self managed super: Issue 35

SMSF ROUNDTABLE 2021

TIMES

COLUMNS

Investing | 26

Investment strategies for retirement.

Investing | 30

Benefits of dynamic portfolio construction.

Compliance | 34

The SuperStream system and SMSFs.

Strategy | 38

Child pensions and their complexities.

Compliance | 42

Achieving legacy pension fairness.

Strategy | 46

Death and the super component part two.

Compliance | 50

Advantages of more frequent reporting.

Strategy | 54

An alternative approach to death benefits allocations.

Strategy | 57

The case for having multiple pensions.

Compliance | 60

The hidden risks in building contracts.

Strategy | 64

Complementing wealth strategies with private companies.

Strategy | 67

Better outcomes through flexible BDBNs.

REGULARS

What’s on | 3

News | 4

News in brief | 5

SMSF ROUNDTABLE 2021

CHANGING TIMES

Cover story | 12

SMSFA | 7

CPA | 8

SISFA | 9

CAANZ | 10

Regulation round-up | 11

Last word | 70

FROM THE EDITOR DARIN TYSON-CHAN

Just when you thought we’d turned a corner

The SMSF community has been a very happy lot since federal budget night and the subsequent parliamentary sittings, which have both resulted in what can only be considered beneficial framework changes to the superannuation system.

Included in the government’s kit bag has been the passing of the legislation allowing SMSFs to service six members, the ability for 65 and 66 year olds to access the nonconcessional contribution bring-forward rules, the proposed two-year amnesty to address issues with legacy pensions, the scrapping of the work test for individuals wanting to make non-concessional contributions up to the age of 75, and the list goes on and on.

After all of these positive moves the sector could be forgiven for thinking we’d all turned a corner and legislation and regulations that have served to stymie SMSFs and create more red tape for them, as we have witnessed too many times, were a thing of the past.

But just as government and regulators can giveth, they can also taketh away and this was demonstrated with the release of the final version of ATO Law Companion Ruling (LCR) 2021/2, which deals with the non-arm’s-length expenditure, or NALE, rules.

Since the introduction of the draft version of LCR 2021/2, concern has been high over its treatment of general expenses considered not to be incurred at arm’s length and the severity of the penalty that would allow the entire income of the SMSF to be taxed at the highest marginal rate of 45 per cent.

And these fears have now been realised with the ATO confirming NALE can have a sufficient nexus to all the ordinary and/or statutory income derived by the fund.

Until the announcement on 28 July there was an expectation the material nature of NALE would be taken into account through a de minimis provision, but this unfortunately has not turned out to be the case.

The ATO did concede a fund needs to be charged on a commercial basis only in situations where a trustee or member provides a service to it where a particular type of licence or qualification or insurance cover is required to provide the service in question.

While this seems to take the situation where a financial planner uses their expertise to formulate an investment strategy for their own SMSF without charge out of the NALE conversation, uncertainty still surrounds so many other circumstances that could lead to the application of the highest marginal tax rate to the fund.

The SMSF Association pointed out immediately the current version of LCR 2021/2 could easily lead to the NALE rules being triggered by a transaction involving an insignificant amount of money. Further, Chartered Accountants Australia and New Zealand, the Institute of Public Accountants and The Tax Institute have warned the nature of the ruling allows no room for error.

All four industry bodies have already called on the government to review the ruling and allow for some common-sense amendments to be made. This is after a consultation period already took place following the release of LCR 2019/D32 in mid-2018.

We can all only hope these appeals will not fall on deaf ears or else the sector may have to steel itself for a particularly difficult period that could see, in a worst-case scenario, a significant rise in SMSF wind-ups.

Editor Darin Tyson-Chan darin.tyson-chan@bmarkmedia.com.au

Senior journalist Jason Spits

Sub-editor Taras Misko

Head of sales and marketing David Robertson sales@bmarkmedia.com.au

Publisher

Benchmark Media info@bmarkmedia.com.au

Design and production RedCloud Digital

WHAT’S ON

SMSF Service Providers

Awards 2021 Online

Inquiries:

Jenny Azores-David (02) 8973 3315 or email events@bmarkmedia.com.au

19 August 2021

4.30pm-7.00pm AEST

SMSF Trustee

Empowerment Day

2021 Online

Inquiries:

Jenny Azores-David (02) 8973 3315 or email events@bmarkmedia.com.au

16 September 2021

9.00am-4.30pm AEST

SuperGuardian

Inquiries: education@superguardian.com.au or visit www.superguardian.com.au

Monthly webinar series

24 August 2021

12.30pm-1.30pm AEST

21 September 2021

12.30pm-1.30pm AEST

19 October 2021

12.30pm-1.30pm AEDT

Creating a pension strategy playbook

SA

1 September 2021

Adelaide

VIC

8 September 2021

Melbourne

Smarter SMSF

Inquiries: www.smartersmsf.com/event/

New phase of SMSF investment strategies

19 August 2021

Webinar

11.00am-12.00pm AEST

To have an upcoming event featured on the What’s On page, please contact darin.tyson-chan@bmarkmedia.com.au.

Not so NALI

26 August 2021

Webinar 11.00am-12.00pm AEST

SMSF deductions under the microscope

7 October 2021 Webinar 11.00am-12.00pm AEDT

Changing Face of SMSF

15 September 2021

Webinar 11.00am-12.00pm AEST

Accurium

Inquiries: 1800 203 123 or email enquiries@accurium.com.au

Dealing with death benefits in an SMSF

17 August 2021

Webinar

12.30pm-2.00pm AEST

18 August 2021

Webinar

7.30pm-9.00pm AEST

Quarterly SMSF update

7 October 2021

Webinar

2.00pm-3.00pm AEDT

Heffron

Inquiries: 1300 Heffron

SMSF clinic

17 August 2021

Webinar

1.30pm-2.30pm AEST

The latest in SMSF compliance – are you up to date?

1 September 2021

Webinar 11.00am-12.00pm AEST

Quarterly technical webinar

23 September 2021

Webinar

Accountants focused session

11.00am-12.30pm AEST

Adviser focused session

1.30pm-3.00pm AEST

Super intensive day

14 October 2021

Webinar

9.00am-5.00pm AEDT

Cooper Grace Ward

Inquiries: (07) 3231 2400 or email events@ cgw.com.au

NALI, NALE and SMSFs

24 August 2021 Webinar

12.30pm-2.00pm AEST

SuperConcepts

Inquiries: 1300 023 170

Virtual SMSF Specialist Course

7-9 September 2021

10.00am-2.00pm AEST

14-16 September 2021

10.00am-2.00pm AEST

SMSF Association

Inquiries: (08) 8205 1900 or email enquiries@smsfassociation.com

Specialist auditor discussion group online

19 August 2021

10.30am-11.30am AEST

16 September 2021

10.30am-11.30am AEST

21 October 2021

10.30am-11.30am AEDT

Technical update –legislation, regulations and policy

2 September 2021

11.00am-12.00pm AEST

DBA Lawyers

Inquiries: dba@dbanetwork.com.au

SMSF Online Updates

10 September 2021

12.00pm-1.30pm AEST

8 October 2021

12.00pm-1.30pm AEDT

Institute of Public Accountants

Inquiries: Liz Vella (07) 3034 0903 or email qlddivn@publicaccountants.org.au

SMSF fundamentals:

Admin, reporting & annual compliance

18 August 2021

Webinar

12.00pm-1.00pm AEST

The lifecycle of an SMSF

26 August-6 September 2021

Webinar

11.00am-12.30pm AEST

Transition into retirement

27 August 2021

Webinar

9.00am-4.00pm AEST

Estate planning in 2021

7 September 2021

Webinar

12.00pm-1.00pm AEST

Super compliance and update 2021

14 and 28 September 2021

Webinar

12.00pm-1.30pm AEST

UK pension transfers

21 September 2021

Webinar

12.00pm-1.30pm AEST

National Congress 2021

QLD

17-19 November 2021

JW Marriot Gold Coast Resort & Spa

158 Ferny Avenue, Surfers Paradise

By Darin Tyson-Chan

A recent poll conducted among SMSF practitioners has revealed the provision of more timely fund data to their clients is still fairly poor, with the majority still offering clients annual information about their funds.

At a SuperConcepts technical webinar last month, the firm revealed nearly two-thirds of accountants and financial planners, 62 per cent, provide their clients with an annual SMSF reporting service.

Conversely, only 6 per cent of those surveyed said they provided daily or regular services to their clients, while

another 5 per cent indicated they provided a monthly service. A further 30 per cent of respondents said they provided a service incorporating a mixture of timelines.

“What we can see there is that clearly a number of [service] providers are still using the annual service and that’s fine. We’ve been doing it for so many years as an industry and it’s served us well for so many years.” SuperConcepts Queensland state sales manager Gary Johnston observed.

“I thought it would have been a little bit lower, especially with the onset of TBAR (transfer balance account report) [and measures like that].”

SuperConcepts SMSF technical support executive

manager Nicholas Ali echoed Johnston’s sentiments, saying he also thought more practitioners would have adopted more regular reporting techniques by now.

To this end, Ali expressed his surprise the combination of technological developments

Provision of timely data remains poor Control not about achieving better returns

By Darin Tyson-Chan

The main motivating factor of control, in relation to SMSF establishments, is not driven purely by a desire to generate better investment returns, a senior funds management executive has said.

“Control is more than just performance. I’ve certainly sat in on research interviews with SMSF trustees where they’re prepared to trade off performance, and have lower performance in their SMSF, on the basis they’ve got control,” Vanguard head of corporate affairs Robin Bowerman said.

The “Vanguard/Investment Trends 2021 SMSF Investor Report” showed between 2015 and 2021, 72 per cent of trustees cited having more control of their investments as the main reason why they started an SMSF and another 52 per cent said they were

motivated to run their own super fund to achieve better returns.

Investment Trends head of research Irene Guiamatsia noted the responses were related to levels of transparency within public offer funds, as well as the restricted asset classes these retirement savings vehicles traditionally offer.

and regulation requirements had not accelerated the move to more regular reporting practices.

According to Johnston, providing more up-to-date information on SMSFs has some obvious advantages.

“[It means you can] have more regular revaluation of assets and member balances. That’s very critical especially in this day and age of making sure all of our assets are valued at market value, and the member balance is critical especially when starting pensions and [situations] like that,” he noted.

“[Also] the capacity to provide for real-time compliance monitoring is very critical and a lot of the software [applications] will do that already.”

“If you look at super member engagement research we see very few members actually know which investment options they are in let alone know which [assets] are underneath those investment options,” Guiamatsia said.

“So if you are someone who likes to know everything, you perhaps want to own certain things … [for example] if I actually want to invest in Tesla, or if you want to invest in an investment property or some other very specific thing you want or perhaps ESG (environmental, social and governance) [an SMSF has proven to be appealing].

“For that pool of people, often they don’t feel that they know what is going on and if they would like to have that control, that tends to be a huge driver of setting up an SMSF.”

The “Vanguard/Investment Trends 2021 SMSF Investor Report” analysed responses from an online survey conducted among SMSF trustees between March and April.

Nicholas Ali

Control more than just performance.

NALE income nexus retained

The ATO has released its final ruling on non-arm’s-length expenditure (NALE) inside an SMSF and has retained its position that NALE can have a sufficient nexus to all of the ordinary and/or statutory income derived by the fund.

The regulator recently released Law Companion Ruling (LCR) 2021/2, which states in section 19 that “a fund may incur expenditure that does not specifically relate to a particular amount being derived by the fund but still has a sufficient nexus more generally to all income derived by the fund”.

The LCR also stated NALE incurred to acquire an asset would also have a sufficient nexus to income derived by the fund and this would include any capital gains realised on disposal of the asset, even where a trustee has refinanced any borrowings and shifted them to an arm’slength basis. This position was altered in the case where a super fund incurs NALE of a recurrent nature, that was not related to the acquisition of an asset, in one income year, but does not incur that cost in a later year, with section 21 of the LCR stating the nexus to the ordinary or statutory income would only apply during the relevant income year.

Retirement covenant captures SMSFs

The federal government’s proposed retirement income covenant will require all superannuation funds, including SMSFs, to have a documented strategy to identify the retirement income needs of fund members and provide a plan to service those needs.

Superannuation, Financial Services and the Digital Economy Minister Jane Hume released a position paper on the

covenant that said: “The introduction of the retirement income covenant is an important step in encouraging the further development of the retirement phase of superannuation.

adding new information to the “Applying appropriate safeguards” section called “Appropriate reviewer requirements”.

In particular, it has now specified the meaning of an ‘appropriate reviewer’ and the importance of having them provide an objective review.

Further, it has outlined how an independent reviewer can use a sampling approach to situations where an SMSF auditor’s independence is unclear because their firm generates a large proportion of its fees from one referral source.

The ATO has also indicated the evidence it expects to see documented on the audit file of the reviewer.

Jane Hume

“The covenant will codify the requirements and obligations for superannuation trustees to improve retirement outcomes for individuals, while enabling choice and competition in the retirement phase.”

Hume said the covenant would also address a key finding of the Retirement Income Review, which claimed it was possible to increase the standard of living of retirees by improving their use of superannuation assets in retirement.

The proposal paper noted an existing covenant in the Superannuation Industry (Supervision) Act 1993 includes obligations to formulate, review regularly and give effect to an investment strategy, and the paper uses similar language to describe the new proposed arrangement.

Auditor independence guide updated

The ATO has updated its independence standards guideline for SMSF auditors, defining how an objective review of operations can be carried out to ensure compliance with the current version of APES 110.

To this end, the regulator has enhanced its digital guide covering this issue, first published in mid-March, by

The new guidance is to provide greater clarity regarding one of the safeguards available to practitioners to ensure their activities are complying with the amended auditor independence standards.

Trustees more open to advice

The latest sector research has shown the economic instability resulting from the COVID-19 pandemic has seen a shift in attitudes toward financial advice, with SMSF trustees now more open to receiving this type of guidance.

The “Vanguard/Investment Trends 2021 SMSF Investor Report” indicated this change in sentiment toward advice had mainly come from trustees defined as validators – individuals who would like a second opinion to affirm their decisions.

To this end, the study showed 56 per cent of this cohort was now open to receiving financial advice as opposed to 49 per cent expressing this opinion in 2020 and 47 per cent doing the same in 2019.

However, despite an increased interest in seeking financial advice, the report revealed the number of SMSFs using a financial planner fell from 185,000 in 2020 to 160,000 in 2021. Further, funds not currently using a qualified financial planner increased from 220,000 in 2020 to 245,000 in 2021.

Transitional SuperStream approach

The ATO has confirmed it will not take a hardline enforcement approach to SMSFs that do not comply with the new SuperStream requirements set to be implemented on 1 October this year even though funds in this predicament will be considered to have committed a regulatory contravention.

“Not complying [with the SuperStream requirements] is a breach of the payment standards and penalties may apply. However, like any new functionality and change, the ATO wants to support those impacted and therefore will allow a transition window for the industry to get up to speed and understand SuperStream,” ATO superannuation and employer obligations director and rollover project manager Belinda Black said.

“As always though we will monitor behaviour and if necessary scale up our compliance activity.”

Black illustrated the regulator’s attitude toward SuperStream compliance further when asked about SMSFs being wound up without having the proper payment standard protocols in place. The example put to the ATO officer was the enforcement action that would be applied to a fund commencing its wind-up in October this year, not being SuperStream compliant, with the process only being completed in May 2023.

“[For] that specific scenario, it’s unlikely we would take compliance action. However, we would record the details still, continue to monitor all SMSF rollovers, and determine whether the risk increases and make an assessment based on that,” she said.

Tailored trading platform released

An online share trading platform has fine-tuned its offering, specifically

building in unique functionality to service SMSF clients.

Marketech has tailored its Focus option to allow SMSF trustees to transact in a simpler manner, which they are unable to do with other online equity trading services.

“Marketech’s focus allows people to open an account in their own name, in their own name and their spouse, in the name of their SMSF, in the name of their family trust or in the name of their private company,” Marketech chief executive Travis Clark noted.

“With other platforms you can only trade shares in your own personal name. You’d then have to do some sort of extraction of that asset from the pooled trust and then you’d have to do an off-market transfer to your super fund. The process is cost prohibitive and administration prohibitive.”

Marketech Focus uses the Macquarie cash management account product to settle trades, which is a preferred product in the SMSF sector.

Clark describes the platform as data heavy and providing live information from the Australian Securities Exchange.

SMSFA adds two to board

The SMSF Association has announced the appointment of two new board members, Professor Deborah Ralston and BT head of financial literacy and advocacy Bryan Ashenden.

Ralston rejoins the association board after stepping down as chair in September 2019 when she was appointed by Treasurer Josh Frydenberg to join the three-member Retirement Income Review panel.

Ralston is currently a professional fellow at Monash University, member of the steering committee for the Mercer CPA Global Pension Index and member of the Reserve Bank Payments System Board, and was also the inaugural chair of

the Australian Securities and Investments Commission Digital Finance Advisory Board.

Aside from his work at BT, Ashenden is an experienced lecturer on ethics and professionalism within the financial advice sector and the economic and legal context for financial planning and is a member of working groups at the Financial Services Council.

The association noted his previous experience made him a suitable candidate for the position as he will be required to interpret legislative and regulatory changes and provide meaningful actions for advisers, advice businesses, clients and consumers.

Class launches audit matching tool

SMSF administration service provider Class has launched a new tool to help SMSF accountants find thirdparty auditors to assist both parties to comply with changes to auditor independence requirements.

Accountants using the tool will be required to enter their details and the number of SMSFs they wish to have audited, and a request for a quote can be sent to any or all of Class’s auditor partners.

The current audit partners are BDO, Super Know How and Unison, with a number of others expected to come on board in the coming months.

Class stated the three firms connect directly to its product suite and have a high level of data integration, which will provide an “efficient end-to-end process to their clients”, and together have the potential to service a large portion of the SMSF audit market.

Class chief executive Andrew Russell said: “By partnering with a provider that can integrate with their own technology systems, [an accounting business] can ensure that the relocation of the audit work is as streamlined as possible and as efficient as it can be.”

Six-member SMSFs proving popular

It’s early days, and the evidence is only anecdotal, but like many we have been surprised by the number of SMSF trustees expressing interest in adding extra members to their funds. The catalyst has undoubtedly been the recent increase in the maximum allowable number of SMSF members.

The consensus in the SMSF sector before the legislation allowing funds to increase their maximum membership from four to six became law on 1 July, was this reform would have minimal appeal. After all, the overwhelming number of the 580,000 funds at 30 June 2020 had two members.

It appears, almost without exception, those SMSF trustees most interested in adding additional members are trustees reaching an age when they no longer have the desire or capacity to run their own fund. Not only do these trustees want to add their middle-aged children to their fund, but they also want their children to take over its operation and management.

The SMSF Association is on the public record as saying we don’t think the increase to six will cause a significant increase in SMSFs being established, but what we might see, based on this anecdotal evidence, is new members joining existing funds.

Arguably, they could have done this even when the maximum number of members was four, but the increase to six seems to have generated renewed interest in adding family members. It’s also interesting when you look at the ATO statistics as they show the proportion of SMSF members in the 75 to 80 and 80-plus age groups, as a proportion of all SMSF members, has been steadily increasing each year for the past five years.

So, it seems the stars are aligning, that is, the rules have changed to allow more members in an SMSF at the same time the cohort of members over the age of 75 is working its way through the system. These members still have substantial balances in their fund and they don’t want their SMSF to be closed. But they do want help running it and they are seeing increased membership as one solution.

The advantages are obvious. Costs are spread across more members and hence would reduce as a percentage of assets. The need for multiple funds and the duplication in costs that come with the previous member limit should decline. Younger adults joining a family SMSF will enjoy lower costs, while the pooling of member funds will allow for greater investment diversification and choice.

By facilitating family SMSFs, it will benefit parents wanting to help with their children’s financial education

or simply allow them to invest in their superannuation as one family. This would be particularly helpful for intergenerational family businesses, as well as potentially assisting with estate planning.

Those pluses must be weighed against the potential minuses. With more decision-makers around the table, it seems fair to assume this process will be more difficult and there will be more disputes. So how decisions are made and who will make them become increasingly important issues as the number of members increase.

Of course, the underlying principle of an SMSF is all members of the fund are also the trustees or the directors of a company that acts as the trustee of the fund. So all members have a say over how the fund is run and managed. However, the legislation also allows members to appoint others, including other members of the fund, to act in their place as a trustee or director of the corporate trustee. As such, the use of enduring powers of attorney and other options that convey additional voting rights to one or more members of the fund need to be carefully considered.

With additional members in the fund, divorce proceedings could become even more problematic. Trustees may be required to sell assets in these circumstances, potentially resulting in taxation liabilities that will impact all fund members. In some cases, the outcome can be the forced sale of assets the other members do not want to sell.

Even in the absence of divorce proceedings, the acquiring and selling of assets has the potential to spark conflict. A retired couple might have a more conservative view on asset allocation compared with their children in the accumulation phase. Remember too, it is now a statutory obligation that all the investment and expenditure decisions they make must be in the best financial interests of all members or beneficiaries of the fund.

They will also need to consider if their trust deed needs to be updated to allow for additional members, as well as whether the fund’s investment strategy needs to be reviewed and changed with the inclusion of more individuals, possibly including different investment strategies for different members.

But perhaps the biggest potential drawback will be around cognitive decline and the issue of elder abuse. It will be critical advisers ensure their clients have the cognitive capacity to understand the risks associated with adding additional members to their fund. Indeed, in all matters related with an increase in fund size, it would seem specialist advice is paramount before any decisions are made.

