QUARTER IV 2021 | ISSUE 036 | THE PREMIER SELF-MANAGED SUPER MAGAZINE
2021 AWARDING THE BEST SMSF SERVICE PROVIDERS
FEATURE
STRATEGY
COMPLIANCE
STRATEGY
SMSF awards The best in the sector
Overseas property Investing limitations
Legacy pensions Moratorium timing issues
Personal contributions Deductibility rules
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COLUMNS Investing | 24
Evergrande’s market impact.
Investing | 28
The value of private equity allocations.
Strategy | 32
Offshore direct property holdings.
Compliance | 38
Legacy pension management outside the correction window.
Strategy | 42
2021
Family provision claims and SMSFs.
Compliance | 46
Busting 10 common SMSF myths.
Strategy | 50
When the fund and the member jointly own a property.
Compliance | 53
DDO and DIN implications for SMSFs.
Strategy | 56
Using personal deductible contributions.
Economics | 60
Where tax revenue is sourced.
Strategy | 63
SMSF will versus BDBN comparison.
Strategy | 66
What six-member funds might mean for business owners.
REGULARS SMSF AWARDS 2021 THE WINNERS Cover story | 12
What’s on | 3 News | 4 News in brief | 5 SMSFA | 6 CPA | 7 SISFA | 8 IPA | 9 CAANZ | 10 Regulation round-up | 11 Last word | 68
QUARTER IV 2021 1
FROM THE EDITOR DARIN TYSON-CHAN INAUGURAL SMSF ASSOCIATION TRADE MEDIA JOURNALIST OF THE YEAR
Just when we needed you most Changes to the laws and regulations having a direct impact on the superannuation industry are currently occurring, it can be argued, at a volume that may never have been seen before. Just to name a couple, in the past few weeks we’ve seen the bill to legislate many of the initiatives announced in this year’s budget, such as scrapping the work test for individuals under the age of 75 wanting to make non-concessional contributions, introduced to the parliament. And the move to permanently allow the electronic approval of legal documents, such as SMSF trust deeds and financial statements, by law also continues to gain momentum. Most of the amendments to the system that are afoot, or have already taken place, have been lauded by the SMSF community as positive changes, so this is a good thing. However, this vote of confidence does not mean these changes will not cause some confusion and complications for trustees, who will no doubt look for assistance to navigate situations by way of a financial adviser. Let’s take a closer look at the last of the aforementioned items to illustrate this point. The use of electronic signatures for legal document approval is being governed by revisions to the Electronic Transactions Act. However, in an SMSF context, exactly which documents can be signed off in this manner is determined by the Superannuation Industry (Supervision) (SIS) Act and SIS Regulations. This means items such as investment strategies and written plans for managing in-house assets will still require a wet signature. I would challenge even the most well-read and informed SMSF trustee to know this without getting some sort of professional assistance. But the government seems to be saying
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to trustees “good luck with that” by so far ignoring developments on another front – the push for professionalism within financial advisory ranks with measures imposed by bodies such as the Financial Adviser Standards and Ethics Authority. Don’t get me wrong, I believe the move to increased professionalism is a good thing; I’m just questioning the way Canberra is going about it and what the resulting outcomes have been to date. Just last week research firm Adviser Ratings reported 505 advisers left the industry in the third quarter of 2021, while only 75 individuals joined after successfully completing their professional year of education, resulting in a net reduction of 430. The most concerning factor is adviser numbers are continuing to fall and the professional-year statistic represented the highest number of new entrants in two years. So joining the dots together there is clear evidence the changes to the legal and regulatory circumstances of SMSF trustees is elevating the importance of receiving professional financial advice right at a time when adviser numbers are perpetually on the slide. Surely this is not what anyone wants. Recently, Superannuation, Financial Services and the Digital Economy Minister Jane Hume conceded the government will have to revisit the non-arm’s-length expenditure rules due to their egregious nature. Can we then be hopeful a rethink on the implementation of the reforms to the financial advice industry might also be possible? If not, the Randy VanWarmer hit of the ‘70s will spring to mind for many SMSF trustees as they lament the government-triggered financial adviser exodus happened “just when I/[we] needed you most”.
Editor Darin Tyson-Chan darin.tyson-chan@bmarkmedia.com.au Senior journalist Jason Spits Journalists Tia Thomas Zoe Paterson 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
To have an upcoming event featured on the What’s On page, please contact darin.tyson-chan@bmarkmedia.com.au.
DBA Lawyers
Accurium
SuperConcepts
Inquiries: dba@dbanetwork.com.au
Inquiries: 1800 203 123 or email enquiries@accurium.com.au
Inquiries: 1300 023 170
Live Q&A
30 November-2 December 2021 10.00am-2.00pm AEDT
SMSF Online Updates 12 November 2021 12.00pm-1.30pm AEDT 11 February 2022 12.00pm-1.30pm AEDT 4 March 2022 12.00pm-1.30pm AEDT
Smarter SMSF Inquiries: www.smartersmsf.com/event/
SMSF insurance considerations 16 November 2021 Webinar 12.00pm -1.00pm AEDT
SMSF pensions masterclass 24 November 2021 Webinar 11.00am-4.00pm AEDT
Changing face of SMSF 9 December 2021 Webinar 12.00pm-1.00pm AEDT
Institute of Public Accountants Inquiries: Liz Vella (07) 3034 0903 or email qlddivn@publicaccountants.org.au
National Congress 2021 QLD 17-19 November 2021 JW Marriot Gold Coast Resort & Spa 158 Ferny Avenue, Surfers Paradise
SA
SMSF reporting for 2021 7 December 2021 Institute of Public Accountants Level 13, 431 King William Street, Adelaide
18 November 2021 Webinar 2.00pm-3.00pm AEDT
Virtual SMSF Specialist Course
7-9 December 2021 10.00am-2.00pm AEDT
Quarterly SMSF update
Heffron
10 February 2022 Webinar 2.00pm-3.00pm AEDT
Inquiries: 1300 Heffron
Live Q&A
2 December 2021 Webinar Accountant-focused session 11.00am-12.30pm AEDT Adviser-focused session 1.30pm-3.00pm AEDT
24 February 2022 Webinar 2.00pm-3.00pm AEDT
SuperGuardian Inquiries: education@superguardian.com.au or visit www.superguardian.com.au
Quarterly technical webinar
SMSF Association Inquiries: events@smsfassociation.com
Creating a pension strategy playbook
Caring for clients in a post-COVID world
23 November 2021 Webinar 12.30pm-1.30pm AEDT
NSW
Cooper Grace Ward Inquiries: (07) 3231 2400 or email events@cgw.com.au
Current issues in estate planning and super 23 November 2021 Webinar 12.30pm-2.00pm AEST
1 December 2021 The Grace Hotel 77 York Street, Sydney
National Conference 2022 SA 16-18 February 2022 Adelaide Convention Centre North Terrace, Adelaide
Self-managed Independent Superannuation Funds Association Inquiries: jane@sisfa.com.au
SISFA SMSF 13th Annual Forum – hybrid event VIC 22 March 2022 Westpac offices 150 Collins Street, Melbourne 9.00am-5.00pm AEDT
QUARTER IV 2021 3
NEWS
ATO to address practitioner non-compliance By Darin Tyson-Chan
The ATO has expressed its concerns over the fact sector practitioners are among the number of trustees who are not meeting their SMSF annual return lodgement requirements and has revealed the enforcement strategy it is taking to address this issue. “We are really concerned that some of our outstanding lodgements are from tax agents and from auditors. We obviously hold industry professionals to a higher standard, especially as it’s part of the annual declaration
[that] tax agents make to the Tax Practitioners Board and similarly [the one] auditors [make] to ASIC (Australian Securities and Investments Commission),” ATO SMSF risk and strategy assistant commissioner Justin Micale told attendees at the recent Chartered Accountants Australia and New Zealand SMSF Conference 2021. In response to the situation, Micale pointed out the regulator will be implementing a course of action incorporating one element of the ‘three strikes and you’re out’ policy it has implemented for other trustees who are late or simply ignoring their legal obligation to lodge an
annual return. The three strikes policy involves a series of ‘nudge’ letters varying in the level of severity of the message they contain to encourage trustees to ensure their annual return lodgement activity is up to date. The final letter in the sequence is referred to as the red letter, which informs trustees the ATO has already taken enforcement action specified in the previous pieces of correspondence. “To address non-compliance with this group we’re currently liaising with the Tax Practitioners Board and will soon be issuing our red letters as part of a separate mail-out to this group,”
Micale explained. While a more drastic enforcement strategy has been initiated for practitioners, his message with regard to addressing these noncompliance problems was consistent for all trustees. “The key message I have for lapsed and never lodgers is that we’re serious about driving ontime [annual return] lodgement,” he warned. “However, if you or your clients are experiencing difficulties, we encourage you to contact us so we can help. “Coming to us first is always a better option than waiting for us to come to you.”
Accountants fail to meet client targets By Darin Tyson-Chan
Industry research performed earlier this year has shown the client bases of accountants have consistently fallen well short of the ideal number of SMSFs they would like to have serviced over the past four years. “While [accounting] firms are generally deriving greater revenue from SMSF clients, they are still a significant distance away from the ideal client book size,” Investment Trends associate director of research Kurt Mayell said during his presentation at the recent Chartered Accountants Australia and New Zealand SMSF Conference 2021. The study indicated the average number of SMSF clients accounting firms are servicing in 2021 is 131. Further, it was revealed this business book segment had remained fairly stagnant since 2018, when it was recorded at 136 clients, and it hit a peak of 139 clients in 2019.
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“Ideally accounting firms say that they would like to grow their overall exposure to SMSF administration significantly, with 180 SMSF clients being the number they would like to service,” Mayell observed. “This [means] a 37 per cent increase in SMSF client numbers [would be needed to achieve this goal].” However, he pointed out current client growth trends being experienced by individual accountants mean the target number of clients may not be met in the immediate term. “Breaking this down to the accountant level, we can see that in 2020 there was no growth in the number of SMSF clients being serviced, with seven new clients coming on board and seven clients no longer being active … and the average accountant was looking after 49 SMSF clients,” he said. “In 2021 the average portfolio of clients has increased by four per accountant, so we’ve added seven and we’ve removed three, bringing the [average] number [of
Kurt Mayell SMSF clients] up to 53, representing a 7.5 per cent increase. “This is still a far cry from the growth in client acquisitions required to hit the desired number of 180 accounts [per firm], which is going to be quite a challenge and may be several years away from actually materialising.”
NEWS IN BRIEF
Govt to revisit NALE The federal government is reexamining the wide-ranging impact of the application of nonarm’s-length expenditure (NALE) provisions on SMSFs, according to the Tax Institute, which has called for it to offer a solution to the problem. The institute welcomed comments from Superannuation, Financial Services and the Digital Economy Minister Jane Hume at its recent National Super Conference, where she indicated the government was aware of the issues surrounding NALE. Responding to a question about the need to fix rules that could expose the entirety of an SMSF’s income to a punitive tax rate due to a nominal discount on an arm’s-length arrangement, Hume said: “We have very much heard your concerns. We know the concerns about the [ATO] commissioner’s ruling and I can assure you … we are looking into your question.” The Tax Institute said her comments and the government’s commitment to address the issues related to the NALE provisions were pleasing as their application had created “grossly unfair” outcomes for SMSFs. Institute tax technical and policy director Andrew Mills said a solution was urgently needed.
ID fraud a real issue The ATO has revealed identity fraud is increasingly working its way into the SMSF sector and it is implementing a system to combat this type of criminal behaviour. “This is a really important issue for us because identity fraud, as you all know, is becoming far more prevalent across Australia and the SMSF sector is not immune,” ATO SMSF risk and strategy assistant commissioner Justin Micale
revealed. “In the 2021 financial year we identified increasing numbers of individuals that were victims of identity fraud where SMSFs were registered [in people’s names] without the individuals’ knowledge or consent. “Fortunately for most of those victims we detected those frauds early so we could protect their super, but not for all.” To combat the rise of identity fraud and other investment scams, the regulator has deployed a strategy of issuing alerts to SMSF trustees regarding significant changes to their funds.
Budget bill enters parliament The federal government has introduced into parliament the bill that will give effect to a range of measures announced in this year’s budget, including the repeal of the work test for non-concessional and salary sacrificed contributions and the reduction in the eligibility age to make downsizer contributions. The Treasury Laws Amendment (Enhancing superannuation outcomes for Australians and helping Australian businesses invest) Bill 2021 also includes measures to allow SMSF trustees to use their preferred method of calculating exempt current pension income (ECPI) where their fund is fully in the retirement phase for part of the income year, but not for the entire income year. Superannuation, Financial Services and the Digital Economy Minister Jane Hume said the change to the work test will be implemented via regulation changes the government will put forward by the end of the year. Hume added the reduction in the eligibility age to make downsizer contributions from 65 to 60 will “allow more older Australians to consider downsizing to a home that better suits their needs, freeing up the stock of larger homes for younger families”.
CountPlus acquires Accurium Accounting and financial advisory firm CountPlus has entered into an agreement to acquire actuarial certificate and SMSF education provider Accurium from current owner Challenger. The purchase price successfully negotiated for the acquisition is $9 million, with CountPlus recognising the transaction as providing it with the opportunity to expand its core service delivery to the SMSF sector and more accounting firms across the country. The new ownership structure will see CountPlus hold an 85 per cent share in Accurium, with the other 15 per cent being allocated to key management personnel in alignment with the CountPlus owner driver-partner strategy. From a personnel perspective, all current Accurium staff members will be retained and current general manager Doug McBirnie will take on the new role of managing director.
Matthew Rowe CountPlus chief executive Matthew Rowe noted his organisation has the ability to integrate and grow the Accurium business and take advantage of its own competitive advantage in the accounting and SMSF administration areas.
QUARTER IV 2021 5
SMSFA
Pressing need for specialist SMSF advice
JOHN MARONEY is chief executive of the SMSF Association.
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The numbers are revealing. The SMSF Association’s “2021 Investor Survey Report” found 73.9 per cent – nearly three out of four SMSF investors – sought professional advice about managing their funds. That’s a comforting number, especially when it’s remembered the average balance for funds under management is now over $1.3 million. Add the fact that nearly 50 per cent of SMSF members are in retirement phase, and the pressing need for them to have access to quality advice is self-evident. But drill a little further into the numbers and the picture isn’t quite so rosy. When it comes to inheritance and estate planning, 61 per cent say they want financial advice on these two critical issues. Does this mean they can’t get advice, haven’t looked for it, or don’t know where to find it? Whatever the answer, it’s a gap in the advice market. On exchange-traded funds (ETF), 55 per cent say they want more information – prompting the same questions again. The suspicion must be that the same thinking would apply to other less-traded asset classes. These potential gaps in the market were exposed in greater detail in the Productivity Commission’s (PC) “Superannuation: Assessing Efficiency and Competitiveness” report, which made two important findings about SMSFs in its overview – one positive, one negative. On the upside, it found SMSF members were typically more engaged with their super compared with most super fund members. But on the downside, the quality of financial advice provided to some SMSFs was not only questionable, but often conflicted. Not to put too fine a point of it, the PC reported most SMSFs are engaged with their super, but often can’t get the advice they need and deserve, and it urged the federal government to address this critical issue with this recommendation: “… specialist training (should be required) for persons providing advice to set up an SMSF; require persons providing advice to set up an SMSF to give prospective SMSF trustees a document outlining ASIC’s (Australian Securities and Investments Commission) ‘red flags’ before establishment; and extend the proposed product design and distribution obligations to SMSF establishment.” The association agrees strongly that specialist SMSF training should be required for advisers who provide advice on fund establishment, with the need for specialist advice continuing to grow. The legislation underpinning SMSFs is not only complex but constantly changes, so the need for advisers working in this super sector having specific sector competencies is crucially important.
Take, for example, the ATO’s non-arm’s-length expenditure (NALE) ruling in the wake of the changes to the non-arm’s-length income (NALI) rules in 2019. For many SMSFs, to transact with a related party is one of the main attractions. It can enable SMSF members to do their own bookkeeping, acquire a business premises from a related party that is then leased back to a related party, or invest in related entities within the parameters of the legislation. Many funds have such transactions, so understanding the latest ruling is an imperative. Failure to do so can result in significant tax penalties, with some or all of a fund’s income being taxed at 45 per cent instead of superannuation’s concessional tax rates. For a small number of SMSFs, an increase in the maximum allowable number of SMSF members from four to six, which took effect on 1 July, would seem very attractive. This is an opportunity to bring more family members or business partners into a fund, potentially cutting costs and creating new investment options. But there are potential risks. More decision makers around the table can lead to more disputes. So, before adding new members, consideration will have to be given to who and how any decisions will be made and whether enduring powers of attorney should be put in place to reduce the likelihood of disputes. In these circumstances an SMSF specialist adviser is well placed to tailor an outcome specific to a fund’s situation. The proposed introduction of the retirement income covenant, which aims to increase member engagement with their superannuation and retirement planning, specifically excludes SMSFs. Yet the principles underpinning this covenant are germane to SMSFs, especially the need to consider the retirement needs of their members and retirement products in the market. For many SMSFs, this should involve getting specialist advice on issues such as developing specific drawdown patterns that provide higher incomes in retirement, providing tools to identify income and capital needs over time, providing information about key retirement topics, such as eligibility for the age pension, and providing guidance to beneficiaries early in accumulation about potential income in retirement through super calculators or retirement income forecasts. By any yardstick, SMSFs are a success story, continuing a steady growth among people who want greater engagement with their super. So, it’s imperative they have the resources to do so and having access to specialist advice should head this list.
CPA
We need to talk about the stepkids
RICHARD WEBB is financial planning and superannuation policy adviser at CPA Australia.
Estate planning is important and many superannuation fund members carefully nominate one or more beneficiaries in the event of their death. For some members, this could include a stepchild. But what happens when death benefit dependants are not who members think they are? Some of the most complex situations involving the payment of death benefits involve marital or de facto relationships where there are children from previous relationships. The situation is even more complicated when the parties are also the trustees of an SMSF. In recent years, the concept of ‘family unit’ has been broadened in the Superannuation Industry (Supervision) (SIS) Act 1993 to include married or de facto couples, including opposite sex and same sex relationships. This has generally made death benefit planning simpler. Yet the situation with stepchildren is fraught with issues that don’t arise in the case of biological or adopted children. The payment of superannuation death benefits to biological or adopted children is relatively straightforward. They are considered dependants and therefore eligible to receive a death benefit. Children under the age of 18 (or 25 if still financially dependent or interdependent on the member) may receive this as an income stream. Benefits are taxable if children are not financially dependent or interdependent. Ex-nuptial children, that is, those born during but outside of the relationship, are not defined in the SIS Act, but are generally regarded as a subset of biological children. They are treated similarly to those residing within the member’s family unit. It is the inclusion of these children from outside the family that makes the situation involving stepchildren somewhat counterintuitive. The SIS Act specifies a stepchild is as much a child of the deceased as biological or adopted children are. However, exactly who are considered stepchildren is unclear. The term ‘stepchild’ is not defined in either the SIS Act or its associated regulations. Stepchildren, as most people understand the term, occur in a variety of ways. Ordinarily, the biological children of one partner, but who are not biologically related to the other partner, are considered to be stepchildren of the other partner. This can occur even if the stepchild resides outside the family unit. Yet inconsistencies arise in certain circumstances. For example, if the marriage of the child’s natural parent
to the deceased has ended, whether due to divorce or death, ATO Interpretive Decision 2011/77 states the child’s term as the deceased’s stepchild ends. Applying the ATO’s interpretation, if Partner A brought children of a previous relationship into a new relationship with Partner B, those children will cease to be Partner B’s stepchildren when the couple separates. So, those children would no longer be able to be considered stepchildren of Partner B for superannuation purposes and would no longer be valid dependants, even if a binding nomination had previously been made in their favour. Building on the previous example, consider the situation and resulting inequity if Partner A dies and Partner B is now the only person left to parent the children. For superannuation purposes, this could lead to a scenario where the stepchildren would not be regarded as Partner B’s dependants notwithstanding that they are raising them. While it may be possible for former stepchildren to prove they are financially dependent or interdependent on the deceased, this takes time. It could also be costly and may ultimately reduce the benefits for all dependants. Most legal definitions also tend to disregard further children of former partners, whether biological, adoptive or stepchildren, after remarrying. This is so, even if such children spend large amounts of time with the member’s family unit. Adding to this confusion, some Australian jurisdictions, such as Victoria and Queensland, have estate laws that apply outside of superannuation and which may be different to the outcomes highlighted above. As this shows, laws and decisions regarding who is a dependant have the potential to upend estate planning nominations by SMSF members, particularly since binding death nominations are only valid in cases where valid dependants are nominated. This may lead to unplanned and unwanted outcomes if it is found by trustees their planned beneficiaries are not legally their stepchildren. Members should be able to make a binding death nomination in favour of their stepchildren without worrying that it won’t be respected. Blended families are commonplace in modern Australian society. This reality needs to be reflected in our superannuation laws by clearly defining the stepchildren in line with community expectations.
QUARTER IV 2021 7
SISFA
Covenant carve-out a good thing
MIKE GOODALL is a board member of the Self-managed Independent Superannuation Funds Association.
