Elephants in the Room Released: SMSF Roundtable - part 2

While a change in government has yet to reveal any impact for the SMSF sector, there is optimism around adjustments to contribution rules, the potential for a non-arm's-length expenditure solution and a definitive ruling on binding death benefit nominations. The selfmanagedsuper SMSF annual roundtable for 2022 asked four leading lights in the industry to dig into the importance of these and other key issues for the months and years ahead.

This second part of the roundtable covers the fund documentation; six-member funds; director identification numbers; cryptocurrency; and transfer balance account reporting.

Participants

Graeme Colley (GC) - SuperConcepts technical and private wealth executive manager.

Meg Heffron (MH) - Heffron managing director.

Claire Mackay (CM) - Quantum Financial principal adviser and director.

Peter Burgess (PB) - SMSF Association deputy chief executive and policy and education director.

Moderators

Darin Tyson-Chan (DTC) - selfmanagedsuper editor.

Jason Spits (JS) - selfmanagedsuper senior journalist.

Fund documentation

JS: Referring back to templated documents, how much of a concern are they?

MH: I think just filling in a binding death benefit template, no matter how great it is, is dangerous. I wish they didn’t exist. I would ask if you care enough and are determined enough to want to dictate, with no flexibility, where your money goes when you die, why would you use a template to do it? You should be getting a lawyer involved to do it properly or not have a binding nomination at all. I would much prefer to see a client without a binding nomination, than putting one in place based on a template. We have a template for our administration clients who really want one and I have a little cringe every time somebody uses it. I’d rather if they really want to have a binding death benefit nomination, they get a lawyer involved who’s done their will.

DTC: Do you feel the same way about off-the-shelf trust deeds?

MH: I don’t know that there’s necessarily a need to tailor a trust deed. Ultimately it’s not necessarily the legal document that makes an SMSF unique, rather it’s what you then do with the SMSF. So I’ve got less of a concern about all SMSF trust deeds looking the same. But a binding death benefit is more like a will so I would rather get the professionals involved.

CM: As an adviser when you know your clients and their family, it gives you an indication of how they operate now and how they may operate in the future. For example, you’d have an idea if they’re happy now, but the rivalry of the children would flare up if they found out the asset values involved. If that were the case, you’d think about whether you need to scrutinise an off-the-shelf trust deed and look at whether there is a need to customise it or actually go and get a specialised one for this particular family.

GC: One of the issues we see as problematic is not the deed itself, but when a death benefit nomination is approved or an amendment is made to an existing trust deed. Often these actions are approved by the trustees when a members’ resolution is required. It means the SMSF will have documents that are invalid. We then refer the clients to lawyers to sort it out. Trouble can also arise when actions are taken in the wrong order and there has to be a deed of rectification put in place to correct the situation.

DTC: Is there a rule of thumb to follow as to when it might be appropriate to use an off-the-shelf trust deed?

CM: There’s got to be a cost-benefit analysis. There’s no point spending thousands of dollars to set up a unique structure if you’ve got less than $1 million in the fund. There has to be an element of proportionality applied. But by the same token the concern is when things do become more complex and a more tailored deed is needed, the trustees show complacency thinking the existing deed has served them well for the past 10 years so why would there be a need to spend money and change it now.

DTC: In general, how would you rate the current standard of SMSF documentation?

CM: I don’t think any of us are going to put their hand on their heart and say 100 per cent of their clients have perfect documentation. There are always going to be elements that have slipped through the cracks or situations where things could have been done better in hindsight. It comes down to the education of trustees. We have progressed to doing things in a more timely manner, which helps, so the days of having an 18-month lag in reporting are gone and that helps. There is also an expectation among trustees who are receiving financial advice and engaging professional service providers that those services include making sure the fund is compliant with its obligations and also that the SMSF’s paperwork is up to date. In politics they say it’s not the crime that gets you into trouble, it’s the cover up, and similarly with SMSFs it’s not what you’ve done, it’s the paperwork that lets you down.

Six-member funds

JS: Taking a look at six-member funds, now that we’re a year down the track, how much interest have they attracted?