JOHN MARONEY is chief executive of the SMSF Association.

Making crypto less cryptic

When a top-performing KiwiSaver fund was reported earlier this year to have allocated as much as 5 per cent of its assets to cryptocurrency, the investment world took notice. Cryptocurrency is one of the newest asset classes around. Like it or loathe it, the reality is it’s here to stay for the foreseeable future. The good news is that increased attention has attracted additional scrutiny, and this may deliver greater transparency and efficiency.

A small number of Australian SMSF trustees have already taken notice of these assets and waded into the market with some interest. And, despite its considerable volatility, some of the early investors of cryptocurrency have been rewarded with substantial returns. Of course, others have been badly burned, swearing never to touch this asset class again.

This stark polarity of opinions should not come as a surprise. Unlike assets such as shares, property or interest-bearing investments, cryptocurrencies don’t necessarily produce traditional income flows from the assets themselves. Even though cryptocurrency was developed as an alternative to cash, some cryptocurrencies’ slow transaction processing throughput and high-power consumption makes them unlikely to be useful for transaction purposes.

Thanks to public comments from notable enthusiasts such as Elon Musk, there are now more financial journalists writing about cryptocurrency. As a result of this media attention, we know more about the pitfalls and traps for investors looking to add this asset class to their portfolios. This is good for SMSF trustees, who haven’t benefited from the same level of transparency about cryptocurrencies that other asset classes provide.

However, trustees may still encounter problems in accessing information about these investments. Anecdotally, we know auditors sometimes struggle when looking for a paper trail confirming when a cryptocurrency position was entered into or exited out of. The ability for investors to transact in and out of different cryptocurrencies at exchanges no doubt adds to this difficulty.

Stablecoins are often used at exchanges in preference to cash to ensure speed and certainty in relation to transactions. Stablecoins and exchanges are not necessarily subject to the same level of transparency and regulation that accompanies cash or more traditional exchanges.

The level of price discovery between the same assets traded on different exchanges is still a long way off what might be regarded as efficient. Traditional exchanges have well-understood processes for settlements and liquidity. Cryptocurrency exchanges often make it easier to swap cryptocurrencies, rather than cashing out, which may present liquidity risks.

Additionally, traditional fund administrators and their custodians don’t all have the systems in place to look after what is still a niche asset class. This means trustees may find transacting through their administrators slower and more complicated than for other assets.

The transaction fees for cryptocurrency trades can be quite high, with charges of up to US$30 per transaction not unheard of, yet this can also vary with volume. While this may be a ceiling price, for members of SMSFs in the accumulation phase, who may have small amounts trickling into their funds, it’s sure to leave a sour taste. They’re likely to find this cost of entering the market unfavourable compared to other assets’ costs, such as brokerage or buy/sell spreads.

The Australian Securities and Investments Commission has been consulting on providing access to this asset class in a more traditional way. Products being consulted on include exchange-traded funds, managed funds and structured products. These products would be able to provide exposure to asset classes in a way that would allow investors to benefit from the economies of scale provided by pooling. Active and passive products may allow trustees to better match their investment strategy with the assets themselves. Funds that hold assets long term could also benefit by providing fund managers and their beneficiaries with regular income from ‘staking’, which is a way of earning a percentagerate reward for holding certain cryptocurrencies for longer terms. Increased scale could benefit funds by removing congestion from transaction processing and taking advantage of pricing inefficiencies in a cost-effective way.

Finally, the ability to enter and exit managed products on a traditional exchange could provide high levels of liquidity for cryptocurrency investors.

Leaving aside the ever-present investment risk of the underlying assets, features of managed products could present SMSF trustees with options that have until now been denied to cryptocurrency investors. And that’s always welcome.

RICHARD WEBB is financial planning and superannuation policy adviser at CPA Australia.

Should you pursue a six-member SMSF?

The legislation increasing the maximum allowable number of members in an SMSF from four to six has passed both houses of parliament and is now law.

Since 1 July, SMSFs can now have anywhere between one to six members. The usual trustee/ member rules, which broadly require each member to be a trustee/director of the corporate trustee and vice versa, continue to apply. However, the new maximum of six members will potentially allow larger families to include all family members in one SMSF.

The Self-managed Independent Superannuation Funds Association (SISFA) was supportive of this bill when asked for feedback in September 2020 as we believe this change will be beneficial for larger families who want to invest their super benefits together. In particular, it will allow such SMSFs to lower costs and increase their scale and efficiencies to better enable such family members to provide for their retirement. For example, where some families currently have multiple SMSFs due to the previous four-member limit, they will now be able to have a single SMSF.

Other benefits include the ability to access investment opportunities the greater scale will afford, such as wholesale managed funds or property purchases, and thus greater diversification.

However, there are some things to consider when increasing a fund’s membership to five or six members and these include:

• that the SMSF trust deed allows more than four members as many deeds hardcoded the previous member limit,

• the importance, and in some cases the necessity, of having a corporate trustee. Having a corporate trustee is actually the only solution for many six-member funds as most state laws governing trusts only allow for a maximum of four individual trustees,

• for unrelated people in the same SMSF, having an exit strategy if there is a dispute,

• being prepared for the death of a member and liquidity issues with paying out death benefits,

• what is the risk profile of the various fund/ family members? The older members may be

more risk averse, while younger members are willing to invest in in higher-growth assets and so this difference in investment and timing of exit strategies may add complexity and cost to the fund, and

• how the control of an SMSF is structured, for example, an SMSF with two parents and four children will result, without proper structuring, in the children outvoting the parents.

A very small percentage of funds actually have more than two members currently, so significant changes are not expected, but the new rules do allow for greater planning for families looking to take a more holistic approach to retirement planning as a single unit.

Family funds that hold large assets, such as real estate, for tax-effective reasons, may now take advantage of having other members of the family joining, allowing the SMSF to maintain these assets when the parents draw down in their retirement. Under the old rules this strategy was less likely to succeed.

Also passed recently was the bill extending the qualifying age for the non-concessional contribution bring-forward rules to 67. This will allow individuals aged 65 and 66, subject to prescribed total super balance thresholds, to make up to three years of nonconcessional contributions in a single year. Previously this was only available to individuals under age 65 during the relevant financial year. This change is effective from 1 July 2020 onwards.

The recent May federal budget announcements also included a proposal to have the nonconcessional contribution bring-forward rule apply up to age 74. This will allow individuals up to age 74 to use the bring-forward rule without having to meet the work test, provided they satisfy the usual eligibility criteria. Most of the budget measures, including this one, are due to take effect from 1 July 2022.

After a long period of relative inaction on these measures we are finally seeing greater flexibility becoming available for SMSFs. While the ability to now have up to six members in an SMSF offers greater flexibility, it won’t suit everyone and you should seek professional advice in considering the options.

MIKE GOODALL is a board member of the Self-managed Independent Superannuation Funds Association.

Compliance consideration for six-member funds

As has been well publicised, at the end of June the federal government had some great legislative wins from a superannuation perspective.

In broad terms, the three wins are permitting six-member SMSFs and small Australian Prudential Regulation Authority funds, allowing greater contribution flexibility for those aged at least 65 but under 70 and the Your Future, Your Super suite of policies.

of persons who might be appointed trustees. For private trusts there is a statutory limit of four as the number of persons who can be appointed trustees of the one trust in all states, except South Australia and Tasmania.”

He notes in a footnote there appears to be no limit on the number of trustees in the Northern Territory.

NEGLINE is superannuation leader at Chartered Accountants Australia and New Zealand.

Given the current Senate make-up, these wins are never easy to fashion. The result for the government was probably made even sweeter because leading up to the end of June there were noises being made that it didn’t have the votes for the Your Future, Your Super changes and would need to agree to some substantial amendments.

Six-member SMSFs

Debate will always rage about the merits of having other family members or unrelated colleagues, friends and acquaintances in the same super fund. With these types of arrangements, I think everything will work out fine or it will end up being a disaster. As none of us can truly see the future, we never know how each particular journey will conclude. It might be a good way to make life more exciting.

Six-member SMSFs will allow larger families to run fewer super funds. For example, suppose a couple have four children. Under the old four-member fund rule, they would have had to run at least two SMSFs if they wanted their super to be held within the family unit.

Now under the six-member rule they can achieve their collective super arrangement with only one super fund. This will clearly save money in terms of administrative costs, lodgement, accounting, audit, actuarial and legal fees.

It has long been considered best practice that super funds should have a corporate trustee. SMSFs with more than four members may need to have a corporate trustee because of limitations contained in all the state and territory trust acts.

But legal experts differ as to the scope of these limitations. Let’s take two examples. Firstly, Michael Evans, barrister and author of Equity and Trusts. In his book’s third edition, Evans says: “Under the general law, there is no restriction on the number

Secondly, let’s consider Dyson Heydon QC, formerly of the High Court, and Justice Mark Leeming of the New South Wales Court of Appeal, authors of the eighth edition of Jacob’s Law of Trusts. In that book, they say: “If new trustees are appointed under a power given by the trust instrument, it will usually depend upon the terms of the instrument whether the number of trustees may be increased or diminished. In Queensland … the instrument is subordinated to a statutory provision limiting the number of trustees to four (in the case of a trust created after the date of assent of the act). In Victoria … the effect [of the relevant provisions] is similar. However at least in New South Wales, South Australia and Tasmania, statute does not interfere with the expressed intentions of the creator of the trust, but applies only if and as far as contrary intention is not expressed in the instrument, if any, creating the trust, and has effect subject to the terms of that instrument and to the provisions therein contained. The acts of the other jurisdictions [WA and NT] contain a similar provision.”

After this explanation, Heydon and Lemming then go on to explain all the twists and turns in the various trustee acts in additional rules that might apply.

In short, the rules in this area do not appear to be simple.

To ensure no errors are made, it may be essential to receive specialist legal advice, especially for small super funds that existed before July 2021.

In any case, many SMSF trust deeds probably have hardwired into their terms that there can be no more than four members, and hence no more than four individual trustees, in the fund. Clearly this would need to be amended before adding additional members/trustees.

Out of simplicity it may be better for funds with more than four members to always have a corporate trustee.

TONY

Louise Biti

Director, Aged Care Steps

Aged Care Steps (AFSL 486723) specialises in the development of advice strategies to support financial planners, accountants and other service providers in relation to aged care and estate planning. For further information refer to www.agedcaresteps.com.au

Six-member funds

Treasury Laws Amendment (Self-Managed Superannuation Funds) Bill 2020

Royal assent has been given to legislation allowing SMSFs to have up to six members from 1 July 2021.

This is subject to any restrictions in the fund’s trust deed or state legislation in relation to trustee numbers (relevant if the SMSF has individual trustees).

Pension minimum drawdowns

The COVID-19 concession allowing a 50 per cent reduction in the minimum drawdown required from account-based pensions has been extended to apply throughout the 2022 financial year.

Contribution rules

Treasury Laws Amendment (More Flexible Superannuation)

Bill 2020

Legislation has been passed to implement the following changes to contribution rules:

• Non-concessional contribution bring-forward rules are now accessible until the client reaches age 67, an increase from age 65. This applies to contributions made from 1 July 2020.

• Amounts withdrawn from superannuation under the COVID-19 early release can be contributed back to superannuation from 1 July 2021 to 30 June 2030 without breaching the contributions cap. However, these amounts cannot be claimed as a personal deductible contribution. Notification in the approved form must be made to the trustee at the time of contribution.

• The excess concessional contributions charge will no longer apply to contributions made from 1 July 2021. An excess determination will still be issued if the cap is exceeded, but tax at the person’s marginal tax rate will be applied (with 15 per cent offset for tax paid by the fund).

Trustee best interest duty

Treasury Laws Amendment (Your Future, Your Super) Bill 2021

Trustees of an SMSF have always held a responsibility to act in the best interest of beneficiaries.

Royal assent has been given to this bill, which clarifies this as a responsibility to act in the best financial interest of beneficiaries.

Stapling super funds

Treasury Laws Amendment (Your Future, Your Super) Bill 2021

Rules that ‘staple’ a superannuation fund to an

employee for the duration of their working life have now been passed into law.

From 1 November 2021, when an employee commences a new job, employers will need to check with the ATO to determine whether the employee has an existing superannuation fund. If so, the employer will be required to pay contributions into that existing fund unless the employee nominates a new fund.

This measure aims to minimise erosion of small balances and the creation of lost superannuation accounts.

Online access to personal TBC

SMSF members can now view their personal transfer balance cap on the ATO Online service. Agents acting on behalf of a client can use Online Services for Agents. Accuracy of this data relies on correct reporting by trustees/agents. Therefore, the ATO has updated information on its website in relation to event-based reporting guidelines to assist trustees with reporting requirements.

Proposed amendments – APES 110

Proposed Amendments to Fee-related provisions of APES 110 Code of Ethics for Professional Accountants (including Independence Standards)

An exposure draft has been released by the Accounting Professional & Ethical Standards Board (APESB), with proposed amendments to fee arrangements.

In particular, these proposals include:

• additional guidance in relation to implications of independence when clients receive audit and non-audit-related services, and

• where audit clients referred from a single source total more than 20 per cent of the total fees of the business (or partner), independence threats will need to be considered and managed.

The consultation period is open until 31 August 2021, with proposals intended to be effective from 1 January 2023.

Rollover alerts and SuperStream

As a security measure, the ATO will now send trustees an alert via email or SMS when a rollover is being actioned from an SMSF.

No action is required by the trustee. SMSFs will be required to use a SuperStream electronic service provider for all rollovers into or out of the SMSF from 1 October 2021.

TIMES

SMSF ROUNDTABLE 2021

Six-member funds, indexation, a legacy pension amnesty and auditor independence standards are issues that grabbed the attention of the SMSF sector in 2021 and will have an ongoing impact into the future. selfmanagedsuper’s SMSF roundtable unpacked what these mean in a year when many changes are likely to do more good than harm to practitioners, trustees and members.

Participants

Moderators

The federal budget and superannuation

DTC: This year’s federal budget was a rich one for superannuation and for SMSFs in particular. Is this an indication we’ve turned the corner and can expect more stable and common-sense legislation and regulation from here on in?

PB: I’d like to think there is a period of stability now with the legislation, but it is difficult to say that though. There are a number of measures in this year’s budget which will have a long-lasting impact on the sector. So, in that respect we were very pleased with this year’s budget. There were a number of proposals that we as an association had been advocating for some time and hopefully we will see a period of stability.

AD: Is some of that part of having Senator Jane Hume, who does have a strong understanding of the sector, in government? Having someone that knows their elbow from their armpit does help the sector. In my view that would definitely play favourably as to why we’ve seen those changes now more than in the past.

PB: In all the discussions we’ve had with

the government they’ve been very open to looking at ways to reduce red tape, to reduce cost, to reduce complexity in the system. The measures in this year’s budget were very much designed to do that, so you’re right, it does help to have a government that’s very much of that mind.

PLG: There’s been a lot of movement previously to tackle the big picture items, so if you think about all the things that we saw prior to the budget, when we got to this year’s budget it was more about tidying up rather than big vision.

MH: It says something about all of us that we thought it was a good budget, given that it was pretty modest. There wasn’t anything profound or amazing for SMSFs. It was just a good tidy up and yet we’re all celebrating it as good. It’s almost like our expectation is that budgets are always bad for us.

DTC: Should it concern governments that this wasn’t groundbreaking stuff and yet we are all excited about it? What does that say for the governance of the sector when such a small morsel of hope is lapped up so enthusiastically?

MH: It’s a bit depressing isn’t it when you think about superannuation as the engine room for Australia’s retirement savings. Was it an election budget or was it a ray of hope for common sense and better legislation and regulation? Maybe it was neither. The government has got bigger things on its plate in running a country in the middle of a pandemic and it’s not going to frighten the horses with something major on super. There was potential for the government which has just spent a lot of money to take it back from rich people and to categorise SMSF people as rich people. I thought we would see some clawing back of concessions, but we are still in the middle of the storm, which means they have left SMSFs to their own devices.

AD: The real positive aspect that we’ve got out of all this is that we’ve got the government listening to us as an industry and then implementing those changes, whereas historically we made all these submissions and they fell on deaf ears. Whereas this year we have put some

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Darin Tyson-Chan (DTC) Editor of selfmanagedsuper.

Jason Spits (JS) Senior journalist at selfmanagedsuper.

Meg Heffron (MH) Managing director of Heffron.

Peter Burgess (PB) Deputy chief executive and policy and education director at the SMSF Association.

Philip La Greca (PLG) SMSF technical and strategic solutions executive manager at SuperConcepts.

Aaron Dunn (AD) Chief executive of Smarter SMSF.

Continued from previous page

recommendations in and they’ve come through in the budget and we have all gone “Hallelujah!”

MH: The proposal to finally do something about legacy pensions affects a tiny proportion of the SMSF population, but it affects them profoundly and often in a really bad way. The promise to do something, I just hope it comes through, and the issue will not get politicised as pandering to rich people who regret decisions they made 20 years ago, which most of us would agree that’s not the case. There’s a glimmer of hope that somebody’s listening to the submissions that have been going in for the last 10 years. What we’ll see is a lot of smaller SMSFs, that have been hanging around because they’re stuck in one of those pensions, will actually get wound up. This issue won’t affect very many people and yet it was the one I punched the air about on budget night.

PLG: I was happy about the residency issue because there was a big inequity in that rule as it stood. The issues about the active member test and the idea that you could contribute to some funds

when you’re overseas, but not all, was a strange element. Tidying up that issue around residency, given we have mobile workforces, is another example of what the budget achieved.

PB: From an association perspective, the residency change was one that got me excited. It was one of the lead items in our budget submission to remove the active member test and to extend the central management and control test out to five years and that was exactly what we saw in the budget. Legacy pension change was long overdue and while we advocated for an amnesty, and I understand why you can’t make it compulsory for people to move out of these pensions, not everyone is going to make the move. If this proposal does go through, we are going to be left with an even smaller number of these legacy pensions going forward and even fewer practitioners who understand them.

AD: I was most excited about the SMSFspecific stuff because as everyone’s mentioned, they were advocated for some period of time. The removal of the work test through to age 74 is the most popular opportunity that practitioners will see and when you start to overlay that with the reduction in age for downsizer,

The federal budget and superannuation Indexation and reporting

the strategic juices just start flowing.

JS: Was there anything left off the table that you would have liked to see in this budget?

PB: The proportional indexation of the transfer balance cap. We were somewhat disappointed not to see that one in the budget. There is also an opportunity to reduce the number of thresholds in the system if we’re trying to reduce red tape and complexity. If you look at all the different thresholds that are there to determine catch-up contributions and work tests and the bring-forward amounts, there’s plenty of scope to simplify them.

AD: I was surprised that the government did not mention anything about the temporary minimum pension reduction, but we did see it proceed with those changes after the budget. I have a foot in both camps around the temporary minimums and continuing down that path and think is it more politically motivated given that we are in an election period and where property prices and the share market are at. On the other side, you’ve got people who are still struggling with tenancy, rent reductions and lockdowns, so they were damned if they did it and damned if they didn’t.

DTC: Indexation is a very significant change and highlights how many thresholds we have at the moment in the super system, and the personal transfer balance cap is a new concept that everybody’s going to have to understand.

Are you anticipating compliance breaches due to the way it’s being implemented with the proportions?

MH: If we are talking about people who think they have got $1.7 million but actually have $1.65 million, so they end up putting too much into pension

phase, it won’t be a compliance breach. It will trigger action and they will get a scary notice from the ATO and have to wind back a bit of their pension. It will create tension and unnecessary stress, but I am not sure how many people it will affect because it’s only people who

had a pension before 1 July 2021 and it started at less than $1.6 million. It’s not going to impact the entire population of pensioners that we have in the system at the moment. It’s a subset of that group who want to put more into pension phase in the future. For someone who’s already converted all of their super into a pension and is never going to have any more to convert into a pension, they might do the calculation incorrectly, but it won’t matter.

Where we will bump into it is in 10 years’ time when a member dies and their spouse takes the super as a pension and have to understand their transfer balance cap again at that point. It will cause some people a lot of unnecessary worry and I don’t think it’s worth doing this proportional indexation. I can’t do the sum of what it would cost us as a taxpaying community to allow everybody to go up to $1.7 million, but it can’t be that much, can it? I’d love to do the sum on the cost burned by individuals and professionals in the industry on complying with that law versus the tax dollars saved by having it in place.

AD: The other big issue this throws up is the way in which reporting is different for SMSFs compared to APRA-regulated funds. We are going to get situations where the ATO’s information is only as good as the information that has been reported already. So, if someone is relying upon that ATO information around the personal transfer balance cap, how confident are we that it is accurate,

given that some funds are reporting on a quarterly basis and may not have lodged or on an annual basis that is miles away from being lodged? It highlights the importance of the timeliness of information and the need to be looking beyond the ATO’s records in determining what that indexation might actually look like, because as soon as that information gets repopulated in the ATO system, the proportional indexation is going to have to be updated at that exact same time for the data to be reliable.

MH: We’ll have that problem, which is an acute problem for this year, because the value of the transfer balance cap at 30 June is so critical, or the highest value up to 30 June is so critical, and we’ve probably got until next May until everybody’s done enough reporting for us to be confident on that number. We’ll have the same problem next time if something gets indexed even though that threshold also gets indexed. Do you think we’ll see a time then where SMSFs are moved on to a similar reporting regime to APRA funds?

AD: There was an ATO paper about the options on reporting and the regulator inferred then that it is set for life. Whereas the reality is it’s not going to be a workable framework into the future and we are going to have to come up with a different scenario. So maybe it’s a transition where everyone moves to quarterly reporting and then it may move again into something else.