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On 27 September, the federal government released exposure draft legislation to introduce a retirement income covenant. Following the earlier reforms as part of the Your Future, Your Super package, the draft bill inserts a new covenant into the Superannuation Industry (Supervision) (SIS) Act 1993 that requires trustees of a registrable superannuation entity to develop a retirement income strategy for fund members who are retired or are approaching retirement. Specifically, the draft bill will require trustees to have a strategy to assist members to achieve and balance three objectives: • maximising their expected retirement income, • managing expected risks to the sustainability and the stability of their expected retirement income, and • having flexible access to expected funds during retirement. The intention behind the draft bill is to address a perceived focus by the big fund super trustees on the accumulation phase. Under the current law, fund trustees have no specific obligation to consider the needs of fund members in retirement. The retirement income covenant is intended to address this gap. Fortunately the Explanatory Memorandum to the draft bill specifically states the covenant does not apply to trustees of SMSFs. This is a welcome exclusion as SMSF trustees already have a number of obligations under the SIS Act that overlap with those under the covenant. It may be some in the super community will think SMSFs are being let off a requirement as they are burdened with the responsibilities of thinking postaccumulation. However, for an SMSF trustee, the need to think about post-retirement should already be part and parcel of the investment strategy formulation for the fund as the ability to look at what members need and are trying to achieve in retirement is clearly appropriate for a trustee/member. There is no need for a third party to try and guess what is appropriate for the needs of the trustee/members. The Self-managed Independent Superannuation Funds Association’s view is that the proposed
retirement income covenant should not apply to trustees of SMSFs for it will simply amount to an additional regulatory red tape burden without any commensurate benefit, given the post-accumulation phase is already adequately addressed within the requirements of the SIS Act. A characteristic of SMSFs is that the trustees and their members are quite obviously already fully engaged with their superannuation and their retirement income objectives, so a retirement income covenant is therefore not required to compel any engagement for SMSFs. Typically, there is a spousal or close family relationship between SMSF members (with over 70 per cent of SMSFs being two-member funds). Because of this, SMSF trustees naturally have a good understanding of the financial status and needs of the fund’s members. The existing investment strategy covenant is more than sufficient to ensure this is achieved. A challenge for SMSFs is that they are ordinarily unable, by the nature of their smaller size, to engage in the kind of retirement income product development that may be established by the introduction of a retirement income covenant more suited to large public offer funds. As part of the SIS Act, SMSFs must comply with SIS regulation 4.09, an operating standard that, among a set of requirements, includes that the trustee has a comprehensive investment strategy formulated and it is regularly reviewed and implemented. Regulation 4.09 also prescribes that the trustee considers the fund’s ability to discharge its current and prospective liabilities, which effectively requires them to consider the retirement income needs of the fund membership. Non-compliance with regulation 4.09 counts as a ‘reportable breach’ for the purposes of the auditor contravention report and therefore is subject to annual external review. Given these factors, to formally include SMSFs in the requirement for a retirement income covenant just doesn’t make sense and would simply add more administration where there has already been a significant increase in workload in managing SMSFs in the past few years. Thankfully and somewhat unusually, this seems to have been recognised in the draft bill.
IPA
The role of the professions in achieving sustainability
VICKI STYLIANOU is advocacy and policy group executive at the Institute of Public Accountants.
The role of accountants and other professional advisers in assisting businesses to become sustainable has been a major focus for the Institute of Public Accountants (IPA) and of many other professional associations. Part of this process is to embed sustainability throughout the business, from formulating strategy to improving processes, measuring performance to making a clear business case for sustainability initiative, and answering the critical question: “But how much will it cost?” Our role as professional associations is to help members and the professions to be part of the change to a more sustainable economy and community. It starts with having a certain mindset and may need a cultural shift. This involves a change from thinking solely about financial performance to thinking about transparency and what progress is being made on environmental, social and governance (ESG) issues. As we all know, stakeholders, including governments and shareholders, are demanding more information about how firms are impacting society and the environment. According to the Governance and Accountability Institute, ESG reporting has increased by more than four times since 2011 among S&P 500 companies, and as global interest grows there have been calls for more uniform metrics. This body contends ESG reporting “provides more accountability, enhances legitimacy, increases profitability and improves governance, and as climate change affects all markets and presents risks that shareholders can no longer ignore, investors are demanding answers about ESG fundamentals in the investment process”. In Australia, a 2020 PricewaterhouseCoopers report stated two out of five ASX 200 companies in Australia have limited ESG reporting to the market. However, more than 80 per cent disclosed their ESG strategy to stakeholders. On a more micro level, accountants advise businesses about risks and opportunities and possess the correct skill set to measure ESG, so with more direction and development, they are the natural starting point. Accountancy Europe deputy chief executive Hilde Blomme has said: “Governments and companies
alike are starting to acknowledge that non-financial reporting, such as on ESG matters, is essential. Accountants can be a strategic partner in the transition to a more sustainable future. They already have the right skill set to measure ESG impact and disclose these results. Accountants also offer an independent expert opinion and can verify how accurate and exhaustive the data reported is.” So, while the motivation and the mindset are there, Blomme has identified the need for a universal standard, saying: “The real work now is to develop global standards for ESG reporting. There is much progress in non-financial reporting, but there is also proliferation of standards and frameworks. The time has come to consolidate these to make reporting more consistent, transparent and comparable.” Accountants have transferable expertise and can also adapt existing skill sets to help businesses satisfy numerous stakeholder concerns and thereby deal with ESG issues. For instance, we know environmental costs have to be understood and allocated so they can be managed and prices set appropriately. In addition, all other relevant costs must be considered when assessing project proposals and risk must be adequately managed, which requires strategies to address and mitigate them. These are all traditional skills for accountants. I have written before about the United Nations Sustainable Development Goals (SDG), which provide an ambitious agenda by 2030. It is worth reiterating accountants and other professional advisers have a critical role to play in achieving the SDGs. This is reflected in the strategic plan of the International Federation of Accountants, which has anchored its strategy to the SDGs. The IPA has taken this on board and, together with the Deakin University SME Research Centre, is developing an initiative around SDG 8.4, which focuses on decoupling economic growth from environmental degradation. Sustainable consumption and production are part of this and what we are particularly interested in is the move to diversify, innovate and upgrade for economic productivity. There is a lot more to come on this and we hope accountants, financial advisers and other professionals engage in the spirit of partnership.
QUARTER IV 2021 9
CAANZ
The toll of unintended policy consequences
TONY NEGLINE is superannuation leader at Chartered Accountants Australia and New Zealand.
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Government policy changes always lead to unintended consequences. And it seems to me unexpected outcomes are often less than favourable. Frequently these unforeseen problems arise because the government and anyone seeking to provide feedback about proposed changes did not think of all the possible resulting issues that should be considered when designing a new policy. And it is also true that sometimes the government is told about a consequence, but decides to ignore the issue or assume it is a manageable problem or less significant than the policy being put in place. A good example of unintended consequences are those that arise because of a series of changes made to improve some features of the compulsory employer super system. Over the past few years, the overall objective of these changes is to ensure employees retire with higher account balances through lower fees, fewer accounts and less unnecessary death and disability insurance. At a conceptual level it would be hard to find anyone who would argue against any of these policy objectives. After all, employees are effectively having 10 per cent of their remuneration automatically syphoned away from their regular pay packet to save for the future. Why would anyone want to see substandard outcomes for this policy? Unfortunately there are some unintended outcomes. Let’s consider insurance. Death and disability benefits have been a feature of the Australian superannuation landscape since the first employer retirement scheme was created while New South Wales was still a British colony. And such benefits remain a key attribute of the sole purpose test. That is the test that every super fund has had to follow for more than 40 years. Under the current 30-year-old version of this test, super fund trustees can run their fund to satisfy at least one core purpose and as many ancillary purposes they wish to use. One of the core purposes is “the provision of benefits in respect of each member of the fund on or after the member’s death”. An ancillary purpose states a fund could also be run to provide benefits
to a member who ceased work due to physical or mental ill-health – that is, effectively temporary and permanent disablement. One policy the government put in place recently was titled “Putting Member’s Interests First (PMIF)”. One arm of this policy was to prevent super funds from automatically providing death and disability insurance for members with low balances and/ or aged under 25. A member could self-select to continue with or put in place insurance arrangements. For a variety of reasons super fund correspondence, no matter how hard some super entities try, never gets near the top of many people’s reading pile. The result is many have lost insurance without actually realising it. Another recent policy is called Your Future, Your Super (YFYS). One major aspect of YFYS is so-called stapling. This policy has the worthy aim of reducing the number of multiple super accounts as people move from job to job, thereby hopefully reducing the fees people will pay on average. In broad terms, the policy works in the following way – an employer’s payroll department will first ask an employee if they wish to nominate a particular super fund into which their contributions will be paid; if the answer is no, then the payroll people will then need to check with the ATO if a new employee has an existing fund that received employer contributions in the past. If there is such a fund, then the employer must make contributions to that existing scheme. But let’s just say a new employee has moved from working in, say, a retail shop and to what is considered more dangerous work. In these cases the stapled fund’s insurer may no longer insure that employee for death and disability insurances because of occupation restrictions. (It’s important to remember group insurance arrangements are not guaranteed renewable unlike personal life insurance contracts.) So it may be that any insurance claim due to death or injury may be denied. In some cases this will clearly not be a good outcome for the deceased or injured or ill member and their family. Many super fund members or their surviving relatives will not know the impact of this until it is too late. At some point we might see some legislation seeking to fix these unintended consequences.
REGULATION ROUND-UP
Actuarial certificates Treasury Laws Amendment (2021 Measures No 6) Bill 2021 – Schedule 3
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
If all members of an SMSF are fully in retirement phase for the entire financial year, an actuarial certificate is no longer needed to calculate exempt current pension income (ECPI). These funds are now able to use the segregation method to calculate ECPI, which does not require an actuarial certificate. An actuarial certificate is still required by an SMSF that has a possibility for assets and income to exceed estimated liabilities, even if all members are in retirement phase. Legislation has been passed and is effective from the 2022 annual return and onwards.
Information sharing for family law proceedings Treasury Laws Amendment (2021 Measures No 6) Bill 2021 – Schedule 5
Family law courts are now able to access certain superannuation information held by the commissioner of taxation when dealing with family law proceedings. From 1 April 2022, upon request, the commissioner is able to directly release information to the court registry. This process makes it harder for an ex-partner to hide or understate their superannuation assets by making it easier for the party making the court challenge to obtain the relevant information.
the service is covered by an insurance policy relating to their business. The ruling includes additional examples to clarify when expenses may be captured under NALE.
Director identification number deadline Legislative instrument F2021L01391
This legislative instrument has confirmed the deadline for obtaining a director identification number (DIN). Existing directors of a corporate trustee of an SMSF will need to apply for a DIN by 30 November 2022. Applications can be lodged online from November 2021 using the Australian Business Registry Services.
New SuperStream requirements From 1 October 2021, SMSFs must meet SuperStream requirements and have an electronic service address when: • receiving employer superannuation contributions (except if employed by a family business), • rolling benefits to another super fund, or • receiving rollovers from another super fund.
Retirement income covenant exclusion Exposure draft
Draft legislation has been released that includes a specific exclusion for SMSFs from the retirement income covenant provisions.
Advice regulation reforms NALI-NALE ruling Law Companion Ruling (LCR) 2021/2
Financial Sector Reform (Hayne Royal Commission Response – Better Advice) Bill 2021
The ATO has issued its final ruling on non-arm’slength expenditure (NALE). This ruling includes greater clarity around when an expense will be considered non-arm’s length. It also confirms the ATO view that general expenses will be considered to have enough connection to all income of the fund, which means if assessed as NALE, all income of the fund in that year will be taxed as nonarm’s-length income (NALI). SMSF members providing services to their own SMSF will need to know whether they are performing that service in their capacity as a trustee or in another capacity that constitutes a non-arm’slength interaction. For example, a member who uses business skills and experience to provide services for no fee may not create NALE if the services are provided in their capacity as trustee. But dealings need to be on an arm’s-length basis if the member is required to hold a particular licence or qualification to provide the services (for example, the SMSF’s return is lodged using their tax agent registration) or
Legislation has been passed to introduce recommendations arising from the Hayne royal commission, with reforms to the regulation of financial advice. Specifically, the following measures will be introduced: • new disciplinary process for financial advisers, with the role of the Financial Services and Credit Panel within the Australian Securities and Investments Commission (ASIC) expanded to operate a single disciplinary body for financial advisers from 1 January 2022, • removal of the Tax Practitioners Board as an advice regulator (as recommended by the Tax Practitioners Board Review), so that financial advisers who meet the education and training standard for tax (financial) advice services under the Corporations Act will not have to be registered under the Tax Agent Services Act 2009, and • winding up the Financial Adviser Standards and Ethics Authority, from 1 January 2022, and transferring responsibilities to Treasury and ASIC.
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FEATURE
2021 In a year punctuated by lockdowns, video meetings and remote working, the SMSF sector barely skipped a beat adapting to market and regulatory changes as they arrived, with service providers leading from the front supporting advisers and their clients. The ninth annual selfmanagedsuper CoreData SMSF Service Provider Awards recognised those organisations that did it best and Tia Thomas, Zoe Paterson and Jason Spits take a look at which firms found favour with advisers in the past year.
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For many people who spent much of 2021 working from home, the ‘unprecedented’ and ‘new normal’ of the previous year quickly became familiar as they settled into changing ways of working and interacting with clients and colleagues. The blunt shock that was the market downturn of March 2020 was also quickly overcome as COVID-19 relief and mitigation measures were processed and integrated into daily life. For investment providers operating with SMSF clients, this was a chance to prove their bona fides and demonstrate in a very short period of time the trust placed in them was well founded as markets rode the roller coaster of downturn, stimulus and upturn. With the budget returning to its usual slot in May, the federal government adopted a superannuation-friendly plan in 2021, which was widely welcomed for its ‘housekeeping’ approach rather than the drastic revisions seen in the past. And to their credit, SMSF service providers have not only been integrating these changes, but leading discussions about their impact on SMSFs, trustees and fund members, with their own technical experts engaging with the ATO and Treasury seeking clarity on the details. Yet, it has not all been plain sailing for the SMSF sector, with the ATO’s final ruling on non-arm’s-length expenditure (NALE) and new auditor independence rules set to play out well into the future. While the full impact of NALE may not be seen until the ATO resumes compliance action, auditor independence changes have been in place since 1 January and the flow-on effects mean audit firms will remain central to the operation of the SMSF sector. It is in this context of change, readjustment and realignment that the 17 firms named as the leading service providers for SMSF advisers 2021 have operated and, according to those in advisers who voted for them, also excelled. There are some familiar names in the winners’ circle for the selfmanagedsuper CoreData SMSF Service Provider Awards 2021 along with other organisations being recognised for the first time. CoreData principal Andrew Inwood, who oversaw the collection and analysis of the
adviser feedback, says the service providers that were named as leaders usually have good processes in place, an ability to meet the need of advice practitioners or have become entrenched in the market due to a consistent provision of services over the years. Inwood notes the COVID-19 pandemic has continued to put stress on the SMSF sector, but service providers have maintained their high levels of delivery during this period. According to Inwood, it is important to have the views of advice practitioners in the SMSF sector and the research behind the awards gave a good understanding of their opinions on service providers. “The awards were based on a survey of 585 advisers and accountants, conducted in June and July, and this was a voting sample so it was frequency of use and satisfaction which drove the numbers,” he explains. Long-term awards sponsor La Trobe Financial echoed Inwood’s comments, with its director of client partnerships Lilian Chin saying: “It is important we support these awards as they recognise the best of the best in the industry. “With the judging undertaken by advisers, these awards are truly demographic and representative of the market’s voice, and this is a simple and critical difference compared with other awards.” ------------------------------------
The heart lies in client services Accurium: Actuarial certificate provider winner By Tia Thomas The focus on providing exceptional client services is what Accurium managing director Doug McBirnie believes makes the actuarial certification provider stand out from the competition. Founded in 1980, Accurium has grown to become one of the largest suppliers of actuarial certificates and educators in the SMSF sector with around 3800 clients
Australia wide, which McBirnie accredits to its strong client relationships. “Our clients want our systems to be intuitive and easy to use. So we have continued to lead the way in terms of that particular client portal mantra for a number of years around speed and accuracy,” he explains. As for Accurium winning the actuarial certification provider category in the selfmanagedsuper CoreData SMSF Service Provider Awards for 2021, McBirnie notes: “The reason why we won comes from our client services team providing quality client support, which also comes from our technical services team providing clients with support and understanding while navigating the complex Continued on next page
“The reason why we won the award comes from our client services team providing quality client support, which also comes from our technical services team providing clients with support and understanding while navigating the complex regulatory framework.” Doug McBirnie, Accurium
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regulatory framework.” Numerous accountants and SMSF professionals struggled to adapt to the digital work environment following the coronavirus outbreak and Accurium responded by increasing online content with over 135,000 resources and attracting nearly 20,000 live webinar attendees. “We’ve really focused on building out our educational offerings. We have an online portal called the TechHub, which is an online learning platform designed to help clients expand their knowledge to gain valuable accredited CPD (continuing professional development) hours,” McBirnie says. “We’ve also looked at partnering with experts across the sector to bring new perspectives and different content, such as a series we did on practice management.” Recently Accurium was acquired by accounting and financial advisory firm CountPlus for $9 million, but McBirnie points out the values of the organisation will remain the same. “CountPlus shares a vision with Accurium for where we can take the business, particularly in the education space. We will continue to operate as a stand-alone business and all the team coming across is part of the transaction,” he says. As the SMSF environment continues to rapidly change, he says educational services are a way to provide stability for advisers in the future. “Accurium has had pretty good feedback from clients on the webinar classes we’ve hosted so far. We will continue to add other resources to the TechHub, including the introduction of CPD reading assessments, a live question and answer service, and new calculators,” he says.
The actuarial certificate provider has also published a series of blog posts for subscribers of its TechHub covering the latest sector issues such as the new superannuation legislation being tabled in parliament. ------------------------------------
Delivering on their promise BetaShares: ETF provider winner By Jason Spits In uncertain times people will do business with those they trust, according to BetaShares chief executive Alex Vynokur, who sees that as one of the reasons financial advisers named his firm as the leading organisation in the exchange-traded fund (ETF) category in this year’s selfmanagedsuper CoreData SMSF Service Provider Awards. “The financial advice sector is aware of the benefits of ETFs, such as cost, liquidity and transparency, and during times of nervousness they deliver what it says on the tin,” Vynokur says. In a year in which the ETF sector passed $100 billion in assets under management (AUM), BetaShares also hit its straps, experiencing an increase in AUM from $10 billion to $20 billion in the preceding 18 months, easily outpacing its growth to the $10 billion mark, which took nine-and-a-half years to achieve. Vynokur recognises ETFs have changed the way investors access listed investments
and this was also evident in the SMSF sector, which has been a strong supporter and user of exchange-traded products. “ETFs have become associated with market-based broad exposures and have redefined what an index means for investors; with many now using them to access global markets or thematic investments,” he says. “A case in point is that ETFs have become the primary vehicle to access ethical investments and we are seeing a high level of inflows being directed towards this category. “ETFs have also helped move SMSFs away from the big four banks, Telstra and supermarkets in Australia and more toward global and thematic investments within their portfolios.” He reveals global technology is an area of significant interest for SMSFs at present, with sub-themes related to global security, cloud computing and robotics all attracting their attention. Despite this, the SMSF sector remains predominantly interested in Australian markets, which continue to be a core area of focus for funds using BetaShares to invest, but Vynokur acknowledges his firm’s breadth of ETF offerings is a drawcard. “SMSFs are looking for growth and capital preservation, as well as values-based investing, and we have a broad range of solutions available because the market is heterogeneous,” he says. “We are aware advisers are skilling up to meet these demands, as well the intergenerational change that is starting to take place in wealth management; and we want to help people invest across the generations.” He adds that even after a decade in business there is still a need to provide education and communication around the basics of ETFs, but also around the more
“We comment on events and reinforce with our adviser and investment clients for the need to stay the course and resist the urge to sell up and bunker down.” Alex Vynokur, BetaShares
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complex issues they can help address. “People want to hear from trusted partners in times of volatility or when they are nervous about markets and their investments,” he says. “We comment on events and reinforce with our adviser and investment clients for the need to stay the course and resist the urge to sell up and bunker down. “Investors hurt their own prospects by letting emotions get in the way, which was why we addressed the COVID-19 relief measures and cautioned people last year about using superannuation as an ATM (automated teller machine).” ------------------------------------
Simplicity is the key LaTrobe Financial: Residential property loans winner By Zoe Paterson SMSF lending is a specialist area and trustees and their advisers must take care to ensure they achieve the best outcomes for fund members, according to La Trobe Financial chief lending officer Cory Bannister. When providing residential property loans to SMSFs, Bannister says the main concern is to ensure trustees have been well advised and that the SMSF is appropriately structured. “The most common mistakes we see relate to the timeline of events, which is a critical component to ensure there are no problems down the line,” he reveals. La Trobe Financial recommends clients have an SMSF in place before they decide to buy residential property via a superannuation fund. Further, Bannister says clients should check their lender’s policies relating to annual reviews, minimum SMSF size and liquidity requirements. “These are areas where a number of lenders have differing policies,” he notes. La Trobe Financial was the residential loans category winner at the selfmanagedsuper CoreData SMSF Service Provider Awards 2021 and remains one of a limited number of organisations still serving the loans market for the sector.