PB: I’ve got to say, we don’t see a lot of queries from our members about six-member funds. You know, it was a measure that probably not everyone in the industry thought was needed when you look at the fact most funds only have one or two members. So it was never going to open the floodgates for a lot of six-member funds to be established. It did appear to be quite a targeted measure pitched towards larger families enabling them to run one super fund instead of two, and there are costs and benefits associated with that, as well as advantages of scale. I don’t think we’ve seen any updated figures from the ATO on this. Early data suggested they numbered around 100 after being in play for four or five months. I suspect we are in the hundreds in terms of the number of SMSFs with more than four members. But it doesn’t seem to be a topic that we get a lot of questions about.

CM: Interestingly what I have been asked about in relation to six-member funds is whether it might be appropriate for three couples to get together to buy an investment property together in an SMSF. So it’s the group of friends wanting to get together and combine their super savings to acquire assets who have expressed interest. When the legislation was passed I always thought it was a solution looking for a problem. My concern was around including children in the fund and what it would mean with regard to investment strategies. There is a danger 20 to 30-year-old children might want to invest in a risky asset like cryptocurrencies that could be in conflict to the priorities of their parents. Also, it opens up knowledge of the parents’ financial situation to the children that may not be a desired outcome.

PB: I think one of the positives is it has reignited the discussion around whether you should have your kids in your SMSF or not. We’ve seen a lot of discussion around that as a result of six-member funds being available now. So from an education point of view, I think that’s been of use.

CM: I guess the point is the average membership of an SMSF is 1.9, so say two, and most of them were couples. I just think we can underestimate the prevalence of inheritance impatience and elder abuse if children are included in the parents’ SMSF and it’s probably going to get worse as baby boomers are retiring. Also, with the use of powers of attorney it is like you’re giving a legal forum for elder abuse to flourish, which is really quite scary.

MH: When we had this conversation last year, I think I mentioned that I had this enormous flurry of inquiries about it because it was relatively new then, which took me by surprise because I’m on the same page as Claire thinking it’s a solution looking for a problem. So I was really taken aback by the number of inquiries I got back then. I do have one client who has actually taken advantage of the six-member rule. He is using the SMSF like a training ground for his three daughters. So mum and dad and the three daughters are all in the fund and every year he withdraws $330,000 from his own or his wife’s balance and gives $110,000 to each of the girls and they put it back into the SMSF. So their accounts are growing and they’re making investment decisions being part of the SMSF. He reckons that works fine for them, and it might well do, but I suspect in his heart of hearts he still thinks it’s all his money, which is a pretty scary fundamental disconnect there because it isn’t. I said to him at the time, if they want to roll it out after two or three years, you can’t stop them. It’s their money and they can roll it out if they want to. I always think it is appropriate to set up an SMSF with someone who has routinely shared investments or bank accounts with in the past. For example, I have a friend who lives with a brother and has done so forever. Neither of them have married or had children. Makes perfect sense they would have an SMSF. They own their house together, they do a lot of other things together and that makes perfect sense. Couples commonly set up an SMSF and that makes perfect sense. My kids know exactly what I’m worth, where all the money is, but I don’t really want them in my SMSF though, because I wouldn’t normally invest with them. It’s not about them knowing or not knowing about my financial situation; it’s more about the fact that it’s not really their call where I put my money. So I am yet to be convinced that it makes sense to bring your kids into your super fund in most cases.

Director identification numbers

DTC: The deadline to securing a director identification number for most people is fast approaching. How is the process coming along?

CM: We sent instructions to our clients back in December last year on how to apply for a director identification number. We included really detailed screenshots, told them it was tedious and explained to them why it has to be done. So when clients understand why they have to do something, and the fact if they have all of the required information at hand it will take about 20 minutes, they’re fine. So we’ve actually had quite a good uptake. We also told our clients who are company directors already that the deadline to get a director ID for them is September and not November. We did it because we don’t want them to fall foul of the rules, but also to enable them to avoid any last minute rush that IT systems may not be able to cope with.

DTC: Has the inclusion of different deadlines for different people made the process more confusing and complicated?