PLG: Even the quarterly reporting

doesn’t work because the issues are around the timings. Quarterly reporting will still not solve your problem when someone rolls from an SMSF to an APRA-regulated fund because you report three months after you do the rollover and the APRA fund reports 10 days after they start the new pension. So, the realities are while you might have a statutory reporting cycle, you’re going to have to report more frequently for certain events just to make sure that the records are true. At the end of the day, the financial advisers have got to rely on someone and if you can’t trust the ATO’s data, I wouldn’t want to say I’m basing it on what my administrator tells me. I’m not sure that if I am a compliance manager at a licensee, that’s going to stand up if I go in front of the Australian Financial Complaints Authority. It’s a dilemma if you view it from the point of a risk compliance manager at a licensee because the first question that would be raised in a dispute would be: “Did you look at what the ATO had?“

PB: It’s no secret that the ATO would like to see SMSFs reporting more frequently – quarterly. I’ve never seen the annual reporting option as a long-term solution, just a transition. As Phil’s pointing out, the APRA funds are reporting much more frequently than quarterly. It’s monthly and in fact some of them are doing it daily. It may well be that even quarterly reporting is a transition phase for the SMSF

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It says something about all of us that we thought it was a good budget, given that it was pretty modest. There wasn’t anything profound or amazing for SMSFs. It was just a good tidy up.

Meg Heffron, Heffron

Indexation and reporting

Continued from previous page

sector as well. The other issue here, and getting back to proportional indexation, is of course financial advisers don’t have access to those ATO portals. It’s difficult for them to obtain information from the ATO as to what someone’s transfer balance cap is. We’ve got a situation where tax accountants do have access to that information, but may not be able to give advice unless they’re licensed to do so and advisers who are licensed to give advice on pension matters, but can’t access the information.

DTC: Do you think this could be the catalyst for that myGov hiccup to be addressed? Is this another opportunity for one of the parameters that just doesn’t seem to make a lot of sense to be addressed?

PB: We’ve been advocating for some time now for advisers to have readonly access to some of this information they need in order to give advice. Obviously it’s not as simple as that, but we are hopeful we will see a resolution so advisers will have access to the information they need.

PLG: One of the big problems at the moment is technically an adviser could access the information because they are registered as a tax agent with the Tax Practitioners Board, but you can only have one tax agent per client. You

can’t have the adviser and their regular accountant registered for one client, which is where the system falls down. If we could cross that hurdle, it solves the adviser’s access problem, subject to funds reporting on time.

PB: It’s not just financial advisers. Administrators want access to some of that information as well. There are situations where clients have got incorrect determinations and trying to help them is very difficult if you don’t have access to the information.

JS: Are we going to see indexation create an additional administration burden and add more cost to SMSFs and is it likely the industry is going to wear the costs?

MH: Possibly, but the complexity or cost comes in people not realising there was something to know and they do something slightly wrong and have to fix things. It will fall into the melting pot of slightly weird things we have to do because the laws are slightly more complicated than they really need to be. Hopefully, one day we’ll have a budget that looks at this as a tidy-up issue and makes the cap $1.7 million for everybody. I would also love to see them, at the same time, forget the complexity around multiple thresholds for non-consessional bring forward contributions and state “if you’ve got less than the general transfer balance cap, you can bring forward and if

you’ve got more, you can’t”.

AD: It will depend on the model the practice or the administrator runs. For things like this there’s a fixed pricing this and you’ve got specialist-based businesses, so the knowledge is there. It will get absorbed into the way in which the solution is offered to the trustee, the adviser and so forth. If you look at someone who is a local accountant, they are going to spend time on that and there is going to be a transfer of cost onto the trustee. It goes again to the importance of specialisation because it’s those that work in this area and specialise in this area who will move with the times, take advantage of the technology to mop this stuff up and be able to keep things moving.

PLG: These caps are not SMSF specific. The caps are a super industry issue. We might have slightly more members who currently are affected by it, but that’s at this point in time. Who knows what’s going to happen over the next five or 10 years. How many of the people who are in SMSFs, and are going to get towards the $1.6 million or the $1.7 million threshold, and are always going to be in an SMSF?

JS: On the back of these scenarios will there be enough evidence to have indexation changed?

PB: I think so. There will be a cost associated with this. There always is when we build complexity into the system. The government is very open to looking at

I’d like to think there is a period of stability now with the legislation, but it is difficult to say that though. There are a number of measures in this year’s budget which will have a long-lasting impact on the sector.

Peter Burgess, SMSF Association

ways of reducing complexity and proportional indexation is one obvious area where we can reduce complexity. Also, as Meg said, the bring forward thresholds – what revenue benefit are they bringing? It’s probably marginal, but there’s a lot of complexity associated with the bring-forward thresholds and having to work out what someone’s total super balance is in order to determine how much they can bring forward. All of those things are areas that can be simplified. In our budget submission we identified eight different thresholds that are used and it’s entirely possible to get that down to two.

Auditor independence standards

JS: The amended auditor independence standards are now about to be enforced properly but have been effective since 1 January 2021. Have you seen any major issues arising from this change so far?

AD: The understanding was that it was going to affect up to a third of the SMSF community, so it’s had a profound effect. In terms of the ATO’s guidance, it is the biggest ticket item impacting SMSFs in 2021 because there have been arrangements in place that needed to be recalibrated. Whether they were internal arrangements with Chinese walls, through to arrangements where they were packaged up with accounting and audit services within different businesses, there has been a need to ensure compliance with those requirements. We are starting to see providers put in place mechanisms for people to be able to deal with that. Class and BGL have introduced audit panel solutions to provide some straight-through solutions for people to be able to tap into where it’s needed.

The ATO has continued to provide feedback around that and it will be interesting to see what happens now it has moved on from an education approach what will be important over the next 12 months as to breaches the regulator finds and how they are ultimately dealt with.

PB: When the standards were first released, it was a hot topic and our members were raising concerns about what it meant for their business and we were concerned about how disruptive this was going to be for the industry, so were advocating for a deferred start date. For smaller audit firms this has been and will continue to be quite disruptive, but in terms of evidence, we haven’t seen a lot in recent times.

This will play out over the next 12 months given that the ATO is now actively enforcing these new standards for any audits that are completed from 1 July onwards.

PLG: The interesting thing is the 20 per cent threshold regarding income being generated from one source because that’s going to hit harder at the smaller end, which is where you normally have those relationships between accountants and auditors. Now, because of this 20 per cent threshold, this is going to require them to diversify this source of income from their clients. It also means that you’ve got the opposite problem because you may not be able to say to new clients that you can do their audits because you can’t go over the 20 per cent threshold. So, the threshold has to be worked through because the impact of it on the audit firms and what business they can or can’t accept from various sources. The big firms have a lot more scale they can work with, but for the smaller firms it is going to be a really tricky issue as to how they manage that 20 per cent threshold.

PB: It is out for consultation and not due to start until 1 July 2023, but we have held some roundtables with our members to get their views on some of the issues they may face with this 20 per cent rule. Before we see it introduced, a lot of refinements will have to occur.

DTC: When this came to light there was speculation around who would really win out of this and who would lose, and those in a prime position were the independent audit firms and specialist audit firms because they are going to be getting a lot of new business now. Have you seen any shifts in client bases or service provision where

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We still have a massive education problem within financial literacy and that’s probably something that we need to get addressed. Philip La Greca, SuperConcepts

Auditor independence standards

Continued from previous page

you could say there has been a gravitation towards a certain type of firm or a certain type of service?

PB: Based on some of the feedback from our members and some of the conversations with industry, there has been a move to the larger, more

specialised audit firms. That’s not surprising and seems to be a trend, but we haven’t seen any stats or figures to back that up.

AD: In conversation with different practitioners in the industry, we have seen some of the large ones ramp up with their communications and the resource planning they are putting into it

with the expectation that it was coming. It’s the advantage they have where it’s not only the specialisation, but it’s the associated technology that enables them to scale successfully. They can keep themselves at competitive price points that enables them to negotiate deals for a thousand orders to come in and remain competitive.

ECPI calculation method

JS: The consultation period for the new exempt current pension income rules is over. Do you think there’s going to be significant changes to the proposed legislation already put forward, and if so, what will they look like?

PLG: Conceptually what they’re suggesting is fairly reasonable and there’s two parts to it. One is the issue in respect of the disregarded small fund assets anomaly, where you had to get a certificate that told you the fund was 100 per cent in pension phase. That’s really a no-brainer and one of those red tape matters that should never have been in the system. The second one is this issue about giving people a choice that if for some period in the year they had segregated assets but it wasn’t for the whole year, they get an actuarial certificate for part of the year that can be used for the whole year. Everyone accepts it makes sense to be able to do that. The issue is about the choice mechanism and how do you make that choice when you could use one of two methods for the year, and how you do those calculations to decide which

method is the best?

MH: The first change totally makes sense and should never have been in the system in the first place. The second change I agree, conceptually, makes sense, but the time for making it was back in 2017. What has happened since is many people have invested time and money in calculating ECPI a particular way. Now we are introducing, if this goes ahead as proposed, a whole new series of decisions for an accountant or an adviser to consider when advising a trustee on what’s the best method to use. Every administrator or accountant in the country is going to be trying to work out for their client what is the best method to use. Again, we’ll just waste a lot of time and money making a marginal difference to somebody’s tax bill, but we’ll feel obliged to do it. That’s a shame because if it happened in 2017 and been done in a simpler way, it would have been applauded. Now, many of us are in this weird situation where we’re actually saying that’s too much choice. Could we make life a bit simpler? Too much choice is not always a great thing.

I am amazed at how many conversations I’ve already had with trustees who want to bring their adult children into their super fund because of this six-member fund thing.

Meg Heffron, Heffron

PB: This has been an interesting topic for the association. We are a pro-choice organisation, but on this particular occasion, and we acknowledge the positive intent behind what the government’s trying to do, but we don’t think providing choice is a good outcome because it will require trustees to do two calculations and in some cases more.

What we said in our submission is that we would prefer to go back to the old proportionate method which was the common approach the industry used before 2017. We agree with the disregarded small fund asset change and this is an opportunity to index the $1.6 million threshold that is used for disregarded small fund assets because it

is hardcoded in the legislation, so it’s one of those thresholds that is not indexed.

If we are going to have a choice, then it certainly needs to be clearer in the legislation than it was in the exposure draft as to when you make that election. We couldn’t work out whether you make the election at the beginning of the year or you could make it after the year has finished. Our preference would be that you make the election as to which option you’re going to use after the income year is finished, but it wasn’t clear on that point, so if we are going to have this ability to choose, it needs to be very clear as to when you can make that election.

DTC: How much of a worry is it that the industry noticed that sort of

Six-member funds

JS: The concept of six-member SMSFs has been discussed for a long time. Now it has become law, are you expecting it to make a real difference?

MH: I am amazed at how many conversations I’ve already had with trustees who want to bring their adult children into their super fund because of this six-member fund thing. I think I totally got that wrong. I thought this was something surely nobody’s going to want to do anyway. We’ve had four-member funds and people with two kids don’t have them in their funds, so why would a sixmember fund suddenly make it different other than to open it up to more families?

I have been amazed at how many trustees have phoned and wanted to talk through the pros and cons of doing it. For lots of them when you talk to them about things like control, they get less keen about it, but I think one thing I’m learning is how, and probably I’m seeing this in my own

family and then maybe seeing it played out in others as well, is how many parents in their 70s or 80s, with kids in their 40s and 50s, are having serious conversations about intergenerational wealth transfer and the parents are being very transparent about finances.

I was on the phone to a trustee yesterday who was saying: “I’ve got a large accumulation account I’m never going to use. My kids live in Sydney, they’re mortgaged up to the eyeballs and they’re never going to contribute to their super above the super guarantee levy. So what I’m going to start doing is taking out $110,000 per child each year, giving it to the kids and saying if they want to put that money back into super, then put it into my SMSF and we can all belong to the same fund.” They’re genuinely not trying to do anything dodgy, they’re actually saying this is how I can best support my children to grow their retirement wealth because they’re not going to have the cash to do it

anomaly in the legislation?

PB: I’m not sure it was an anomaly, but in our view it wasn’t clear. Maybe it was clear to others, but this is why there are exposure drafts, why they allow a consultation so they give the industry and others the opportunity to find these anomalies and to point them out.

MH: Presumably the regulators respond to exposure drafts as well. It’s a sign of a healthy legislative process that the government has a policy, legislation is written they feel implements that policy and then the holes in that legislation, which is the execution of policy, are exposed for review where the collective minds of unpaid experts look at it on your behalf.

and I’m in the fortunate position of having an enormous super fund. A number are also taking quite an interesting parent-like view of the world, expressing an interest in educating their 30 and 40-year-old children about investing. That’s fascinating to me because their children are adults, they’ve got children of their own and yet their parents are still thinking about how they can help them focus on investing. I’ve been flabbergasted at how many conversations I’ve had along those lines. AD: I’ve definitely had a number of conversations on the subject. From a service provider’s perspective we’ve had to make significant changes to accommodate the member increase and it’s likely to be disproportionate to the number of people who will take advantage of the change. But there are people actively having those discussions and, Meg, I’ve had a couple

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Six-member funds

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of similar conversations with advisers and accountants asking about the pros and cons. It has also got me thinking about how we look at documentation from this point in time and how deeds can be drafted with regard to voting rights. This may have been triggered based on the increase from four to six members, but in reality I think it’s going to be relevant for two-member funds as well. So it’s not just about having members from the next generation in the SMSF, it’s also about contemplating how to make decisions regarding the holding of assets and the payment of income streams in general.

MH: Aaron, I wonder if it’s because the maximum member limit change is bumping into a demographic change. Like 10 to 15 years ago, people in their mid-80s to mid-90s didn’t have large SMSFs. But today’s 85 and 95 year olds more often do, so we’ve got wealthy old people bumping into the problem of thinking “I’m not going to be able to look after my SMSF indefinitely.”

PLG: I think you’re right. The six-member rule is going to trigger this issue, but it’s really about the control and decisionmaking. We’ve never really had that much of an issue in funds with four or fewer members because it has always reverted back to the fundamental principle that if you’re dealing with majority rules, you

generally can’t have too many people unhappy in a four-member SMSF. That’s because with two members everybody had to agree to make a decision, with three members it’s two out of three, four members it’s three out of four to get a decision. The problem now is when we move to five and six members it has to be three out of five individuals or four out of six to achieve a majority. This is where the concept of whether a simple majority is adequate for certain decisions becomes more critical.

MH: And what do you think people will do with things like shareholding in the corporate trustee? I’m wondering whether they’ll have directors and members and if the parents hang on to the shares in the corporate trustee.

PLG: I would imagine there may well still be some of that and then the shares actually become an actual asset in the estate.

AD: I often talk to people who do deed upgrades through us and whether they’ve actually done any sort of constitution upgrade to make sure there’s absolute alignment between the company constitution and the deed. That’s because as soon as you do start to get disconnects between these documents, it’s going to get to a point where it’s going to absolutely blow up on you. So yes, it is something that is becoming more and more important to be talking to people

about as they work through these things. JS: Is this desire for founders of an SMSF to have their children and grandchildren to now play a bigger part in running the fund having an effect on fund longevity and the ability to retain more money in the tax-effective superannuation environment?

MH: The issue of death benefits is probably a bit overplayed because the tax and super rules will still force the money out once both parents have died, generally. What will allow them to keep money in super is if the parents are doing this take money out, give it to the kids, and have the kids put it back into the SMSF strategy, but there’s a limit to how much that’s going to be possible for some of these really large funds. What I’m finding really interesting about this, is when we as practitioners talk about the pros and cons, we actively tell clients to be careful about loss of control when you bring your kids into the SMSF. Yet what I’m hearing, and what I’m actually experiencing in my own family, is the ageing parents are saying they’re not worried about losing control and they actually want to hand over some responsibility to the children in a legitimate fashion. They don’t want to have their kids managing the SMSF informally. They want them to be part of it as they take on more responsibility for the fund they’ve been members for a number of years and had

It might be 24 months, but I’d like to think that we would be able to make some inroads into having some robust discussions as to what a more consumer-centric advice model might look like into the future.

Aaron Dunn, Smarter SMSF

some skin in the game.

PLG: I think a lot of it’s coming down to the issue we’ve always had with SMSFs about capacity. What happens to people as they start to wonder whether they’ve got the mental capacity to run their own super fund and if their capacity is at the right level? And then if they start to become more disengaged by having children in the SMSF, at least it gives them a mechanism where there’s someone who can run the fund. It’s one of the big risks we haven’t really dealt with well, when people start to lose mental capacity and so this sentiment is perhaps starting to answer those questions.

MH: And I used to think the perfect model at very old age was transferring to a small APRA fund (SAF), but we’ve never had a vibrant SAF market that can marry the professional trustee with significant flexibility and other characteristics of an SMSF.

PLG: So your kids become your SAF.

AD: But then the challenge is making sure elder abuse does not happen as well. There are steps that can be taken and that again comes back to decision-making. It may require some other fund guardian role or something like that because naturally there will be circumstances of elder abuse where people’s money will be taken when it shouldn’t have been. So there will need to be a balance.

JS: Does the surfacing of these elements mean we’re witnessing the official birth of the family super fund concept and if so, is the concept taking off more quickly than we could have anticipated?

PLG: Well the discussions are certainly taking off more quickly. I think everyone thought “oh, six-member funds are here and we might have somebody ask us about it”. But I think what’s happening is we’re seeing more questions about it and more expansive use of it as a concept. The actual conversion from conversation to an actual six-member fund – that’s still I think a little bit away.

MH: As I was saying before, I didn’t predict this, but I think it’s almost an idea whose time is right. Twenty years ago it would have been useless because the people who had SMSFs, and who were elderly in this position, were the trendsetters of their time. Many people didn’t run their own super fund. Now it’s a pretty mainstream thing for a 75-year-old to have an SMSF, and they’re also the people who tend to have the most money. They’re thinking: “I am going to have wealth to pass on to the next generation, how is that best done seeing a lot of my assets are in my SMSF?” So a six-member fund would have been irrelevant 10 or 20 years ago because it would not have been the kind of thing you would imagine your kids to be a part of. You did it for a particular reason and you were slightly unusual, but why would your kids do it? Whereas now you certainly would imagine your kids also wanting an SMSF.

PLG: COVID I think has also changed how people suddenly started to think about mortality. If you are elderly now, the coronavirus is actually bringing mortality to top of mind. We’ve had COVID issues, we’ve seen how it’s affected older people, we’ve seen the impact it’s had on agedcare facilities. All these elements are prompting people to think “Well hang on, if I’m in that age group and age bracket, I really need to start thinking a little bit more seriously about death and incapacity”. So if you combine these sorts of little things, you get this domino effect that leads to the conclusion that maybe a six-member SMSF is a good idea.

DTC: If we add the stapling measure contained in the Your Future, Your Super legislation to the mix, will this further strengthen the case for sixmember family SMSFs?

AD: I’ve seen evidence of that three times already in the last two-and-a-half weeks, where a 16 or 17-year-old is starting a parttime job and are included in an SMSF. They wouldn’t know the first thing about stapling, but the decision was made by

their parents that it will be easier to stick them in the fund. Then the parents feel they can police what’s going on and control other aspects often seen in public offer funds such as default insurance and whatever else that is probably not really relevant to them at this point in time. Further, the thought process is if they want to stick with the fund in the future, it will be up to them once they’re 18 years of age. But it is something that I have seen on a few occasions already. I have twins about to turn 16 who are looking for jobs and I’m considering implementing this very strategy.

MH: That’s all right for you at the moment, Aaron, because they’re 16, but what happens when they turn 18 and will have to be trustees of the SMSF? Will you be happy for them to be trustees of your super fund?

AD: That’s written into the trust deed and becomes the big issue in that you say they actually have to understand the responsibilities that come with being a trustee, as well as signing the paperwork, they’re responsible for annual return lodgement is on time, SIS (Superannuation Industry (Supervision)) compliance and that sort of thing. When faced with all of that they may decide, “Well no thanks, Dad, not on my life am I going do that”. So then you actually need to push them out. I guess there are pros and cons that come with this scenario, but Darin, to your point about the stapling it does get the issue definitely front of mind with someone in my position.

PLG: Peter and I have actually seen a situation where a colleague of ours wanted to bring his child into his SMSF and he couldn’t because of the way the current industrial relations laws operated, so the stapling provision will actually allow that to happen now.

PB: I guess a big question is whether six members is enough.

PLG: Well it’s always a question about

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Six-member funds

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how many kids you want in the fund. I mean even with a maximum of four members it was always a matter of which kid to leave out.

MH: Getting back to the cases I’ve had which have been around older parents and wanting to include their middleaged children who also have their own children. I’m wondering how they feel about excluding the spouses because your financial planning or management when you’re in your 40s and 50s is all about you as a nuclear family with your

spouse and your children. It’s not about your parents. So I’m wondering how the personal dynamics work there where, yes the child is in the parent’s super fund and merrily building up their balance, but that deliberately excludes their spouse from any involvement in a very significant part of that nuclear family’s wealth.

PLG: The spouse may still receive some benefit from these arrangements. If you are going to give those children amounts from your super, you’re making that decision in a sense really for the family. If they use it to pay off their mortgage, the spouse is effectively getting some benefit and if

Your Future, Your Super

DTC: Speaking of the Your Future, Your Super legislation, it introduced the trustee duty of acting in the best financial interest of fund members. What sort of impact might this have on SMSFs?

PB: I’m not convinced it’s going to be a big issue for the SMSF sector. When you look at the rule with the self-purpose test, it’s already there now. There are a lot of other rules around which govern what SMSF trustees can do and can’t do, particularly when it comes to related entities. So whether it will have an impact, I don’t think so is my view.