The SMSF gearing sector has seen many of the major lenders exit in recent years, which Bannister attributes partly to the increased capital requirements imposed on institutions lending to self-managed funds through limited recourse borrowing arrangements, which are classified as ‘nonstandard’ mortgages. “The exodus by the major banks from this important segment of the market is why non-banks like La Trobe Financial play such a critical role in ensuring this great option remains available for Australians planning their retirement,” he says. “At La Trobe Financial, we maintain a strong conviction in this product based on its superior performance and the need to provide assistance to what has become an under-served market.” La Trobe Financial has one of the broadest product ranges in the non-bank sector, offering SMSF loans for both residential and commercial property. The lender helps guide trustees and their advisers through the critical steps when buying residential property through their fund, from set up, through property purchase, contract of sale sign off, bare trust deed creation and settlement. Bannister says all of the company’s products are designed to be user friendly. “We try to keep things as simple and easy to understand as possible. While SMSF loans do have elements of complexity to them, we have done everything in our power to ensure our requirements are kept to an absolute minimum. We have engineered our forms, documents and processes to mirror those of our standard residential loan products so brokers and consumers immediately feel familiar,” he says. “Also, having an experienced team on the road and in the office means that we can assist brokers and consumers by using a consultative approach from submission through to approval. Having direct access to the decision makers results in a much smoother end-to-end process and also ensures delivery of tailored solutions. “It is also now well proven that using limited recourse borrowing arrangements to purchase property through an SMSF is a tax-effective strategy. It is an investment that people understand and seek, and it performs incredibly well without any of the systemic
“At La Trobe Financial, we maintain a strong conviction in this product based on its superior performance and the need to provide assistance to what has become an under-served market.” Cory Bannister, La Trobe Financial
risks that were feared at the outset. “To this end, we have plans to continue increasing our market share in this space.” ------------------------------------
Digitising to service the future AUSIEX: Australian shares winner By Tia Thomas The broad access to national and international share markets offered by SMSFs has enticed a higher number of Continued on next page
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“We have experience amassed over 20 years, we have a team that fully understands the adviser market and the needs of advisers. I’m sure that’s why many advisers voted us as the recipients of the Australian shares award.” Eric Blewitt, AUSIEX
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younger Australians to set up their own superannuation fund, auguring well for AUSIEX, winner in the Australian shares category in the selfmanagedsuper CoreData SMSF Service Provider Awards 2021, according to chief executive Eric Blewitt. AUSIEX began its involvement in the financial advice industry more than 25 years ago and has experienced an increased interest from younger people as a result of the diverse portfolio options, but despite this trend he acknowledges there has been a fall in fund establishments recently.
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“More younger people are setting up SMSFs, but there has been a drop-off in establishment, confirmed by the latest ATO data. We too have experienced a drop-off in the last quarter to June this year compared to the last four years’ activity approximately,” Blewitt says. “The reason is probably because they can access the market more broadly and there is a plethora of advisers recommending ETFs (exchange-traded funds). ETFs are starting to be used as a vehicle to access the markets that haven’t historically been easily accessible, whether that be debt products, international products, gold, commercial property, environmental, social and governmental stocks. “People want access to tech stocks, which have great dominance in the US and other parts of the globe compared to Australia.” To counter this trend and potentially take advantage of the increasing sector participation from a younger demographic, AUSIEX has begun to provide educational webinars and additional access programs, as well as taking measures to digitise many traditional application methods, he notes. “The digitisation of the application process has been undertaken for SMSFs and their advisers wanting to set up share trading accounts. Nearly every SMSF that is set up has a trading account and it can provide the avenue for their exposure to equities,” he says. However, the application process is not the only aspect of the AUSIEX business that has been electronically enhanced. “One of two things that many financial advisory practices are highlighting is the challenges in tax file management, as well as corporate action management, and again all the paper registries,” Blewitt says. “As such, being able to digitise corporate action management and tax file management is the key aspect AUSIEX is looking to invest in and deliver to advisers.” He also accredits winning the award to AUSIEX’s strong client relationships. “We have experience amassed over 20 years, we have a team that fully understands the adviser market and the needs of advisers. I’m sure that’s why many advisers voted us as the recipients of the Australian shares award,” he says.
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Combining documentation and education Cleardocs: Trust deed supplier winner By Zoe Paterson Trust deeds form the core of SMSFs. In conjunction with superannuation regulations, these critical legal documents establish the rules for starting up and operating a fund. They set out details ranging from the fund’s objectives, to who can become a member, and how benefits can be paid as a lump sum or income stream. Getting the trust deed right is one of the first steps for trustees and fund members to achieving the best results possible from their SMSF. Cleardocs assists SMSF trustees and their advisers to get their trust deeds and borrowing documents right from the outset by taking a plain language approach to documentation. Customers are guided through the process of creating SMSF trust deeds and borrowing documents by completing an online question interface. The Cleardocs system automatically imports customer data and pre-populates part of the forms to speed up processes and make life easier for SMSF advisers and their clients. Documents are stored online and can be accessed at any time, from anywhere in the world, without the need to install specific software. SMSF trustees need to review their trust deeds on a regular basis to ensure they remain flexible enough to provide the control over their destiny that they desire, but are also compliant with all relevant rules and regulations. Regulatory changes such as allowing a maximum of six members into a fund and requirements for SMSFs to use SuperStream for fund rollovers, as well as updates to
FEATURE
“Customers are seeing the benefit of our unique development program rollout and enjoying our enhanced online experience. We’re thrilled to be bringing our customers even greater versatility, with a wider range of integration options.” Jackie Rhodes, Thomson Reuters Asia
contribution rules and pension payment requirements, need to be incorporated into the documents. Cleardocs was established in 2002 and acquired by Thomson Reuters in 2011. The company works with top 20 Australian law firm Maddocks to ensure all of the documents it supplies are up to date with legislative and case law changes. Thomson Reuters Asia and emerging markets managing director Jackie Rhodes says the market for providing SMSF trust deeds and associated documentation is becoming increasingly competitive and that the company is thrilled to win the selfmanagedsuper CoreData SMSF Service Provider Awards 2021 trust deed supplier category. “Winning the adviser choice award in an increasingly competitive environment shows
that both companies and individual advisers are choosing Cleardocs as their preferred supplier,” Rhodes says. “The award reflects our obsession with supporting our customers through unmatched quality, ease of use and constant updating of information. “Customers are seeing the benefit of our unique development program rollout and enjoying our enhanced online experience. We’re thrilled to be bringing our customers even greater versatility, with a wider range of integration options.” In addition to its focus on making document creation processes as simple and efficient as possible, the business supports its 123,000 registered users in keeping up to date with relevant legal and regulatory changes. It provides educational materials and articles in the Insights section of its website, as well as resources SMSF advisers can use with their clients. The business also offers a free legal helpline to support customers with queries about Cleardocs documents. ------------------------------------
Technology-driven ease of use TAL: Insurance winner By Jason Spits Seamless integration into more than 15 platforms and the ability to pay insurance premiums through them are a key reason why advisers and their SMSF clients named TAL as the leading service provider in the insurance category of this year’s selfmanagedsuper CoreData SMSF Service Provider Awards. TAL states these platforms include some of the largest providers, such as Macquarie, AMP, Hub24 and Netwealth, and this integration allows advisers and their SMSF clients the flexibility of funding their insurance through an investor-directed portfolio service arrangement, while also receiving
consolidated reporting. Yet, during a year in which COVID-19 continued to impact the SMSF sector, providing clients with ways to continue to manage their affairs also became important and TAL’s efforts in this space were recognised as well. “We have continued to invest into our digital capabilities and integration with major platform providers in the market,” a TAL spokesperson explains. “In the past year, we have continuously improved our digital signature offering and this has been applied to more than 95 per cent of our administrative forms. This is a significant efficiency improvement for advisers.” The insurer also leveraged new technology to process client claims faster using Green ID, an online identity verification facility. “This enables TAL to verify their client’s identity against reliable and trustworthy data sources in real time. This results in a quicker, easier experience as it eliminates the need for certified identification documents,” the spokesperson says. “We continue to meet the genuine needs of all customers, including those who need to make a claim, as well as those customers who may not claim, while ensuring all of them have access to affordable cover over the long term.” Alongside its usual suite of products, the firm also released three new income protection solutions in the past year to meet changes to this category of insurance, introduced by the Australian Prudential Regulation Authority, that took effect from 1 October. The company points out a key area identified by advisers when choosing TAL as a leading service provider in this year’s awards was its long track record in supporting advisers via services that help them build their businesses. “Our investment into TAL Risk Academy demonstrates our commitment to adviser education and training. Through this successful platform we’re contributing to the growth of advisers’ insurance capabilities and Continued on next page
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improving the quality of advice for all Australians,” the spokesperson says. “As a result of the pandemic we quickly pivoted the academy from its face-to-face masterclasses to virtual classrooms. This rapid transition ensured that advisers could access a comprehensive learning program, which provided the same educational opportunities and quality of presentation as those previously delivered face-to-face.” ------------------------------------
Efficiency and education ASF Audits: Audit winner By Zoe Paterson Quality and speed are essential factors in any SMSF fund audit, which is why ASF Audits continues to invest in advanced technologies that reduce time and improve the quality of its service. The business is actively focusing on applying artificial intelligence, which will complement existing automation and help to further streamline its processes, ASF Audits head of education Shelley Banton reveals. “It will help us reduce our audit time and we are working hard in that area and are rolling out changes in our documentation management system that will help us identify areas that are complicated and complex. That’s what we need to continue to work with Continued from previous page
to retain our competitive edge within the sector,” Banton says. The firm gathers information for its audits directly from other financial institutions and software packages that its clients use. These data feeds flow automatically into its own custom-built audit software, decreasing data entry and audit time, and dramatically reducing work for clients in submitting paperwork. Most auditors rely on data feeds, but Banton points out this organisation goes further than its competitors when it comes to verifying data accuracy. The business uses a statistical approach to sampling and testing of audit data it receives. These independent tests efficiently identify areas where there may be discrepancies in the data that need further investigation and allow the business to have confidence it can rely on the data feeds it receives as a source of truth for the funds it is auditing. “Cash, listed shares, term deposits, rent, things like that can come through a bank account, broker feeds and wrap feeds. But complex assets that do not have data feed capabilities have to be audited manually,” Banton explains. In the first year, the auditor may require a bank statement to confirm cash or term deposit holdings, for example, but in future years, the practitioner can rely on data feeds for the audit. “For unlisted shares where there is no data feed available we will need all the information around that asset in each year,” Banton says. A large focus for ASF Audits is on ensuring SMSF clients are well educated on what they need to provide for these manual steps and how they should manage and document their fund operations to avoid running into any issues.
Through a smart dashboard on its client portal, ASF Audits can identify the types of queries SMSFs most commonly have and areas that can slow audits down, such as documentary evidence of leases to a related party or market valuations for property, unlisted assets and crypto. This allows the business to address any issues before they arise with additional education and assistance at the point of need. “It’s about providing as much information as we can through different channels to educate our clients and helping clients improve on their procedures and processes so that it doesn’t take so long to audit,” Banton says. The business is in regular communication with clients, providing education on a wide range of topics from market valuations to arm’s-length income. Part of the service is to provide strategic and technical advice where needed. This expertise is offered at no additional cost to the client. “Technology is important because we could not provide the level of support we do without it, but in the age of technology, we have not lost our focus on building relationships,” Banton notes. Ultimately, strong client service is what really gives ASF Audits its edge. ------------------------------------
Adapting to the digital world Heffron: Administrator winner By Tia Thomas
“It’s about providing as much information as we can through different channels to educate our clients and helping clients improve on their procedures and processes so that it doesn’t take so long to audit.” Shelley Banton, ASF Audits
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After more than 20 years as educators in the financial advice industry, Heffron understands the challenges individuals face when balancing study and work responsibilities, which has led the institution to leading standards in the industry. Its holistic approach towards education has attracted numerous financial advisers with poor time management skills, however, managing director Meg Heffron says it’s the company’s approach to the digital space that has really made a difference. “What we’re trying to do is use technology to make a lot of the things that were previously only available one on one available more broadly. But at the end of the day, sometimes you just need to be able to talk to someone on the phone and I think we’re in the fortunate position of having a deep enough team that we can do both,” Heffron explains. “What we have been quite successful at doing so far is taking the best of both worlds and I think that’s easier when you’re independent, privately owned and run your own race.” Heffron has become a voice and source of confidence for numerous SMSF advisers who need answers to technical questions or an advocate with the ATO. This was particularly the case during the instability caused by the coronavirus pandemic, which ultimately forced Heffron to rapidly adapt and provide an abundance of online seminars to ensure practitioners maintained their education levels. “We have tools and support kits that advisers can use to either complete documents for their clients, or if they wanted to reference a tool where they can answer their own technical questions rather than ask Heffron, advisers can look those up,” Heffron points out. “We also have just launched micro courses, which I think will help advisers with their continuing professional development and help them with their ongoing SMSF learning in a way that recognises the fact they’re very time poor.” While the national and international communities begin to slowly recover from the effects of the coronavirus pandemic, she affirms her organisation will continue to evolve from the lessons learned during
lockdown and undertake measures to both extend and create new support tools. “We’ve been independent for over 20 years now and throughout that entire time our focus has been on supporting advisers and accountants with any SMSF issues that they face. Over the past two or three years we have leveraged technology to do that more,” she says. “I think we are well positioned as people who are used to educating and communicating with practitioners and that enables us to develop some really nifty tools and collateral or small courses that advisers can use with their own clients. “One of the challenges advisers face is that when they recommend something to their clients, they need to be confident that the clients have actually understood it.” ------------------------------------
History and technology combined Macquarie: Cash and term deposits winner By Jason Spits A deep history in cash management and a long engagement with the SMSF sector, as well as the adoption of digitally driven solutions, have been key drivers behind Macquarie’s success in the selfmanagedsuper CoreData SMSF Service Provider Awards 2021 cash and term deposits category. Macquarie Banking and Financial Services head of payments and deposits Olivia McArdle identifies these qualities as the institution’s strengths as seen by the SMSF advisory community. The Macquarie Cash Management Account (CMA), launched in late 1980, continues to attract strong demand from SMSF advisers and their clients, McArdle says, with interest in the product stretching back to the earliest days of the SMSF sector’s growth and development.
“Over that time, we’ve developed a really strong understanding of the needs of advisers and their clients, and how best to use technology and data-driven insights to deliver efficiencies and connectivity when it comes to managing SMSFs,” she notes. The use of technology has continued, particularly over the past 12 months, according to McArdle, who says there was an ongoing focus on giving advisers and clients the tools required to manage SMSFs in a secure and transparent way. “The Macquarie CMA integrates with over 70 software programs, with data available in real time. This means that advisers and their clients can make informed decisions and take up opportunities as they arise,” she says. “We’re a digitally led bank, so we’re consistently investing in our platforms to ensure that we’re delivering intuitive features and experiences for clients. “An example from this year includes the security feature we introduced to our digital banking offering, which allows clients to tailor the level of security and transaction authentication on their accounts. “This builds on our Macquarie Authenticator app, which we launched in 2019 to give clients greater control when it comes to security.” She recognises the cash management sector remains a dynamic marketplace for service providers and so Macquarie will continue speaking with advisers to understand what is important for their SMSF clients when managing their fund, and how that feedback can be incorporated into future updates to its cash offering. Given the rapid shift to online solutions driven by COVID-19 and its resulting lockdowns, technology will continue to play a role. “Because of our long history in the cash management industry, we have a deep understanding of what is most important to advisers in servicing the needs of SMSF clients,” McArdle says. “We’ll continue to invest in our technology and solutions, taking on adviser feedback in order to deliver the best possible service to clients. Continued on next page
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FEATURE SMSF AWARDS 2021
Continued from previous page
“By leveraging our leading digital banking and investments we’ve made across the Macquarie Banking and Financial Services Group, we’re able to give advisers and clients the tools they need to manage their SMSF in a seamless and intuitive way.” ------------------------------------
Acknowledging industry evolution La Trobe Financial: Innovator winner By Zoe Paterson The importance of innovation can never be overstated, according to La Trobe Financial deputy chief executive and chief investment officer Chris Andrews. “Markets are rarely static and businesses evolve through forward thinking and delivery of relevant products to the market,” Andrews says. Financial services businesses need drive, enthusiasm and commitment to continuously improve and adapt to evolving circumstances. To illustrate this observation, Andrews points to changes the finance and wealth industry has seen over the past 10, 20 and even 70 years since La Trobe Financial was founded. “Over the past seven decades, we have been recognised as pioneers across a range of finance and wealth products. More importantly, our underlining foundational principle of serving the ‘under-served market’ has also played a key role in our commitment to innovation,” he explains. “While the importance of a customercentric service never goes out of fashion, products, customers and delivery do change. To remain a meaningful, value-adding partner for our 81,000 customers requires a commitment to innovation.” During 2021, La Trobe Financial introduced several products and initiatives in response to changing customer preferences and expectations. Responding to strong demand for income-
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“Through our ESG framework we are committed to deliver a further range of products to the market and look forward to some exciting news in this space soon.” Chris Andrews, La Trobe Financial
To support the new developments, the business has recently made several strategic senior appointments, including the appointment of a director of ESG, a head of strategic change projects and a chief transformation officer. Andrews says each role holds a clear mandate to embrace innovation and excellence, while keeping the customer at the heart of every decision and activity. “Of course, fostering a culture of innovation goes beyond a top-down approach. Employees right across the business are encouraged to suggest process improvements, efficiencies and ideas that deliver innovation to the workplace. Innovation can start small and many of our innovations have come through feedback from our front-line staff,” he says. “Placing the customer at the heart of everything we do requires backing our frontline staff to continually listen to the market for any kind of information or suggestion that may help us do what we do better, or provide transformative feedback that leads to new product lines.” These integrated efforts in putting customers first have placed La Trobe Financial at the front of the pack when it comes to innovation. ------------------------------------
producing investments, the business launched two new investment products within its Credit Fund. The 6 Month Notice Account and the 2 Year Account were designed to complement its existing range of income generating, lowvolatility products and provide greater choice and opportunity for investors in the current low-yield environment. With investor interest in environmental, social and governance (ESG) issues on the rise, La Trobe Financial has also been working on further developing its ESG framework. The business achieved a carbon-neutral milestone in September and plans to implement multiple projects to ensure it reaches its target of being 100 per cent carbon zero by 2030. “Through our ESG framework we are committed to deliver a further range of products to the market and look forward to some exciting news in this space soon,” Andrews says.