PB: Yes it has. There are a few little intricacies in the way some of these dates work. So for people who were already a director prior to 31 October last year, if they’re setting up an SMSF today with a corporate trustee, they’ve got till 30 November to obtain their director ID. We’ve had a few questions from members around that so it seems to have caused a bit of confusion. The other situation causing concern is whether a person was a director on 31 October 2021, but has ceased to be a director and has no intention of taking up a directorship in the future, is required to obtain an ID. The ATO has now confirmed a director ID is not required for these individuals because it doesn’t want the register clogged up with unnecessary ID numbers. In the main I think people are focused on the 30 November deadline, but the requirement for the director of a corporate trustee being established today to obtain an ID before they are appointed director is very important for SMSFs. It emphasises the importance of ensuring the establishment paperwork is done in the right order, these dates are very visible and the ATO can easily check to see if a director ID was acquired when needed.

Crytpocurrency

JS: What are your thoughts about cryptocurrency? Is it too risky to be appropriate for SMSF portfolios?

CM: The beauty of an SMSF is if you want to invest in cryptocurrencies, provided you stick to the rules, you can. I think the concern is that we’re in the very early stages of the asset class. So what it looks like now and what it’s looked like over the last 12 to 18 months, and what it will look like in five years’ time, I think will be very different. The crypto fraud and the stolen wallets are not doing the sector any favours, but you need to sometimes go through these scenarios to allow legislation, proper frameworks and operating protocols to be formulated. The bigger concern is the record-keeping associated with these assets and the fact you may incur tax liabilities from trading coins without actually generating any cash. So you may end up with a tax bill, but have no ability to pay for it. In the SMSF world, record-keeping is a concern because you need to have confidence the fund including those assets can be audited.

MH: You’re right, Claire, I think the blessing and the curse of an SMSF is you have the power to do anything legal and that gives you the right to blow yourself up. It’s a risk for us as a community and for the individuals who choose to blow themselves up. But I think that’s just part and parcel of the very thing that makes SMSFs so fantastic. I’m also conscious that, you know, everything mainstream was leading edge once. So maybe the elements of crypto we worry about now because we don’t understand them will perhaps one day be insignificant and we’ll be looking at cryptocurrencies as just another valid asset class people who can afford to take risk can invest in. After all, some of the assets we now consider mainstream were also once considered leading edge.

CM: The integrity of the crypto industry is under the pump as well because if you can’t provide the records, you can’t address all the security issues associated with the assets. I’m super excited the ATO was quick enough to put an annual return label on this as early as it did. That’s great because the more granular the ATO can get in relation to asset classes, the better we will then be able to see trends emerging and identify where there are compliance issues needing to be addressed. In turn, the resulting legislation or rulings will potentially be much more practical and proportionate to the problem.

PB: There’s plenty of interest in cryptocurrencies. If I look at the experience from our National Conference, one of the sessions with the greatest attendance was the session on crypto and it was a similar scenario at our recent Technical Summit. So there’s certainly plenty of interest from advisers and these sessions were just going through the fundamentals of crypto and understanding blockchain. They weren’t about the strategy side of things. The other thing concerning us is the fact advisers typically can’t give advice on these types of assets because of professional indemnity insurance issues as I understand it. To me that adds another layer of risk. It raises the question where investors are going for their advice on cryptocurrencies.

CM: I think it’s fair to say most advisers are not going to be the first point of contact for someone looking to invest in crypto. If you look at the demographics of those who’ve taken these assets up and where the interest is coming from, activity is not going to be adviser directed. For my clients the discussion has been driven by their 14-year-old grandchildren or their 20-year-old children, and I’m not being dismissive there, I just find it fascinating who is actually leading these conversations. So we are speaking to our clients about cryptocurrency investments, but it’s certainly not in terms of it being a core part of their portfolio or their SMSF. That’s regardless of the professional indemnity insurance issue. I’m more worried about putting together the necessary paperwork.

Transfer balance account reporting

DTC: The ATO recently announced yearly transfer balance account reporting will be scrapped as of 1 July 2023, meaning everybody will be going on to a quarterly reporting cycle. Is everyone in favour of this move?

