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Guest contributor: Meg Heffron, the author of this article, is co-founder and a Director of Heffron SMSF Solutions – a firm that specialises in SMSFs. She is a qualified actuary with more than 25 years of superannuation experience.
Depending on who you believe, self-managed superannuation funds range from being the greatest invention of the modern age or the most likely cause of the next financial crisis.
The recent draft report from the Productivity Commission Superannuation: Assessing Efficiency and Competitiveness certainly added to the hysteria about the viability of SMSFs with less than $1 million in assets. The two draft findings at the heart of this were the conclusions that SMSFs with assets below $1 million were generally significantly more expensive than APRA funds and produced lower returns. (For background on what the PC says about superannuation, see SuperGuide article Key issues and findings raised by the PC report on superannuation.)
Naturally these draft findings created the perfect environment to trigger calls for a minimum balance requirement for SMSFs and accusations that SMSFs are routinely mis-sold.
The draft findings left those SMSF trustees with well short of $1 million in their SMSF wondering if they had been foolish or misled. Equally, the draft findings created a false sense of comfort for those who have stayed in their APRA fund for many years without really examining if they are taking the best possible steps when it comes to saving for their retirement.
On a practical level, it is difficult to reconcile the draft PC findings with a typical real-life experience. If we assume a competitive large super fund charges 1% in fees, a SMSF would simply need to cost less than $5,000 a year on a $500,000 balance to be more competitive than a large fund. The administration and investment costs for a typical SMSF would generally be well within this amount for fairly mainstream investments. In fact, given the large number of new (inexpensive) SMSF offers available today, in my experience there are even plenty of $200,000 SMSFs paying around the 1% of assets level in investment and administration costs.
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Planning for longevity and higher living standards
Australia faces a looming crisis from two wonderful developments of the last hundred years – great medical and health advances (that mean we live longer) and improved living standards over many years (which means we expect to be more comfortable in retirement than previous generations).
The crisis is that we simply won’t be able to publicly fund the retirement we are eagerly anticipating enjoying for a very long time. The policy response of successive Governments has been – logically – to ensure that individuals do much more of the retirement saving themselves via compulsory superannuation, rather than leaving all the heavy lifting to the state.
Given that we, as citizens, are being expected to fund our own retirement incomes, it seems entirely reasonable that we should also have the right to make the major decisions relating to that provision, including the establishment of an SMSF with any amount of money we choose.
In fact, I hope that one day we celebrate every new SMSF that is created (perhaps the ATO could start issuing bottles of champagne with ABNs?) and thank the members involved for taking the brave step of engaging with, and taking enormous responsibility for, their own retirement saving. Such individuals deserve our appreciation and respect.
But I digress – we should return to the claims of the Productivity Commission Draft Report.
Is an SMSF appropriate if you have less than $1 million in super?
If most SMSFs are indeed more expensive and produce worse retirement outcomes than a typical APRA-regulated super fund (such as industry funds or retail funds) then those who run an SMSF would be the first to want to rethink their position. They are, after all, generally the most engaged group of superannuation members.
Compare super funds
So, if you have less than $1 million in your SMSF and found the draft findings surprising, you’re not alone (for background on what the PC says about SMSFs, refer link earlier in article).
Unfortunately, the figures the Productivity Commission relied upon to inform their findings were woefully unfit for that purpose. In the words of one submission on the report “Simply put, we think [some key figures and diagrams] grossly misrepresents the average returns of SMSFs and the scale of the misrepresentation of returns for small balance SMSFs is so alarming that the results have been called out in the draft report’s Draft Finding 2.2 and by the media.” (submission provided by Class Super, software providers for the administration of approximately 160,000 SMSFs).
Class provided their own calculations to explain why the conclusions about SMSFs are flawed and demonstrated that in fact SMSFs have performed far more strongly than the report suggests (and in fact better than APRA funds under some of the key scenarios quoted by the report).
It will be interesting to see how the Productivity Commission responds to the feedback.
Setting aside the inappropriateness of these particular comparisons for a moment, there is a broader question to be answered when weighing up an SMSF versus any alternative. Why do regulators and media immediately turn to cost and investment returns when commenting on the validity of choosing an SMSF? The implied benchmark is that the SMSF should materially outperform the alternatives before being considered.