Scale with scope and simplicity Macquarie Wrap: Investment platform winner By Jason Spits At its core, an investment platform is about creating the simplest and easiest means for investors to access a range of products and invest in them, driven by the best technology available, and Macquarie Wrap has been engaged in those activities for more than two decades. Macquarie Group head of wealth product and technology Michelle Weber says this focus on innovation, connectivity and efficiency, directed by conversations with advisers, is a key reason they have
FEATURE
chosen it as the leading service provider in the investment platform category for the selfmanagedsuper CoreData SMSF Service Provider Awards 2021. “Technology and the accelerated digitisation of processes across industries has become crucial and the platform market is no different,” Weber notes. “We’re in a unique position where we’re able to combine the experience and scale of an established platform provider and the ability to innovate quickly using the leading digital tools available.” Looking back over the past year, she adds Macquarie has concentrated on simplifying the platform and the products on it to ensure both are transparent, contemporary and provide competitive solutions for clients and advisers. “We have simplified our cash hub offering to create greater transparency for clients and to help facilitate easier movement between products as a client’s needs change,” she reveals. “We have a compelling cash offering and one of the features we see resonating really well with advisers and their clients is the integrated nature of the Macquarie Cash Management Account within the Macquarie Wrap platform, as well as with more than 70 external software programs.” At the same time, Macquarie has also responded to the demand for investments that consider environmental, social and governance (ESG) issues, adding managed and listed investment options to the platform. “We’re seeing that ESG factors have become a really important consideration for many advisers and their clients, and this trend will continue to accelerate,” Weber says. “This year we made a series of updates to the Macquarie Wrap, including the addition of a menu of ESG managed funds and exchange-traded funds designed to make it easier for advisers to find appropriate ESG investments on the platform. “We’ve also added carbon and sustainability ratings to give greater visibility to advisers and clients on whether a fund has been accredited for responsible investing through the Responsible Investment Association Australasia’s rating program.” She sees the future being similar to the recent past, with current trends becoming
more central to the advisers, their clients and the Macquarie Wrap platform. “Over the past 12 months we’ve seen an uplift in the adoption of technology when it comes to the ways in which advisers and their clients manage their investments – and while this has undoubtedly been accelerated by the COVID-19 pandemic, this shift was already underway,” she notes. “We’re listening to feedback from advisers and their clients and are consistently investing in the platform for the future to ensure it gets to the heart of what advisers and clients need. “As ESG factors become an increasingly common consideration in the investment process, we’ll continue to add products and features on the Macquarie Wrap platform that give advisers and their clients clarity and choice to invest in a way that is aligned to their ESG values.” ------------------------------------
Identifying discounted assets Global Value Fund: Listed investment company winner By Zoe Paterson All around the world, interest rates are at rock bottom, asset class valuations are near record highs and investment markets are extremely sensitive to the slightest movements in interest rate settings. It’s an environment in which traditional asset classes have become far riskier for investors than they normally would be, according to Global Value Fund portfolio manager and director Miles Staude. “Investing into vanilla asset classes at a time when valuations are at or near their all-time highs and when markets are hypersensitive to the smallest of changes in what may, or may not, lie ahead of us is not a particularly appealing proposition,” Staude says in his September update to investors. Global Value Fund aims to offer investors an alternative to standard global equities
investments. Rather than seeking to outperform general market indices through active stock selection, the portfolio managers concentrate on finding assets that are trading at a discount to their intrinsic worth and actively identifying or creating catalysts to unlock that value. Managed by London-based Staude Capital, led by Miles Staude, the listed investment company was launched in Australia in 2014. Veteran Australian investors Jonathan Trollip, Chris Cuffe and Geoff Wilson sit on its board of directors. The fund invests in a diversified range of underlying assets, including listed equities, credit, fixed income, infrastructure, private equity, real estate and cash. In September 2021, its portfolio was comprised of 40 per cent listed equity, 23 per cent listed debt instruments, 18 per cent listed private equity and 10 per cent listed hedge funds, plus a small exposure to other investments. The portfolio managers use this diversification across asset classes and exposure to lower-volatility investments, such as government and corporate bonds, to manage investment risk. The fund’s investment approach has been paying off. Its pre-tax net tangible assets increased by 29.2 per cent during the 2021 financial year, while shareholders received total returns of 32 per cent over the period, driven by a strong increase in the share price coupled with high levels of dividend payments. “By far the biggest contributor to these returns was the company’s discounted capture strategy, which generated gross returns of 24.9 per cent,” Staude says of the fund’s result to July 2021. That figure represents 80 per cent of the portfolio’s total returns for the financial year. The fund lifted its dividends by 14 per cent in 2021 compared with the previous financial year, paying a final dividend of 3.3 cents per share for the half. This translates to a gross yield of 7 per cent to 8 per cent. The board issued guidance that it expects a further 3.3 cent per share dividend to be paid in each half of the 2022 financial year. With a profits reserve of almost $35 million, the company believes it is well positioned to Continued on next page
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FEATURE SMSF AWARDS 2021
“For us, a key focus is not only delivering fixed income solutions, but also providing insight into the sector. Fortunately, our strong relationships with the adviser community allows us to provide high-quality insights and not just product.” Brett Lewthwaite (pictured) and Scot Thompson, Macquarie Asset Management Continued from previous page
continue to pay dividends at that level until at least 2025, regardless of future profits.” ------------------------------------
Dynamic action combined with education Macquarie Asset Management: Fixed income winner By Jason Spits The need to counter the impact of long-term low interest rates for fixed income investors led Macquarie Asset Management to evolve its approach in that area by adopting a more active position, according to head of fixed income Brett Lewthwaite and co-head of systematic investments Scot Thompson. The firm, which was named as the leading service provider in the fixed income category at the selfmanagedsuper CoreData SMSF Service Provider Awards 2021, recognised the current environment of low interest rates and bond yields would be a challenge for SMSF investors, particularly for those investing for the defensive part of their portfolio. “We have long held the view that we would be in a lower interest rate environment given the structural headwinds facing global economies, similar to the Japan experience over the past 20 years,” Lewthwaite and Thompson say. “With this in mind, we have continued
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to enhance and evolve our suite of fixed income solutions for advisers, ensuring that they still continue to provide the key benefits advisers seek within their fixed income portfolio – regular income, liquidity and preservation of capital.” A key move that has been well supported by advisers, according to Lewthwaite and Thompson, is adopting a dynamic approach to global fixed income. “This solution has been resonating strongly with advisers over the past few years in an environment where more traditional and passive fixed income strategies are unlikely to be as attractive from a risk/return perspective going forward,” they note. “In contrast, our offering adopts a dynamic approach to investing in global markets, allowing us to be nimble in investing in the best opportunities on offer across the spectrum of the investment universe and providing for advisers a better return/risk outcome.” They add this type of approach to fixed income investing is appealing to many SMSF investors, but some are still unaware of the value this asset class can provide to an investment portfolio. “One of the challenges we face as a provider of fixed income products to the SMSF market is that in many cases investors are not familiar with fixed income and the role it plays in a diversified portfolio, particularly in a new COVID environment characterised by unprecedented market themes and actions,” they explain. “So for us, a key focus is not only delivering fixed income solutions, but also providing insight into the sector. Fortunately, our strong relationships with the adviser
community allows us to provide high-quality insights and not just product.” Despite the shift to a new normal in a postlockdown market, Lewthwaite and Thompson see plenty of potential in the fixed income sector. “Going forward we expect investors will continue to seek high-quality investment solutions that meet and exceed their investment and risk objectives from managers that have a strong track record of being able to adapt to changing market conditions,” they reveal. “We also expect SMSF investors to seek the most efficient ways of accessing these solutions to minimise administrative burden. At Macquarie, we continue to explore how best we can support these trends.” ------------------------------------
Other winners Macquarie: International shares winner
Macquarie: Infrastructure winner
Goodman: Commercial property winner BGL Corporate Solutions: SMSF software winner
INVESTING
Short-term headwinds, but emerging markets on track for recovery
Recent short-term volatility in emerging markets has created opportunities for long-term investors as various headwinds become less problematic, writes Patricia Ribeiro.
PATRICIA RIBEIRO is senior portfolio manager at American Century Investments.
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The recent issue with Evergrande, the Chinese property developer that has gone from the most valuable real estate company in the world to teetering on bankruptcy, sent shudders through the global market. It triggered significant concerns among investors about the potential for contagion, both within China, as well as in the global economy. Since September, when the market first became aware that Evergrande was struggling to meet its debt obligations, questions have been asked about the impact of its potential collapse on other real estate development companies and, more broadly, on China’s economic strength. Indeed, it raised concerns about whether this could be another ‘Lehman moment’, referring to the collapse of
financial services giant Lehman Brothers in 2008, which sparked the global financial crisis. At the time of writing, credit markets are pricing an orderly restructuring of Evergrande, avoiding a worstcase scenario. In this circumstance, if Evergrande’s liabilities can be restructured – with payment spread out over a few years – the wider impact should be limited, especially when taking into account the strength and volume of its physical assets. Assuming this outcome, the potential for further risk to Chinese property companies is limited. It’s true the performance of these property companies, even high-quality companies, has been weak amid depressed market sentiment, and it is possible a few other small, highly-leveraged developers may
Countries emerging from the pandemic now have more room to grow and momentum will start to shift toward those economies that have taken longer to exit the pandemic.
follow a similar path into restructuring or bankruptcy. But while the property industry may modestly contract, it is unlikely there will be a broad-based industry failure. Likewise, Evergrande poses limited stability risks to the banking system, in our view. Overall, the economic impact should remain restricted as the Chinese government balances its objective of reducing leverage and keeping housing affordable, while also avoiding a widespread housing collapse and protecting jobs in construction and supplier industries. Nonetheless, it will be very important to watch the government’s statements and actions as the situation continues to unfold. This is particularly relevant at the moment as China has recently announced a number of new federal regulations that have already created some agitation in markets. However, the central government is likely to be taking these steps to fulfil its pledge to prioritise fairness and stability. Generally speaking, the new or amended regulations address areas the government considers important to the public interest and strategic policy goals. For example, they aim to boost discretionary income and population growth, which is consistent with the government’s stated emphasis on fair
growth and common prosperity. The new rules are also intended to create a fair and orderly business environment for sustainable development. The key objectives include: • containing financial risk by regulating leverage ratios for property developers and internet finance companies, • enforcing antitrust rules to reduce monopoly power by eliminating exclusivity in merchant contracts or platform choices, • improving data security by increasing government oversight to regulate the collection, storage and use of consumer data. Plans are also designed to strengthen cybersecurity to reduce national security risks for trading data-rich companies on exchanges overseas, • reducing social inequality by promoting social fairness and wealth creation. Goals include improving healthcare access, reducing medical costs, easing the burden of educational expenses and increasing housing supply, and • reforming capital markets to support the continued opening of China’s financial markets and financial sector to foreign investors. Policies should promote a healthy domestic stock market by reducing volatility and speculation and strengthening supervision of companies traded on exchanges overseas. It’s possible there will be further changes related to people’s well-being, such as healthcare services, food and drug safety, housing and labour protections, but the likelihood is the most stringent regulatory changes are now behind us. Also, it’s important to note those companies best positioned to help address China’s economic agenda continue to receive strong policy support, for example, firms involved in electric vehicle manufacturing, cloud computing, innovative drug development and high-end domestic manufacturing. Nonetheless, it’s clear certain Chinese
government regulations have hindered performance among technology and education companies and pressured Chinese stocks in general. As a major portion of the MSCI Emerging Markets Index, uncertainty and volatility in China directly pressures the entire emerging markets asset class. Global investors remain understandably concerned about the potential for additional government action affecting other industries. These new central government policies require after-school tutoring firms to convert to non-profit status and limit foreign capital investment. The government has offered several reasons for these changes, including easing homework load, reducing family expenditures and improving students’ quality of life. In addition, the government announced regulations affecting prominent online platforms (for example, Alibaba and Tencent), digital payment services (for example, Ant Group), ridesharing services (for example, Didi) and food delivery services (for example, Meituan). The government claims the new rules are meant to ensure fair competition and sustainable growth. Such policies will affect existing business models at first, but the changes should be manageable and ultimately provide more clarity.
Emerging markets performance Looking beyond China to other emerging markets, there are some notable regional differences in how various markets are performing, with several factors contributing to this divergence. Asian growth companies currently dominate the MSCI Emerging Markets Index, while the number of firms in Europe, the Middle East and Africa (EMEA), and Latin America (LatAm) have declined as a percentage of the overall index. While EMEA and LatAm companies have Continued on next page
QUARTER IV 2021 25
INVESTING
Continued from previous page
historically been more cyclical than Asian firms, the prolonged spread of COVID-19 has hindered domestic recovery. Commodity sectors also comprise a larger part of the EMEA and LatAm indices relative to Asia. These have benefited from tight supply and higher prices prompted by the global economic recovery and gradual transition to green energy. Cyclical sectors with a focus on reopening economies and reflation remain a key focus for investors. Increasing economic momentum is helping create opportunities in the materials sector and financials. Therefore, there is cause for optimism as these countries begin to put the worst of the pandemic behind them. Tailwinds include a favourable growth outlook, positive earnings momentum and compelling valuations. Overall, countries emerging from the pandemic now have more room to grow and momentum will start to shift toward those economies that have taken longer to exit the pandemic. For example, emerging markets countries outside north Asia have rebounded recently and this is likely to continue, given growth in many of these economies remains below pre-pandemic levels. However, investors should keep in mind emerging markets is not a homogenous asset class and regional and sector differences abound. The economic recovery hasn’t been consistent across countries or regions as they try to emerge from the pandemic. This inconsistency is largely due to the varying levels of success in dealing with the health crisis. But compared to developed markets, emerging markets have more room for relative growth, fuelled by vaccine-related optimism. Northern Asia, particularly China, performed well during the early stages of the pandemic, aided by the concentration of technology, internet and e-commerce stocks. Stay-at-home orders, mobility restrictions and lockdowns supported
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growth in these industries. After trailing early, the rest of the region (that is, emerging markets ex-China) has improved. This trend is expected to continue throughout the remainder of the year, given many of these economies remain below pre-pandemic growth levels. Many information technology and communication services stocks were volatile in the first half of 2021 as markets rotated away from pandemic beneficiaries to more cyclical firms. We continue to see a long runway for existing trends, including digitalisation, cloud-based computing and e-commerce. Companies well positioned to deliver on these secular trends remain attractive and should continue to support emerging markets. It’s no secret COVID has been a disruptive force in all markets. But this, too, shall pass. While the Delta variant and recent spikes have renewed concerns, subsequent surges of the virus are likely to be temporary speed bumps, rather than permanent roadblocks to recovery. Certain countries will likely see their 2021 gross domestic product growth forecasts revised lower. But such revisions should be minor, accounting for lowered mobility
Compared to developed
markets, emerging markets have more room for relative growth, fuelled by vaccinerelated optimism.
and the impact on domestic demand and consumption. This may delay growth, but not eliminate it, and most of this growth could return. Overall, recent short-term volatility has created opportunities for long-term investors as various headwinds become less problematic. Regulatory changes will likely continue in China, but the worst of them is likely behind us. Emerging markets should start to perform better as vaccination procurement and administration continue to improve.
INVESTING
The chance to gain from a changing world
The world has changed markedly since the outbreak of the COVID-19 pandemic. As society returns to some semblance of normality, Claire Smith details why this could be the perfect time to include private equity holdings in SMSF portfolios.
CLAIRE SMITH is private assets alternatives director at Schroders.
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Like most investors, SMSF members and trustees have found the search for returns challenging in recent times due to low interest rates and elevated equity market valuations taking their toll on portfolio returns. Private equity could be an option for investors looking to bolster returns while also providing muchneeded portfolio diversification.
Unpacking private equity Private equity is an alternative asset class where investment funds buy and seek to grow privately owned companies. Private equity ownership by definition is not traded on a public exchange, making it difficult to access for most investors. These access difficulties mean private equity was historically considered an asset class to which SMSF
and retail investors found it hard to gain exposure, however, a growing number of private equity funds are now available in the Australian market, offering lower investment minimums and more liquidity than has been available for this type of investment in the past. For those who have the capacity to make less liquid investments and an appropriate risk appetite, private equity funds can provide solid medium to long-term returns along with increased portfolio diversification to help meet investment goals. Private equity funds also have the advantage of providing investors with access to a larger investment universe as they invest in companies that are not listed on public exchanges, including many earlystage and growth-orientated companies. This means private equity can provide diversification away from more traditional asset classes, such as equities and fixed income, which can improve a portfolio’s resilience during periods of market volatility. There are a range of investment opportunities for private equity funds, from technology and healthcare companies, to consumer and business services companies, that may one day list on a public exchange. We think there are particularly good opportunities available in the small to mid-cap market across the United States and Europe, as well as in Asian growth companies. This is a segment that has historically outperformed the wider private equity market and provides an interesting opportunity for Australian investors.
Private equity strategies There are several strategies that private equity funds employ to produce returns for investors. Venture capital strategies provide funding to start-up and early-stage companies to help them sell their products and services. Growth strategies involve funds investing in companies that are growing their sales and revenues, but need additional capital to grow further and reach their full potential as businesses.
One of the more common private equities strategies is the buy-out strategy that leverages a change in ownership of a company to create a new capital structure and direction for the company. And, in a turnaround strategy, private equity invests in companies that are struggling with the aim of turning them back into profitable organisations.
The time is right to invest in a changing world There are many private companies that are well positioned for growth as the world emerges from the coronavirus pandemic. Before COVID-19 certain changes in society were already in play, such as the development of technology and pharmaceuticals, but the pandemic has accelerated these changes. Private equity investors are likely to play a key role in continuing the pace of change by identifying and investing in opportunities and potentially reaping the investment return rewards for their investors. Some examples of opportunities in sectors globally, and how private equity investors can leverage them, are outlined below.
Healthcare provides a good opportunity for private equity investors as governments have neglected investing in some aspects of the healthcare system.
on healthcare systems. If private equity investors invest in any new treatments or systems for improving hospital and patient care, there is also the potential for strong returns to be delivered.
Healthcare
The pandemic shed significant light on healthcare systems all over the world. In fact, it is why some jurisdictions have remained locked down for so long, as they don’t have adequate capacity in hospital beds. Healthcare provides a good opportunity for private equity investors as governments have neglected investing in some aspects of the healthcare system. Although hopefully this will change, for now private equity investors can fill the void by investing in areas such as digital healthcare, which will help hospitals run more smoothly, and diagnostics to help improve the diagnosis of a patient, improving patient care, which helps further free up hospital beds for others. Improved pharmaceuticals for treating viruses like COVID-19 and other diseases will also bolster patient care, putting less strain
Technology and AI
Digital transformation was already well underway in many parts of the economy, but the pandemic has accelerated this. More people are now working from home and the technology of the workplace is not as centralised as it once was. This can make business systems more vulnerable. Cybersecurity measures have increased across the world as businesses look to protect their data through more dispersed information technology systems. These cybersecurity systems have also needed to be enhanced themselves to deal with the pressure, leading to an advancement of artificial intelligence (AI), in cybersecurity and other parts of workplace IT frameworks, Continued on next page
QUARTER IV 2021 29
INVESTING
Private equity
600
S&P 500 total return
500 400 300 200 100
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2019
2020
2018
2017
2016
2015
2014
2013
2011
2012
2010
2009
2008
2007
2006
2005
2004
2003
0
Source: Bloomberg – Private Capital Quarterly Index as of 31 December 2020, Schroders, 2020.
Private equity investors are invested heavily in the technology space, recognising there is plenty of potential for investment returns.
Sustainable business
The world was already moving towards a more sustainable future, but pandemic measures such as lockdowns have proved that if society wants to make immediate and significant changes for the better, they can. Alongside this, social distancing measures
20 year CAGR Private equity 10.0% S&P 500 TR 7.6%
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2001
Social distancing measures from the pandemic have kept people from public places, such as malls and restaurants, resulting in significant growth in food deliveries through phone apps and online retail. Some of the biggest growth over the past year has come from e-commerce companies. When consumers purchase items online, they typically use cashless payment systems. The growth of e-commerce has had a spillover effect into the need for faster and more secure payments and the move away from cash is set to create further opportunities in the cashless payments sector. Plenty of these companies, particularly in the payments space, have been in the headlines recently for gaining huge valuations from private equity fund raisings and then subsequent mergers and exits. The private equity investors in this space have certainly benefited from this trend.
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2002
Online retail and cashless payments
Graph 1: Listed equity vs private equity historic returns
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including staff engagement and improving customer experience. Development across many sectors will depend on the evolution of AI. The constant demand for improved AI and cyber-attack protection will increase the likelihood that investing in technology will create strong returns and valuations in the technology sector. Private equity investors are invested heavily in the technology space, recognising there is plenty of potential for investment returns.
Index return (rebased to 100 as of 31 December 2000)
Continued from previous page
and lockdowns meant pollution across the globe reduced significantly – to the point where people in northern India could see the Himalayas again as a result of smog disappearing.
Investors have long thought investing in sustainable businesses could mean little or no returns, but time has proven many companies with sustainable business practices deliver strong and sustainable cash flows, making solid returns for investors. Emerging markets
Investment opportunities in emerging markets are increasingly attractive to private equity investors and this is especially true for the largest emerging markets of China and India. As these markets mature and expand, opportunities here will further increase as the world recovers from the COVID-19 pandemic. With these markets sitting on cheap valuations, there is room for good returns. Increasingly, investment risks in this area are mitigated by private equity fund managers being involved at the local level and focusing on engaging with the people of the company to overcome any challenges.
How does private equity perform compared to other asset classes? Despite the challenges posed by low interest rates and uncertain economic conditions, Australian investors are expecting an 11.4 per cent return on their investments over the next five years, according to Schroders’ latest “Global Investor Study”. Private equity may offer a solution for these needs. Bloomberg figures show over the 20 years to December 2020, the private equity market delivered an annual return of 10.0 per cent, compared to the S&P 500, which returned 7.6 per cent. More recently, a lot of the sectors that have seen growth and resiliency in the past year and a half, particularly technology and healthcare, are sectors attracting investment from private equity funds. This is one of the main reasons the asset class has outperformed other asset classes over the past several years. Another factor driving private equity’s outperformance is that fund managers in the space are truly active investors. Private equity managers engage with all levels of the organisations they invest in, including the board and executives, and all other employees at various levels. This allows private equity fund managers to help companies they invest in adapt and change to deliver growth resulting in a good outcome for an investor’s bottom line.
An alternative measure of private equity performance Schroders’ new Fundraising Index (FRI) measures fundraising volumes against vintage-year performance to help gauge the expected long-term performance of private equity funds. To help address the fact private equity valuations aren’t available daily like their listed equity counterparts, the FRI estimates performance by taking the value of a
particular private equity fund’s investment against its first year of invested capital and comparing it to the value of the investment in subsequent years. It tracks the amount of capital raised in the market and plots a longterm trajectory around what the expected returns should be based on that investment vintage. The FRI is based on historical evidence that has identified a clear link between fundraising volumes and vintageyear performance – that is, the year in which capital was first deployed. The FRI has found that on current measures the private equity market overall is performing in line with the long-term average, and certain markets like China and India are trading below the index, meaning there is the potential for outperformance of current vintages.
The constant demand for improved AI and cyber-attack protection will increase the likelihood that investing in technology will create strong returns and valuations in the technology sector.
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STRATEGY
The intricacies of holding overseas direct property
Direct property is a very popular SMSF asset class, but there are many elements requiring consideration should trustees want to own real estate located overseas, writes Jeff Song.
JEFF SONG is superannuation associate division leader at Townsends Business and Corporate Lawyers.
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Armed with the general flexibility in investments and the option of using a limited recourse borrowing arrangement (LRBA), owning real estate in SMSFs has been a popular investment choice for trustees. According to the ATO’s latest statistics from June 2021, direct Australian real estate investment by SMSFs, that is, residential and commercial properties combined, represents around 15 per cent of total net assets held by all SMSFs. Many of these funds would have benefited from
the consistently performing Australian property market. In the residential sector, for example, the weighted average of the eight capital cities Residential Property Price Index rose by 16.8 per cent over the past 12 months, despite the uncertainties presented by the COVID-19 pandemic. In light of this type of performance, we recently have had an increase in the number of inquiries from SMSF trustees on overseas property investment. In a nutshell, it is not prohibited by the Superannuation
Industry (Supervision) (SIS) Act 1993, but perhaps due to the intrinsic risks and complexities, it has been reserved for a relatively small number of SMSFs. The ATO quarterly statistics from June 2021 note about 0.1 per cent of total SMSF assets are invested in overseas properties, both commercial and residential. Nevertheless, seasoned property investors may consider it appropriate for their SMSFs in the name of diversification and perhaps more lucrative potential returns. In this article, we discuss a number of points SMSF trustees should consider when contemplating overseas property investment.
