Time for an SMSF spring clean

The proposed introduction of a new tax on total super balances over $3 million has provided a good opportunity for trustees to review many critical aspects of their SMSF, writes HLB Mann Judd Sydney director Andrew Yee.

The federal government’s proposed Division 296 tax on total super balances above $3 million has given many SMSF trustees and members pause for thought.

The measure is slated to come into effect on 1 July 2025 and means an additional 15 per cent tax will be levied on superannuation earnings, including unrealised capital gains, where a member’s account balance at the end of the financial year is over $3 million. This is on top of the existing 15 per cent tax on fund income and realised gains.

While the tax has yet to pass through parliament, this hasn’t stopped people worrying about its impact, causing many to wonder what they could or should do now with their SMSF to minimise their potential tax liability.

It is always risky to start pre-emptively making changes to superannuation, or indeed any investment, when any new rules haven’t yet been finalised. SMSF trustees and members should not be making tax on super their primary consideration as superannuation is about building savings for retirement and the investment strategy is more important than just taxes. Regardless of whether the tax on super balances over $3 million comes in or not, superannuation will still be the most tax-effective investment vehicle available. The first $1.9 million in superannuation, that is the pension cap, upon retirement is highly tax-effective and the balance between $1.9 million and $3 million is very tax-effective.

Nonetheless, it could be a good trigger for an SMSF ‘spring clean’. To this end, there are certain identifiable matters worthy of consideration as part of this exercise.

Revaluation of assets

SMSF trustees by law are required to report the SMSF assets annually at market value. Obtaining valuations of unlisted assets, such as unlisted trusts, commercial property assets or collectable assets can be a costly or an onerous exercise and trustees can sometimes ignore or defer obtaining a proper price assessment of these assets. Some SMSF trustees like to stick with the old notion of carrying out a property valuation once every three years.

The introduction of a $3 million tax will provide trustees the impetus to review the SMSF asset portfolio and identify assets to be revalued prior to the introduction of the new tax. If they do so, they can better plan their affairs prior to its introduction.

A proper valuation of SMSF assets may lead to different outcomes in respect of the new tax. Some asset values may be revised downwards, which may have the effect of excluding certain members from the new regime. Conversely, an increased valuation may have the effect of including a fund member in the $3 million net, which may spur them into taking action to avoid this from happening by withdrawing assets from their SMSF provided they have met a condition of release and are eligible to do so.

If it is expected an SMSF member’s balance will be over the $3 million threshold as at 1 July 2025, then trustees should ensure all SMSF assets, in particular unlisted assets, are fully revalued to their market value on 30 June 2025. Overdue mark-to-market valuations on unlisted assets undertaken post 1 July 2025 may lead to a greater tax impost under Division 296 as it will be applied only on earnings post 1 July 2025 and only on income accumulated on balances above $3 million on 1 July 2025. Hence it is critical all unrealised gains on SMSF assets are fully accounted for on 1 July 2025.

Many private equity and early-stage investment funds like to report their assets at cost or at a conservative value due to the private and confidential nature of the industry. However, SMSF investors will need to lobby these fund managers to revalue their assets and unit prices pre-1 July 2025 so there are no nasty Division 296 tax surprises down the track.

Moving fund assets to one’s own name

People may find, following a valuation, their total super balance has exceeded the $3 million cap. While we wouldn’t recommend liquidating assets purely to avoid the new tax, there could be other reasons for selling assets held within the SMSF.

For instance, self-funded retirees who have been retired for some time may no longer hold many assets in their own name and pay zero or very little personal income tax. Therefore, it could be a good opportunity to move some assets out of the superannuation environment and into their own name or into a different investment vehicle – such as an investment company – without triggering a significant tax liability.

Estate planning

For older SMSF members, another benefit of moving assets from the super fund to hold them personally or within another structure, is to avoid the ‘super death tax’.

While Australia doesn’t have an inheritance tax per se, there are still a number of taxes that are triggered when someone dies. These include the superannuation death benefits tax, which is becoming a more frequent issue as people live longer and have more wealth.

Most commonly super death benefits are paid to a dependant, including a spouse or a child under the age of 18, and are therefore tax-free. In most cases the deceased member’s remaining superannuation is paid to a surviving spouse and there is no tax liability. Likewise any super benefits withdrawn by the member themselves, while alive and over age 60, are not taxable.