In fact, it would be perfectly reasonable to approach the decision from a completely different perspective:
- SMSFs offer some enormous advantages – control, flexibility, estate planning, tax planning (discussed further below)
- These options and choices are desirable in a world where we must largely take responsibility for our own retirement savings
- But they might sometimes come with a cost (the SMSF might be more expensive)
- How much more expensive does my SMSF need to be before I choose to give up those benefits and stay with an APRA fund?
In other words, SMSFs are often deliberately established despite the cost, not because of the cost.
So, what are all these benefits that SMSFs bring? And how do they encourage many people who have far less than $1 million to have one?
Self-managed super funds are nimble
SMSFs can adjust almost immediately to legislative developments, new strategies and changes in an individual’s circumstances. The agility of SMSFs is not an esoteric benefit that applies only to those operating outside the mainstream. Superannuation laws change often and frequently the new rules are beneficial for fund members. Any new rule or strategy that will require costly system upgrades or procedural changes within an APRA-regulated fund will potentially take much longer to implement in those funds. In fact, some measures may not be implemented at all if they are not relevant to the vast majority of members.
SMSFs have traditionally played a vital role in encouraging product innovation in the public fund environment. The ability to (say) transition from accumulation to pension phase without having to realise assets and pay capital gains tax is a strategy that SMSFs pioneered. Today, such a strategy is common among APRA-regulated funds.
In the best interests of members
All superannuation fund trustees must act in the best interests of members – this is actually a legal requirement.
However, a large fund must inevitably consider the interests of the group as a whole and doesn’t have the luxury of prioritising one member or family above all others. (In fact, the Hayne Financial Services Royal Commission would suggest that some larger super funds struggle with prioritising their members at all relative to other parties!)
For example, when a member dies and a death benefit is to be paid, a large super fund must follow a process to ensure it is paid to the right beneficiary(ies). Because large super funds risk legal action if they get the decision wrong, they have to take it slowly and get the right documentation and evidence in place before releasing the money, even in situations where the answer is quite clear. Contrast this to an SMSF where the surviving spouse could start drawing superannuation benefits immediately.
Total investment flexibility
SMSFs can invest in any assets allowed by superannuation law. They are not limited by an approved menu.
The complete investment flexibility available in SMSFs allows their members to take advantage of opportunities to invest in assets not commonly available through large funds such as direct property, initial public offerings, new / boutique managed funds, direct bonds, mortgages, unlisted shares. At the right time and under the right circumstances these investment opportunities can be enormously valuable.
SMSFs are platforms for life
Setting up an SMSF for a lifetime is perhaps the most likely explanation for self-managed super funds with small balances.
It is quite common to see a self-managed fund established with a small balance in the expectation that it will grow in the future. It is cheaper and easier to move to a SMSF before the balance gets too big, because switching superannuation funds triggers costs such as capital gains tax, even if the underlying investments remain roughly the same. While the capital gains tax is paid by the large super fund rather than the member personally, it still reduces the balance available to be rolled over to the SMSF. Even where a large super fund’s investments have made losses, moving to a self-managed fund can be problematic – the losses cannot be transferred over to the SMSF (and used to offset gains in the future). The losses are effectively given up and the tax benefits are left for the benefit of other members.
Change in the financial environment is inevitable. Even someone who has a very longstanding relationship with a particular adviser, may well find that the adviser’s preferred suppliers change over time. The change in suppliers could simply be competitive pressure – the best products today might not be the best in 10 years’ time.
Having a self-managed fund from the earliest possible time means that the inevitable changes can be managed to minimise the cost and disruption. In contrast, moving from one large super fund to another requires all assets to be sold, issuing of new insurance policies etc.
No wonder so many people with far less than $1 million in superannuation are seriously considering an SMSF. Long may it continue. Instead of being concerned about those who are starting out with less than $1 million, let’s worry about the fact that most Australians are going to retire with less capital than they need.
Or worry about those who are currently trusting nearly $1 in every $10 they earn to a fund that might be better known by the Hayne Royal Commission than its members.
Meg Heffron is a Director of Heffron SMSF Solutions – a firm that specialises in SMSFs. She co-founded Heffron SMSF Solutions in 1998. Meg is a qualified actuary with more than 25 years of superannuation experience and she is passionate about demystifying SMSFs. In her utopian world, Australia’s best retirement structure is accessible to anyone who wants an SMSF and the professionals who work with SMSFs do so with confidence.
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