SMSF investment rules The applicable provisions under the SIS Act are, of course, the same regardless of the property’s geographical location, however, the foreign laws applying to the property may hinder the trustee’s compliance with the requirements. As with any other SMSF investment, trustees have to check the fund’s trust deed to confirm they have all the necessary authorities to invest in overseas property. Many deeds would permit any form of investment irrespective of the geographic location of the investment, but if required, the trust deed can be amended subject to the amendment rules provided in the current deed. The proposed overseas investment should be consistent with the SMSF’s current investment strategy, which has regard to the whole circumstances of the fund, including, but not limited to, the risk and return of fund assets and the required cash flow of the fund. When considering the risk and return of overseas property investment, consideration needs to be given to additional risks associated with fluctuations in exchange rates as any rental profit or realised capital gains will eventually need to be converted to Australian dollars. Also, properties are generally illiquid and could be even more so depending on their
There is much to consider with any overseas investment, but directly owning an overseas property in an SMSF adds a whole layer of complexity and it’s important to ensure trustees seek the necessary advice early.
geographical location. The local conditions should be checked to assess how illiquid the investment would likely be, together with the anticipated cash-flow requirements of the fund. The overseas property investment must also be for the sole purpose of providing retirement benefits for fund members. Generally, this test is passed if it is a genuine investment to produce income and/or capital appreciation in order to provide benefits to members after their retirement, or to members’ dependants after their death, so long as there are no other purposes. So if the trustees are excited about an attached right to use community facilities, such as a golf club, which they plan to use during their vacation, discuss with them the sole purpose test and whether the investment is appropriate to be held in their SMSF. Also, members in or nearing retirement phase should expect higher
scrutiny from the auditor and the ATO on this issue if the investment will likely hinder commencement of a pension due to lack of cash flow or require commutation of any pension. In a different context of property development, an example of a possible contravention provided by the ATO in its SMSF Regulator’s Bulletin SMSFRB 2020/1 was where “the SMSF trustee decides to cease paying its members a pension so that the SMSF could use its cash reserves to make an additional contribution to a struggling property development venture”.
Potential limitations on available ownership structure and SIS compliance implications As a mandatory covenant, SMSF trustees are required to keep the fund assets separate from any personal asset. This generally requires all trustees, or the corporate trustee, to be registered as the owners of the asset in their capacity as the fund trustees and where the ownership registry doesn’t recognise any trustee capacity, a deed of acknowledgement of title should be in place to formally document that the asset is held by the trustees as an asset of the fund. With overseas property investment, the relevant local conveyancing and property laws must be checked with local lawyers to see if foreign individuals or a foreign company can be registered as the owner and if not, check available options for property ownership by foreign trusts. Trustees then should seek separate advice from an Australian superannuation lawyer to discuss and select an appropriate ownership structure from a SIS compliance perspective. If permitted by the local laws, having the corporate trustee, an Australian Pty Ltd company, as the owner of the property would be the simplest option. The official evidence of the property ownership in that country and a formal valuation can be provided for annual audit purposes. The Continued on next page
QUARTER IV 2021 33
STRATEGY
Continued from previous page
SMSF is a unique structure to Australia and it is likely the foreign property registry system would not properly recognise and show on title the owner’s capacity as trustee of the SMSF. In this case, a deed of acknowledgement of title can be signed by the trustee to clarify that the property is an asset of the fund. Care needs to be taken to ensure that such a deed doesn’t inadvertently constitute a resettlement or a declaration of a new trust.
Individual trustees as the owners If the relevant local laws do not permit a foreign company to own land in their jurisdiction, but permit foreign individuals to do so, one option is to change the fund’s trustee to its members and then acquire the property in the name of the individual trustees. This is generally not recommended though and should be one of the last resorts to consider, given the normal downsides with having individual trustees for a fund and further the potential difficulties and uncertainties when dealing with the foreign registries and tax offices in case of an unforeseen need for a change in ownership due to a necessary change in trustee, such as the death of a member. Trustees must not assume the foreign jurisdiction recognises and provides tax/duty exemptions or concessions for transactions arising due to a change in trustees of a trust, and advice from an appropriate local expert, such as a property/tax lawyer, must be sought to consider this aspect.
Setting up a local entity At times, setting up a local entity, that is, a company established in that jurisdiction, may be necessary so that the company holds the property as an intermediary vehicle. The structure may also serve another purpose in allowing pooling of funds from one or more other parties as shareholders or co-investors. The SMSF’s
34 selfmanagedsuper
investment is then in the local entity as a shareholder and if that company is deemed related to the fund, the investment would be subject to the in-house asset rules with limitation on its value capped at a maximum 5 per cent of the total value of the fund. The local entity will be deemed a related party if the members, together with any of their related parties, either hold a majority of shares in the company or control the decisions of the company’s board of directors either by being appointed as a majority of its directors or controlling decisions of the majority of directors otherwise. The 5 per cent limit can be overcome if the company is set up as a 13.22C, or ungeared, entity under the SIS Regulations, subject to the normal restrictions outlined by regulations 13.22C and 13.22D. Using
As with any other SMSF investment, trustees have to check the fund’s trust deed to confirm they have all the necessary authorities to invest in overseas property.
this structure, the SMSF may hold more than a 50 per cent share, or even 100 per cent, in the company without the application of the 5 per cent in-house asset limit, but significant restrictions will apply to what the company can and can’t do. This will effectively rule out any other investment activities by the company, such as acquiring listed shares, lending, borrowing, giving a charge over any company asset or developing the property. As an illustration of how easily the in-house protection under SIS regulation 13.22C can be lost irreversibly, an act of opening a foreign bank account in the name of the company and making a small deposit could trigger the loss of the protection unless the foreign bank is an authorised deposittaking institution under Australia’s Banking Act 1959. Check local requirements to see
if it is possible to just open and maintain a foreign currency account with an Australian bank for the purpose of receiving rents and paying expenses. If opening a bank account with a foreign bank is necessary, ensure you choose a bank that has an authority granted by the Australian Prudential Regulation Authority to carry on a banking business in Australia.
Using an LRBA therefore will pose further compliance risks unless the trustee can find a commercial lender that will approve a loan for the purchase on limited recourse terms that fully complies with the LRBA provisions of the SIS Act (whether the trustee actually borrows from the lender or uses the institution’s parameters to benchmark their terms when using a related-party loan).
Bare trustee of an LRBA
Taxpayer in a foreign country
Another exception to the in-house asset rules is available for a bare or holding trust used in connection with a complying LRBA. There is no prohibition under the SIS Act on having a foreign entity acting as holding trustee of an LRBA. The problem, however, is that there aren’t many commercial financial institutions in Australia that would lend to an SMSF on limited recourse terms for the purchase of an overseas property. If a foreign bank is willing to do so, it is unlikely its terms will fully appreciate and appropriately limit the recourse to the single acquirable asset. Given the scarcity of commercial loans to benchmark against, a related-party LRBA loan may be at risk of being in breach of the arm’s-length provisions under section 109 of the SIS Act, as well as the risk of a penalty tax rate applying to any ordinary or statutory income from the investment under the non-arm’s-length income (NALI) provisions of the Income Tax Assessment Act 1997.
By owning an overseas asset, the trustee, or the local entity set up to hold the property, may become subject to a whole myriad of foreign laws. Just like we have conveyancing, leasing, duties, land tax, income tax and local government laws in Australia, the foreign country will likely have its version of different rules applying to property ownership. So the important issues to be discussed with a tax specialist with the necessary expertise in the area include the details of: • any tax reporting obligations to the foreign tax office, • any tax liability in that country to be borne by the SMSF as the investor, and • any applicable double tax treaty between Australia and the relevant country to take into account the tax the SMSF will pay in Australia on the income, that is, the 15 per cent concessional tax payable by SMSFs, to avoid any double tax on the income.
SUMMARY
Exposure to overseas markets could be an important strategy for a fund to diversify investments and safeguard the retirement savings from potential volatility in the local investment markets. There is much to consider with any overseas investment, but directly owning an overseas property in an SMSF adds a whole layer of complexity and it’s important to ensure trustees seek the necessary advice early from both Australian advisers and those in the foreign jurisdiction to check if the proposed investment can satisfy the compliance requirements, what it will entail in terms of costs and taxes, and, last but not the least, whether it’s still commercially viable.
QUARTER IV 2021 35
ADELAIDE 16–18 FEBRUARY
EARLY BIRD REGISTRATIONS ARE NOW OPEN!
GLIDE INTO THE SMSF ASSOCIATION’S NATIONAL CONFERENCE IN ADELAIDE DURING FEBRUARY 2022
Buckle up as we propel into a new era of SMSF advice and services together! Let the SMSF Association guide you down the right path at National Conference 2022: By getting you up to speed with the latest legislative and policy developments including what it means for your practice and client strategies; Providing a wealth of SMSF resources and practical takeaways;
Providing opportunities to reconnect with multi-disciplinary SMSF professionals from across Australia; Showcasing a wide range of SMSF advice, product and services providers. And much more...
Hosting exciting networking events so you can indulge in premium produce and beverages;
Hear from experts in the SMSF sector including:
Peter Burgess
Meg Heffron
Craig Day
Deputy CEO / Director of Policy and Education, SMSF Association
Managing Director, Heffron Consulting Pty Ltd
Head of Technical Services, Colonial First State
Jemma Sanderson
Scott Hay-Bartlem
Bryce Figot
Director, Cooper Partners Financial Services Pty Ltd
Partner, Cooper Grace Ward
Special Counsel, DBA Lawyers Pty Ltd
VISIT SMSFASSOCIATION.COM/CONFERENCE AND BOOK WITH CONFIDENCE
COMPLIANCE
The two-year amnesty dilemma
The federal government’s decision to apply a two-year moratorium allowing superannuants with legacy pensions to deal with the adverse issues stemming from these income streams was welcomed by the sector. But with no indication of when the two-year period will commence, some individuals in this situation may not be able wait. Mark Ellem explores the implications for them and the potential remedies available.
MARK ELLEM is head of education at Accurium.
The number of SMSFs with a member being paid an old legacy pension continues to fall and with the 2021 budget announcement of a two-year period for members with these old pension to exit, there may not be many, if any, left in five years. However, is the strategy for SMSFs with these pensions as simple as waiting for the start of the two-year exit period? Given the fact the life expectancy tables are not that kind for such members, putting these individuals aside until the start of a two-year exit period to deal with those pensions may turn out to be quite costly.
What are legacy pensions? The pensions in focus are those that will be eligible for the proposed two-year exit measure being as we understand it:
38 selfmanagedsuper
• Superannuation Industry (Supervision) (SIS) regulation 1.06(2) lifetime complying pensions, • SIS regulation 1.06(7) lifetime expectancy pensions, also known as a fixed-term pension, and • SIS regulation 1.06(8) market-linked pensions (MLP), also known as term-allocated pensions. The first two pensions are defined benefit pensions (DBP), whereas an MLP is not.
The issue with legacy pensions All these pensions cannot be commuted, except in limited circumstances. That is, generally an SMSF member cannot effect a transfer of the pension capital back to their accumulation account, unlike an accountbased pension. One of the biggest issues with DBPs is dealing with
any leftover pension capital after the income stream has expired, either as a consequence of the pension term ceasing or the member dying. There can be few to no estate planning strategies that can be implemented for these types of pensions as, generally, any residual capital does not belong to the deceased member. The contribution caps that applied from 1 July 2007 present a challenge for dealing with these leftover reserves. Pension capital left over, after its (nonreversionary) term has expired or the member has died, is not as big an issue for an MLP. Firstly, the rules for an MLP are designed to ensure there is no pension capital remaining at the end of the term. Secondly, any capital at the time of a member’s death, prior to the term coming to an end (non-reversionary), can be paid out as a superannuation death benefit.
Defined benefit pension upon death What needs to be at the forefront of SMSF members’ minds and their advisers’ minds are the adverse estate planning and tax consequences the death of a member with a DBP have and the importance of considering the options available prior to that individual’s death. I continue to get phone calls and emails from advisers that start with: “I have an SMSF client who has died. They had a defined benefit pension; how do we pay out the death benefit?” How I wish I got that contact prior to the member’s death. Generally, when a member is receiving a (non-reversionary) lifetime complying pension, then upon their death, the capital supporting the pension will remain in an unallocated reserve and cannot be paid to the deceased member’s dependants or their estate. This unallocated reserve belongs to the SMSF and is controlled by the trustee. The trustee of the fund could allocate money from the reserve to the other members in the fund, but before doing so it is important to consider the taxation treatment of those distributions as outlined in regulation 291-25.01 of the Income Tax Assessment Act 1997 (ITAA) and Regulations 2021.
What needs to be at the forefront of SMSF members’ minds and their advisers’ minds are the adverse estate planning and tax consequences the death of a member with a DBP have.
If the member is receiving a complying life-expectancy (fixed-term) pension, then on death of the primary beneficiary, where the term of the income stream was not based on the spouse, the remaining pension payments until expiry or a lump sum equivalent of the remaining pension payments, can be paid to the estate. However, if the term of the pension was set based on the spouse’s life expectancy, the pension must continue to the spouse. The commutation value of a life-expectancy pension into a lump sum is also restricted by SIS regulation 1.08. This provision imposes a limit on the maximum amount that can be commuted to a lump sum. If the capital supporting the life-expectancy pension exceeds the amount that can be commuted to a lump sum, then the surplus capital will remain in an unallocated reserve. Again, reference should be made to the previously mentioned income tax regulation for the potential adverse tax consequences of allocations from a reserve. Given the low concessional contribution cap, allocating a large amount left over from an expired DBP could take a number of years, particularly where the objective is to avoid any excess concessional contributions and associated potential tax implications. This can be a disappointing revelation to surviving family members who may have been
anticipating receiving a significant amount of capital as a superannuation death benefit payment, either directly from the SMSF or via the deceased member’s estate. Waiting for the start of the two-year legacy pension measure to act could see this situation arise – an amount of capital retained inside of superannuation with restrictions to access and/or significant tax consequences applying to enable immediate withdrawal from super.
Dealing with a DBP before the member’s death To remove the risk of potential estate and tax consequences where the member with a DBP dies prior to being able to exit it under the two-year budget measure, consideration should be given to restructuring the DBP to a pension for which any capital remaining upon the member’s death can be dealt with, similar to a market-linked or account-based pension, that is, paid to a dependant or estate. The restructure of a DBP requires it to be commuted. There are limited instances when a member can commute a complying DBP and one such occasion is when the proceeds are used to commence another complying income stream. There are only two types of complying income streams now available to members wishing to commute their complying DBP. These are: • complying MLP, and • retail complying annuities. Unfortunately, we understand there are currently no providers in the market offering complying annuities. Where the relevant member wishes to retain capital inside the SMSF, which could be due to the type of assets held by the fund, a restructure to an MLP will be the only option. Example – restructuring a lifetime complying pension to an MLP
Rosie, aged 75, has a non-reversionary lifetime complying pension (LCP) in her SMSF. It commenced on 1 October 2003 with an annual pension amount of $20,000, which is Continued on next page
QUARTER IV 2021 39
COMPLIANCE
Continued from previous page
not indexed. At 30 June 2021, the capital backing Rosie’s LCP was $498,000. The actuarial review of the pension is shown in Table 1. The higher probability valuation is for Centrelink purposes where the LCP is asset test exempt. The additional $62,000 pension liability is required to provide the higher 70 per cent confidence level. If Rosie was to die, for example, prior to any two-year exit measure commencing, the capital supporting her LCP, say it was still $498,000, could not be used to pay a superannuation death benefit. It would form part of an unallocated reserve within the SMSF. This can pose a challenge to distributing the amount to Rosie’s beneficiaries, particularly if there are no other members of the SMSF. However, Rosie could decide to fully commute her LCP and use all the capital to commence a new MLP within the SMSF. There is no legislative prohibition on commencing a new MLP in an SMSF, provided the capital used to commence the new income stream is a result of the commutation of a complying pension, which includes the three previously mentioned legacy pensions. Importantly, the SMSF’s trust deed must permit the fund to pay an MLP to a member. Based on the ATO’s Interpretive Decision 2015/22, Rosie can use the value of the capital backing of the LCP to commence the new MLP. She will be required to set the terms of the MLP, including how long it will be paid for, which could stretch out to her 100th birthday. Note, she could have used the best estimate or high probability valuation as the conversion amount, however, these would have left an amount in an unallocated fund reserve. The main advantage of the conversion of Rosie’s LCP to an MLP is that upon her death, where it occurred prior to her being able to exit the LCP under the two-year exit measure, the value of the MLP can be paid out of the SMSF as a superannuation death benefit and no amount will be caught in an unallocated reserve. A similar approach could be applied where
40 selfmanagedsuper
Table 1 Best estimate valuation – SIS purposes
High probability valuation – social security purposes
Capital supporting DBP
$498,000
$498,000
DBP liability
$210,000
$272,000
Surplus/(deficit)
$288,000
$226,000
Rosie’s LCP
Rosie had a life expectancy pension, however, as noted, the commutation restriction rules that apply to this type of income stream are likely to result in a portion of the DBP capital not being converted to the MLP and being held in an unallocated reserve.
The transfer balance cap issue A commutation of a DBP and the commencement of an MLP are both transfer balance cap events that will give rise to transfer balance account (TBA) debits and credits. One reason pre-1 July 2017 legacy DBPs have not been restructured to an MLP is that the member may end up with an excess TBA that cannot be rectified. The federal government announced as part of its December 2020 MidYear Economic and Fiscal Outlook that it would amend the law to ensure in such a scenario an affected member would be able to undertake the necessary partial commutation. Like the two-year proposed exit measure, we are yet to see any draft legislation for this measure. However, given that section 294-45 of the ITAA states that an individual’s TBA ceases upon death, it effectively removes the issue of an excess TBA balance where it is known a member will soon die. Harsh as this may sound, it does mean capital can be paid out as a superannuation death benefit, rather than being retained in an unallocated reserve.
Centrelink considerations There will also be Centrelink considerations for any conversion of an asset test exempt pension,
both under the rules that apply today and any future two-year exit measure. Restructuring asset test exempt pensions can result in clients suffering lower age pension entitlements.
Why not just wait for the two-year measure to start? Based on our understanding of the two-year legacy pension exit measure, referring back to the example of Rosie, she would still be entitled to apply the measure. The conversion of her LCP to an MLP would not take away her opportunity to use the exit measure. However, it does remove the issue of dealing with an unallocated reserve in the situation where she dies prior to being able to use the exit measure. Further, depending on the draft legislation, the conversion from the LCP to the MLP may remove the assessable commuted reserve, but this will depend on how this term is defined. This would not be expected to happen if Rosie had a life expectancy pension where a conversion to an MLP resulted in there being an amount retained in an unallocated reserve. It is not expected the proposed exit measure will apply to general reserves, as there’s no pension to be exited. SMSFs with defined benefit legacy pensions should be reviewed and the options considered. It would be prudent for affected members to be informed of the options to restructure, both under current law and the two-year proposed exit measure and the potential estate planning consequences and tax implications of both scenarios.
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STRATEGY
The estate planning path: part two
The ability of superannuation death benefits to be treated separately from a deceased person’s estate is beginning to be negated. In the second part of this estate planning series, Grant Abbott highlights a recent court case with concerning implications for SMSFs.
GRANT ABBOTT is the founder of LightYear Docs.
42 selfmanagedsuper
Over the past few months, selfmanagedsuper has published several articles, discussion pieces and analyses of the best ways in which to enact an SMSF estate plan. Given there is more than $400 billion of wealth to pass out of SMSFs as a consequence of the death of fund members over the next 20 years, it is clear for SMSF advisers and lawyers we are dealing with a big game ahead.
Following my last article published in this magazine, I was going to go through the six components of an effective SMSF will. However, something far bigger and more important is staring us in the face and it must be addressed now.
Family provisions claims The traditional will we see at law firm Abbott &
Mourly usually directs superannuation to the estate. Now, we are not talking about the will directly as the commissioner of taxation and the courts have repeatedly said wills cannot direct superannuation; it is only the governing rules that can do this. Additionally, the use of a binding death benefit nomination (BDBN) as part of the governing rules is a vital tool if completed correctly. However, many BDBNs have proven defective. Katz v Grossman [2005] NSWSC 934 and Donovan v Donovan [2009] QSC 26, where the SMSF members sought to transfer their superannuation benefits to their estate, ended up seeing the trustee taking advantage of the fund deed to make a payment to themselves. If the BDBNs were effective, then the superannuation benefits would have gone to the estate to be split in Katz’s case with the brother of the SMSF trustee, or the children from the first marriage in Donovan rather than the remaining fund trustee, being the second spouse. As such, it is important to have a properly drafted BDBN or a more precise SMSF will, which should look like a conventional will but for super benefits only, in terms of superannuation estate planning. The important question though is if the BDBN directs a deceased’s superannuation into an estate, then it may be subject to family provisions claims. In the same way BDBNs can get blown up by a good superannuation lawyer, likewise a will which includes directions on how to split super proceeds may also suffer the same fate due to a family provisions claim. Superannuation money attracts ‘no win, no fee’ lawyers as there is usually cash in the estate courtesy of super, and not just a family home or other investments. All Australian states have enacted family provisions claims enabling ‘eligible persons’ to make a claim against an executor and an estate, despite what is stated in the will. Justice Geoff Lindsay of the equity division of the Supreme Court of New South Wales wrote a great paper called “The Family Provision Jurisdiction in Historical
Perspective” in May 2020, noting “[the family provisions laws] turns on terms such as ‘adequate’, ‘proper’ and ‘ought’ in their application to provision for a person’s maintenance, education or advancement in life”. So even if the deceased’s will provides for all their superannuation to go to their youngest child, if there is another child or de facto spouse who needs ‘maintenance’, then a court can easily override the provisions of the will and institute its own family provisions award. Getting to that point in court can not only take a lot of time, but it can create a huge legal bill and cause a great deal of stress. As Justice Lindsay has noted: “In the absence of family harmony, exposure to family provision litigation costs, as well as the uncertainty attending any litigation, imposes heavy transaction costs on administration of a deceased estate.”