PLG: I had some interesting conversations about this between an auditor and a large fund administrator-cum-trustee about expenditure. It’s going to be interesting because if it’s financial duty, the question becomes how much should I spend on things. So one of the big arguments that they were talking about

was, and particularly with regard to the SMSF space, around valuation costs and where the auditor insists the trustee gets a full-blown valuation. But is it actually worthwhile to do every year? This is an interesting sort of dynamic because the logic could be the trustee says, “Well, hang on, why should I spend $3000 a year on audit and valuation costs when I can get a cheaper valuation more regularly and only get the expensive one every couple of years?”

DTC: Will the legislation affect what could be classified as speculative investments and will a timeframe be implemented to determine the merit of deciding to invest in the said asset?

PLG: The investment one I’m less concerned about because that should already be wrapped up within the investment strategy. If you’re making speculative investments, or implementing long-term strategies, time frames would

it goes into super, they are probably the beneficiary anyway. And in the event of divorce they are going to get half of it.

MH: It’s not so much that, Phil. I’m not really thinking about can they get their hands on it. I’m more thinking, what the psychology of this arrangement is. I mean: “Here’s a very significant part of our family wealth. I’m choosing to manage that with my parents, not with my spouse.”

PLG: But it’s your parents who are asking you to be a part of their SMSF rather than you making that specific decision. So it’s really you helping your parents in that situation.

be included as part of the diversification component. For example, the trustee could say, “I’ve got safe-bet assets that give me a certain level of income and I’ve got other assets that are a little bit riskier but might have a longer pay-off, and I’m allowed to do that within my investment strategy.” It’s about the enunciation of the strategy, which remember is what the ATO spoke about when it said not only do you need to talk about your asset allocation, but also about the whys, and that’s really what the whys are. So the trustee needs to confirm I’m buying these speculative stocks for a short or long play. They have to communicate that decision when they make that call.

AD: Phil, I think you’ve hit the nail on the head where if there’s a disconnect between the investment strategy and the action taken by the trustee, that’s where the issue would arise.

DTC: Do you think the way investment

strategies work at the moment, there is that sort of descriptive and prospective nature?

AD: Well there’s certainly been a heightened level of interest in the last 12 to 18 months. So are trustees now approaching this with more seriousness than they have before? You’d like to hope so. I think there’s been a lot of effort and energy put into investment strategies over the last 12 months with the view that hopefully now the fallback position of practitioners is not going back to set and forget. We need to remember the regulation requires regular review and that includes the documentation set around the review and what auditors are going to be seeking. This will go beyond declaring the trustees have considered all aspects of the investment strategy and from that have satisfied the auditors the review was proper. I’m going to be interested to see what happens over the course of the next 12,18, 24 months around the expectation of review. In particular the COVID period has seen a number of events that would force a trustee to have to consider the review of the investment strategy that goes above and beyond adding members and starting pensions.

PLG: I think that’s right because the discussions we’ve been having with auditors, the original focus, if you think back to that ATO letter, was those SMSFs that had 90 per cent of the portfolio

allocated to one asset. The auditors are now talking about a significant investment in particular asset classes, whatever the hell that means. We’re talking beyond property and cash. There are a whole lot of other asset classes and investments you do now need to ask questions about. For example, someone buys shares in a private company, how does that fit within the investment strategy with respect to liquidity, diversification and cash flow? It’s all about why I’m making this transaction in the greater scheme of things. And that probably leads into the other issue from the Your Future, Your Super legislation SMSFs haven’t yet had to deal with, which is performance. The APRA funds, at least the MySuper funds, will be benchmarked by the regulator, effectively putting a floor under what returns people will expect their super funds to produce. From an SMSF perspective the implication for trustees could be: “If I can’t outperform a MySuper fund, why have I got an SMSF?”

MH: Have you ever had an SMSF trustee admit that they’ve underperformed a MySuper fund?

PLG: Well it’s going to be interesting because if I’m an adviser I have a best interest duty which says I’ve got to make sure you are in an adequately performing fund. So how do I recommend you keep your SMSF, or put you into an SMSF if I don’t think your performance is going to outstrip that MySuper fund?

COVID-19 legacy

JS: COVID-19 forced changes to some accepted practices, such as executing documents electronically. Will this prove to be a first step towards a more permanent move towards this type of documentation protocol?

AD: The government still has a bill that remains unresolved in the Senate that was meant to basically extend the temporary measures, brought in during the first COVID-19 lockdown, which ran from 21 March through to 21 September last year. This was designed to give the government more time to make those temporary measures into permanent measures.

So there is a commitment generally to amend the Corporations Act to enable that to occur. Aside from this, the reality is there are already changes in this area at state levels that have now become permanent. With the Electronic Transactions Act we saw exemptions get introduced last year for the signing of financial

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I think there’s been a lot of effort and energy put into investment strategies over the last 12 months with the view that hopefully now the fallback position of practitioners is not going back to set and forget.

Aaron Dunn, Smarter SMSF

COVID-19 legacy

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statements under section 35(b). We’ve also seen the government commit as part of a digitisation process to look at areas of the superannuation industry that can be exempted from the SIS Act and SIS Regulations. Here they looked at recordkeeping as a good example. The Treasury consultation executive memorandum examined whether we could look at the use of identification through digital signing for binding death benefit nominations rather than needing witnesses who would be required to verify and validate who those individuals are. So the government does remain committed to this and I think this is only going to be further embraced by the industry, the technology providers that work within the space as well, and the sooner we get it, the better in my view.

PB: I’d agree with that. I think it’s time for the some of those exemptions that apply to superannuation funds around the Electronic Transactions Act, which Aaron was talking about, are removed. We do have situations at the minute where SMSFs in particular are required to keep physical records of things, some of which have to be physically signed. I think it’s time for those exemptions to be removed so that they can be dealt with electronically.

What lies ahead

DTC: To conclude, could I ask each of you to make a bold prediction for the coming 12 months.

AD: I would like to see some resolution on the limited licensing framework so that we end up in a better situation than we’re in right now. The government’s obviously committed to reviewing this area. We do know that statistically numbers have fallen off a cliff in recent times. At 30 June we’ve seen a number of those limited licensed businesses and advisers in those businesses pull the pin on the use of that framework. There has been obviously a lot of discussion of that as part of Consultation Paper 332. We saw some opportunities to explore that with the COVID $10,000 early release of super and there’s been some level of universal acknowledgement around the concept of a record of advice and whether that could play a role into the future. So it might not be 12 months, it might be 24 months, but I’d like to think that we would be able to make some inroads into having some robust discussions as to what a more consumer-centric advice model might look like into the future.

PB: I’m of a similar view there. I think that’s the number one issue facing advisers and consumers right now is how do we make financial advice more accessible and more affordable. It’s particularly relevant to self-managed super fund investors. We need to make it easier for advisers to be able to provide advice to SMSF trustees. That’s single-issue advice, not necessarily comprehensive advice, but the advice that the consumer is looking for. We also need to be looking at ways to reduce the compliance burden on advisers. We’ve now seen the release of the Consultation Paper for the

Compensation Scheme of Last Resort and I can see there are some additional costs there being imposed on the advice sector. We do need to look at ways by which we can reduce the compliance burden on financial advisers and a part of that is, as Aaron said, examining how we can use records of advice more so in the future. That’s a really important area not only for SMSFs, but also the broader advice community.

PLG: Advice is obviously a fairly key issue, but there is another matter that needs attention. We still have a massive education problem regarding financial literacy and that’s probably something that we need to get addressed. We can’t really have people understand super properly as it stands now. The reliance on advice and having access to advice is difficult enough. Financial literacy has to be rethought in terms of how we deliver it and do we actually have to go down to school level to start that process.

MH: Well funnily enough, I don’t have any big bold predictions. Following on from the conversation we had about the six-member funds, I think the take-up of that might surprise us all. Certainly it might surprise me. The other interesting thing about today’s conversation is we’ve barely talked about the government proposal to remove the work test and yet I think that was one of the best things in the budget. If it does come in, I think it will profoundly change how people think about saving for their retirement because they’ll have vastly more time to do it and it coincides with a time when I think vastly more people are likely to work beyond age 65 anyway, but not necessarily at the rate required to meet the work test. So I’m going to be fascinated to see whether we actually get that because I would really like it.

A more tailored investment approach

Portfolio

construction priorities change when individuals enter retirement. Richard Dinham examines some investment strategies that may be more suitable for people in this stage of their lives.

It is 30 years since the superannuation guarantee was introduced in Australia, establishing a retirement income structure that is the envy of many countries around the world.

During that time, there have been any number of changes to the superannuation system – some good and some not so good. But overall, the outcome has been a positive one, establishing a structured form of savings people can live on during their retirement years.

More recently, there has been a significant shift in thinking about superannuation and its role. Up until

now, the main focus of the superannuation system has been on the accumulation phase – encouraging Australians to contribute as much as possible to their super and ensuring it is invested in an appropriate and supportable way.

Now, however, the focus is shifting to the postretirement stage of decumulation. This shift is a result of the wave of baby boomers reaching retirement and starting to draw down on their superannuation and other retirement savings.

This shift to decumulation strategies requires a

RICHARD DINHAM is head of retirement income at Fidelity International.

change in thinking about how to invest. More consideration needs to be given to strategies and investments that suit retirees, rather than those still working and contributing to their super, in order to generate stable and reliable retirement income.

There is no doubt achieving this kind of income is more difficult than it was in the past. The current market environment of low cash rates and low yields means retirees will need to take on a degree of appropriate investment risk in order to generate the desired level of income, rather than relying on the traditional forms of income, such as term deposits and even bonds, which are no longer delivering the required level of return.

In addition to income needs, retirees will generally need to be exposed to the return

potential of equity markets to maintain and grow the spending power of their super over their retirement. Of course, equity markets inherently come with relatively high levels of market volatility, but if there are ways to manage and reduce this risk and still give exposure to the longer-term return potential of equities, then that should be a welcome addition to any retirement portfolio.

Therefore, a key element in a successful retirement strategy is to find ways to offer downside protection, that is, mitigate against the full impact of market downturns, while still capturing the upside as markets rise.

History shows market falls are, on average, bigger than market gains and that when markets fall, they are more volatile than when the market is rising (as shown

in Chart A). For retirees who are no longer able to build up their superannuation, a market fall can have a devastating impact on their retirement.

An appropriate growth strategy in retirement therefore combines investments in such a way as to have low downside capture (that is, in a falling market the portfolio will fall less than the market) and high upside capture (that is, when markets are rising the portfolio will keep up or outperform the market).

To explain why this approach is beneficial we need to remember the beneficial impact of compounding over time. In investing, this is often called dollar-cost averaging. Its power is generally well understood in accumulation phase, where contributions to retirement savings when markets are depressed tend to do especially well when those markets recover. However, what is less well understood is that the reverse is true when investors are drawing an income from their retirement savings. Taking money out of retirement savings at a time when markets are falling means the effects of compounding are applying, but in reverse.

There are ways to manage this situation that can have a significantly beneficial impact on the retirement portfolio. Chart B illustrates the power of dollar-cost averaging in retirement. It shows investments that give better protection on the downside can perform much better over time when we have a pool of capital (starting at $500,000 in this example) from which we are drawing a regular monthly income. In this example, even though Fund C lags the market in up-markets (80 per cent upside capture), its strong performance in down-markets (50 per cent downside capture) means it delivers the best outcome for the investor over time.

The power of this type of investment is that the investor does not need to try to time the market. Instead, simply staying invested over time in an investment offering good protection

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MSCI World

Source: Morningstar, Fidelity International.

on the downside and riding the markets over time will more likely deliver a better outcome.

Other risks

Of course, equity market risk is not the only risk retirees need to consider when developing appropriate investment strategies in retirement.

Longevity risk is a growing issue. This is the risk of outliving one’s savings. As life expectancies for both men and women continue to increase in Australia, retirees are facing the task of generating income

over a period of time that is consistently lengthening and representing a growing proportion of the time available to them to accumulate savings.

Another risk is inflation risk. While inflation hasn’t been a significant concern in recent times, it is increasingly expected inflation will start to rise more rapidly in the years ahead. And as the costs of goods and services increase, the income required to acquire a given basket of those goods also increases. If retirement income does not increase over time by at least the same rate as inflation, retirees will find their income allows them to buy fewer of those goods and services.

A key point to remember is that inflation varies for different types of households, depending on what they spend their money on. For example, self- funded retirees tend to spend more money on luxury items and on recreation and leisure pursuits and, as they get older, will spend more on healthcare. Employee households, on the other hand, tend to spend more on things like housing, kids’ education and transport. So the headline inflation figure, as measured by the Reserve Bank of Australia, may not represent the true inflation faced by retirees.

Since the goal of retirement planning is to maintain a level of consumption that supports a certain lifestyle, it is important to factor in price inflation relevant to retirees’ own lifestyles.

It is therefore important to work out an appropriate risk profile in retirement, taking into account risk tolerance (how much risk an investor thinks they can bear), risk capacity (how much risk they can actually bear) and risk requirement (how much risk they need to take to achieve the targeted outcome), before deciding on the right investment strategy for retirement income.

Following this important exercise, there are a few common strategies that are generally used in retirement, offering a mix of risk and return to suit individual needs.

More conservative asset allocation

A common approach is to transition to a more conservative asset allocation with a large percentage of the total portfolio allocated to low-risk and low-volatility assets, such as conservative equities, fixed income and money market securities.

The low volatility of this strategy helps to mitigate the sequence of return risk (the market risk for a retiree) and makes it suitable for retirees who value downside protection more than the upside growth. However, retirees do need to be careful not to have the downside overly protected and thus overly constrain the upside potential as this may expose them to an excessive shortfall risk.

Source: Morningstar, Fidelity International.

Simple bucketing

A bucketing approach divides an investment portfolio into separate components, or ‘buckets‘, with each bucket serving different objectives.

In a simple bucketing approach, there are only two buckets: a cash bucket, holding adequate cash and cash equivalents to cover retirees’ immediate financial needs, perhaps for the next year or two, and a diversified investment bucket, with a substantial allocation to relatively risky assets with the objective of achieving capital growth.

As the value of the diversified investment bucket increases over time, the strategy can be rebalanced by transferring some assets to the cash bucket, ensuring immediate cashflow needs continue to be met. If markets are volatile, then the investor would draw their income needs from the cash bucket and need not draw at all on the growth bucket until markets improve. The length of time that the cash bucket can support normal expenditure is the crucial decision in this instance.

This approach provides a short-term buffer against falls from market shocks and allows retirees to better manage the implications of rebalancing and selling growth assets. It therefore is useful for managing sequencing risk and market risk.

Complex bucketing

The simple bucketing strategy can be developed into a more sophisticated bucketing strategy tailored to retirees’ more detailed spending needs.

A complex bucketing approach also follows the principle of dividing accumulated savings into discrete pools, each with different objectives, however, there is an additional bucket to provide an additional layer of income support. This third, or ‘capital-certainty’, bucket blends in some risky asset classes and covers a few more years’ expected expenses, usually three to five years. Specifically, this bucket

could be a ‘bond ladder’ encompassing a selection of fixed income securities, with each security maturing at a different date to replenish the cash bucket. A term annuity would also work here.

The complex bucketing strategy manages risk by segmenting retirement investing into different time horizons. Matching short-term liabilities, or spending requirements, with cash and short-term bonds provides retirees with confidence that money will be available when it’s needed, even if investment markets are at that point in decline. Similarly, matching long-term liabilities, or expected expenses, with relatively long-term assets, such as equities, provides them with a greater expected return, with the aim of ensuring capital is available to meet the expected future spending need.

Income layering

An income-layering strategy, like the complex bucketing strategy, divides a retirement portfolio into separate components or layers, but bases those components on retirees’ spending needs.

Generally speaking, spending needs can be grouped into four categories: basic living expenses, contingency expenditures, discretionary expenses and legacy, that is, leaving something for the kids.

The income priority is matched to the spending priority with income for essential spending being the top priority. All retirees will have their own trade-offs between spending more on discretionary items in early years of retirement and being more certain of meeting goals in later years, and the layers of this strategy can be tailored to suit.

The income-layering approach separates a retiree’s needs from their wants, or nice-tohaves, and prioritises income accordingly. High-priority needs could be protected from market volatility for life, with the portfolio anchored by the age pension, where the investor is eligible for this, or perhaps with lifetime annuities. Term annuities, which pay income in guaranteed amounts for fixed periods, and deferred annuities, which start to pay a lifetime income after a certain delay or deferral period, can be used to produce a tailored income profile over the retiree’s future life. Lower-priority income needs can be met with a market-based portfolio, which may have less certainty of outcome but would likely produce a higher return over time.

Generally, complex bucketing and income layering would need the help of a professional, such as a financial adviser, to help structure the appropriate mix of investments and to manage and monitor the portfolio over time.

Whichever approach is chosen, the overarching goal is for retirees to feel confident they have enough savings to last them through their retirement and generate a suitable income to maintain their desired lifestyle.

Superannuation is likely to be the single largest asset people ever have, outside their family home. Making sure it is managed in the right way, both before and after retirement, is an increasingly important aspect of retirement.

This shift to decumulation strategies requires a change in thinking about how to invest. More consideration needs to be given to strategies and investments that suit retirees.

Share portfolio fine-tuning

Investment portfolios often remain unchanged from the time of inception. Michael Wayne demonstrates better returns can be enjoyed with more proactive shareholding management.

In this piece, we will try and shed light on how clients can transform legacy portfolios to potentially deliver stronger returns for clients with the help of professional advice.

Below we break down a real-life example to demonstrate how making a few adjustments to a portfolio structure can help investors achieve vastly different outcomes.

A real-life example

Original client portfolio

Client Start Date:13/06/2019

Portfolio Value: $1,200,254.33

As we can see from T able 1, the client’s original top seven holdings, which make up 74.32 per cent of

the portfolio, saw the client hold a very consolidated portfolio. There was also a significant overweight position in NAB, which had a 24.41 per cent weighting, and an overall weighting in bank shares of 47.12 per cent.

From our perspective, it is not uncommon to see portfolios with 40 per cent to 60 per cent exposure to just the big four banks. If you had held banking shares for the last 30 years, and those share prices and dividends had increased over the years with only a few hiccups, one can understand the sentimentality and attractiveness these names carry in the minds of investors. This, of course, does not necessarily make that thought process right. Carrying such a heavy weighting towards any sector of course concentrates the portfolio risk. It must be remembered most investors when investing on the Australian Securities Exchange (ASX) are aiming for an exposure to Australian shares, not just domestic banks.

Often such concentrated positions are not done by design, rather they are a symptom that occurs over

MICHAEL WAYNE is managing director of Medallion Financial Group.

time as a handful of positions perform very strongly, while others fall by the wayside. With that in mind, share investors, as with all investments, still need to overcome familiarity bias and focus on the future; what is to come, rather than what has happened in the past.

Original client portfolio

Sector weightings

Table 2 breaks down the sector weightings of the client’s original portfolio. It is clear there is a preference for older-world traditional sectors, such as energy, materials, industrials and, of course, financials. By the same token, there is a noticeable absence of

healthcare stocks and only a smaller weighting to technology.

It is worth considering an investment in the financial sector (ex-Australian real estate investment trusts) would have generated returns of 96 per cent over the past 10 years. Meanwhile, an investment in healthcare or technology, two of the best-performing sectors of the decade, would have rewarded investors with handsome returns of 503 per cent and 335 per cent, respectively.

As you can see from those figures, investors have to always be thinking about how they’re going to evolve their portfolio and how they are going to make sure they’re exposed to the new-age growth areas because that’s where some good returns are often generated.

Original client portfolio

Style weightings

Another interesting observation we often make with new clients is they will often have a strong preference for a certain style of company. Table 3 shows there’s a clear

preference for value names. We just as often see portfolios stacked heavily with highgrowth names, which we believe can be equally fraught with danger should the tide turn as it has recently.

To give things more context, value names underperformed growth by 10 per cent or more in 2017, 2018 and 2019. During 2020, value stocks fared much better, ending the year underperforming growth by less than 1 per cent, even despite a December quarter where value outperformed growth by 18 per cent, the third-best quarter since 1975.

Our view is that investors should perhaps consider taking a more styleneutral approach, as well as being more malleable and aware of these shifts in market dynamics. Some would argue that paying the right price or valuation for a growth company is value.

With many market darlings priced for perfection, we are of the belief the drivers of the market could well continue to evolve

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INVESTING

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towards cyclical or economically sensitive stocks that will benefit from the COVID-19 reopening phase, however, you can never

know for certain, hence why maintaining decent exposure to both growth and value makes sense.

We will now turn our attention from the past to how the portfolio has evolved. To make it clear, it is not the job of the investment professional to butt heads with the clients, rather it is their job to open clients’ eyes and bring their attention to other areas of the market they might not have considered themselves.

Current client portfolio

Portfolio weightings

Looking at the top seven holdings the client held at the time of writing, reflected in Table 4, you can see not only how the names have changed, but also how the

weightings in each name have become more balanced. You will notice some more commonly held names, such as Westpac (WBC), CSL and Macquarie Group (MQG), as well as some smaller, more growth names, such as Alcidion Group (ALC) and Promedicus (PME), while Home Consortium (HMC) is a property exposure introduced into the portfolio as an opportunistic play during the depths of the COVID crisis. Some would argue the likes of Promedicus and Alcidion are too small or too volatile to have such large weightings in and over time we would tend to agree, however, in the short term our view is it is favorable to let one’s winners run, provided the news flow remains positive, and cut losers relatively early rather than willing and

hope for them to come back.