MH: I’m totally in favour of it because having two reporting timeframes was too confusing. It should just be one or the other. Having said that, I do understand why SMSFs often baulk at shorter reporting turnaround times. There’s always the argument that if the larger super funds can do it, why can’t SMSFs given the access to data feeds and great software they have now. I think the fundamental problem is that because an SMSF has so few members, all the approximations and the like a large fund does as a matter of course that are just about invisible for them, stand out like nothing else in a small fund. For example, in a large super fund if you roll your balance out on 30 June and you’re a pensioner, there is often no allowance for franking credit refunds because the fund hasn’t lodged its tax return and received a refund. However, in an SMSF there absolutely would be a franking credit refund paid because if we know there are only two members and one rolls out of the fund, they should get the benefit of the franking credit refunds that are coming down the track when the return is eventually lodged. So the very small number of members in an SMSF results in a heightened focus on accuracy that does not apply to large funds. That makes reporting for SMSFs more difficult. It means I’m not at all dismissive of the accountant saying we can’t do quarterly reporting because unless the practitioner is really focused on keeping the SMSF records up to date all the time, a quick reporting turnaround is incredibly difficult. So while I’m in favour of quarterly reporting, I’m not of the belief the account-keeping of SMSFs should be up to date all of the time. It’s convenient for people if it is, but the ATO assumption that you can be dollar perfect every single time within 28 days puts a false demand on the industry. It’s why SuperStream rollovers out of an SMSF doesn’t work. This demand for perfect accuracy very quickly is crazy and makes no sense in a small fund environment.

DTC: Are service providers ready to make this change seamless?

GC: I don’t think so because some clients won’t have the information that is perfectly up to date all of the time. I mean we’ve got some clients we deal with only on a yearly basis and I’m sure most accountants would as well. So it’s certainly going to have its issues.

MH: The other thing is we as an industry probably get a little too hung up on imagining this will have a significant effect. But in practice clients don’t start pensions very often and that’s the only situation where we really need to be totally, perfectly up to date with our record-keeping. For example, with regard to commutations, unless it’s a full commutation, we already know what the tax components are and we know what the dollar amount is so quarterly reporting will be less of an issue except when it comes to starting pensions.

DTC: Is this going to be a shock for trustees?

CM: From a client perspective, as long as they’re getting their money in their bank account on the day that they expect it, do they care? No. I think clients recognise they are paying for a service and it’s our job as professionals to make sure reporting quarterly happens. If the ATO is unreasonable in its timetable, then it’s up to us as a profession to let the regulator know, as much as we’d love to help it, the small practices that service a significant portion of SMSFs may not have the required systems in place to make it happen.

PB: As an industry body we’re supportive of this change and in our view it’s about moving the industry forward. It’s also about SMSF members having access to up-to-date information. There are clear signs of frustration about not being able to get updated information and I think the next step in the process is to allow more practitioners access to the ATO portals, like myGov, in an efficient way. I have to say we were very grateful the ATO did agree to extend the start date for the quarterly TBAR (transfer balance account report) requirement because that was raised as part of the consultation process with us and others. We were certainly very firm on the view that we needed another 12 months for accounting firms and others, who were very busy, to make the changes to the system. So it was great to see that.

JS: Has there been any progress in opening up access to those ATO portals?

PB: Not that we’re aware of. We certainly raised it in our Quality of Advice Review submission, that access to data is one way to reduce the cost of giving advice. So it was certainly something that we had a bit to say about in our submission, but we were not aware of any progress in that area.

CM: That’s what is so frustrating about this. I can be appointed by a client for Centrelink purposes, which means I can do everything for them with regard to Centrelink, but I can’t access their ATO portal to get some basic data for that same client. In fact I can’t even engage with the ATO. I think the regulator has to recognise who is in the SMSF ecosystem and who needs access to the portals. It could actually help the ATO too as it could assist in identifying trends, such as uncovering where the problems lie, or if there are positive developments and whether there is some commonality there. We’ve been asking for this for a long time and I don’t really understand what the resistance is.

PB: I think there are a few system changes that would need to be made to accommodate it. But Claire you’re right, we’re in this strange world where accountants have access to the information, but can’t give the advice and advisers who can give advice don’t have access to it. So that doesn’t make a lot of sense.