In the same way BDBNs can get blown up by a good superannuation lawyer, likewise a will which includes directions on how to split super proceeds may also suffer the same fate due to a family provisions claim.
Family provisions for SMSFs Common sense would prompt most advisers and lawyers to examine that if a superannuation benefit is directed toward a will, and a possible family provision claim, it would be best to make direct payments to the dependants. Can a family provisions claim reach into an SMSF? Generally, no, but in NSW there is the unique concept of the ‘notional estate’ in family provisions claims dictating the SMSF is potentially wrapped up in the estate. This concept only applies to NSW claims, but we all need to be cautious and aware to see if it creeps into other states.
Kelly’s case, notional estate and SMSFs I want to delve into Kelly v Deluchi [2012] NSWSC 841 (26 July 2012) to demonstrate what can happen when states draft laws that interfere with the Superannuation Industry (Supervision) (SIS) Act 1993. Let’s start with the background facts and it is important while reading this to absorb the facts as they do not represent a common style of directions or client background:
• The deceased, Roy Kelly, died on 11 December 2009. He was then aged 69, having been born in March 1940. • The deceased was married to Denise Eileen Wallace in May 1962. She predeceased him, having died in June 1981. Mark, Peter and Michele are each children of the deceased and Denise. • The deceased married Loretto Pasion in January 1982. There were no children of their union, although Loretto had two daughters who lived in the same household with the deceased and Michele. About a year after they moved in, Loretto and her children left and were not seen again. The marriage was annulled in February 1984 as Loretto had remained married to her husband in the Philippines. • Mary was born in August 1947. She and the deceased were married in September 1985 and remained married until the deceased’s death, nearly 24 Continued on next page
QUARTER IV 2021 43
STRATEGY
In NSW there is the unique concept of the ‘notional estate’ in family provisions claims dictating the SMSF is potentially wrapped up in the estate.
Continued from previous page
years later. In all, their relationship spanned more than 25 years. • Mary was previously married to Alan James Smith. There were three children from their marriage, namely Michael Alan
44 selfmanagedsuper
Smith, who was born in November 1971, Kaylene Jean Smith, who was born in May 1973, and Jennifer May Smith, who was born in July 1974. Mary’s marriage to Alan was dissolved in April 1983. • At the time of the deceased’s marriage to Mary, he still had the care of Michele, while Mary had the care of her three children. They all seem to have lived together for some time although the detail of the family arrangements during this period is scant. (Michele says that only Mary and Michael moved in to the deceased’s home.) The deceased left a will that he made on 16 July 2009, probate of which was granted, on 16 August 2010, by this court, to Alexander and Robyn. The deceased’s will, relevantly, provided for: a. a pecuniary legacy of $50,000 to Mark, b. a pecuniary legacy of $75,000 to Peter, c. a pecuniary legacy of $75,000 to Michele, and d. a pecuniary legacy of $10,000 to the deceased’s friend, Errol Larbalestier.
It went on to leave: “iv. Forty per cent (40%) of my life insurance policy proceeds to be divided equally amongst my six (6) grandchildren being the children of my son Peter and my daughter Michele; v. Sixty per cent (60%) of my life insurance policy proceeds to be divided equally amongst my two (2) grandchildren, being the daughters of my son Mark; vii. My Rollex (sic) watch (known as ‘oyster perpetual’ – just date) to my son Peter Roy Kelly; viii. My Toyota Landcruiser and my Golf Caravan to my stepson Michael Smith; and ix. The balance of my Residuary Estate to my Wife, Mary.” The deceased then made a bequest of $2000 to Alexander and Robyn for the time and effort required to distribute the estate. Finally, in the will, the deceased explained he had left Mark less than he had left to Peter and Michele because his relationship with Mark “has not been constant”.
The Kelly estate and the SMSF Roy Kelly died with an estate of $281,000, reduced to $262,000 by the time of the hearing due to probate, funeral and other expenses. In addition, he held a joint tenancy in a property in Belrose, Sydney, with Mary. There was an SMSF with a corporate trustee in which Roy and Mary were directors and at the time of death Roy had a member’s benefit of $1,234,702, which had shrunk to $1,043,009 by the time of the hearing. Costs of the case to date were $190,000, which included legal expenses plus airfares and accommodation for Peter and Michele, Roy’s youngest children who resided in Canada. The estate was not enough to pay out all of Roy’s bequests, and as a result the executors needed to cut back on all bequests, including the expensive cost of the proceedings, unless super was taken into account, which would have eaten into the majority of the estate. Looking closely at the SMSF, it held shares and business real property at Willoughby, Sydney, which was used by Roy in his engineering business. The latest trust deed provided as follows in relation to death benefits: “Subject to the relevant law, upon the death of a member or beneficiary who had dependants, the trustee shall: i. if required by a death benefit notice given by the member or beneficiary to the trustee, pay or apply the benefit in accordance with that death benefit notice; ii. otherwise, pay or apply the benefit to or for the benefit of one or more of the member’s or beneficiary’s dependants (including any nominated dependants) and legal personal representative in such proportions, form, manner and at such times as the trustee shall from time to time in its discretion determine provided that the payment of the benefit shall comply with the relevant law.” Hallen noted in the case that: “At an extraordinary general meeting, held at the
Belrose property on 18 February 2010, it was noted that an application of death notice benefit in respect of the deceased had been received from Mary and a resolution was passed ‘[T]o allocate death benefit of former member and reversionary pension to the widow. No other person is known to be financially dependent at the time of death on the former member ...’. The resolution was signed by Mary as ‘Chairperson for and on behalf of [the trustee] ATF [the fund]’.” It is important to note the clause of the deed in relation to the distribution of death benefits where no death benefit notice was received by the trustee was woeful, but the fact Mary tried to put in place a death benefit notice for him post Roy’s death was even worse.
The use of a binding death benefit nomination as part of the governing rules is a vital tool if completed correctly.
The result Justice Philip Hallen of the NSW Supreme Court looked at whether the deceased’s superannuation benefits could form part of Roy’s notional estate and be used for distribution to eligible people, who he noted included: • his children, • his stepchildren, • his grandchildren, and • his ex-wives, including the Filipina from 25 years ago in the annulled marriage. In terms of whether Roy’s super and the SMSF monies could form part of the notional estate, Hallen noted: “Senior counsel for Mary and the trustee made no submissions, in writing, or orally, that the court, for any reason other than that the claim of each of the plaintiffs should be dismissed, should not make an order designating property as notional estate. To the contrary, it seemed to be accepted by him that such an order could be made to satisfy any family provision order in favour of one, or both, of the plaintiffs and any costs ordered to be paid. In any event, having considered the evidence, I am satisfied that a notional estate order may be made in
the circumstances of this case. There is no evidence relied upon which would prevent such an order being made.” So Hallen considered Mary’s SMSF monies and determined the appropriate distribution under the estate, topped up by super monies, should be that: 1. Peter receive a legacy of $150,000, 2. Michele receive a legacy of $100,000, and 3. $190,000 in legal and other costs. As noted by Hallen, the use of direct SMSF payments to cover a deficit in an estate legacy was not challenged by counsel, which is very strange, particularly as the SIS Act deals explicitly with the direct payments at commonwealth level, while family provisions claims are dealt with at state level. This looks like a constitutional issue to me, but I guess that might have been missed during the case. From this case example it is very clear you should be cautious when dealing with NSW superannuation estates. Further, an eye needs to be kept on the legislation of other states to see if it ends up following the same path.
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COMPLIANCE
Back to basics with super advice
There are many misconceptions hindering individuals from getting the maximum advantage from their superannuation. Liz Westover examines 10 common myths and illustrates how debunking them can assist people to make the most of their retirement savings.
LIZ WESTOVER is superannuation, SMSF and retirement savings partner at Deloitte
46 selfmanagedsuper
When superannuation and SMSFs become your day-to-day working life, you become very familiar with the rules and regulations that dictate how you and your clients operate. So much so, that it is easy to forget those outside our industry, including our peers and our clients, don’t have the same insights as we do. What we refer to as ‘the fundamentals’ are not necessarily thought of in the same way by others. We can all too easily assume that because most Australians have at least one superannuation fund, they must understand at least the basics of super, but
unfortunately that couldn’t be further from the truth. Consequently, many myths and misunderstandings continue to abound. Much of our ongoing training is in relation to the latest strategies and changes in laws and this is often the updates we provide our peers and clients. But perhaps it’s time to go back to basics and offer a refresh on the fundamentals. Change has been the one big constant in the superannuation industry and that’s caused confusion and disengagement. A back-tobasics approach may be what’s needed to re-engage
our clients and get them thinking more proactively about their retirement savings. Following are 10 of the more common features of superannuation and SMSFs that are frequently found to be misunderstood and will assist in starting the conversations that need to be had with colleagues and clients.
1. There is a limit on how much an individual can hold in superannuation It is still surprising how many people, including many in the tax profession, who believe the $1.7 million transfer balance cap refers to how much can be held in superannuation in total. As SMSF advisers will know, the $1.7 million transfer balance cap refers to the maximum commencement value of a retirement-phase income stream and a $1.7 million total superannuation balance will restrict an individual’s ability to make further non-concessional contributions, but it is not a limit on the size an individual can hold in super. This misunderstanding frequently leads to confusion and disengagement with superannuation because trustees and their advisers don’t consider certain strategies as they mistakenly believe they won’t be available due to a person’s total super balance, for example, an individual’s ability to make downsizer contributions or a small business capital gains tax contribution. Neither are restricted by total super balance and neither will be denied because they would cause an individual to exceed $1.7 million in their total super balance.
2. The general transfer balance cap is a limit on the ongoing balance of an income stream The general transfer balance cap, currently $1.7 million, is the upper limit on the commencement value of an income stream. It is not a limit on the ongoing balance of an income stream account. If an individual is fortunate enough to have investment earnings that exceed the mandatory
minimum withdrawals from these accounts, then the balance of their income stream account will exceed $1.7 million over time. This is of no concern and in fact with the strong returns on the stock market over the past 12 months, is quite common.
3. Superannuation death benefits automatically form part of an individual’s estate on death and as such will be paid based on the terms of that person’s will One of the biggest misunderstandings in relation to superannuation is what happens to an individual’s benefits when they die. They do not automatically form part of an individual’s estate unless they are specifically directed there or there are no eligible beneficiaries. As such, an individual’s will has no jurisdiction over the payment of death benefits unless and until those benefits are paid or directed to the estate. Death benefits can be paid to the estate if directed there under a binding death benefit nomination (BDBN) or by the remaining trustees or legal personal representative of the deceased. The fund deed may also influence the payment of death benefits.
4. There are no restrictions on who can be nominated to receive death benefits from a super fund It’s not surprising most people would not appreciate that superannuation law is quite specific about who is able to receive super death benefits. After all, it’s not unreasonable they would believe their benefits could be paid to whomever they choose. However, as advisers will know, there are eligible classes of beneficiaries to whom super death benefits can be paid directly from a fund, being spouse, children, financial dependants and those in an interdependent relationship with the deceased member. Unless they can meet the definition of the latter two, which is not that easy to do, parents and siblings are not eligible beneficiaries and as such, a super fund
cannot pay death benefits directly to them. Many younger people in particular frequently nominate their parents or siblings to receive their death benefits without understanding these people can’t actually receive benefits directly from their fund. In the absence of an eligible beneficiary, benefits will be paid to the deceased’s estate (legal personal representative) and then distributed as per the terms of that person’s will. The same restrictions on who can receive benefits do not apply when they are paid via the estate. As such, if an individual wants a ‘non-dependant’ to receive their superannuation death benefits, they will first need to direct their benefits to their estate and then nominate that individual to receive the benefits in their will.
5. T here are no death taxes in superannuation There is a frequent misunderstanding about the application of ‘dependant’ in superannuation, particularly when paying death benefits. The definition of dependant in super law dictates who can receive death benefits and the definition in tax law determines if and how a recipient will be taxed. There is a difference in the two definitions – the main one being that of adult children. Super law says all children are dependants so they are eligible to receive death benefits, but tax law says adult children are not dependants for tax purposes so will not receive death benefits tax-free. So, while we don’t call them death taxes per se, superannuation death benefits paid to a non-tax dependant, including adult children, will be taxed on the taxable component of the deceased’s benefits.
6. R eversionary nominations are all that are needed for superannuation estate planning It is quite common for spouses to nominate each other as the reversionary beneficiary Continued on next page
QUARTER IV 2021 47
COMPLIANCE
of their income streams in the event of their deaths. While this can be a good start in working through estate planning issues in superannuation, it needs to be remembered the reversionary nomination only works for one of them and, as such, they need a back-up plan as well for dealing with death benefits once one of them passes and a reversionary nomination is no longer valid. This can be where a BDBN can be useful as a cascading form of death benefit nomination. That is, a reversionary nomination would take effect first on the passing of one spouse, then the BDBN would be in place to deal with death benefits on the passing of the second spouse. There are also other estate planning strategies and this is arguably one of the biggest gaps in advice to SMSF members.
that account can no longer be added to using contributions. However, having an income stream does not mean further contributions cannot be made for or by an individual into superannuation. Such contributions will be made to the accumulation account of the member and once a condition of release is satisfied on the accumulation account, it can be used to commence a new income stream account or accessed by way of a lump sum. Commencing an income stream in and of itself does not restrict an individual’s ability to make future contributions into super, but it is worth remembering that at the time an individual commences an income stream, they may also face some restrictions on their ability to make further contributions into superannuation, which could include age-based restrictions and/or passing a work test.
7. The concessional contributions cap refers to personal contributions only
9. Contributions to super can only be made while working
Advisers frequently remind clients of the concessional contributions caps and their ability to make personal deductible contributions. This is particularly so this financial year with the increase in the caps to $27,500 a year. However, it may be worth ‘joining the dots’ a bit more and making sure clients understand what a concessional contribution is and the types of contributions that will count towards that cap. It is not a cap specifically for personal deductible contributions that are more often only used to top up contributions to the cap limit after employer superannuation guarantee and salary sacrificed payments are made. A reminder of this to clients could prevent any potential excess contributions being made.
There is no doubt there is a strong link between working and the 10 per cent compulsory superannuation guarantee. The work test also currently applies for individuals over the age of 67 (up to age 75), allowing them to make or have made for them contributions other than mandated employer contributions if it is satisfied. However, for most Australians up to the age of 67, there is no nexus to work that would limit their ability to make contributions to superannuation personally. Confusion still exists largely because up to 2017, individuals who were receiving superannuation support from employers were not allowed to make personal deductible contributions (this was due to what we knew as the 10 per cent rule), but this no longer applies. As such, subject to other restrictions, including the total superannuation balance, contributions caps and age-based limits as outlined above, individuals are able to make contributions regardless of their work status.
Continued from previous page
8. Once an income stream is commenced, contributions can no longer be made into super There is an element of truth in this myth. Once an income stream is commenced,
48 selfmanagedsuper
A back-to-basics approach may be a great way to re-engage clients and educate our peers so they are having quality conversations with their clients as well.
10. It’s not worth contributing to super because the rules keep changing This could well be one of the hardest myths to bust, mainly because the rules do keep changing. However, our superannuation system is arguably the most tax-effective place to save for retirement. It will likely continue to be so because the government has a strong incentive to encourage superannuation savings to diminish any future potential reliance on social security and the age pension scheme. So, even if the rules are changing, its overall attractiveness as a savings vehicle will not likely change. Superannuation can be confusing. It has complex laws and rules that are forever changing. A back-to-basics approach may be a great way to re-engage clients and educate our peers so they are having quality conversations with their clients as well. Strategies to maximise retirement savings are important, but fundamental misunderstandings about the rules of our super system will always undermine attempts to advise on and implement these strategies.
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STRATEGY
Alternative property ownership intricacies
An arrangement where an SMSF jointly owns a property with a member of the fund can be beneficial, but needs to be carefully managed throughout the life of the asset, writes Graeme Colley.
GRAEME COLLEY is SMSF technical and private wealth executive manager at SuperConcepts.
50 selfmanagedsuper
Joint ownership of property between an SMSF member and the fund itself may sound like a good, if not great, idea. If you and your SMSF have the resources to purchase the desired property outright, then there’s no need to be worried with gearing via a limited recourse borrowing arrangement or other financing structure. A joint bank account is usually established to receive the joint income and pay expenses – all good. Then the joint income is distributed to the owners in proportion to their share of the property. However, what happens
if some big bills come in, such as property renovations or improvements, that can’t be paid out of the joint account? And what is the impact of these expenses on capital gains or losses when the property is finally sold? Let’s look at a case study where an SMSF and a member of the fund jointly purchased an apartment for $2 million in 2018. The SMSF is entitled to a 60 per cent share of the property and the member a 40 per cent share as tenants in common. A joint bank account was established and a lease signed with an
Table 1 Part-ownership of the SMSF – 60% as tenant in common
Initial cost of property including purchase expenses in 2018
$1,200,000
Part ownership by the member – 40% as tenant in common
Total
$800,000
$2,000,000
Capital expenses incurred by each party 2019
$20,000
$10,000
$30,000
2020
$0
$100,000
$100,000
2021
$40,000
$10,000
$50,000
Sale price of property
$3,000,000
Net capital gain Net capital gain of each owner
$820,000 $492,000
For purposes of the ITAA, the main consideration is that if no appropriate adjustment is made to the expenses incurred on the property by the SMSF, then any taxable capital gain may be taxed as non-arm’s-length income.
$328,000
arm’s-length tenant on a full commercial basis. The joint bank account receives income from the tenant and the day-today expenses are paid from the joint bank account. The SMSF and member receive net income distributions from the joint account each six months in proportion to their respective ownership of the property. In 2019, repairs were made to the property of which $20,000 was paid by the SMSF and $10,000 was paid by the member. In 2020, the decision was made to renovate the property to install a new kitchen and bathroom. As the SMSF did not have the cash flow at the time, the member paid the builder for the renovation out of their own resources. In 2021, further renovations were made to the property for which the SMSF paid $40,000 and
the member paid $10,000. All of these expenses were added to the cost base of the property for capital gains tax purposes. In view of the way in which the SMSF and the member have paid capital expenses for the renovations and repairs, there is a difference between the amounts paid by each owner compared to their respective shares. This difference will have an impact on the cash flow of each owner. Also, the fund may be faced with other implications, such as the compliance of the fund for purposes of the Superannuation Industry (Supervision) (SIS) Act 1993 and SIS Regulations, as well as the Income Tax Assessment Act 1997 (ITAA). The difference between cash flows and taxable capital gains can be illustrated in Table 1. The taxable capital gain that will be assessed to each owner’s share of the property is the proportion of the gain that relates to each owner’s share as tenant in common. The income received from the sale or disposal of the property will be reduced by its cost base to calculate the net capital gain and will include any capital expenses paid by each owner as tenant in common. If we go to the case study, then the net capital gain will be calculated as shown in Table 1. The expenses incurred by each owner are inconsistent with the proportion owned as tenants in common. The reason is that the super fund has incurred $60,000, about one-third, and the member has incurred $120,000, around two-thirds, of the total expenses. Therefore an expense incurred by the member has resulted in a relatively higher amount being credited to the fund over the member. On that basis the fund has benefited from a cash-flow point of view as shown in Table 2. This difference between the cash flows and allocation of the net capital gain could Continued on next page
QUARTER IV 2021 51
STRATEGY
Table 2 Cash flow for the SMSF
Cash flow for the member
Total
Sale price of property
$1,800,000
$1,200,000
$3,000,000
Initial cost of property including purchase expenses in 2018
$1,200,000
$800,000
$2,000,000
Capital expenses incurred by each party 2019
$20,000
$10,000
$30,000
2020
$0
$100,000
$100,000
2021
$40,000
$10,000
$50,000
$540,000
$280,000
$820,000
65.86%
34.14%
Net cash flow
Continued from previous page
be adjusted by some of the expenses that were incurred by the individual, who is a related party, being treated as contributions to the fund if they qualify. The effect of this transaction may contribute to reinstating the expenses being in proportion to each owner’s share of the property. To contribute towards making this adjustment, at the end of a financial year it could be recognised the related party contributed to the fund as an expense made on behalf of the SMSF, which may assist in adjusting any difference. For example, in the 2020 financial year, $60,000 of the expenses could be treated as a contribution to the fund. In years where the fund incurred expenses that were greater than 60 per cent of the total expenses for the year, such as in the 2019 and 2020 financial years, then any possible adjustment would need
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to be agreed between the parties. Maybe the fund could reimburse the related party for some of the expenses incurred in the 2020 financial year to bring the outstanding excess incurred by the fund in the 2019 financial year back into line with the original ownership split. In addition to the cash-flow and capital gains effects, there are potential impacts under the superannuation standards for purposes of the SIS Act and how the net capital gain will be treated under the ITAA. Under section 109 of the SIS Act, a superannuation fund is required to enter into transactions on an arm’s-length basis. If the expenses incurred by the SMSF are not incurred in proportion to each owner’s relevant share, a breach of that provision may occur. It also depends on how the repairs and improvements are made to the property. For instance, if the trustee was a tradesperson and did the work themselves,
Under section 109 of the SIS Act, a superannuation fund is required to enter into transactions on an arm’s-length basis. If the expenses incurred by the SMSF are not incurred in proportion to each owner’s relevant share, a breach of that provision may occur.
issues surrounding the operation of SIS Act section 66, which prohibits the acquisition of certain assets from related parties, could be breached. For purposes of the ITAA, the main consideration is that if no appropriate adjustment is made to the expenses incurred on the property by the SMSF, then any taxable capital gain may be taxed as non-arm’s-length income. This may occur because the expenses incurred by the SMSF were lower than if they had been incurred on an arm’s-length basis due to the disproportional allocation of the expenses. While the joint ownership of a property with related parties can be rewarding from an income and capital gains point of view, the management of the property, as well as the allocation of income and all expenses, needs to be done carefully, correctly and in accordance with each owner’s ownership of the property.