As you can see, one of the client’s biggest holdings was a company called Deep Yellow (DYL), which is a uranium energy company. This is not typically a business we would hold for clients, but on this occasion the client wanted to hold it, they had high conviction in that company for their own reasons and over time it has actually done quite well for them.

Investment professionals must understand that ultimately it is the client’s portfolio, it is the client’s money and the account is set up under their own name. This means they are the ultimate decision-maker.

Current client portfolio Sector weightings

As you can see from Table 5, the client’s current sector exposures, the balance and number of exposures has also now changed when compared with the original portfolio. There is now a greater focus on new-age sectors such as healthcare and technology, and a reduction in exposure to financials and more specifically bank shares.

By broadening the sector exposures as well as the number of stocks in the portfolio, we feel it reduces the client’s concentration risk, as does reducing the weighting concentrated in the top seven holdings.

Current client portfolio Style weightings

Table 6 indicates the change in the style weightings with an increased exposure to growth, which leaves the portfolio with a more style-neutral balance, in our view better reflecting the market conditions and machinations currently confronting equity investors.

Performance: comparing the difference in outcomes

Looking at Table 7, calculated using the Sharesight platform, you can see the range of potential outcomes the client may have faced.

Further, you can see the client, having taken on many of the professional recommendations, has enjoyed a 19.74 per

cent a year return after fees and brokerage. This compares very favorably to what the client would have achieved if they had decided to stick with the original legacy portfolio, and indeed should the client have opted to take a completely passive approach and purchased an ASX 200 exchange-traded fund. It is worth touching on the fees and brokerage, which in this instance amounted to 1.56 per cent yearly of the total portfolio value, an amount not too dissimilar to those fees charged by a managed fund, but without ever having to incur performance fees.

The value-add of $266,990.05 just goes to demonstrate how much making a few considered decisions on a portfolio can improve an investor’s respective position, even more so as the years and decades unfold.

Share investors, as with all investments, still need to overcome familiarity bias and focus on the future; what is to come, rather than what has happened in the past.

*Inception date 13/06/2019. Returns after feees and brokerage. Includes additional inflows.

The new funds and data flow regime

SMSFs are to be incorporated into the SuperStream system from 1 October. Mark Ellem details the processes the new standard will require funds to implement.

SuperStream is not a new concept for SMSFs, however, from 1 October it will be mandatory for SMSFs to use that system in relation to transfers in and out of the fund. As it is common for SMSFs to be established with members transferring benefits from an Australian Prudential Regulation Authority (APRA)-regulated fund, registration for SuperStream will become a necessary step of an SMSF set-up. Also, the rollover of member benefits out of an SMSF, including when the fund is wound up, will generally be required to be done via SuperStream. In the leadup to the mandatory start date, now is the time to

review the SuperStream requirements and how they will affect the SMSF life cycle.

What is SuperStream?

Most will be aware of SuperStream – a standard format used to send and receive money and associated data electronically by the provider to the recipient, for example, employer provider to superannuation fund recipient.

SMSFs are required to comply with SuperStream where they have a member whose employer makes contributions to the SMSF that are required to be

MARK ELLEM is head of education with Accurium.

made via SuperStream. Generally, only SMSFs with members who are employees of an unrelated employer have to receive monies and associated data via SuperStream. Consequently, many SMSFs are not required to use SuperStream, including SMSFs that:

• only receive employer contributions from a related-party employer,

• only receive personal contributions from members, or

• do not receive any contributions, for example, the SMSF may have been set up with monies rolled over from an APRAregulated fund, with the members retiring and commencing pensions.

For SMSFs that are required to use SuperStream for employer contributions, the relevant members must provide to their employer the SMSF’s:

• Australian business number (ABN),

• bank account details, and

• electronic service address (ESA).

The ESA is the alias used by the SuperStream message provider to ensure the SuperStream data passes to the correct message recipient. Generally, SMSFs will use the ESA provided by their accountant or administrator and will depend upon the SMSF accounting/administration platform used. Many of the SMSF administration platforms are also message providers and have their own unique ESA. An SMSF that self-prepares and does not use a platform can also obtain an ESA directly from a message provider.

Extending SuperStream for SMSFs

From 1 October, rollovers to and from an SMSF will only be able to be done via SuperStream. Consequently, even where an SMSF will not expect to receive contributions for members from an unrelated employer, it must be SuperStream capable where it has a member who wishes to roll over benefits from another superannuation fund to the SMSF or roll over benefits from the SMSF to another super fund. This will generally be the case where:

• an SMSF is established and member(s) wish to transfer benefits from another fund or funds to the SMSF, or

• an SMSF has been established for some time and has not previously been required to use SuperStream, but from 1 October: new members join the fund and wish to roll over their benefits from another superannuation fund. We may see this occurring more often as a consequence of the increase in the maximum number of SMSF members from four to six and the potential introduction of family members, consolidation of multiple family SMSFs or an SMSF with business partners, or existing members wish to transfer their benefits out of the SMSF to either another SMSF or an APRA-regulated fund. For example, when there’s been a separation of spouses, business dissolution or dispute between business partners, or member(s) that simply wish to have their own SMSF, or the SMSF is winding up, with member benefits being rolled over to an APRAregulated fund.

Given at some stage of its life cycle an SMSF will be required to use SuperStream, it would be prudent to be SuperStream ready from the time of establishment.

While rollovers will be executed via SuperStream, a paper rollover benefits statement form must be provided to the relevant member within 30 days of the rollover payment.

Release authorities

Certain release authorities will also move to SuperStream. These include those concerning excess concessional and nonconcessional contributions, deferred and nondeferred Division 293 tax payments and the First Home Super Saver Scheme. However, SuperStream will not be mandatory for release authorities and for those SMSFs that are not SuperStream capable, they will continue to receive them in paper form.

SuperStream non-compliance

In addition to not being able to effect rollovers without SuperStream, there are also legislation and regulation compliance rules that must be followed.

Superannuation Industry (Supervision) (SIS) regulation 6.34A requires the trustee of a super fund that has received a request to transfer benefits to another superannuation fund to do so as soon as practicable, but in any case, not later than three business days after the trustee received the rollover or transfer request (subject to permitted delays, for example, missing relevant information).

It is important to note the timeline not only applies to trustees of APRA-regulated funds, but also to SMSF trustees. Technically, once the SMSF trustee has received the member rollover request and the relevant rollover information, it has three business days to roll over the monies. Practically, however, this could present some challenges, including:

• bringing the SMSF accounts up to date to determine the rollover value,

• ascertaining whether the SMSF has sufficient cash to effect the rollover and if not, deciding which assets to sell and the impact on remaining members, including consideration of the tax implications,

• the process and time required for the liquidation of selected fund assets to provide the relevant amount of cash for the rollover, and

• implementing a rollover in-specie of SMSF assets to another fund either in full or partially (Note: in-specie rollovers are an exception to the SuperStream standard and will be managed through a process agreed between the parties).

Non-compliance with the SuperStream standard is a contravention of an operating standard and for an SMSF can result in the imposition of an administrative penalty of 20 penalty units (current monetary value of $4440) per trustee. Given the practical challenges and potential penalty, SMSF

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trustees, accountants, administrators and advisers may wish to review their processes for rolling a member out of an SMSF, including the wind-up process and the timing of the member’s request to roll their benefits over to another fund.

Where there are SMSF members in dispute, it could be that one party may use these rules and the tight timeline as leverage against another trustee. However, if the member who has made the rollover request remains a trustee/director of the SMSF, they too will have the obligation to comply with the SuperStream rollover requirements. Consequently, they could also be subject to any penalty for non-compliance.

The compulsory rollover and transfer of superannuation benefits rules contained in Division 6.5 of the SIS Regulations, known as the portability standards, did not apply to SMSFs. However, effective from 31 March 2021, the SMSF exclusion no longer applies.

Being SuperStream rollover ready

Of course, an SMSF only needs to be SuperStream capable for rollovers that are expected from 1 October. Individuals who are currently thinking about setting up an SMSF or rolling out of one may want to consider the timing of when any rollovers to or from the SMSF will occur.

To ensure an SMSF is ready for the 1 October start date, trustees and their accountants or administrators should check the following:

• Make sure the SMSF has an active ESA. The fund may already have an ESA, but if no employer contributions have been received by the fund for some time, check with the message provider that it’s still active. An ESA provided by an SMSF administration platform should be active, provided the fund is still being administered on that platform.

• Make sure the ESA includes rollover and release authorities SuperStream services.

Not all SMSF message providers will be extending their service to include rollovers and release authorities – check with the provider as to their plans to include these SuperStream services and when they may be available. An SMSF can only have one ESA at a time. Where the SMSF’s current ESA will not include rollover and release authorities messaging services, consider changing to a new ESA that does provide all SuperStream services where future rollovers, in or out, are expected.

• The ATO has been advised of the SMSF’s ESA. If the fund’s ESA has been changed, the ATO record must be updated. An SMSF’s ESA may change due to the current provider not providing rollover and release authorities services or the fund changes administration platforms.

• Where the SMSF’s ESA has been changed, members will need to advise their employer to ensure the correct ESA is used for future employer contributions and associated data sent via SuperStream.

• Ensure the SMSF’s bank account details for the receipt of contributions and rollovers are up to date with the ATO. Where a fund is rolling over benefits to an SMSF, they will be required to verify certain details, including that the SMSF’s

bank details provided as part of the rollover request match the bank account details held by the regulator.

• Ensure the SMSF’s trustee/director and member details are up to date with the ATO. Again, these details will be verified by the transferring fund. A mismatch of details will cause a delay to the rollover request.

Where an individual has requested an APRA-regulated fund to roll over their benefits to an SMSF, the APRA-regulated fund will use the new SMSF verification service (SVS) to verify the relevant details. The SMSF member will be notified via text that their details have been accessed.

For an SMSF transferring a member’s benefit out of the fund, prior to executing the roll out it will need to:

• use the SMSF member tax file number (TFN) identity check service (SMSF member TICK) to validate the transferring member’s TFN,

• where rolling over to an APRA-regulated fund – use the fund validation service (FVS) to obtain the receiving fund’s details, for example. bank account details.

The SVS, SMSF member TICK and FVS services are only available through the digital service providers. Consequently, where the fund uses an accountant or administrator that uses a platform with SuperStream functionality, access to these services by the SMSF will require the involvement of the accountant or administrator.

With the potential for an increased flow of SuperStream messages, a firm that has a SuperStream-enabled administration platform and is receiving SuperStream messages should consider a review of their process of instigating, monitoring, disseminating and actioning such messages in the lead-up to the 1 October start date. This would include contacting their SMSF administration platform provider to ascertain when they will be SuperStream rollover ready and what training or learning guide will be provided.

In the lead-up to the mandatory start date, now is the time to review the SuperStream requirements and how it will affect the SMSF life cycle.

Child death benefit pension considerations

Including children in death benefit allocations is not straightforward. Julie Steed identifies the complexities regarding child death benefit pensions.

When considering the benefits of a child death benefit pension, there are a number of important considerations to take into account, including the transfer balance cap (TBC). In this article we review the rules surrounding child death benefit pensions and some of the traps involved.

Child death benefits

A death benefit can only be paid in the form of a pension to the child of a deceased member if the child is:

• under age 18,

• age 18 or over and either: is financially dependent on the member and

under age 25, or

has a disability described in section 8(1) of the Disability Services Act 1986

For a child to meet the disability definition, the child must have a permanent physical or intellectual disability that results in a substantially reduced capacity of the child for communication, learning or mobility and means they need ongoing support services.

Child cap increment

Where a death benefit is paid as a pension to a child, a special TBC amount comes into play – the child cap increment.

For child death benefit pensions that were

JULIE STEED is senior technical services manager at Australian Executor Trustees.

commenced prior to 1 July 2017, the child cap increment is $1.6 million for all pensions. Any amount above $1.6 million was an excess and had to be removed from the super system.

Since 1 July 2017, the amount of the child cap increment depends upon whether or not the deceased had a transfer balance account (TBA) at the date of death.

Importantly, the test is whether the deceased has a TBA at the date of death, that is, whether they had ever commenced a retirement-phase pension, rather than whether the deceased had a retirementphase pension at the date of death.

If the deceased did not have a TBA, then the child cap increment is a prorated amount of the general TBC at the time the child receives the pension, based on the child’s proportion of the deceased’s total death benefit.

If the deceased had a TBA at any time, the child cap increment is a prorated value of the pension account/s as at the date of death, based on the child’s proportion of the deceased’s total death benefits.

A child death benefit pension above the general TBC may also be possible without having an excess transfer balance amount. This could occur if the parent’s pension increases above the general TBC as a result of investment returns.

Investment returns from the date of death until the date the child pension commences are included in the pension account balance and therefore count towards the child cap increment.

In addition, a child can have multiple child cap increments if multiple parents die.

It is not an everyday occurrence for a member receiving a retirement-phase pension to have a minor child, however, they will occur for older clients with younger spouses (think Mick Jagger having a child at age 73). In addition, clients with young children may be in receipt of a disability income stream, and adult children with disabilities will often live with their parent well into the parent’s 70s or 80s.

Case study

Mick held $1.6 million in an account-based pension on 1 July 2017 and did not have an excess transfer balance amount. He dies at age 68 in August 2021 with a pension account balance of $2.2 million, which is to be paid to his only child, Ollie, who is 16.

Because Mick had a TBA, Ollie’s child cap increment is his share of Mick’s pension account/s, which is 100 per cent of $2.2 million. Ollie can commence a death benefit pension of $2.2 million and does not have an excess transfer balance amount, even though his pension is commenced for an amount greater than the general TBC of $1.7 million.

If a death benefit is payable from both accumulation and pension benefits, then the child is still constrained by the child cap increment, which results in all accumulation balances having to leave the super system.

Case study

Rachael is a 45-year-old single parent who is diagnosed with a debilitating degenerative disease, however, she has a life expectancy of over 10 years. Rachael’s beneficiaries are her two children, aged 10 and 12. She has $300,000 in an accumulation account that has a $1 million insurance policy under which Rachael is claiming a total and permanent disability benefit.

Rachael understands the benefits of

tax-free investment returns on pensions and her fund is satisfied she has met a disability condition of release. She commences a pension with $300,000 while awaiting the outcome of her insurance claim.

Unfortunately, Rachael dies before her insurance claim is finalised. The insurance proceeds are received a few weeks after she dies.

Rachael had a TBA at the date of her death, so her children’s child cap increment is their share of Rachael’s pension account, which is 50 per cent of $300,000 each (or $150,000). The insurance proceeds that are received into her accumulation account cannot be paid as a death benefit pension and must leave the super system.

If Rachael had not commenced a pension and had died with $1.3 million in an accumulation account, each of her children could have received a death benefit pension of $650,000.

End of a child death benefit pension

A child death benefit pension must be commuted by age 25 unless the child has a disability. The pension may end earlier if assets backing the pension are exhausted.

The benefit may also be commuted when the child reaches 18 and requests a commutation, unless the fund’s trust deed restricts access to an age up to 25. An SMSF or a small Australian Prudential Regulation Authority (APRA) fund would be likely to offer this flexibility, however, it is unlikely in a large APRA-regulated fund.

When the child death benefit pension ends, the child’s TBA is deleted. The child will then be eligible for the general TBC when they retire.

Excess transfer balance amount

If the parent had an excess transfer balance at the time of their death, the child death benefit pension is reduced by their

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Where a death benefit is paid as a pension to a child, a special TBC amount comes into play - the child cap increment.

Did the parent have a transfer balance account? That is, had they ever had a retirement-phase pension?

CDBP = child’s percentage of RPP benefits x parent’s RPP balance

• RPP balance includes investment returns from date of death to date of CDBP commencement.

• RPP balance does not include insurance amounts –insurance must leave the super system.

• All accumulation balances must leave the super system.

• If the parent had an excess transfer balance, the CDBP is reduced by their proportionate share of the parent’s excess transfer balance.

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proportionate share of the parent’s excess transfer balance.

Insurance

Where an accumulation account includes insurance proceeds, the insurance proceeds form part of the accumulated balance and are included in the child cap increment amounts. However, if an insurance policy is held in a retirement-phase pension, none of the insurance proceeds can be used to start a

CDBP = child’s percentage of death benefit

• Death benefit includes insurance amounts.

• Balance must leave the super system.

death benefit pension paid to a child as all the insurance proceeds must be paid as a lump sum.

Conversely, if an insurance policy is held in a reversionary retirement-phase pension that will be paid to a spouse, the insurance proceeds are treated as investment returns and can be retained in the spouse’s death benefit pension.

Indexation of a child death benefit pension

A child death benefit pension is not eligible

for any indexation. The amount able to be paid as a pension is determined at the time of commencement and cannot be added to (unless by another child cap increment if another parent dies).

SMSFs and child members

Paying death benefit pensions to children can create difficulties in SMSFs. A person who receives a pension from an SMSF is defined as being a member of the SMSF. To meet the definition of an SMSF, a child in receipt of a death benefit pension must also be a trustee.

Figure 1: Treatment of child death benefit pensions summary

x GTBC

CDBP – child death benefit pension. GTBC – general transfer balance cap. RPP – retirement-phase pension.

Where the child is under 18, this is relatively simple; the child’s surviving parent or guardian is the trustee for the child. However, when the child turns 18, they are required to be appointed as trustee and assume all trustee responsibilities.

For an adult disabled child, it is not so straightforward. If the adult child has a power of attorney, the attorney can be the trustee for the child. However, most disabled child death benefit pensions are paid to adult children with long-standing intellectual disabilities that have prevented them from completing a power of attorney document. The alternative is to have a court-appointed guardian, which is rarely done if the parents are caring for the adult child as it is generally an arduous and unpleasant process.

A possibility is to convert an SMSF to a small APRA fund that has a professional licensed trustee. This may be beneficial where the SMSF has unique assets.

Fortunately, since 1 July 2017 a death benefit pension can be rolled over to another fund. The SMSF could therefore roll a child’s death benefit pension to a retail fund.

Planning opportunities

Not all parents are thrilled at the idea of

their 18-year-old children having access to commute significant amounts of death benefit pensions. In an SMSF, the terms of the trust deed may restrict the child’s access to age 25, by which time parents may be more comfortable with the decisions their children may make regarding appropriate uses for the death benefit proceeds.

An often overlooked alternative in an SMSF is to have a non-binding nomination that allows a surviving spouse to allocate death benefit proceeds between themselves and children, maximising the amount that is retained as superannuation death benefit pensions. This also means binding nominations don’t have to be updated as circumstances (and account balances) change.

In a retail or industry fund there may be less confidence in the trustee’s decisions for non-binding nominations, however, a similar outcome may be achieved by assessing the best outcome annually and making binding nominations to that effect.

For clients who have retirement-phase pensions and accumulation accounts, it may be appropriate to leave all the pension benefits to the children equally and all the accumulation accounts to the

surviving spouse.

In many instances, parents will be far more concerned about control than the potential tax benefits of retaining death benefit pensions in the super environment. Clients may look to commence child death benefit pensions that are expected to have a zero balance by the time the child is 18. Each year they may work with the adviser to estimate the amount required to support the child’s lifestyle needs until they turn 18. The balance can be directed to testamentary trusts or to a surviving spouse. Of course, the estimates will never be perfect, but will greatly reduce the likelihood of the child having access to large sums of money at 18.

In an SMSF this can also be achieved by using non-binding nominations. In a retail fund, binding nominations could be updated annually.

Understanding how child death benefit pensions interact with the TBC can assist practitioners in providing appropriate advice to clients, particularly clients with young or disabled children.

Table 1: Child cap increment determination for death benefit pensions commenced after 1 July 2017

The pursuit of legacy pension fairness

On the night of the 2021 federal budget a small group cheered unusually loudly. We are the people involved in so-called legacy pensions. The announcement of a two-year amnesty, possibly starting as soon as 1 July 2022, was music to the ears of anyone dealing with market-linked, complying lifetime or complying life expectancy pensions.

Our clients with these pensions have been trapped in inflexible, unwieldy, expensive pensions, while the rules for everyone else have been progressively simplified and improved enormously from 1 July 2007 onwards.

For some reason, successive governments have been reluctant to give these people a break and have instead left them high and dry with pensions that effectively lock up their super, sometimes well beyond their death.

Hopefully, there’s light at the end of the tunnel.

But there are two things that still worry me a lot about the government’s budget night announcement.

The first is whether it will apply to all of these restrictive pensions as the reference to a start date of before 20 September 2007 has me worried. Remember many people who have, say, a marketlinked pension today may have restructured since first starting a pension before 20 September 2007. For example, some market-linked pensions were stopped and restarted before 1 July 2017 to set a longer or shorter term for the pension before the transfer balance cap rules took effect. Equally, some lifetime or life expectancy pensions started before 2007 have been converted to market-linked pensions after that date. In each of these examples, the legacy pension in place today did not start before 20 September 2007.

Fortunately, it appears the SMSF Association has cleared this up with Treasury. Apparently, the intention is to include all pensions that can have

their origins traced back to some kind of legacy pension commenced before 20 September 2007. Note, it would appear there still needs to be a link to pensions still running today. For example, consider the case of a client whose spouse died several years ago with a non-reversionary lifetime pension. The spouse now has an SMSF with a large reserve, but no longer has a legacy pension in place as it was nonreversionary and stopped when the pensioner died. I don’t see any indication the government intends to help in this type of case.

My second worry is the intention to impose tax on the reserves associated with these pensions. It’s the second worry that is the subject of this article because after years of lobbying for this amnesty, I passionately want the government to get it right. I want the change to be fair to all taxpayers, both those of us who are funding social security and superannuation concessions and the beneficiaries of this amnesty, and simple to implement with no ‘gotcha moments’.

