked. For an SMSF with individual trustees, the title of the fund assets must be in the name of the current trustees, “as trustees” for the fund. If the trustees change, then the titles must also be changed, which can be expensive. In the case of a corporate trustee, when a person leaves the fund, they cease to be a director and although ASIC must be notified of the change of directors, the titles of the assets remain unchanged.

Often, potential trustees already hold personal assets that are not intended to be part of the fund. They want to know before going any further what will happen to those assets. The answer to this question is quite simple. The assets of the fund must be kept completely separate from any personal assets held by the trustees. The fund assets must be in the name of the fund. Corporate assets are exactly the same except that companies have limited liability.

Finally, the question of penalties for non-compliance arises. Trustees must always be mindful that if superannuation laws are breached, each trustee is liable individually for the administrative penalties. If the same penalties were to be levied on a corporate trustee, they would only be applied once.

There are many other questions to be asked and answered in much more detail than is possible here. Suffice to say that there are companies such as SMSF Assure that will assist trustees with all the administrative details involved in running an SMSF, so they are in a perfect position to give complete and comprehensive answers to these questions.

ORGANISING YOUR SUPER FUND – THE KEY STEPS

If you have a good understanding of the mechanics of superannuation and a flair for spotting a good investment, you may be thinking about establishing your own SMSF. The initial organisation is not particularly difficult, especially as all the steps required are set out clearly by the ATO (Australian Taxation Office).

However, getting it right is important because only a compliant fund is eligible for tax concessions and it can receive contributions. You could engage SMSF professionals to help you set up the fund but if you prefer to organise the fund yourself, there are important things you must do.

The first thing you must do is choose between having individual trustees or a corporate trustee, each of which differs in terms of the member and trustee requirement, costs, ownership and separation of the fund assets, penalties and succession. These are all critical decisions, which, once made, are very difficult to change.

Next is to choose your eligible trustees or directors, depending on which fund structure you choose. All trustees and directors must consent in writing to their appointment and sign the Trustee declaration. You must keep these documents secure for the life of the SMSF and for ten years after it is wound up.

Now you must create a trust deed; this is the legal document that establishes the rules by which the trust is managed. This must be prepared by someone with the relevant legal qualifications. There must also be a nominal initial contribution of assets to give legal effect to the fund.

Within 60 days of signing the trustee declaration, you must register the SMSF with the ATO by applying for an ABN (Australian Business Number). Now you can open a bank account in the fund’s name. This account will be used to manage the fund operations.

You may also need an electronic service address, which is a special internet address that is different to an email address. Finally, even at the start of this venture, you will also need an exit strategy. Such a strategy reduces the effects of an unexpected event such as a death, a relationship breakdown between the trustees or some other occurrence.

If you still want to go ahead with the SMSF but daunted by the prospect of the day-to-detail now that you have a taste of what is involved, all that is needed is to enlist the assistance of companies such as SMSF Assure to do the administration, while you divert your energies to building a retirement nest egg.

Now think carefully before you decide to go it alone. Many important decisions are needed that can be provided by a range of professions covering accounting, administration, legal, financial and tax advice. Not using their expertise could have a huge impact over your final retirement balance.

SMSF RISKS YOU MAY NOT KNOW ABOUT

As trustee of your SMSF (self-managed superannuation fund), you would be aware of the responsibility you have to manage investments that will produce a comfortable income in retirement. You may have outsourced the fund administration to professionals such as SMSF Assure and engaged a licensed financial advisor to assist with investment decisions, but ultimately, the final responsibility for the fund performance is yours.

Apart from the usual market forces that affect any type of investment you make, there are some other, lesser known risks of which we should be aware. Three risks in particular are not directly linked to any investment category, which is most likely why they are often overlooked by SMSF trustees.

Risk No. 1 – Sequencing

The first is known as a sequencing risk and needs some explanation. You already know that investments perform better in some years than in others, but you may not have realised that the sequence in which these changes occur are just as important as the actual investment returns.

This particular risk came to prominence during the GFC (global financial crisis) when people close to retirement lost heavily as their share portfolios crashed. Those affected retired with less than they expected had the GFC not occurred, or in some cases, stayed in employment for much longer to recoup as much of their losses as possible.

Sequencing is all about timing. Losses made in the early stages of your working life can be recouped over time so that the fund balance is healthy at retirement. Those same losses later in life will likely have a profound negative impact on the balance available as members retire.

There is no single way to manage this sequencing risk. However, ensuring that the fund assets are diversified across several investment classes spreads that risk and lessens the overall long-term affect. Changing the asset mix over time to reduce volatility and having enough liquidity to avoid selling assets will maintain capital and keep the fund healthy.

Risk No. 2 – Liquidity

Liquidity then, or lack of it, is the next risk. A healthy SMSF needs cash on hand throughout its existence. Cash is required for administration, auditing, investment fees and other expenses. Fund members in the pension stage will need cash for pension payments or, in the case of bereavement cash to pay the family a benefit. Having cash in a high interest cash account is the best way to manage this risk.