COMPLIANCE
SMSFs by the letters Two new compliance requirements have recently been introduced into the Australian corporation and financial services landscape. Bryan Ashenden highlights how it is currently unclear as to the effect they will have on the operation of SMSFs.
BRYAN ASHENDEN is head of financial literacy and advocacy at BT Financial Group.
With NALI (non-arm’s-length income), NALE (nonarm’s-length expenditure), BRP (business real property) and LRBAs (limited recourse borrowing arrangements) already part of the SMSF vernacular, it would seem the world of SMSFs is already one full of acronyms. But now we have another two to add to the list of considerations – DDO (design and distribution obligations) and DIN (director identification number). From 5 October 2021, product issuers and distributors have broadly been required to comply with the new DDO regime. Furthermore, from 1 November 2021, the new DIN requirements commence with some transitional arrangements.
Both of these new regimes have the potential to impact on the world of SMSFs, although their application may be a little difficult to navigate. Despite this, it is important for professional advisers to be aware of these changes to ensure their SMSF clients continue to meet their regulatory obligations. Not meeting these requirements, where they apply, could have consequences.
Application of the DDO regime to SMSFs Let’s start with the application of the DDO regime to the world of SMSFs. The genesis of the DDO regime Continued on next page
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Continued from previous page
goes back to 2014, as part of the Financial System Inquiry led by David Murray. One of the findings from that review was that poor and/or inconsistent design and distribution practices had the potential to lead to consumer detriment. As a result, a recommendation was made, ultimately to implement the DDO regime, requiring product issuers to take a more consumercentric focus when considering the design of their products, and for distributors to take additional steps when deciding whether a product is right for the customer. It can be hard to argue having this more client-centric approach is a bad thing. Unfortunately though, the difficulty has arisen through trying to find the best way to implement these requirements in practice. Before we get to what would be required under the regime, we have to start with the question of whether the DDO regime actually applies to SMSFs or not. The broad requirement for the DDO regime to have application is that a product issuer is captured and subject to the regime if they are required to issue a product disclosure statement (PDS) with their product. Now, this is where things can become complicated. In general, under section 1012B of the Corporations Act, a PDS must be provided when an interest in a financial product is offered. This technically would include the acquisition of an interest in an SMSF by becoming a member of the fund. However, there is then an exemption available under Section 1012D(2A) of the Corporations Act for SMSF situations, which states a PDS is not required if you “believe on reasonable grounds that the client has received, or has, and knows that they have, access to, all of the information that the product disclosure statement would be required to contain”. Now, in practice, at least with the establishment of the SMSF initially, many advisers have relied on this exemption from
54 selfmanagedsuper
Unfortunately, at this point, there is no clarity from the legislators or regulators about how the DDO regime does or doesn’t apply in the context of SMSFs.
the requirement to provide a PDS. After all, how do you prepare a PDS for something that actually doesn’t even exist at the time of the recommendation itself, given the SMSF only comes into existence once the trust deed is executed? In this sort of situation, it would be reasonable to conclude that, given no PDS has been provided, the DDO obligations would also not apply. However, what if a PDS did exist for the SMSF? As a result of the PDS requirements potentially applying to SMSFs, some SMSF deed providers prepared PDS documentation that accompanied the trust deeds to ensure the requirements were being met. In these instances, given a PDS exists and has been issued, it would be hard to argue the DDO provisions do not apply to those funds. Further, while the PDS exemption may have been relied upon when the SMSF was initially set up, would it still have the same level of application in the future when, as an example, new members are admitted to the SMSF? Would it be reasonable to assume the prospective member has access to all the information contained in the PDS for that fund? The answer to this question becomes important as it addresses not only whether a
PDS is required or not, but also whether the DDO provisions will then start to apply. Now, let’s consider the requirements that apply where a PDS exists (or is required) for the SMSF and therefore the DDO provisions apply. The trustees of the SMSF are essentially the ‘designers’ of the product, and are subject to the DDO regime, and therefore have the requirement to prepare and issue a target market determination (TMD). The TMD sets out who the product is suitable for – in this case, a determination of who would be suitable as a member of the SMSF. Where a member makes a complaint about the product, this needs to be notified to the product issuer. So, essentially, the SMSF member complains to their adviser about the SMSF, with these complaints not focused on investment performance, and the adviser then has to tell the same person, together with their co-trustees of the fund, about the complaint. As an adviser, should you consider TMDs as part of your advice process? The short answer is yes. The ‘reasonable steps’ approach, which the DDO regime normally applies, in fact does not apply to financial advisers. This is because it is overridden by an adviser’s best interests obligations, which set higher standards than the reasonable steps approach. However, you should still have regard to a TMD as part of determining if the product is suitable. As an adviser, you also should not be recommending a product to a client where a TMD doesn’t exist and where you have reasonable grounds to believe that one should exist – which takes us back to the question of whether a PDS is required or not. So, how do we deal with this conundrum, which essentially becomes a circular argument? Unfortunately, at this point, there is no clarity from the legislators or regulators about how the DDO regime does or doesn’t apply in the context of SMSFs. However, ASIC has noted that, provided reasonable steps are being taken to comply with the requirements, it is
It is certainly possible for advisers to work with the requirements of both regimes, however, as we have seen in the past there can be unintended consequences that may need to be addressed.
unlikely to take enforcement action at this early stage of the DDO regime if an entity is not complying with the strict requirements of the regime. This will hopefully give time for clarity, and perhaps sanity, to prevail.
Application of the DIN regime to SMSFs Similar to the DDO regime, the purpose behind the DIN regime is sound. It provides traceability of directors in Australian companies, making it easier to track them where suspicious activities have been identified, to prevent directors from closing insolvent companies with large debts and starting new companies, and so on. In most companies, other than a few extra requirements, the commencement of the DIN regime from 1 November 2021 will impose few additional requirements. Indeed, the requirement to actually obtain a DIN rests with each individual director, not the company, although the company will no doubt be required to maintain records of each director’s DIN. However, in the SMSF space, there is the potential for this to create additional delays or add complexity to certain events. As at 31 October 2021, all existing
directors will have 12 months to obtain a DIN. Further, anyone who is appointed as a director between 1 November 2021 and 4 April 2022 will have 28 days after their appointment to obtain a DIN. Then, from 5 April 2022, a person must have a DIN before they can be appointed as a director. These dates will become important into the future for SMSFs. Clearly, for any SMSFs that already exist with corporate trustees, the directors of those corporate trustees will need to obtain a DIN by 31 October 2022. The process to obtain a DIN is expected to be relatively straightforward and will generally be completed online. For SMSFs set up with a corporate trustee from 1 November, for the first six months, it is important to remember that this extra step, that is, the director applying for a DIN, needs to be completed within 28 days of the corporate trustee being established, which may be earlier than 28 days after the SMSF has been established. Remember, to have a corporate trustee appointed at establishment of the SMSF, the corporate entity will need to be in existence before the trust deed is executed. More problematic, potentially, will be the position from 5 April 2022, and not necessarily just at establishment of the fund. Clearly, by that time, the process around establishing an SMSF will be: recommend to clients to get a DIN, establish a corporate trustee, then set up the SMSF. For clients looking to join an existing SMSF, the client will need to have a DIN before they can apply to become a member. However, while this may all add some extra time to the process, it may not be where the difficulties will be experienced in the future. Consider the situation where someone is appointed under a power of attorney to assume the trustee responsibilities for a particular SMSF member. In the future, the attorney will need to have a DIN if the SMSF has a corporate trustee in order to fulfil this power as they need to be appointed as a director of the
corporate trustee. Moreover, consider the situation where a person has passed away and was a member of an SMSF with a corporate trustee. Normally, their legal personal representative (LPR) will assume their trustee responsibilities up until such time as any death benefits are paid in order for the SMSF to maintain its complying status. If the SMSF has a corporate trustee, this means the LPR needs to be appointed as a trustee. And it will mean the LPR will need to apply for and obtain a DIN before they can be duly appointed. This can take time, and there may be situations where an LPR does not wish to apply for and obtain a DIN, which could result in issues for the SMSF maintaining its complying status if there are delays in finding an alternative person to be appointed.
SUMMARY
The introduction of the DDO and DIN regimes both come from sound reasoning. However, they both also demonstrate the difficulties legislators and regulators often face in trying to design and implement reforms and considering all the potential implications and outcomes. It is certainly possible for advisers to work with the requirements of both regimes, however, as we have seen in the past there can be unintended consequences that may need to be addressed. Whether or not this occurs for these changes, we will have to wait and see. But one thing is certain: with NALI, NALE, BRP, LRBA, LPR and now DDO and DIN, the world of SMSFs is no longer just about the numbers – it’s also about the letters!
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STRATEGY
The bigger contributions horizon
A few years ago individuals were given greater flexibility as to how they make tax-deductible superannuation contributions. Tim Miller details the intricacies of the personal deductible contribution rules and their strategic implications.
TIM MILLER is education manager at SuperGuardian.
56 selfmanagedsuper
One of the better changes to come from the 1 July 2017 superannuation reforms was the capacity for individuals, regardless of their employment status, to maximise the contributions they could make to an SMSF, or other fund, and reduce their personal tax liability by claiming a deduction on any personal contributions up to the concessional contributions cap. While this presents a great opportunity, there are still some issues of which contributors and SMSF trustees need to be aware when making and receiving personal deductible contributions.
the capacity as an employee, can make personal deductible contributions in addition to the mandated employer contributions they receive. Prior to 1 July 2017, an individual who was an employee could only claim a deduction if their employment-related income accounted for less than 10 per cent of their total income. Now, these contributions are an alternative or indeed a supplement to any additional employer contributions, such as those offered through a salary sacrifice arrangement. Of course, self-employed individuals and individuals in receipt of passive income can also make personal contributions and claim a deduction so long as they have sufficient income for the deduction to offset, so ultimately the changes just broadened the scope of availability. As a result, most individuals under 75 years old can claim a tax deduction for personal contributions to their SMSF, including those aged 67 to 74 who meet the work test.
What are personal deductible contributions?
Personal deductible or salary sacrifice
Individuals receiving employment income, in
Personal deductible contributions are not necessarily
a like-for-like replacement for a salary sacrifice arrangement and the latter still has its merits for many employees. For one, if an employer is happy to maintain an arrangement, then there is certainty the contributions will be made rather than a reliance for the member to remember to make the contribution. Of course, an employer is not under an obligation as they are with superannuation guarantee requirements to make contributions by a certain date and so any salary sacrifice arrangement must be appropriately established to ensure that not only is the employer making the contribution, but that the contributions are made in the year the employee intends. The flexible nature of personal deductible contributions means they can be made at any time and they are made on a needs basis rather than a disciplined savings basis. Given both strategies will provide similar outcomes, in its simplest form a salary sacrifice will result in less pay in the individual’s pocket and as such a lower amount of pay-as-you-go withholding tax applied, whereas making a contribution and claiming a deduction will mean you have more disposable income but potentially a higher tax liability if the contribution isn’t made by 30 June. Once a deduction is claimed, these contributions are treated as assessable income to the fund and are taxed at 15 per cent and they are attributable to the taxable component of a member’s interest within the SMSF. The tax concessions afforded to individuals who wish to claim a deduction are limited to contributions up to the concessional contributions cap, regardless of whether they are personal or employer contributions. The excess concessional contributions rules will apply to amounts in excess of the cap. From 1 July 2021, the excess concessional contribution regime has less tax disincentive than prior to that time as the government has removed the excess contribution charge, which was effectively an interest penalty
calculated from the first day of the financial year the contributions were made up until the issuing of an amended tax assessment. Therefore, if a personal contribution is now made late in a financial year and a deduction claimed, and the individual exceeds the concessional cap based on the amount they claim and perhaps mandated contributions made by the employer, it will result in the excess being assessed at marginal tax rates and the offer made to the individual to release the excess from the super fund or have it count towards their non-concessional cap.
Personal deductible contributions are not necessarily a likefor-like replacement for a salary sacrifice arrangement and the latter still has its merits for many employees.
Unused concessional cap While the annual concessional contributions cap is generally fixed, as we know, from 1 July 2018 if a member has a total superannuation balance across all superannuation funds of less than $500,000, as at 30 June of the previous financial year, they are eligible to carry forward any unused amount of the annual concessional contributions cap for up to five years. This is a rolling period so any amount not used will expire after five years. Therefore, while the concessional contributions cap is currently $27,500, an individual may actually have a higher amount they can contribute based on any unused carry-forward amount. This provides the incentive to use personal deductible contributions for those with lower superannuation balances at a point in time where certain tax events, such as selling an investment property, result in a higher-thanusual assessable income.
Age requirements From 1 July 2020, if an individual is aged 67 to 74, then they must satisfy the work test (or work test exemption requirements) in order to be able make a contribution and claim a tax deduction for it. If an individual is over 75 years (subject to meeting the work test or exemption), a deduction can only be claimed for contributions made before the 28th day of the month following the month in which they turned 75 years old. If an individual is under 18 at the end of the financial year in which they make a contribution, a deduction can only be claimed if they also received income as an employee or from operating a business during the financial year.
Eligibility to claim a tax deduction
Notice of intent to claim
Beyond having sufficient income available to offset, an individual must meet certain criteria to be eligible to claim a deduction on their personal contributions. An individual must satisfy the age restrictions and must provide the SMSF with a notice of intent to claim a deduction and receive acknowledgment from the fund’s trustees that the notice of intent is valid.
Where the age eligibility criteria is met and a tax deduction is to be claimed based on the contributions, then a notice of intention to claim a deduction must be provided to the SMSF. If the SMSF is administered by an external party, then this notice may be provided by the fund’s administrator via their Continued on next page
QUARTER IV 2021 57
STRATEGY
Beyond having sufficient income available to offset, an individual must meet certain criteria to be eligible to claim a deduction on their personal contributions.
Continued from previous page
own template, or the member can write to the trustees providing all the relevant information, or alternatively the member can use the pro forma provided by the ATO – Notice of intent to claim or vary a deduction for personal contributions (NAT 71121). To be valid, the notice must be provided while they are still a member of the fund and the fund still holds the contribution, that is, it can’t have been rolled over to another fund or paid out as a member benefit. More information is provided on this below, including the impact of commencing a pension. The SMSF only requires one notice for all contributions made during the year, however, multiple notices can be provided to accommodate certain circumstances, such as making contributions, commencing pensions and then making further contributions. The notice must be provided to the SMSF on the earlier of the day the SMSF annual return is lodged for the year in which the contributions were made, or the end of the financial year following the financial year in which the contributions were made. Written acknowledgment must be received prior
58 selfmanagedsuper
to the tax deduction being claimed in the personal tax return.
Varying a notice of intent The notice of intent can be varied until the due date for lodging the claim. An individual can only vary a notice to decrease the amount to claim, not to increase it. Where the deduction is disallowed by the ATO, an individual can vary the notice with the fund after the due date. However, if the contribution has been included in an account that has commenced to pay a super income stream, then the notice cannot be varied, regardless of what has been allowed or disallowed. Written acknowledgement from the SMSF trustees must be provided to the member, acknowledging receipt of the valid notice of intent to vary a deduction for personal super contributions.
Splitting contributions Contribution splitting has been a strategy available for many years allowing one spouse to put money in the SMSF and then split up to 85 per cent of that amount to their spouse, usually occurring in the following year. For some time now, only taxable contributions were eligible for this strategy. Therefore, personal deductible contributions can be split and, if so, the notice of intent to claim must be provided to the fund before the split can occur.
Effect on lump sums and pension commencements All personal member contributions are non-concessional until such time that a member lodges a notice of intent to claim a deduction. Getting the timing of the paperwork right on this is critical to being able to claim the full amount of the intended tax deduction. Pensions: The notice must be provided prior to commencing any income streams/ pensions as the tax-free and taxable components are calculated immediately prior to the commencement date. Failure to provide a notice of intention before the
pension commences means any notice will be invalid. Lump sums: Unlike pensions, if the fund pays the member a benefit, either directly or via a rollover to another fund, then a notice of intention to claim will be limited to a proportion of the tax-free component of the superannuation interest that remains after the withdrawal. The proportion is the value of the contribution divided by the tax-free component of the superannuation interest immediately prior to the withdrawal. This proportioning will apply even on lump sums taken in a latter year if the lump sum is taken before the notice of intention is lodged. Therefore, it is imperative in an environment where individuals can both access their super and still contribute that they understand the importance of timing.
Impact of claiming personal contribution deductions To summarise the key issues, the capacity to make personal deductible contributions will impact a number of matters: Taxable income: Contributions reduce the taxable income and income tax payable by an individual, but increase the income of the fund. Government super payments: A lowincome superannuation tax offset on the tax paid on the contribution may be available for low-income earners, however, the contribution will not be eligible for a super co-contribution as these are only available for personal non-concessional contributions. Division 293 tax: Where an individual’s personal income exceeds $250,000, then they may pay an additional 15 per cent tax on contributions otherwise not payable. Income tests: Where a tax deduction is claimed for personal contributions, it is part of reportable super contributions. These affect some tax offsets, the Medicare levy surcharge and some government benefits. Benefit components: Personal deductible contributions will increase the taxable component of a member’s interest.
ECONOMICS
Breaking down the taxation pie Tony Greco takes a look at economic sectors from where tax revenue originates and the implications of the results.
TONY GRECO is senior tax adviser at the Institute of Public Accountants.
The Inspector-General of Taxation and Taxation Ombudsman’s (IGTO) timely review of collectable tax debts has shone a light on a problem most are aware of but have little understanding as to the reasons behind it. Collectable tax debts have continued to rise over the past five years, mainly pre-COVID, and it is not simply a result of an uplift in economic activity during this period. Improving the performance of the management of tax debt is particularly important as Australia begins the slow progress of repairing its finances. More importantly from a public confidence perspective we need to ensure everyone is treated fairly and there is a level playing field. Ensuring everyone pays their fair share of taxes is important in terms of the perceived fairness of the tax system, otherwise our high level of voluntary compliance will be derailed if public confidence wanes.
Collectable debt Firstly, what is meant by collectable debt? Quite simply, it represents debt that is not subject to objection or appeal or some form of solvency administration. Basically, it represents debt that is owed to the ATO. It is important to note collectable debt excludes debt that the ATO deems uneconomic to pursue, which on average is over $1 billion per year. The growth in collectable debt is illustrated in Graph 1.
Why the review? Over the past few years, the ATO has reported an increasing trend in the levels of collectable debt. The composition and reasons underlying the growth in collectable debt were not entirely evident based on publicly available information. The importance of tax debt recovery and collection is recognised as a key performance indicator of tax system design and administrative performance in a number of Organisation for Economic Co-operation and Development countries. The main purpose of the review was to understand the trends and landscape of outstanding collectable 60 selfmanagedsuper
tax debts in Australia and to present data and information to kickstart an important conversation. The period under review covered the years 2016 to June 2020 (inclusive). The review’s intention was not to come up with answers, but to present the data and information to identify and gain insight into which segments of the economy are experiencing increases in collectable debt and to highlight areas for further targeted investigation.
Findings of the review We have been informed that small business makes up the lion’s share of collectable debt, accounting for 60 per cent across all years examined. The data confirms this significant proportion, followed by private or wealthy groups (PWG), followed by individuals. The ATO classifies debts according to quantum dollar ranges. Prior to the 2020 financial year, there were six debt level ranges and from the 2020 income year, the ATO further stratified debt level (DL) 6 into three separate groups – 6.1, 6.2 and 6.3 (Table 1). Across all client groups, a small percentage of accounts are responsible for a majority of the debt outstanding. This is the same regardless of which client group is examined. At an overall level, 5.09 per cent were responsible for 63.41 per cent of collectable debt (DL5 and DL6). There are some interesting observations when this is broken down into taxpayer groups. These include: • Individuals: 1.22 per cent of accounts represent 43.44 per cent of individual collectable debt, with an average per account of $172,070. When only DL6.2 and DL6.3 are considered (>$500,000), 0.04 per cent of accounts or 325 accounts owed $649.53 million – an average of $1.99 million per account, • Small business: 6.43 per cent of accounts held 57.13 per cent of small business collectable debt (DL5 and DL6), an average of $135,695 per account. At DL6.2 and DL6.3, 1987 accounts owed
35 30
Billion ($)
25 20 $34.1b 15 10
$19.2b
$26.6b
$23.8b
$20.9b
Improving the
5 Graph 1: Growth in debt book and collectable debt 0 FY16
FY17
FY18
FY19
FY20
Total debt book by type of debt, FY17-20 60 Collectable debt
Disputed debt
Insolvent debt
50
8.85 7.56
Billion ($)
40 30
10.40
7.01 11.34
7.23 9.67 7.98
20 10
23.72
20.91
34.18
26.50
0 FY18
FY17
FY19
FY20
Source: Constructed from ATO-provided data.