I also want it to achieve what I think is probably the government’s goal: allow some of its citizens, who made very long-term superannuation, tax and social security decisions 15 or 20 or even 25 years ago when the rules were very different, to simplify their affairs. A great outcome here, which will sound strange coming from a big SMSF advocate, would be to see a whole lot of very small and expensive SMSFs wound up.

So what is the problem?

First it’s important to note reserves are only a problem for complying lifetime and life expectancy pensions – not market-linked pensions. This is because market-linked pensions do not require reserves as they are just like account-based pensions in this regard.

MEG HEFFRON is managing director of Heffron.

The 2021 budget announcement allowing legacy pensions to be tidied up was welcome news for SMSFs. However, one element of the amnesty requires further attention, writes Meg Heffron.

For those pensions with reserves, the budget announcements provided that the amnesty would allow recipients of these legacy pensions to fully commute their pensions and transfer the capital, including any reserves, to an accumulation account, an account-based pension provided they have enough room within their transfer balance cap to do so, or out of super entirely.

The supporting fact sheets included the following paragraph: “Any commuted reserves will not be counted towards an individual’s concessional contribution cap and will not trigger excess contributions. Instead, they will be taxed as an assessable contribution of the fund (with a 15 per cent tax rate), recognising the prior concessional tax treatment received when the reserve was accumulated and held to pay a pension.”

I think it is probably a reasonable assumption that the reserve amount being referred to here is – at most – the amount held by the fund over and above the actuary’s best estimate of the value of the pension. In other words, if the member, let’s call him

from 1 July 2007 onwards.

John, has a lifetime pension, which an actuary has valued at $1 million but the fund actually holds $1.5 million to support it, the reserves would be $500,000.

Taxing the reserves as outlined above would cost John $75,000 (15% x $500,000). The fact sheet suggests this tax is necessary to reflect past years of concessional tax treatment.

But is it?

That might be true if the reserves have come about from extra investment earnings that were exempt from tax while the pension was running. But actually that’s not how it works.

For example, let’s say that when John’s pension started, the actuary said it was worth around $1.3 million. And let’s also say John put exactly that amount aside to provide his pension. Over time:

• his pension has been indexed (which makes the value of his remaining pension payments go up), but at the same time

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Our clients with these pensions have been trapped in inflexible, unwieldy, expensive pensions, while the rules for everyone else have been progressively simplified and improved enormously

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• he’s getting older (which makes the value of his remaining pension payments go down – there are fewer of them left to be paid).

The net impact in John’s case is that the value of his pension is now only $1 million. But great investment returns have meant his account has actually grown from $1.3 million to $1.5 million instead of falling to $1 million in line with the value of his pension. This disconnect between the value of the fund’s assets and the value of the pension is a permanent feature of these types of pensions – until actuaries can predict with absolute certainty from the outset when John will die and how much his fund will earn from its investments, it’s inevitable the actuarial assumptions will always be wrong.

We haven’t reached the point where that’s possible yet, which is why we are called actuaries, not psychics.

Maybe under that scenario it would be reasonable to tax John’s extra $500,000, that is, if all of that bonus money has come from investment returns that weren’t being taxed in the fund while John’s pension account grew. But as I said earlier, that’s not actually how it works.

Firstly, when John started his pension he will not have set aside exactly $1.3 million to finance it. His actuary will have advised him there are other solvency tests he needs to meet when he has one of these pensions and so he should put aside more money. In particular, an actuary is required to certify every year whether or not the fund has enough in his pension account to meet the ‘high degree of probability’ test. This test is only met if the actuary can say there is a 70 per cent chance the pension can be covered by the available assets. As you can imagine, this requires much more money to be set aside at the outset than if John was only worried about having enough for the actuary’s best estimate of the value of the pension, which is generally more like a 50/50 chance.

In other words, the government itself has forced people like John to set aside more money in these pensions. John’s pension account probably started at a level far higher than $1.3 million – let’s say $1.5 million. So some of the reserves he has now actually came from his own capital to begin with. That capital has either already been taxed, that is, it will have come from taxable super contributions or earnings while he was in accumulation phase that were also taxed, or has come from sources that are explicitly not taxed, such as nonconcessional contributions.

And what about the fact John’s investments have performed well and some of the reserves have probably come from strong investment returns? It would appear the government feels these have already escaped

income tax because they were earned in a pension account and normally pension account earnings are exempt from tax.

Well not quite.

A very confusing feature of these pensions is that most actuaries calculate the tax-exempt proportion of the fund’s investment returns using only the ‘best estimate’ amount.

If I was John’s actuary, for example, and the only money in the SMSF was the $1.5 million supporting his lifetime pension, I would certify that roughly 67 per cent ($1 million ÷ $1.5 million) of this year’s investment earnings should be exempt from tax and his fund should pay the normal 15 per cent tax on the remaining 33 per cent of his fund’s earnings. He will have been doing that, albeit with different percentages, since the pension started. Unlike someone with an account-based or market-linked pension, John’s fund has probably never enjoyed a 100 per cent tax exemption on its investment income.

So even if a lot of John’s $500,000 in reserves comes from great investment returns, I’ll bet his fund has already paid tax on that too.

Which brings us right back to my concern. Exactly what prior concessional tax treatment is the government trying to make up for in taxing these reserves?

Maybe I should stop looking for logic in the maths about how reserves have appeared. Perhaps the government’s concern is that recipients of these things have secured great social security benefits on the promise of locking up their super in this way and now they are being given a free pass to get out of the pension. I think that would be a bit overzealous. We’ve had these people’s super locked up for at least 15 years and often a lot longer. I think they have served their time and taxing their savings now seems almost vindictive.

I’m looking forward to the consultation process on this. Like I said, I really want the government to get this great change right.

For some reason, successive governments have been reluctant to give these people a break and have instead left them high and dry with pensions that effectively lock up their super, sometimes well beyond their death.

EVENTDATE

16SEPTEMBER2021

SMSFTRUSTEE EMPOWERMENT DAY 2021

FEATUREDSESSIONS

Acriticalpieceofthepuzzle:estateandincapacity planningforyourSMSF

Thebest-laidplanscanoftengoterriblywrong.Youmayhaveyourfundtickingalongwell whenitcomestocontribution,investmentandretirementplanning,however,withouta currentandvalidestateandincapacityplan,itcanbeaverypainfulandexpensiveprocess foryourlovedones.Thissessionwillexplorethefundamentalsofwhatyouneedto considerandputinplaceinrelationtothisimportantaspectofyourSMSF.

AregulatoryupdateandessentialinsightsfromtheATO

STEVEKEATING

TheATOwillprovideanupdateonsomeofthecurrentcomplianceconcernsforSMSFs andprovideitsregulatorystanceinrelationtotheseriskfocusareas.Itwillalsoprovidean updateonsomekeychangesontheregulatoryhorizonandhowthesewillimpactonthe SMSFsector.

NavigatingtheevolvingSMSFcontributionlandscape

Superannuationcontributionruleshaveconsistentlychangedsincethefederalgovernment implementeditssuperreformpackagefrom1July2017.Whilethechangeshavebeenlargely positive,itcanbedifficulttokeepupwithwhatislawversuswhatisproposed.Inthissession, wewillnavigatethecurrentcontributionrulesandidentifythekeyimpactitemsasaresultof recentchanges,butalsoaddressfurtherchangesproposedinthefederalbudgetandwhat thosemeasuresmightmeanforSMSFtrusteesandmembers.

PAYONLY $15 FORVIRTUAL EXPERIENCE

JULIEDOLAN HEADOFSMSF& ESTATEPLANNING, KPMGENTERPRISE

TIMMILLER EDUCATION MANAGER, SUPERGUARDIAN

DIRECTOR,SELFMANAGEDSUPER FUNDSEGMENT,ATO

The common theme in death: part two

Superannuation often plays a significant role when a person dies. In the final instalment of this two-part series, Jemma Sanderson highlights certain actions that can be taken to ensure death benefits are passed on to the right people.

The ageing Australian population means superannuation is becoming a significant asset for many people and the introduction of the transfer balance cap (TBC) provisions, effective from 1 July 2017, has increased the volume of considerations when an SMSF member dies. Importantly, things may not always be as they seem within a fund and it is useful where possible to put all the pieces of the puzzle together before death.

Withdrawals before death

Since Simpler Super was introduced in July 2007, there have been issues regarding planning with respect to the payment of superannuation death benefits, particularly where both members of a couple have died, and the benefits are to be paid to adult children (either directly or via the estate). This is due to the death benefits tax payable on the taxable component within the benefits of a deceased

JEMMA SANDERSON is a director at Cooper Partners.

member. Tax is generally applied at 15 per cent (if paid to the estate) to 17 per cent (if paid directly to beneficiaries). The tax may be up to 32 per cent, however, that is uncommon.

To reduce the taxable component within a benefit, and therefore the death benefits tax, withdrawal and recontribution strategies are often employed. However, given the contribution limits, this is unlikely to resolve a substantial level of taxable component within a benefit.

Another option is for the balance of the member’s benefits to be paid out of superannuation prior to them passing away. This means it would be considered a member benefit and not subject to tax on the taxable component (on the basis that the member is over 60 and eligible to take out lump sum benefits). This has its own challenges, the main one being the timing. If done too early, there could be years of losing the benefits of having assets held within the tax-advantaged superannuation environment, and if done too late, the death benefits tax is not mitigated.

The ideal scenario would see sufficient time for not only the paperwork to be signed that requests the lump sum payment, but also the beneficial ownership of the assets transferred. Where the assets have not been transferred in time, there are several private rulings on the ATO database that might be of assistance, and it could be appropriate to apply for your own ruling if the intention is to have certainty that the transfer is a member payment (with no tax on the taxable component) and not a death benefit payment. As with any situation, it is very fact driven and advice is worthwhile obtaining.

One area for consideration in executing a ‘death-bed withdrawal’ is ensuring the flow-on impact is addressed. This includes the fact the assets would no longer be held within the superannuation fund, but rather in the deceased’s own name at death, and therefore would form part of the estate. This

is an important factor that can be missed, particularly if the will has particular clauses about the recipient of benefits, and the intended recipients of the superannuation benefits is different. By saving some death benefits tax, certain beneficiaries may then receive nothing from the estate if this scenario was not contemplated in the will. Therefore, we once again refer to the member’s intentions. It is worthwhile to consider the tax saving achieved by a death-bed withdrawal, but if the monies in that situation are not distributed to whom

the deceased member wanted, that is important. Munro v Munro demonstrated a will outlining the distribution of assets between beneficiaries is irrelevant if the benefits don’t ultimately form part of the estate. The flipside is also relevant – a will that doesn’t deal with the overall distribution of benefits is deficient.

It again brings to the fore the importance of reviewing all estate planning holistically and not only considering just superannuation, or just tax, or just the will, or just the reversionary status of a pension. All of these elements need to be considered together and the small details matter, and can matter substantially, being the difference between individuals inheriting or not.

Ultimately the preference is that an intended beneficiary actually receives the money. If that is 15 per cent less than what it could have been with a tax saving, then ultimately they may not be concerned as they at least received 85 pre cent of an inherited amount, rather than 100 per cent of nothing.

Practically dealing with death in an SMSF

As an enormous advocate of SMSFs, it is often painful to reflect on the fact that extracting members from them is a practical

Continued on next page

Table 1: Benefits as at 30 June 2020

The practical side of dealing with benefits on death can be complicated and can make it difficult to achieve a quick outcome.

Continued from previous page

challenge. Whether that is death, divorce, dispute or departure of children, ensuring the exiting member is 100 per cent transferred out is difficult. Regulation 6.21(1) of the Superannuation Industry (Supervision) (SIS) Regulations requires death benefits to be paid out as soon as practicably possible. However, this can be challenging as the following example shows:

Bert, 78, and Mary, 76, are the members of the Chim Chim Cher-ee Super Fund, with benefits as at 30 June 2020 per Table 1. Bert dies in January 2021, and his pension is not reversionary. Bert and Mary have been married for 55 years, have no children, but have much-loved nieces and nephews. It is intended Mary is to receive all of Bert’s benefits. The SMSF has individual trustees. The following needs to occur within the fund:

1. The fund requires either a second individual trustee or a corporate trustee be put in place (a new corporate trustee is preferred). In any event, the registration of all assets will need to be updated to the new trustee.

2. If Bert’s benefits are not going to be dealt with within six months from the date of his death, it is worthwhile considering the inclusion of the executor of Bert’s estate in the company – as Bert and Mary’s niece, Jane, and nephew, Michael, are the executors, Michael is added as an additional director. This will ensure SIS Act section 17A is addressed.

3. SIS regulation 6.21(1) requires the benefits to be paid out as soon as practicably possible, whether in the form of a lump sum payment out of the fund (a maximum of two is permitted, being an interim and a final lump sum), or the commencement of a pension for Mary.

4. At the time of Bert’s passing, the 30 June 2019 financials have only recently been finalised, given some of the detail of the

investments was only recently available.

5. As Mary is currently in pension phase, the TBC implications of any strategy need to be considered.

6. It is resolved to pay all of Bert’s benefits to Mary as the only SIS Act dependant.

7. Until Bert’s benefits are dealt with, the pension exemption still applies to his pension benefit and Mary’s pension benefit, even though a minimum pension is not required to be paid from his pension.

8. In the lead-up to 30 June 2021 the decision is made to:

a. commute Mary’s own pension, effective 30 June 2021,

b. commence a pension for Mary with Bert’s pension account, effective 1 July 2021, up to her TBC, and

c. if Mary has any remaining TBC available, she will commence a new pension from Bert’s accumulation account up to her remaining TBC.

9. The associated transfer balance account reporting (TBAR) will be as follows:

a. 28 July 2021,

b. 28 October 2021, and

c. 28 October 2021.

10. At the time the paperwork is put in place, all values are unknown, and formulas are included for calculation when the value of the fund at 30 June 2021 is known.

11. Until that time, the level of Bert’s benefits that are ‘left over’ and can’t be retained in superannuation for Mary, and must be paid out as a lump sum withdrawal, is unknown.

12. Even once the 30 June 2021 financials are prepared, given the timing of the availability of the documents from the relevant investments, it may be nine months after year end that the numbers at 30 June 2021 are known.

13. Subsequently, the 30 June 2021 numbers will be out of date and the current value at that time of the amount to be paid out will be unknown with certainty.

14. In March 2022 the 30 June 2021 financial statements are finalised, which are outlined in Table 2,

15. Ignoring indexation, Mary:

a. has an available TBC of $1.835 million when she commutes her pension account (refer to Table 3),

b. can commence a new pension with 100 per cent of Bert’s existing pension,

c. can commence a pension with $35,000 from Bert’s accumulation account, and

d. would then have to receive a lump sum payment of $2.815 million as at 30 June 2021, being Bert’s leftover benefits.

Table 2: Benefits at 30 June 2021

16. As it is now March 2022:

a. the reporting of the above amounts for TBAR would be late – a decision could be made to lodge TBAR earlier (and on time) and then lodge an amendment when the final numbers are available,

b. the value of the lump sum amount to be paid would be different as it is now nine months later since the 30 June 2021 number,

c. therefore, revised current calculations are required to be made of the potential current value of the lump sum,

d. it is not desirable to pay out too much as that would translate into funds outside superannuation in Mary’s own name, especially when a substantial level of benefits are already being transferred,

e. however, SIS regulation 6.21(2)(a) requires there is a maximum of two lump sum payments, which can be a challenge if there are always leftovers given the timing of when balances are known,

f. it may be worthwhile paying out an additional amount as an extra

buffer, which could then be treated as a lump sum from Mary’s own accumulation account if it is more than the lump sum required from Bert’s account,

g. until Bert’s benefits are completely paid out, he still has a death benefit in the fund and therefore his

representative needs to be in the fund as a trustee to satisfy SIS Act section 17A,

h. Mary’s nephew Michael could remain in the fund longer term in any event as the second director, as well as representing Bert, and

i. the assets to be transferred out also need to be considered as there will be capital gains tax implications, which can then have a flow-on effect to the underlying values.

As is evident from the numerous items above, the practical side of dealing with benefits on death can be complicated and can make it difficult to achieve a quick outcome. It is beneficial to be aware of the implications, to educate our clients, and where possible do the best to mitigate any issues. The TBC regime has made estate planning more complex and also more important than ever to understand the practicalities of paying out benefits, but before that, consideration as to who is getting the money and how it is to be managed also needs to be reviewed and addressed. Who gets the money and whether that is as intended should remain paramount.

Things may not always be as they seem within a fund and it is useful where possible to put all the pieces of the puzzle together before death.

Table 3: Mary’s transfer balance account (TBA)

The value of increased regularity

SMSF reporting obligations are currently in the main required annually or quarterly. Philip La Greca explains why more frequent reporting adds value and may be introduced to the sector in the future.

Today’s society has great expectations – everything should be available and up to date when and where required. In the entertainment sphere the popularity of on-demand streaming services is soaring and across financial services, credit and bank balances are available in real time through the click of a button. This level of accessibility will eventually become the standard across all aspects of our lives, including superannuation.

This is the value of regular reporting.

Reporting obligations

Current SMSF regulations require annual reports be made to either a regulator or member. We know these as an annual tax and regulatory return or annual member statements. They outline fund balances and entitlements at the end of the financial year.

There are other reporting obligations, however, that tend to be relatively minimal and are driven by specific events. Transfer balance cap reporting, for example, is important when members start a pension

PHILIP LA GRECA is SMSF technical and strategic services executive manager at SuperConcepts.

or take a lump sum benefit from a pension account. These reports are required on an ad hoc basis, but are, nevertheless, important and penalties can apply when deadlines are not met.

Why increase reporting cycles?

Invariably most SMSF members will have started in an Australian Prudential Regulation Authority (APRA)-regulated fund. These funds work on a far more regular reporting cycle. Specifically, these public offer funds report to regulators, both APRA and the ATO, every 10 working days and provide detailed statistical information on a quarterly cycle. In most cases, APRA funds also provide additional member reporting daily, including member balances, transactions and investment values.

Members often move from an APRA fund to an SMSF for greater control and may wish to have access to information at the same frequency they had previously.

Technology and data feeds

It is now possible, through the use of sophisticated software and administration services, for SMSFs to have and provide information to their members on the same basis as APRA funds. This requires the electronic transfer of data to be uploaded and verified to ensure both the member records and investment values up to date.

There are three types of data feeds –valuations, documents and transactional information. Each has a specific purpose, but together they allow for information to be kept up to date and accurate.

Valuation data is typically the most simple in nature as it relates to the pricing information for assets such as Australian Securities Exchange share feeds and managed fund unit pricing. This can provide daily revaluation of assets, which allows a member to see the exact account balance. However, this is only accurate when the number of units or shares held is

correct and this is where the other two data feeds come into play.

Transactional data is fairly normal –we see it all the time. The most obvious example is your bank account and most SMSFs, of course, have a bank account for processing transactions. When we look at this data it is important to recognise not just the value of each transaction, but the additional information provided. Therefore, it is critical for transactions to have accurate reference information and descriptions so each can be mapped with supporting documentation.

There is a limit to the types of transactions that can be made and each transaction should be able to be matched to supporting documentation whether digital or scanned.

SMSFs allow only four types of deposits: contribution, rollover, investment income or proceeds from the disposal of an asset. Similarly, balance-reducing transactions come in four types, being expenses, lump sum benefit payments, pension payments or purchase of investments. Each type of transaction will have specific supporting information.

Of course, to a large extent, this process is not yet fully automated in terms of matching document information to transactions. With the development of artificial intelligence, document scanning and smart reading, however, we will see increased processing times and accuracy. This will allow for a timelier transaction process providing members with up-todate information.

Improved compliance outcomes

Proaction is always more favourable than reaction and timely information allows SMSFs to monitor compliance rather than report it. Compliance reporting occurs when the event happened in the past, as is the case with traditional annual in-arrears administration services. Transactions are not monitored

and problematic actions are not identified until the end of the financial year. Regular reporting allows for these transactions to be picked up and rectified quickly.

Strategic planning

Providing members with up-to-date and accurate information allows for better decision-making. Members can avoid tax penalties associated with not satisfying such items as total superannuation balances, contribution caps, transfer balance caps and pension limits.

There is a multiplicity of contribution rules, such as bring-forward nonconcessional, carry-forward concessional and recent retiree rules, all of which depend on a member’s total superannuation balance. Tracking both the total superannuation balance and contributions simplifies year-end contribution planning.

For pension members there are similar considerations, the first of which is ensuring the minimum pension level for the financial

Continued on next page

It is now possible, through the use of sophisticated software and administration services, for SMSFs to have and provide information to their members on the same basis as APRA funds.

Continued from previous page

year has been met. The consequences of not doing so include tax penalties. Pension members should also be able to identify when they have reached their minimum pension level so they can consider what extra withdrawals to take and how to treat them. Knowing how much a member has started with in a pension is pivotal in determining whether or not they have the capacity to start additional pensions in the future, which could come about through the death of another member.

While ultimately the ATO is the repository of all information relating to total superannuation balances, contribution caps and transfer balance accounts, it is not always accurate due to the cycle of reporting for SMSFs. It is therefore important to make sure all SMSF records are kept up to date. This allows a member to use a combination of both ATO data and other SMSF data when determining their

capacity to either make contributions or commence additional pensions.

Of course, this will also enable advisers and accountants to assist their clients in monitoring these key thresholds. The plans that derive from this can ensure clients maximise their retirement savings and avoid negative outcomes.