Risk No. 3 – Underinsurance

Having the fund underinsured is the third major risk. Superannuation rules require fund trustees to consider insurance cover for its members, but some SMSFs choose not to do so. This places the fund at risk if assets must be sold, whatever the market conditions, in the event of the death or total and permanent disability of a fund member.

If members are insured against these or similar events, this insurance will most likely cover much of these expenses, leaving the fund assets intact and working to keep the fund balance healthy. These additional risks should be discussed with your financial advisor and plans put in place to manage them.

Keeping Your SMSF Investment Funds As Safe As Possible

The performance of any superannuation fund will eventually affect the quality of retirement that members will enjoy, so it is important that members monitor their returns. It is also worth considering the possibility that some of the products that funds have included in their portfolios are unsafe, exposing the members to reduced returns and eventually a diminished retirement lifestyle.

Just how safe those funds are, is a question worth asking. Provided you are checking that your employer is paying the required contribution to your chosen fund, and that fund has competent managers who have diversified the investments in high-quality products, there should be little to worry about. Throughout the GFC, superannuation funds experienced reduced returns but were never in real danger of collapsing.

This does not mean that such a thing could never happen, but in our highly regulated superannuation market, warning signs would be expected and acted on by fund managers. However, if you are the trustee of a self-managed superannuation fund, and you were either unaware of typical financial indicators or chose to ignore them, your funds and those of your members could be at risk.

Bear in mind that many of the protections available to other superannuation funds by the APRA (Australian Prudential Regulation Authority) are not applicable to SMSFs. For example, they are unable to claim compensation if their fund is affected by fraud or theft. SMSF members also do not have access to the Superannuation Complaints Tribunal if they are not happy with where their funds are being invested.

This is one of the reasons why an SMSF must have an investment strategy. It must be in writing and subject to regular reviews to ensure that it is meeting the needs of the members. This is particularly important when the financial and investment markets are in a state of flux. Without a proper strategy, trustees may be tempted to make quick, unwise decisions to recover losses rather than wait for market corrections.

The best way to keep SMSF investments safe is to develop an investment strategy with the assistance of a licensed financial advisor. The advisor should also be involved in the regular review, so that the fund trustee/s has the benefit of professional expertise. Licensed financial advisors must keep up to date with industry and market changes, and they share this information with their clients.

The other major issue SMSF trustees have is the administration and compliance involved. If you are a trustee struggling with the responsibility of running your fund, getting your investment strategy under control will be a load off your mind. Companies such as SMSF Assure are in the business of assisting clients with SMSF administration and compliance so with both of these areas covered, you are in the best position to keep your fund investments safe.

DO YOU KNOW THE NEW PENALTIES SMSF TRUSTEES AND DIRECTORS FACE?

Industry and retail superannuation funds have been in the spotlight now for many months as the federal government tries to get their proposed legislative changes through parliament. These changes include the possibility of jail terms of up to five years for super fund directors who contravene the rules governing the fund.

Currently, this behaviour is not an offence and does not attract a criminal or civil penalty. The proposed changes would see the fund possibly subject to a civil penalty, which could then result in both civil and criminal consequences. For serious breaches of a director’s duty, a criminal offence and jail time is proposed.

These proposed changes affect directors of industry and retail funds, but are there any changes taking place that affect self-managed superannuation fund (SMSF) trustees and directors? Yes, there are, and they are already impacting on the SMSF industry.

For example, harsher fines have been in place since the beginning of the 2017/2018 financial year, with the value of a penalty unit increasing to $210 since 1 July 2017. What are penalty units? This is the amount of money under Australian law that is used to calculate penalties for breaches of statute law. It is easier to change the number of penalty units each year than it is to amend legislation to increase penalties.

SMSF trustees need to understand how penalty units work, as they must operate their fund according to superannuation rules. If they break those rules, financial penalties may be the result. A breach of certain rules means an automatic administrative penalty ranging from $1,050 up to $12,600, depending on the type of breach.

Three types of new penalties have been imposed. One is a requirement to improve a trustee’s knowledge through education by taking a course by a certain time. Failure to do this will incur a financial penalty. The second is to correct any breaches of the rules within a specific time frame. In both cases, evidence must be provided to the ATO to prove that corrective action has been taken.

The third is the administrative penalty already mentioned and it is the most significant. Fines will be applied to each trustee separately, so if there are two trustees, the fine must be paid by each individual trustee, for the same amount, effectively doubling the amount of money to be paid. If the SMSF has a corporate trustee, the directors are jointly and severally liable to pay just one penalty amount.

These fines must be paid by the trustees or directors themselves and cannot be reimbursed back to them out of the SMSF funds. The consequences of overlooking an administrative responsibility are now significant, so using a specialist such as SMSF Assure to handle all administrative and compliance matters makes more sense than ever.