Collectable debt levels reported by the ATO, FY16-20 35 30 25 Billion ($)
performance of the management of tax debt is particularly important as Australia begins the slow progress of repairing its finances.
20 $34.1b 15 10
$19.2b
$20.9b
$23.8b
$26.6b
5 0 FY16
FY17
FY18
FY19
FY20
Source: Constructed from ATO 2017-18 , 2018-19 and 2019-20 Annual Report data.
60 Source: An Investigation and Exploration Tax Debts Messages from the report By: The InspectorCollectable debt of Undisputed Disputed debtin Australia Key Insolvent debt General of Taxation June 2021.
50
8.85
Billion ($)
$2.51 billion – an average of $1,263,422. 40 owned: 16.09 per cent of • Privately 7.01 accounts owed 87.16 per cent PWG 7.23 30 collectable debt (DL5 and DL6), 9.67 averaging $301,786 7.98 per account. At
DL6.2 and DL6.3, 2184 accounts owed 7.56 $3.54 billion, averaging10.40 $1,622,811. More interesting, this average is lower 11.34 than the average for individuals (not in business, and not classified as high net
20 10
20.91
23.72
26.50
worth individuals). There is limited explanation as to the reasons for some of these findings. Debt accounts at the DL6.1 level or above for certain client experience groups are highly unexpected. For example, individuals not in business and small business are not groups where high levels of debt are unexpected. These findings beg the question, if these debts are in fact undisputed or simply not recognised as disputed within the ATO systems, are they in fact not recoverable?
Misconceptions The general interest charge (GIC) has compounded the amount of collectable debt. Anecdotally and based on complaint cases received by the IGTO, there are instances where the GIC is many times the primary tax, however, statistics for all taxpayers show that only approximately 11 per cent to 12 per cent of collectable debt is GIC. Payment arrangements have caused collectable debt to increase – payment arrangements are an indication of continued engagement by taxpayers to pay off their debts and it is a sign of a healthy tax system. However, across all taxpayer segments, payment arrangements have consistently Continued on next page
34.18 QUARTER IV 2021 61
ECONOMICS
Continued from previous page
been in decline. This is so, despite automated systems making it easier to enter payment arrangements.
Where to from here? The burning question is, what are collectable debt levels as at the end of June 2021 after taking into account a combination of COVID factors, such as the increased use of payment plans, ATO pausing debt recovery actions, taxpayers not paying as usual, et cetera? We started the year with a balance of $34 billion and most observers are expecting this figure would have increased substantially due to COVID. The ATO understandably would not have had the opportunity to go hard on debt recovery while the government was trying to stimulate the economy to help businesses survive the economic downturn. At the time of writing this article, both Sydney and Melbourne were in lockdown and many businesses were severely impacted by the last round of restrictions. While there are pockets of the economy that have not been dealt a heavy blow to their operations by COVID, there are many businesses that have not yet returned to normal. The ATO has committed to a tailored approach to debt recovery, which is warranted. Only those businesses that are not suffering should have normal debt recovery processes reactivated. The COVID pause should not be an excuse not to do a deep dive into the causes behind the ballooning debt problem. As stated earlier, there are some concerning aspects of the review’s findings that require targeted investigation. Since the review, tax debt reporting to credit agencies has commenced. It applies only to businesses with tax debts of at least $100,000 that are overdue by more than 90 days and the business has not engaged with the ATO to manage its debt. The ATO as from August this year started sending letters to certain business taxpayers, warning them of the agency’s intent to disclose tax debt information to credit reporting bureaus if they do not make an effort to manage their debts within 28 days. It is too early to ascertain whether this will materially impact on the level of debt. 62 selfmanagedsuper
Table 1 Debt level definitions – Prior to FY20 Debt level (DL)
Quantum
DL1
$0.01 – $2499.99
DL2
$2500 – $7499.99
DL3
$7500 – $24,999.99
DL4
$25,000 – $49,999.99
DL5
$50,000 – $99,999.99
DL6
$100,000+
In FY20, the ATO provided greater granularity in relation to DL6, dividing it into three categories, namely:
Debt level definitions – FY20 Debt level (DL)
Quantum
DL1
$0.01 – $2499.99
DL2
$2500 – $7499.99
DL3
$7500 – $24,999.99
DL4
$25,000 – $49,999.99
DL5
$50,000 – $99,999.99
DL6.1
$100,000 – $499,999.99
DL6.2
$500,000 – $999,999.99
DL6.3
$1,000,000 +
DLs may be exepected to influence the allocation of recourses within the ATO. Firmer debt recovery action would be expected on higher DL accounts. Source: An Investigation and Exploration of Undisputed Tax Debts in Australia Key Messages from the report By: The Inspector-General of Taxation June 2021
STRATEGY
The great estate planning debate
The debate over the effectiveness of an SMSF will versus a binding death benefit nomination is a common one throughout the sector. Daniel Butler and William Fettes compare the two common estate planning strategies.
DANIEL BUTLER (pictured) is director and WILLIAM FETTES a senior associate at DBA Lawyers.
SMSF wills have become a topical issue in recent times as some claim they have certain advantages over binding death benefit nominations (BDBN). This article briefly examines SMSF wills and compares them to BDBNs.
What is an SMSF will? There is considerable variability to the strategies that are given the label ‘SMSF will’ and the methods of how they are intended to operate. Accordingly, what one supplier refers to as an SMSF will can vary significantly compared to another supplier’s usage of that term. For example, there can be important
differences in relation to the following aspects, among other things: • the formality requirements of how an SMSF will must be documented and executed, including witnessing requirements, and whether trustee notification is required, • the extent to which a member’s wishes are effectively embedded in hardwired language in the SMSF deed, • the priority rules that apply to conflicts between SMSF wills, BDBNs and pension nominations, and Continued on next page
QUARTER IV 2021 63
STRATEGY
Continued from previous page
• the rules regarding revocation of an SMSF will compared to the revocation of a BDBN or a reversionary pension nomination. Some suppliers describe an SMSF will, in general terms, as the directions made by a member to deal with their death benefit and regulating who gets to act for and on behalf of a deceased member. However, the effectiveness of each SMSF will strategy depends on the particular documentation and whether the strategy is legally effective. Some SMSF wills require recording the member’s instructions via a deed of variation to the SMSF deed or otherwise via separate documents that seek to limit the future exercise of trustee discretion. Moreover, some SMSF wills allow for instructions to be given by an alternative decision maker in relation to the payment of a death benefit. In addition, some SMSF deeds include hardwired language, sometimes termed ‘death benefit rules’ or other ‘special rules’ that deal with the payment of death benefits. (For ease of expression and for the purposes of making the comparison with BDBNs, this article does not distinguish between SMSF wills and death benefit rules.) Typically, SMSF deeds that include SMSF will powers provide that an SMSF will takes priority over other forms of directions to the trustee, such as a BDBN. As you will appreciate from the above observations, the term SMSF will does not have a fixed normative meaning. The term is a description for various SMSF estate planning strategies, typically based on the terminology used in the SMSF deed and related documents. While a BDBN also does not have a fixed normative meaning, SMSF members generally understand what one is.
So what is best: an SMSF will or a BDBN? Some claim a major advantage of SMSF wills is that they do not suffer from the
64 selfmanagedsuper
Strategies such as BDBNs and SMSF wills should never be implemented in isolation. Advisers need to carefully choose which supplier they use for their documents, including SMSF deeds and constitutions.
uncertainties associated with the BDBN rules in the Superannuation Industry (Supervision) (SIS) Act 1993 and the Superannuation Industry (Supervision) Regulations 1994, particularly regulation 6.17A. While SMSF wills are often drafted so they are not subject to regulation 6.17A, this is also the case with appropriately drafted BDBNs. SMSF wills emerged as an estate planning alternative due to some perceived limitations regarding BDBNs. In particular, some considered BDBNs may be limited to the threeyear sunset period in SIS regulation 6.17A(7). Additionally, there was some concern BDBNs could only be used to specify to whom, but not how to pay a death benefit. Thus, SMSF wills and related strategies appeared to initially have some attraction over BDBNs. However, since mid-1999 when BDBNs first became popular, there has been considerable litigation that has established what a BDBN can and cannot do. The key cases include Donovan v Donovan, Munro v Munro, Cantor Management Services Pty Ltd v Booth, Perry v Nicholson, Re Narumon Pty
Ltd and Hill v Zuda Pty Ltd. The ATO’s view in SMSFD 2008/3 is instructive as well. As result of these cases, and other authorities, it is clear SMSF BDBNs are not subject to SIS regulation 6.17A or section 59 of the SIS Act. Similarly, there is no longer any doubt BDBNs can direct a fund trustee regarding how a death benefit must be paid, for example, as a death benefit pension. Thus, a BDBN based on an SMSF deed that is appropriately drafted can be non-lapsing. Indeed, in the recent decision of Hill v Zuda, the Western Australian Court of Appeal confirmed this is the settled legal position in all Australian jurisdictions. It is also important to note this position is consistent with the long-held ATO view set out in paragraph 1 of SMSFD 2008/3: “Section 59 of the [SIS Act] and regulation 6.17A of the [SIS Regulations] do not apply to … (SMSFs). This means that the governing rules of an SMSF may permit members to make death benefit nominations that are binding on the trustee, whether or not in circumstances that accord with the rules in regulation 6.17A of the [SIS Regulations].” There may be some who say that the number of disputed cases involving BDBNs suggests SMSF wills should be preferred. However, it is the authors’ view that the BDBN cases are all positive in providing guidance, clarity and comfort regarding how to implement BDBN strategies successfully. Indeed, with the benefit of this rich case law, which clearly articulates the dos and don’ts of BDBNs, clients can have confidence BDBNs provide a straightforward and legally effective method for SMSF members to give instructions on how their superannuation benefits are to be dealt with on their death. Accordingly, while the authors acknowledge the instances where BDBNs have been litigated and where the courts have identified various issues associated with BDBNs, an impressive body of knowledge and legal practice has emerged from these cases. On the other hand, there do not appear to
The authors generally recommend a BDBN in preference to an SMSF will due to, among other reasons, the greater simplicity of, and confidence in, BDBN strategies based on an established body of law.
power in the SMSF deed. For example, a client may have three account-based pensions in place and wants to make these automatically reversionary to their surviving spouse. Some SMSF deeds give priority to the BDBN over the pension documents to the extent there is any inconsistency. To avoid these situations we always recommend that pension documents be checked anyway to ensure there are no inconsistencies. Further, for more complex directions, a tailored service can be suitable where the adviser providing the tax and super advice and the lawyer preparing the legal documents gain an understanding of the client’s circumstances and goals and provide feedback on the key options and strategies to implement those goals in a legally effective manner.
SMSF succession planning have been any cases involving SMSF wills. This means there is no case law authority of which we are aware to provide guidance or clarity on what SMSF wills are or whether they are effective. The authors are also not aware of any published ATO or regulatory view on the issue.
Which method should you adopt? Advisers should seek to follow established legal methods supported by relevant case law and, where applicable, published views from the ATO as the SMSF regulator, such as in SMSFD 2008/3 noted above. We consider a BDBN is generally a more straightforward and more cost-effective method compared to an SMSF will. Indeed, many SMSF deeds include BDBN forms for each member to complete. Some BDBN forms can be completed to achieve many popular directions, including a cascading nomination that allows one or more dependants and/or the legal personal representative to be selected if the member’s spouse predeceases the member. Some BDBN forms also include an option to easily achieve an automatically reversionary pension leveraging off the
Strategies such as BDBNs and SMSF wills should never be implemented in isolation. Advisers need to carefully choose which supplier they use for their documents, including SMSF deeds and constitutions. Advisers should be mindful a choice of supplier implies the adviser is recommending the documents provided are fit for the
client’s purpose and will be effective. Thus, the choice of document supplier should not be based on cost alone and advisers are encouraged to review the documents and have them checked by a qualified lawyer if the supplier is not legally qualified. Naturally, in addition to ensuring the documents are appropriate and legally effective, clients should develop and implement an SMSF succession plan that provides for the control of the fund to pass to trusted persons as intended in relation to loss of capacity or death. Clients’ SMSF succession planning needs to be consistent with their wills and enduring powers of attorney. The key foundation to many SMSF strategies, including a valid BDBN, is having a sound SMSF deed history. Unless the prior SMSF documents have been properly varied, executed and retained, the deed may be subject to challenge and any succession planning and other strategies based on that deed may be subject to risk and challenge. Thus, where there are multiple deeds that relate to the same SMSF over many years, it is important to check to see if there are any items that require rectifying in the prior document trail.
CONCLUSION The authors generally recommend a BDBN in preference to an SMSF will due to, among other reasons, the greater simplicity of, and confidence in, BDBN strategies based on an established body of law. Of course, all BDBN strategies require a strong foundation in the governing rules of the SMSF. Accordingly, a fund’s document trail must be carefully reviewed prior to any BDBN strategy being implemented to ensure there are no weaknesses that will compromise the strategy, and an appropriately drafted SMSF deed must be in place. Finally, succession to the control of an SMSF is also vital, as highlighted in the Wooster v Morris case where the BDBN was ignored by the deceased member’s second spouse. Accordingly, a BDBN strategy should be implemented as part of an overall SMSF succession plan that integrates with the client’s estate plans. This is best done in conjunction with an experienced lawyer who is qualified to prepare legal documents and covered by appropriate insurance.
QUARTER IV 2021 65
STRATEGY
A business owner boost
The legislation increasing the maximum number of members an SMSF can service came into effect this year, having originally been announced as a budget measure before the last federal election. Per Amundsen illustrates the difference this change in superannuation law can make for some people who own their own business.
PER AMUNDSEN is head of research at Thinktank.
66 selfmanagedsuper
The federal government’s decision to increase the maximum number of members allowable in an SMSF from four to six from 1 July 2021 has been long awaited by a small number of SMSFs. To date, most of the focus has been on expanding family SMSFs. But this reform has opened up possibilities for small businesses and partnerships. The following case study demonstrates how individuals involved with these types of commercial enterprises can benefit from this change in legislation. Bill and John have been running a successful plumbing business for more than two decades. As life-long friends, it’s been a handshake agreement based on mutual trust. But with Bill’s son, Simon,
having completed his apprenticeship and joining the business and John’s daughter, Sarah, wanting to go down the same career path on leaving school, they realise it’s time to formalise their verbal agreement. In particular, they agree running the business from the back of their utes and on their kitchen tables must end, and a more formal structure implemented, especially as Simon and Sarah will have equity in the business. They will also need business premises and that requires capital. Both have their own SMSFs and an understanding they can use their funds to acquire property that can then be leased back to the business. But neither wants all their super savings in one asset, so they will
We believe this is another step forward in the development in SMSFs and how they can be productively used to plan for retirement by an even larger group of investors.
consider a conservatively geared limited recourse borrowing arrangement (LRBA) to fund part of the acquisition. They also appreciate that from 1 July the number of members allowed in a single SMSF has increased from four to six. Although it’s unlikely to appeal to most funds, considering around 70 per cent of funds have two members with single-member funds next highest in number, for Bill and John it offers a window of opportunity to reset their retirement income strategies by closing their existing husband-and-wife funds and setting up a new SMSF that has the two couples and Simon and Sarah as members. Their current super assets will be transferred to the new fund. It will require careful planning and require specialist advice as there are pitfalls, but for Bill and John, it means their superannuation, as well as the children’s, can be an integral part of the business in which they all have an equity stake. Since this legislation became law, it has been a common assumption it would be primarily used to allow additional family members to join the traditional mum-and-dad SMSF. The opportunity for people such as Bill
and John has hardly got a look in. But at Thinktank, we are already seeing some four-member funds having new business partners join, typically by way of a new SMSF, to acquire a commercial property to operate as business real property. It is working well for these clients and is certainly outside the parameter of the expanded family super fund. Those considering going down this path have also been assisted by other changes that took effect on 1 July, notably to contribution levels that will increase in line with rises in the cost of living. This applies to both concessional contributions, from $25,000 to $27,500 this financial year, and for non-concessional contributions, from $100,000 to $110,000 this financial year. From the perspective of Bill and John, they see some real advantages in combining their superannuation savings and having Simon and Sarah join the fund. By pooling their capital they will broaden their investment opportunities, hopefully providing better returns as a result. Within the limits imposed by the trust deed and investment strategy, the sky’s the limit as to where they invest, be that in overseas shares, private equity or even collectables. Then there are the tax advantages, with the SMSF having a 15 per cent limit in the accumulation phase. With the super guarantee contributions of six salaries (Bill and John’s spouses both work outside the plumbing business) going into the fund, their capacity to increase their borrowing via an LRBA is enhanced, both in terms of being able to meet interest payments and having six members as guarantors. Finally, the superannuation legislation typically protects members’ interests in their fund from bankruptcy. So, in the unlikely event of the plumbing business having to declare bankruptcy, their super is protected. Not so other assets they have outside super. But as mentioned above, there are potential downsides. Bill and John would not be the first life-long friends who have fallen out over a business relationship, especially with their children involved. They will need
to get specialist advice on voting rights and other terms in their trust deed, and all fund members, including Simon and Sarah, will also need to understand their rights, roles and responsibilities. A marriage break-up is another possibility. In the future, and depending on the decisions Simon and Sarah make, there could be four relationships with a stake in the fund. In this event it could make divorce proceedings even more problematic. Trustees could be required to sell assets, potentially resulting in taxation liabilities where assets are sold, adversely impacting on all fund members. The outcome could 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 could cause conflict. In retirement, Bill and John and their spouses could have a more conservative view on asset allocation compared with their children in the accumulation phase. Further forward, there is the possibility of cognitive decline and even elder abuse. Advisers must ensure clients have the cognitive capacity to understand what’s happening with their fund as they get older. This is why it is so critically important to get the right structure in place now to guard against any unforeseen circumstances in the future. Forewarned is forearmed. From Thinktank’s perspective, we believe this is another step forward in the development of SMSFs and how they can be productively used to plan for retirement by an even larger group of investors. The recent statistics for 30 June 2021 released by the ATO show ongoing growth since last year of about 11 per cent in total assets, as well as the continued growth in real property within the asset allocation of SMSFs of slightly higher at nearly 14 per cent. Our experience is very similar with steady growth over the past year before picking up pace in the June quarter in residential and commercial property, with owner-occupied business real property running about two to one against residential investments.
QUARTER IV 2021 67
LAST WORD
JULIE DOLAN EXAMINES INTERDEPENDENCY RELATIONSHIPS WITH REGARD TO DEATH BENEFIT PAYMENTS.
JULIE DOLAN is partner, head of SMSFs and estate planning, enterprise at KPMG.
68 selfmanagedsuper
Superannuation Industry (Supervision) (SIS) regulation 6.22 states on the death of a member, benefits can only be paid to that individual’s legal personal representative (the estate), or one or more of the deceased member’s dependants. A dependant is defined under section 10(1) of the SIS Act 1993 and in relation to a deceased member includes the spouse, any child and any person with whom they had an interdependency relationship immediately prior to the death of the member. Whether a person was in an interdependency relationship with the deceased is a matter of fact, but specific criteria contained under regulation 1.04AAAA of the SIS Regulations are considered when making an objective decision. To this end, two individuals will have an interdependency relationship if: • they have a close personal relationship, • they live together, • one or each of them provides the other with financial support, and • one or each of them provides the other with domestic support and personal care. To determine the depth of the relationship, the following matters are considered: • duration of the relationship, • ownership, use and acquisition of property, • degree of mutual commitment to a shared life, • care and support of children, • reputation and public aspects of the relationship, • degree of emotional support, • extent to which the relationship is one of mere convenience, and • evidence suggesting the parties intend the relationship to be permanent. The regulation also specifically states the care and support must be more than what would be expected with a mere friend or flatmate. An area that creates a lot of contention and confusion is the care and support between parents and adult children beyond the normal care and support expected. Many a case through the Australian Financial Complaints Authority and ATO private binding rulings (PBR) have focused on this point. On review of several recent PBRs on this issue, common themes (not exhaustive) that determined there was an interdependency relationship between the adult child and parents were:
• the adult child was required to live at home to support the ailing parent due to ill health. Support was provided both financially as well as domestically, that is, assisting with domestic tasks. The child was reliant on these payments. A close personal relationship had existed as their living arrangement was one of necessity rather than one of convenience. The support and care were beyond the level of a normal parent and adult child relationship, • the adult child (deceased) normally lived at home, but travelled interstate for work. During the time interstate, parents continued to pay all living expenses for the child and travelled interstate several times to support the child both emotionally and financially. The child became unwell and lived back at home to be cared for. The ATO found that a ‘close personal relationship’ existing beyond the normal child/ adult relationship was present due to the level of care and support provided on an ongoing basis. There was a mutual commitment to a shared life, • the child had lived with their parents most of their life and the child had never married, nor had children. The adult child was fully dependent on the parents for all living expenses and domestic support and care were provided to each other on an ongoing basis, and • the parents moved into modified accommodation provided by the adult child, neither had any other dependants and significant personal and emotional support was provided. In comparison, many PBRs have found that an interdependency relationship did not exist since the adult child and parent(s) did not live together, or if the child did, it was only for a short period of time leading up to the death of the child/parent. In relation to financial support, the person in question did not rely on regular payments to maintain a normal standard of living. Hence there was not a mutual commitment to a shared life and the financial and emotional support was not beyond the level expected of a normal child/parent relationship. Determining whether an interdependency relationship exists is important as it not only widens the pool of beneficiaries who can receive the deceased member’s death benefits, but the taxation savings can be significant as that person would be classified as a ‘death benefits’ dependant.
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REQUIRED READING FOR SMSF TRUSTEES QUARTER IV 2021 69
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