Future state

One thing we need to recognise is that the SMSF sector is a key element and a significant player in Australia’s retirement savings system. It represents over a quarter of all superannuation monies yet is the sector that provides information to regulatory and government bodies on the slowest (almost a year after the fact) and least frequent, often annual, cycle. It is unlikely this trend will continue forever as SMSFs continue to play such a large role in the system. It can then be expected more frequent reporting will become necessary and this will require administration systems

with greater sophistication.

We are already seeing this play out from October 2021 with the movement of rollovers and some release authorities to an all-electronic structure via SuperStream.

Members often move from an APRA fund to an SMSF for greater control and may wish to have access to information at the same frequency they had previously.

A better estate planning path: part one

SMSF estate plans are increasingly being challenged in court, resulting in scrutiny over traditional techniques to allocate death benefits. In part one of this two-part series, Grant Abbott details an alternative strategy that could result in better outcomes.

The following is a famous quote from author and lateral thinker Edward de Bono: “There is no doubt that creativity is the most important human resource of all. Without creativity, there would be no progress, and we would be forever repeating the same patterns.”

In the SMSF world never a truer word has been spoken. The industry seems to be filled with lawyers, commentators and advisers who prefer to say “no” or “it’s too hard” or “you have to come to me for advice on how to do that”, even though they then

disclaim all liability after weeks and many thousands of dollars in fees. No creativity whatsoever, but I guess compliance heads and lawyers tend to look for problems rather than innovate.

A case in point

The federal government, to its credit, and something I have been pushing since the 1990s, recently increased the maximum number of members allowable in an SMSF from four to six. This enables

GRANT ABBOTT

is the founder of LightYear Docs.

the expansion of an SMSF to a family super fund, something that is long overdue. Family super funds are something I have been talking about since 2000 and can show the 10 benefits in running a family super fund compared to a simple SMSF. This includes, among others, the whole family being able to house their superannuation benefits in one fund, thereby decreasing costs, the ability to access family group SMSF insurance, allowing separate investment strategies akin to wrap accounts for members, testamentary trusts flowing from the SMSF rather than the estate, paying sickness benefits and much more. The creative innovation will continue, in my mind anyway, but we see a lot of backward-looking attitudes, generally from the legal profession, for example, labelling the measure as a solution looking for a problem.

Are you an early adopter or a laggard?

Diagram 1 on the product or service life cycle is simple. For those who have

not seen it, we start with an idea then innovate, create and develop that idea into a service or product, which enables the early adopters to take advantage of it. After a while the idea or strategy gains momentum before the early majority take it up. Eventually it flows to the late majority and then finally to the laggards. However, I have to say laggards are laggards and may take centuries to change.

Another case in point

The push to cloud computing saw many early-adopter accountants use Xero and other cloud-computing and accounting platforms. This practice then started moving into the early majority, but there were still many holding out, worrying about security and other issues, preferring to keep all data on premises. Then came COVID and with that lockdowns and border closures, which really shifted the needle and forced even the laggards to move. You cannot hold off change forever.

BDBNs are a laggard product

We have all heard of a binding death benefit nomination (BDBN) in terms of superannuation estate planning. They have been around forever and are at the laggard end of the product and service spectrum. There has been a lot written on them, lots and lots of cases challenging them and the tax commissioner even talks about the use of BDBNs and SMSFs in SMSFD 2008/3, noting: “Section 59 of the Superannuation Industry (Supervision) (SIS) Act 1993 and regulation 6.17A of the Superannuation Industry (Supervision) Regulations 1994 do not apply to selfmanaged superannuation funds.”

Now that is a turn up for the books. The commissioner is saying the BDBN laws do not apply to SMSFs.

Who is a BDBN for?

BDBNs are for industry and retail

Continued on next page

Diagram 1: The life cycle of a strategy, service or idea

Continued from previous page

superannuation funds, where members are not involved in the decision-making process. Without a BDBN, the trustee of the superannuation fund would have complete discretion and a long decisionmaking process as to how a deceased member’s super benefits are to be paid. As a result, there is such a huge backlog of cases in the superannuation division of the Australian Financial Complaints Authority (AFCA). The former Superannuation Complaints Tribunal had more than 10,000 death benefit cases for review prior to the restructure that established AFCA. After all, any dependant or executor of the deceased’s legal estate can challenge a public offer fund trustee’s decision-making process in relation to the payment of death benefits unless there is a BDBN.

And then we have some experienced SMSF specialist lawyers who openly state there is no BDBN that is not unchallengeable.

Given the commissioner of taxation has issued a determination that the BDBN laws do not apply to SMSFs and specialist practitioners admitting these arrangements are up for challenge, you would have to ask why any adviser would prepare or even recommend a BDBN for an SMSF.

And if an adviser gets it wrong, clients can take legal action against them under section 54C and 55(3) of the SIS Act to recover losses and damages from any person who has missed out as a result of a faulty BDBN.

A better way for the early adopters

Normal estate planning deals with how to distribute a testator’s estate upon their death and involves the use of a will. SMSF estate planning is the creation of a plan on how to distribute a member’s superannuation benefits in a written plan upon their death.

The tax commissioner in SMSFD 2008/3 has stated his views as follows: “The payment of death benefits from a superannuation

fund is determined in accordance with the governing rules of the superannuation fund and not in accordance with the terms of the deceased’s will. A member can make a death benefit nomination that is a binding direction on the trustee of an SMSF if that is provided for in the governing rules of the fund.”

In short, the commissioner has ruled that a member of an SMSF can make a set of directions, gifts and bequests in relation to their superannuation estate, in much the same way as their will, provided it is allowed under the fund’s deed or governing rules.

The SMSF will

The SMSF will is any document accepted by the trustee of the fund dealing with the transfer of a member’s benefits in the event of a their death. An SMSF will is binding on the trustee, both past, present and future.

Each trust deed and set of governing rules will have a different description of an SMSF will and what it means. Many SMSF deeds do not provide for these arrangements and are still offering the challengeable BDBN.

For example, the LightYear Docs SMSF will document, which is tied into and forms part of the fund’s governing rules, states the following about an SMSF will:

An SMSF will, consisting of a set of binding directions (see SMSFD 2008/3), is an important legal document that becomes part of the governing rules of the fund detailing how a member seeks to provide superannuation death benefits to their dependants, non-dependants or legal estate in the event of their death.

In creating an SMSF will, among others, there are several possibilities:

• the provision of a superannuation lump sum — by way of cash or specific assets to dependants and/or the deceased member’s legal estate,

• the payment of a superannuation income stream to dependants (as defined for taxation purposes) of a deceased member subject to the SIS Act,

• the payment of a reversionary

superannuation income stream to a dependant subject to the SIS Act. A reversionary pension is the continuation of an existing superannuation pension that was payable to a deceased member of the fund,

• the payment of an adult child dependant’s benefits directly to the child or to an SMSF testamentary trust to protect the benefits and protect from any legal challenge to the estate, and

• where a member of an SMSF has more than one superannuation interest in a fund consisting of varying tax-free/ taxable components — the choice of allocating from these interests to various dependants and non-dependants.

Six component parts to an SMSF will

In the next part of this series, we will look at the six key components of an SMSF will and why they are so important and reliant on each other. The six components in headline form are:

1. Revocation of prior SMSF wills and BDBNs – how can you prove which is which if the earlier is not revoked.

2. Reversionary pension to take precedence or not.

3. Whether the member’s executor or their legal personal representative takes the deceased member’s place as trustee of the SMSF as per section 17A(3) of the SIS Act

4. How the deceased’s superannuation benefits are to be distributed and whether they will be paid directly to the beneficiary or beneficiaries, be placed into an SMSF testamentary trust, be used to fund a pension, or be included in the estate. Also, if the primary beneficiary is not alive, or renounces their entitlement, who the next beneficiary is and so on.

5. Who is the adviser to the deceased’s SMSF estate? This is a binding forward services contract.

6. If the fund is held to be non-complying, what is the default option?

When more than one is better

There is no restriction to the number of pensions that can be commenced and supported within an SMSF. Tim Miller argues the case for employing a multiple-pension strategy.

The approach toward SMSF pensions fundamentally changed on 1 July 2017. The introduction of the transfer balance cap meant we no longer had unlimited opportunities with regards to commencing pensions. However, we still have strategic opportunities that will allow us to reduce personal tax liabilities for both the receiving member and any non-dependent beneficiaries they may have.

ATO Taxation Ruling (TR) 2013/5 – Income tax: when a superannuation income stream commences and ceases, has been under review since super reform took hold in 2017, but still holds the key to how pensions operate in the eye of the regulator.

One concept that should always be top of mind, particularly as contribution rules expand, providing greater opportunities to add money over a longer

period, is whether SMSF members should have one or more pensions.

Preservation age

Pension strategies witnessed a significant event on 1 July 2021 because that date heralded the introduction of transfer balance cap indexation for the first time. It was also a key date for people born in or after 1963 as those born prior to 1 July 2021 can now access their superannuation, whereas those born on or after 1 July 2021 have to wait another year with the increase in the preservation age to 59.

Preservation age is obviously the key to commencing a transition-to-retirement income stream (TRIS) and is really our first opportunity to start pension planning.

TRIS in accumulation

A member who has attained preservation age but is under 60 will still, in many instances, benefit from a salary sacrifice and TRIS strategy. As highlighted above,

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TIM MILLER is education manager at SuperGuardian.

preservation age is creeping ever so closely to age 60, so while there may be only a small tax benefit in the first year or two, there will be a greater benefit once the pension payments are no longer taxable to the individual from age 60. This is the case even though the fund is not entitled to exempt current pension income (ECPI) deductions while the TRIS is in accumulation phase. As will be highlighted below, multiple pension interests can provide future taxation benefits to members and a TRIS is the first opportunity for this to arise. Therefore, it is important to recognise that despite the lack of access to the ECPI deduction, the use of a TRIS can be valuable for many other purposes. As stated above, pension planning should start at preservation age, not retirement age.

Pension commencement

The key to pension commencement, as derived from TR 2013/5, is when the ATO considers a pension has started. The terms and conditions of the pension will determine the commencement date, but it cannot precede the date that the member requests/applies for the pension. Further, to be considered a pension, including a TRIS, the rules must not allow the capital supporting the pension to be added to by way of contribution or rollover after commencement. Therefore, the first thing to be considered by a member wishing to commence a pension is whether or not all the necessary monies have been added to the fund by way of rollover or contribution.

Multiple pensions

What is important about the timing of rollovers and contributions is the concept of pension interests. As we know, a member of an SMSF can have more than one pension interest and once a pension commences, it is always to be treated as a separate superannuation interest. This concept also applies to a TRIS in accumulation, which as identified above can still provide benefits to members.

The use of multiple pension interests is generally determined by the needs of the members, often with reference to estate planning. Tax-free and taxable components calculated at the commencement of a pension apply to all pension payments and superannuation lump sums from that interest, therefore if a member is looking to direct particular benefits to particular beneficiaries, then the use of multiple interests may be an appropriate way to achieve this.

Example

Michael, 66, has a $500,000 accumulation balance that is 100 per cent taxable. He has the ability to contribute up to $330,000 as a non-concessional contribution. As part of his estate planning he wants to split his superannuation benefits between his second wife and his adult child from his first marriage. Step 1 – Michael commences a pension for $500,000 (100 per cent taxable) that is reversionary.

Step 2 – Michael makes a contribution of $330,000.

Step 3 – Michael starts a second pension for $330,000 (100 per cent tax-free).

Michael makes the first pension reversionary to his wife. The second pension is subject to a binding death benefit nomination to his child in accordance with

the trust deed and pension contract. Tax law dictates the reversionary pension will be tax-free to the spouse, whether paid as a pension or lump sum. However, as Michael has commenced the second pension with benefits that are entirely tax-free, all earnings will also be attributable to the tax-free component of the fund, meaning upon his death the entire amount will be paid tax-free to his adult child. Had Michael not made this split and started one pension, then any benefit paid to the adult child would have only been 39.75 pre cent tax-free and a tax liability of 15 per cent plus the Medicare levy would have been payable on the balance.

Pension cessation

The ATO has identified what it perceives to be five common events when a pension ceases:

• the capital of the pension is exhausted,

• the pension is fully commuted,

• a fund fails to comply with the pension rules, that is, the trustees fail to pay the minimum entitlement in accordance with Superannuation Industry (Supervision) (SIS) Act and SIS Regulations payment standards, and

• death where no automatic reversion exists.

The SIS payment standards concept isn’t all that common as it relates to the payment of a death benefit income stream to a child. The rule is the pension ceases when the child turns 25 unless they are disabled.

Of these events, commutations are the most strategically driven, albeit, as highlighted in the above example, most strategies will have an estate planning focus, it’s just that you have more control over the timing of commutations.

Why commute a pension?

These days people can stop and start pensions as regularly as they like once attaining preservation age. The reasons can be for any purpose, but are often summarised by the following three events:

• roll back to accumulation – capital preservation,

While there are fewer pension strategies available in today’s environment, running multiple pensions is one that can provide many benefits.

• commence a new pension – add additional contributions, and • SMSF wind-up or transfer of benefits to another fund.

The ramification of commuting a pension in the retirement phase is that the fund will lose its exempt pension income deduction and as a result tax will apply on fund income beyond the commutation. The more significant ramification from a tax planning point of view is that a member’s tax-free and taxable proportions will no longer be fixed once a pension ceases, other than on commutation due to death.

If we accept the purpose of the commutation is to revert to accumulation for capital preservation, then the expectation is the tax status will change, so specific planning is not necessary, unless the sale of a significant asset with large gains is looming.

Commute and repurchase

If a member has commenced a pension and makes subsequent contributions to their fund, they can elect to refresh their pension by commuting the existing pension and commencing a new pension, or they can run

with multiple pensions, as seen with Michael’s example above. However, the member needs to be aware of the following issues.

Pro rata minimum requirements

If a member elects to commute their pension, they must prorate the minimum payment up to and including the day of the commutation. This means if a member elects to commute their pension on 1 July, there must be a prorated pension paid for one day. If a member commences a new pension with the additional contribution, then in addition to the pro rata requirement on the pension they have commuted, they have an obligation to pay the prorated minimum pension for the number of days from commencement until 30 June, unless the pension commences on or after 1 June.

Multiple pensions

Similar to the concept of whether multiple pensions should be commenced to isolate concessional contributions from nonconcessional contributions, the pro rata requirements should be considered when determining whether to stop and restart a pension or whether to run multiple pensions. If a member elects to run a new pension while retaining an existing pension, then they will still be required to pay the pension for the full year on the existing pension, however, the pro rata for the new pension is only on the new capital amount, not the combined capital amount. Michael’s example highlights this situation.

Example

For the purposes of this example, no 50 per cent discount is applied to the minimum pension as those rules will only apply in 2021/22. Michael, 66, has a $500,000 account-based pension from which he currently draws down $25,000 annually in December. He makes a $330,000 nonconcessional contribution on 31 December. At the time of the contribution, he requests the trustees commute his existing pension and commence a new pension effective

1 January. On the assumption there have been no earnings in the fund for the year, the new pension commencement value is $805,000.Based on the new pension, the prorated pension for six months is $19,960. If Michael commenced a pension for just the $330,000, the minimum pension would have been $8180. When we combine these two scenarios with the $25,000 already drawn down, we get the following results:

Two-pension strategy = $33,180 (keeps the existing pension in place)

One pension strategy = $44,960

Michael has drawn over $11,000 more than he could otherwise be required to draw. While that might not be an issue, the point of the example is to highlight there are options.

Commutations and the transfer balance cap

Of course, the other thing that needs to be factored into all of this is the transfer balance cap. Clearly in Michael’s situation there is no transfer balance cap issue. However, if he had commenced a pension closer to $1.6 million prior to 1 July 2021, and then was looking to commence a second pension or consolidate after 1 July 2021, he would need to factor in how much indexation he would be entitled to, but also would need to consider the value of the existing pension and what debit that would produce to his transfer balance account should he adopt the commute and repurchase strategy. The multiple-pension strategy does simplify transfer balance account management.

Summary of pension issues

While there are fewer pension strategies available in today’s environment, running multiple pensions is one that can provide many benefits. As highlighted above, it is clear the effect they can have on estate planning, satisfying minimum pension obligations, but also on reducing personal tax liabilities. As is always the case, an individual’s circumstances should dictate the strategy options.

Preservation age is obviously the key to commencing a transition-to-retirement income stream and is really our first opportunity to start pension planning.

The obscure property risk

SMSFs holding property and entering into associated building contracts may well be unknowingly in contravention of the superannuation rules. Dan Butler and Bryce Figot explain how this could happen.

SMSFs appear to have a great appetite for investing in real estate and becoming involved with making improvements to property, and, in some cases, property development.

However, while SMSFs frequently invest in property, many do not carefully review and negotiate their building and similar contracts to delete or exclude provisions that may result in contraventions of superannuation law.

SMSFs investing in real estate

The ATO figures (as at 30 June 2020) reveal around 22 per cent ($160.8 billion out of the total $733 billion) of total SMSF assets are invested in Australian real estate and this does not reflect the value of property held via listed and unlisted unit trusts and companies. This results in many SMSFs entering into a range of building and similar contracts, including construction, repairs, improvements, renovations and

DANIEL BUTLER

(pictured) is a director and BRYCE FIGOT is special counsel at DBA Lawyers.

more large-scale property developments. Surprisingly, most building contracts contain provisions that can easily result in contraventions of the Superannuation Industry (Supervision) (SIS) Act 1993 and Superannuation Industry (Supervision) Regulations 1994. In our experience, we have found many are unaware of these risks and do not carefully review their contracts or obtain input from lawyers with SMSF expertise in relation to the ramifications of such agreements.

Charging clauses in building contracts

Builders and tradespeople often take on a large financial risk with payment usually occurring at key stages of completion of their work. During this time the builder often incurs expenses for materials, equipment, labour, sub-contractors and a wide range of other costs. Naturally, builders expect to be paid for their services. Thus, it is standard practice that building and similar contracts include clauses enabling the builder to place a charge, mortgage, lien, encumbrance or security interest (referred to as the builder’s charge) over property to secure payment. These provisions are solely designed to ensure the builder gets paid and can recover any outstanding fees, costs, interest on overdue payments (usually at penalty interest rates) and any legal recovery costs.

While builders and other suppliers may not formally register a builder’s charge over the property until the client falls into default or a dispute arises, these ‘charging’ provisions in contracts constitute a charge that contravenes regulation 13.14 of the SIS Regulations, which states: “For the purposes of subsections 31(1) and 32(1) of the act, it is a standard applicable to the operation of regulated superannuation funds … subject to regulations 13.15 and 13.15A, the trustee of a fund must not give a charge over, or in relation to, an asset of the fund.”

The term charge is defined in regulation 13.11 as follows: charge includes a

mortgage, lien or other encumbrance.

There is no requirement to register a charge for a contravention to occur. Registration of a charge on legal title only provides an effective notification to others about the existence of a charge such as a mortgage registered on title to land.

In Griffith v Hodge, the Supreme Court of New South Wales, citing Justice Helsham in Graham H Roberts v Maurebeth Investments Pty Ltd, held that where there is a clause in a building contract provided for a charge on the proprietor’s land as a form of security for payment, this clause by itself created a valid equitable charge.

Justice Waddell stated at 9475: “The charge given by [the contract] extends to amounts which might become due in the future. The builder therefore had an interest

in the land which he was entitled to protect against the possibility that moneys would become due and owing and enforceable under the charge in the future.”

Waddell also stated that the clause enabled the builder to lodge a caveat to protect his interest in the land and this interest would continue until it was finally determined whether or not money is owing by the plaintiffs to the defendants pursuant to the building contract.

The Personal Property Securities (PPS) Act 2009 also allows builders to register a security interest in respect of personal property, such as building materials and equipment. Builders are encouraged to register their security interests so in the event the client (that is, the grantor of the interest) becomes insolvent, their registered security interests can be enforced under the Corporations Act 2001 and take priority over any unregistered security interest.

Potential risks with SMSF building contracts

The risk of contravening the SIS Act and SIS Regulations arises where an SMSF trustee enters into a contract that contains clauses enabling another person, in these instances the builder or tradesperson, to place a builder’s charge over an SMSF asset, such as real or personal property. If a builder’s charge is in place, the trustee will have contravened an important operating standard.

Many advisers are unaware the mere existence of wording in an agreement, by itself, is sufficient to constitute a charge that can result in a contravention. Indeed, an equitable charge arises where a person such as a lender holds title to real estate even though there is no mortgage or other charge registered on title.

On the other hand, many advisers are aware that once a mortgage is registered on title of real property or when a security

While SMSFs frequently invest in property, many do not carefully review and negotiate their building and similar contracts to delete or exclude provisions that may result in contraventions of superannuation law.

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interest is registered under the PPS Act in relation to personal property, then a contravention occurs under regulation 13.14. Many SMSF auditors search for charges over property owned by an SMSF. However, many advisers and SMSF auditors may not be undertaking appropriate searches for unregistered or equitable charges.

In relation to SMSFs investing in contracts for difference (CFD), the ATO has noted in ATO ID 2007/57 that the trustee provided a charge over fund assets by entering into an agreement under which fund assets were deposited with a CFD provider in fulfilment of the fund’s obligation to pay margin calls. The terms of the agreement stated the circumstances in which the fund’s assets would be realised and showed an intention to create a charge over those assets. By entering into the agreement with the CFD provider, the trustee contravened regulation 13.14 of the SIS Regulations, which is an operating standard under the SIS Act and a contravention under section 34(1) of that legislation.