However, if the super balance is to be paid upon death to a non-dependent beneficiary, such as an adult child, then a tax liability arises. In such situations, beneficiaries will need to pay a tax of 15 per cent on the ‘taxed component’ of the amount they receive. This could be up to $150,000 per $1 million paid out plus a Medicare levy of a further 2 per cent.

In light of the introduction of the Division 296 tax, SMSF members in their later years should consider bringing forward their estate planning. For example, they should be asking whether reducing their superannuation assets and passing them onto the next generation ought to be done now if that is their intention upon their death. They should also consider if some super assets can be housed in a family trust or family investment company for the benefit of successive generations.

Review SMSF approach

An SMSF spring clean is also a good time for members to assess whether the fund is still the right retirement vehicle for them. As people get older, they may be less interested in running their own super fund or start to doubt their own abilities to manage the rules and regulations, or the investments, even with the help of an adviser.

If this is the case, then it might be time to wind up the SMSF and move into another type of super fund.

As a general rule, if the SMSF balance falls to $300,000, this may also be a trigger to close down the fund as the costs associated with running the SMSF mean it may no longer be financially worthwhile.

Investment companies

As mentioned earlier, it could make sense to consider alternative investment structures to an SMSF. In particular, we have seen renewed interest in private companies as an investment vehicle.

A key benefit is these companies pay tax at 30 per cent so for those SMSF members who are still working and paying tax at the top marginal rate, it can be a good wealth-holding structure.

Another benefit of investment companies is asset protection. Because companies are a legal entity, they are liable for its debts and any creditors cannot make a claim against the personal assets of the shareholders.

In addition, investment companies can be useful for estate planning. Companies operate in perpetuity, meaning they continue to exist when the original shareholders die. Shares can be transferred according to the deceased shareholder’s wishes and daily control can be replaced. Furthermore, companies offer a flexible structure in terms of the types of shares issued and rights thereon. Lending money to a company for it to invest is simple, as is reinvesting future profits.

Family trusts

Another option is a family discretionary trust, although this structure can have some disadvantages. For example, a trust must distribute its taxable income to beneficiaries who then have to pay tax on that income at their marginal tax rate, which can be as high as 47 per cent for individuals and 30 per cent for company beneficiaries.

Like companies, trusts can live on past the death of key individuals, but they are usually not perpetual. Most have a vesting date of 80 years after formation.

One area where family trusts have an advantage is with capital gains. Capital gains earned by a company are subject to the company tax rate of 30 per cent. Trust distributions, however, may be entitled to the 50 per cent reduction applying to assets held for more than 12 months. This reduction is only available to individual beneficiaries, but not companies.

Investment bonds

Investment bonds are often considered a bit staid and old-fashioned, but can offer individuals significant tax advantages. Investment bonds can work well running alongside an SMSF.

These types of bonds invest in a range of different asset classes and have access to specific tax advantages. Most significantly the income earned by the investment bond is taxed within the instrument at the company tax rate of 30 per cent.

Investment bonds also have a ‘10-year tax rule’, which allows income earned to be taxed at 30 per cent and paid for within it. This means investors do not need to include the income in their personal tax return. Furthermore, if they don’t make a withdrawal from the investment bond for 10 years, they also don’t need to pay tax on income from their withdrawal.

However, to access the 10-year tax-free earnings, investors must meet the 125 per cent contribution rule, that is, while the amount of the contribution in the first year of the bond is uncapped, any subsequent contributions must be less than 125 per cent of the previous year’s contribution.

Conclusion

In summary, the proposed tax on total super balances over $3 million serves as a timely reminder for SMSF trustees to review their current strategies and ensure their funds are well-positioned for the future. While the uncertainty around these changes means drastic actions should be avoided, conducting a comprehensive ‘spring clean’ of an SMSF can help identify areas for improvement and potential opportunities for optimising tax efficiency and investment performance.

By considering asset revaluation, alternative investment vehicles, estate planning and the overall suitability of the SMSF structure, trustees can make informed decisions that adapt to evolving legislative landscapes and align with their long-term financial goals.