Potential adverse consequences

There can be severe adverse consequences

for both the SMSF and its trustees/directors for contravening the SIS Act. These can include:

• the imposition of administrative and civil penalties,

• the fund being stripped of its complying fund status and losing its concessional tax status, thus having to pay considerable tax, penalties and interest thereon, or the SMSF trustees/directors being

disqualified from acting as trustees/directors of an SMSF in the future.

Further, if the SMSF trustees/directors enter into a building and similar contract with a related party, this may potentially give rise to additional issues, including:

• engaging in non-arm’s-length dealings with potential section 109 of the SIS Act or non-arm’s-length income risks under section 295-550 of the Income Tax Assessment Act 1997, or

• providing financial assistance to a fund member or relative by entering into a building contract with potential consequences under section 65 of the SIS Act

Potential solutions

Invariably, a number of clauses may need to be revised or deleted from most standard or pro forma building and similar contracts. These requests may prompt some resistance from builders and other suppliers who seek to retain these clauses for obvious reasons. Accordingly, this may require delicate negotiations and may require the parties to seek other options to encourage the builder or other supplier to proceed with a revised contract.

Many advisers are unaware the mere existence of wording in an agreement, by itself, is sufficient to constitute a charge that can result in a contravention.

A structure complementary to super

Superannuation balances can be effectively complemented with private companies for a more sound investment wealth structure, but, as with all financial decision-making, it requires careful planning, Michael Hutton writes.

While we all take different financial paths in life, there are a few basic road maps that investors should try and follow in order to provide some peace of mind as retirement age draws closer.

The key to building wealth is not necessarily an ability to invest in the next big investment trend or picking the eyes out of the share market. As simple as it sounds, the secret to wealth creation is earning more than you spend, coupled with effective and efficient planning.

There are multiple strategies that could be considered when building wealth, but they should all focus on three key areas: reducing debt, increasing investment wealth in the right structure and superannuation planning.

Increasingly, the latter two strategies are intertwined. In the past, many investment strategies centred on accumulating wealth within superannuation funds to gain access to attractive tax benefits. This has been stymied in recent years due to the imposition of caps and strict limits on amounts that can be contributed to superannuation.

Investment restrictions, limitations on accessing benefits and the requirement to wind up superannuation upon death also impinge on the attractiveness of super as a means of accumulating substantial levels of wealth.

So other structures for accumulating investment wealth have become more prevalent. Investments can, of course, be held personally or jointly. But to

MICHAEL HUTTON is wealth management partner with HLB Mann Judd Sydney.

improve tax efficiency and asset protection, many are turning to the use of family trusts or investment companies as their structure of choice.

Using a blend of a trust and private company structure can often work well where investments such as substantial capital growth assets or concessionally taxed assets are invested in a trust and the balanced portfolio in the investment company.

Looking at the different structures

Retirement savings, primarily through superannuation, is often the second largest asset people have, but you don’t own your super, it is held in trust for you.

All working Australians have some form of superannuation fund, but wealthier individuals have often also used the structure of a family trust to hold their wealth.

The benefits of building wealth within a family trust have long been obvious and come down to tax effectiveness and accessibility of funds compared to superannuation.

However, for some families, establishing a private investment company through which to funnel additional wealth can be equally, if not more, effective than a trust.

Investment companies are increasingly being viewed by wealthy families as a simple and effective wealth management vehicle. An investment company is perpetual and makes an ideal investment structure for families looking to build and protect their assets for future generations. Families should review their investment structure periodically to ensure it is continuing to meet financial goals.

There are a number of benefits to be derived from having this type of structure in place, including access to the 30 per cent corporate tax rate, discretion to distribute or reinvest some or all the income and shareholders being able to receive franking credits on dividends.

Conversely, there are some restrictions to this structure that people will need to carefully consider when weighing up an

investment company versus a trust structure. The main one is an investment company doesn’t attract a 50 per cent discount on capital gains crystallised like individual beneficiaries of a trust would.

Why a private company structure?

People can establish private companies for various purposes, including to hold their investments, and they subsequently become shareholders and directors of the company.

Importantly, it can be problematic to borrow money from your company as it can be seen as being a dividend paid from the company, which is then required to be recorded in the tax returns of shareholders as unfranked dividends and so is not tax effective. Alternatively, interest may need to be charged.

However, there is no such problem if you lend money to your company. There is no need for interest to be charged to it by you. So, for those who have money to invest, they could lend it to their investment company and have the company invest the money. The benefit of this is that the company then generates investment income, but only pays tax at the 30 per cent company tax rate. This may be a lower rate than individuals would pay on that same investment income.

The money loaned to the company can also be recalled at any time, either as a lump sum or in instalments.

The loan account can be topped up by having the company declare a regular dividend to the shareholders, which is then credited to their loan account. Sometimes no tax is payable by the shareholders on this dividend, as the dividend comes with tax credits, or franking credits, that may cover the tax otherwise payable.

This structure might be used where there is a substantial amount to be invested, more than can be contributed to a super fund.

Another benefit of private investment companies is they can be an appropriate and effective means for estate planning. The company survives the death of the

shareholders and their shares are simply passed on through their estate to the beneficiaries. Arrangements can be left intact, if that is the family’s wish.

Why not a family trust?

A family trust can be used in a similar way, but the tax situation is likely to be different, depending on particular circumstances. Trusts are a popular choice for families and their advisers because they inherently provide asset protection, allow income to be distributed flexibly in line with the family’s wishes and enjoy a range of tax concessions (see breakout).

Because none of the trust assets are owned by the beneficiaries, these assets can potentially remain relatively safe even if, for example, a beneficiary becomes bankrupt or owes money to someone under a court order.

However, to achieve the maximum level of asset protection, the trustee must also consider any debts the trust owes to members of the family. For instance, a common situation occurs when a mum and dad lend money to their family trust so the trustee can use it to make investments, with the money being recorded as a liability of the trust. In this case, creditors of the mum and dad may still be able to access the assets in the trust in a debt recovery procedure.

Further, trust taxation is a complex area. Over the years, various governments have introduced more tax legislation to tighten the tax-effectiveness of the trust structure and there will likely be further reform in the future. While a trust structure still has many benefits, it’s a complicated arrangement. Trustees should consult the trust deed and consider seeking professional legal and tax advice in order to properly discharge their responsibilities.

So, for families looking for ways to manage their money in a tax-effective way and to pass that wealth on to their children

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and grandchildren, what are the options?

Superannuation may not be the most effective way to pass on wealth to your children as, upon death of the member, the asset balance must be paid out, with the exception of where the benefits revert to a spouse. Some of the most popular structures have been family trusts and investment

companies. They each have pros and cons and, in some cases, it makes sense to use both. They are more flexible and accessible than super, and certainly worth considering when large sums, say amounts in excess of $1 million, are to be invested.

It is worthwhile getting the structure correct upfront as reorganising investments later can be costly in terms of fees and tax.

Ultimately, the choice to establish a

private investment company vehicle in which to channel non-super-directed balances will be based on the individual needs and circumstances of an individual and their family. Inadequate planning can have dire consequences on family members, however, knowing the benefits achieved through a private company structure will assist with making more informed investment decisions for Australian families.

PRIVATE INVESTMENT COMPANIES V TRUSTS: THE PROS AND CONS

Tax: Family trusts are typically not taxed themselves; instead, taxable income is allocated among family members and can be decided on year by year. This is useful for using up lower tax thresholds of family members, but may be problematic for large portfolios that generate a lot of income, which may end up being taxed at the highest individual marginal tax rate.

Investment companies, on the other hand, pay their own tax, usually at a flat 30 per cent. However, they can have different share categories, which means dividends can be paid tax effectively to recipients on lower tax rates. In addition, investment companies don’t have to distribute income each year and can instead accumulate and reinvest wealth. When it comes to capital gains, they don’t qualify for a discount and the full company tax rate needs to be paid, but it is only incurred when an asset is actually sold. As a result, assets can be held for many years and grow in value without capital gains tax being payable until eventually sold.

Access: A key issue with superannuation is the funds can only be accessed on retirement or meeting another condition of release. Both family trusts and investment companies offer much greater access, but there are still some issues to consider. Distributions can be loaned back to a family trust by beneficiaries for reinvestment. However, this does create a liability for the trust to pay that individual at some point. In addition, loans to the trust can be recalled.

Similarly, with investment companies, dividends paid out can be loaned back to the company, or not declared in the first place and, like family trusts, loans to the company can be

recalled. However, loans from the company are problematic as they can be treated as unfranked dividends or subject to interest and repayment rules.

Estate planning: Both family trusts and investment companies are much more suited to estate planning than superannuation. With family trusts, when a trustee dies, a new trustee will need to be appointed, but otherwise the trust can continue uninterrupted, although family trusts typically have a lifespan of 80 years.

Likewise, new directors of an investment company will need to be appointed upon death of an existing director, and the shares in the company can be simply passed on or bequeathed to beneficiaries, including to their testamentary trusts, if established. It’s also a very tax-effective vehicle as there is no tax payable at this point and the company can continue indefinitely.

Asset protection: This is one area where superannuation is very effective as a complying fund is treated as exempt property when it comes to the bankruptcy of a member.

The terms of the deed of the family trust will be important in dictating the level of asset protection provided, but there is the opportunity to provide some degree of protection.

Investment companies also offer some asset protection through their status as a limited liability company.

Compliance costs: Both family trusts and investment companies need to have tax returns and accounts prepared each year. But there is no need for an audit as there is with SMSFs.

Flexibility versus rigidity in death

Traditional binding death benefit nominations can be unbending in their nature, but flexibility can be included in these instructions to provide better solutions for particular circumstances, writes Jeff Song.

In a world where superannuation is increasingly becoming a major asset for many Australians, we are seeing a greater propensity for disputes over its associated death benefits. According to the Association of Superannuation Funds of Australia, superannuation assets totalled $3.1 trillion at the end of the March quarter 2021, representing an increase of 3.1 per cent over the preceding 12 months. Given the above statistics, it makes sense many now value certainty and control over who will receive their retirement savings benefits upon their passing.

A bespoke, flexible death benefit nomination provides this important level of control in a number of areas where the member’s family has particular needs and vulnerabilities that can be improved with careful planning and drafting of the nomination.

SMSF trustees and members should not rule out the potential benefits of having flexibility in their death benefit nomination as it can be a useful tool to achieve the optimal outcome for the beneficiaries. No one knows the exact timing of their death and in certain circumstances a flexible binding death benefit nomination (BDBN) can better serve the intended purpose than a more prescriptive BDBN as the strategic value of this type of measure is more likely to be undermined with any material change in circumstances after the inflexible nomination has been made.

The option of flexibility is only afforded to SMSFs

One of the beauties of SMSFs is members have a

JEFF SONG is superannuation associate division leader at Townsends Corporate and Business Lawyers.

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choice to be flexible with the directions in their BDBNs. It is now widely accepted by the courts that section 59 of the Superannuation Industry (Supervision) (SIS) Act 1993 and the binding death benefit rules in regulation 6.17A of the SIS Regulations 1994 only apply to Australian Prudential Regulation Authority (APRA)-regulated funds and not SMSFs. Further, members of APRA-regulated funds don’t have much control over the fund’s governing rules, whereas SMSF members have the option of amending the governing rules within any applicable parameters set by the SIS Act and the SIS Regulations. Accordingly, BDBNs used in relation to APRA-regulated funds are not afforded the same level of flexibility and the member’s decision in most cases would only extend to completing a designated form naming who will receive a specified proportion of their death benefits. Any other decisions are ultimately at the trustee’s discretion or at least require trustee consent.

With SMSFs, members can go beyond simply nominating which of their dependants will receive benefits. Not all SMSFs are afforded the same level of flexibility though as it is the applicable trust deed for the superannuation fund that is paramount when it comes to how a valid death benefit nomination can be made in relation to the fund. It is therefore critical to the success of any superannuation death benefit planning that the trust deed is carefully reviewed, amended if appropriate and strictly followed. With appropriate legal advice, members can choose the level of flexibility that best suits their needs.

Flexibility as an asset protection strategy

The controller of the fund after a member’s death will have the maximum level of flexibility if there is no death benefit nomination made by the member. Consider a non-blended and close-knit family of

husband, wife and two adult children. They are members of an SMSF and each of them trusts the surviving family members will look after each other’s best interests at heart. Their main objective is to allow their surviving family members to flexibly allocate the deceased’s super death benefits among themselves and they are not concerned about any potential disputes. The husband, William, intentionally did not make any BDBN for this purpose. He passed away recently and shortly after one of the two adult children, Bruce, became bankrupt. Pursuant to the terms of William’s last will, Bruce’s entitlement from the estate is significantly reduced by an asset protection provision due to his bankruptcy.

In the absence of a BDBN, the SMSF can be a special kind of family trust for William’s SIS dependants with the benefit of protection against bankruptcy. As confirmed in the case of Trustees of the Property of Morris (Bankrupt) v Morris (Bankrupt) [2016], death benefit payments from superannuation funds are exempt from being divisible among creditors under section 116(2) of the Bankruptcy Act 1966. Accordingly, the family has the option of providing James with an increased share of William’s superannuation death benefit, which payment of will be protected from James’s creditors.

If a BDBN was in place to give 100 per cent in favour of the wife or to William’s estate, the family would have lost this opportunity to use the asset protection benefits to assist James. The case of Cunningham (Trustee) v Gapes, in the matter of Gapes (Bankrupt) [2017], confirmed the above exemption for superannuation death benefits under the said section 116(2) of the Bankruptcy Act does not extend to payments first made to a third party or to the deceased estate before being distributed to the bankrupt. If, for example, the nominated beneficiary was the wife and she decides to give some of her benefits to James, any such payment will be deemed to have first been made to her as the nominated beneficiary

before being paid to James and therefore will not be protected against James’s creditors.

For this no-nomination strategy to work it is important to ensure there is no default allocation rule in the applicable trust deed. This should involve checking the whole document trail to find and tighten as far as possible any loose ends with previous trust deeds to ensure the latest deed is valid and contains no default allocation rule.

Flexibility for the best interest of the beneficiary with disability

In circumstances where maximum flexibility is not necessary, members can consider a

One of the beauties of SMSFs is members have a choice to be flexible with the directions in their BDBNs.

BDBN with limited flexibility. This can be useful when the member wants certainty their death benefits will be used to provide for particular beneficiaries, but wish to leave the allocation amount and form of payment open.

An example is a member wishing to provide for their disabled child, but without adversely affecting the beneficiary’s financial position and/or lifestyle regarding various entitlements to any social security benefits or eligibility to reside at a special care home.

With a rigid BDBN, specifying the amount in dollar terms and a certain form of payment, that is, lump sum or pension, striking the optimum outcome for the beneficiary as at the date of the member’s death would be implausible. There would be myriad variables as to what is best for the beneficiary at that time, including the timing of the member’s death, the then-applicable federal and state social security laws, eligibility requirements of the special care home, the financial circumstances of the beneficiary and other needs for the beneficiary’s health, maintenance and advancement in life.

Often in these cases, simply providing more money may not be in the beneficiary’s best interest if that would disentitle the beneficiary from receiving a regular pension or from living at the special care home to which they have adapted over many years and is close for their families to visit. An option to consider is to make the amount and form of payment flexible in the BDBN by inserting a mandatory condition to seek and follow professional advice from a financial adviser specialised in planning for disabled people. The advice can factor in the most recent social security rules and other circumstances and determine the appropriate amount and form of payment for the beneficiary.

Flexibility to cater for properties in the SMSF

With direct property remaining a popular investment type for SMSFs, flexibility in

death benefit nominations can help trustees manage liquidity issues associated with death benefit payments. Property is an illiquid asset and it is a common approach for funds with properties to at least give the trustee and/or the beneficiaries the option of choosing the suitable form of payment once the death benefit becomes payable.

For example, a BDBN that is too specific and requiring payment of 100 per cent of the relevant death benefit as a lump sum to the member’s spouse, may not be appropriate if the SMSF has a property that is leased to a family business and has few alternative liquid assets to pay the death benefits. Assuming the family wishes to keep the property in the SMSF, this would put pressure on them to inject funds by way of contribution and rollover in order to raise sufficient cash to pay the required lump sum instead of having to sell or otherwise transfer the property out of the SMSF environment. A flexible BDBN instead could have eased this pressure by giving them an additional option of commencing a beneficiary pension with a value of up to the beneficiary’s personal transfer balance cap. The trustee then would only be required to cash out the remaining balance of death benefits, if there is one,

after commencing the pension.

Extra caution is required with properties subject to limited recourse borrowing arrangements. Many lenders require the loan to be repaid or refinanced if a member passes away. A member should not assume they will outlive the mortgage or that the fund without them as a member would have the financial capacity to refinance the loan. Advice should be sought about having appropriate life insurance in place to help address the potential liquidity issues in relation to death benefit payments.

A member can also be flexible with the description of any share allocated to a beneficiary and is not limited to specifying an amount or percentage. For example, there could be a blended family where the father wants to give his son from a previous marriage the family business premises in his SMSF and give the rest of his superannuation assets to his current spouse. As the value of the property, as well as the value of his death benefits, would inevitably fluctuate over time, an option to achieve the allocation as intended is to state the son’s share by reference to an unencumbered value of the property as at the date of his death rather than specifying the anticipated amount.

Summary

There is no universally correct approach, of course. Where there is a high risk of a dispute, disagreement or misuse of discretion, a rigid BDBN that doesn’t leave any room for discretion or decisions in future could be more appropriate. While the cases of disputes often attract the media attention, this should not be taken as a norm to set a fixed BDBN as the default position for all members of SMSFs. Flexibility is a useful tool available for SMSF members and, after all, it is a matter of balancing the pros and cons of flexibility, given an individual’s circumstances, and making an informed decision whether to use that tool with superannuation death benefit planning or leave it sitting on your shelf for later.

The controller of the fund after a member’s death will have the maximum level of flexibility if there is no death benefit nomination made by the member.

JULIE DOLAN ASSESSES THE LATEST NALE RULING.

The ATO has now released Law Companion Ruling (LCR) 2021/2. It is the long-awaited final ruling on the clarification of the amendments to the non-arm’s-length rules under section 295-550 of the Income Tax Assessment Act 1997 (ITAA). It specifically deals with non-arm’s-length expenditure (NALE) or the non-occurrence thereof in gaining or producing ordinary or statutory income.

As a recap, subsection 295-545(2) of the ITAA defines the income of a complying superannuation fund into two components, being the low-tax and non-arm’s-length income (NALI) components. The concessional tax rate applies to the low-tax component, while the highest marginal tax rate applies to the non-arm’s-length component. The non-arm’s-length component is also excluded from the exempt current pension income provisions.

LCR 2021/2 states that for the super fund to have incurred NALI, there must be a sufficient nexus between the NALE and the relevant ordinary or statutory income or acquiring the relevant fixed trust entitlement. It is important to note, unlike the application of section 8-1 of the ITAA, the NALE may be of a revenue or capital nature, or deductible under a specific provision, provided there is a sufficient nexus to the relevant income for NALI to occur.

This is where it can get nasty. The final ruling has divided NALI from NALE into two areas.

1. Costs that relate specifically to an individual asset. All ordinary or statutory income derived from that asset will be NALI, inclusive of future capital gains. This will occur even if the NALE is subsequently brought to arm’s-length terms

2. Costs that are general in nature and therefore deemed to relate to all income of the fund. Therefore, all income of the fund will be considered as non-arm’s length in nature. A promising change in this final ruling is that general costs will only give rise in the year that they are charged on a non-arm’s-length basis. In relation to SMSFs, the ruling makes specific reference to the capacity in which activities are performed, that is, in the capacity as trustee or

member of the fund. This has provided much industry discussion to date, especially in relation to accounting, investment adviser or real estate management fees.

It is important to note a trustee or director of a corporate trustee cannot be remunerated for trustee duties, however, if the trustee/director is acting in another capacity to which they are appropriately qualified and hold all necessary licences and do not receive remuneration or receive an amount less than arm’s length, the NALE provisions may apply.

It is necessary to carefully weigh up all the relevant facts, circumstances and factors in deciding whether the individual is acting in a capacity other than as trustee, or as a director of a corporate trustee, of an SMSF.

There are still many further questions that will come out of this ruling for further clarity, but it has provided good news in the context on the initial hard stance on the charging of professional fees for professionals doing waork for their own fund, using, for example, company equipment, such as accountants and accounting fees.

It seems the new wording of minor, infrequent or irregular use of equipment or assets will not, of itself, indicate the individual is acting in their individual capacity. For example, an accountant making minor or infrequent use of company equipment will not change the capacity of performing the relevant task as a trustee to as an individual. However, there are still further questions to ask. What about if the accountant then lodges under the firm’s corporate tax agent number or if a financial adviser invests under the firm’s licensee code? Is the work performed covered under the firm’s professional indemnity insurance? How is minor or infrequent defined? How will usage be monitored?

Therefore, even though the ruling is in final form, industry will continue on the journey for further clarity. In the interim, it would be wise to charge the SMSF an arm’s-length fee for services performed by the individual acting in their individual professional capacity and not as trustee.

This ruling is effective from 1 July 2018.

JULIE DOLAN

is enterprise director at KPMG.

I NEVER THOUGHT I’D BE HOMELESS.”

Like many of us, Megan* never thought it would happen to her – she never imagined she would need to escape a violent relationship; she never imagined her own family would turn their backs on her; she never imagined she and her daughter would become homeless and have to live out of their car.

Right now, there are thousands of Australians like Megan* experiencing homelessness but going unnoticed. Couch surfing, living out of cars, staying in refuges or transitional housing and sleeping rough – they are often not represented in official statistics. In fact, for every person experiencing homelessness you can see, there are 13 more that you can’t see.

Together we can help stop the rise in homelessness.