INSIGHT ISSUE 2, 2013
INVESTING IN PROPERTY THROUGH AN SMSF POSITIVE TRENDS Investor sentiment at its highest ever level
PHILANTHROPY obtaining maximum impact with a structured approach
JANE WATTS General Manager, Private Wealth BT Financial Group jwatts@westpac.com.au
Welcome to the Second edition of Insight for 2013. It has been an exciting year for Westpac Private Bank, with the past six months bringing success and recognition for our people. I would like to thank you all for your support which has again garnered industry recognition for our services. For instance, in October we won three prestigious Customer Service Institute of Australia (CSIA) awards. As a business dedicated to providing exceptional personalised services, we take great pride in these achievements. In this issue of Insight we provide an overview of our most recent quarterly Westpac Private Bank Investor Sentiment Indicator, which reveals investor sentiment has reached its highest peak in two years. Many investors will be looking for ways to grow their portfolios and make the most of the renewed confidence in equity markets. To this end, at Westpac Private Bank we strive to deliver insight-led, timely investment solutions which can help our clients achieve an enduring financial advantage in all market conditions. I encourage you to speak to your respective Private Banker to find out more about our investment solutions.
At Westpac Private Bank we are committed to supporting our clients and community and we are delighted to profile Greg and Lynda Hutchinson whose structured approach to philanthropy allows them to help a range of different organisations and social causes. For investors looking at property, Westpac Institutional Bank’s Director of Property Markets, Frank Allen, provides valuable insights on the climbing residential property prices and perceived house price bubble. We also highlight how to make your business property investment potentially more tax-effective by moving assets to a self-managed superfund (SMSF). We hope you enjoy this latest edition of Insight. Please remember that we are always keen to receive your feedback and suggestions on topics for future issues. Finally, I’d like to take this opportunity to wish you and your loved ones a very happy, relaxing and safe festive season and a prosperous , healthy and fulfilling New Year. Jane Watts General Manager, Private Wealth BT Financial Group
FEATURES Profile 2 Greg And Lynda Hutchinson, structured philanthropists Property
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Are we experiencing a house price bubble? Indicator 10 Investor confidence rises Investment
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The inter-connected world of global finance SMSF Strategies
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Purchasing property Global Investment Service
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Hand picked investments
Westpac Private Bank – Insight Magazine – Issue 2, 2013
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Insight: Profile Philanthropy
GREG AND LYNDA HUTCHINSON
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PROFILE OF STRUCTURED PHILANTHROPISTS
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AFTER 33 YEARS WITH ONE OF THE WORLD’S LEADING MANAGEMENT CONSULTING FIRMS, BAIN & COMPANY, IT COMES AS NO SURPRISE THAT GREG HUTCHINSON HAS APPROACHED PHILANTHROPY IN A STRATEGIC WAY. IT’S A DECISION THAT HAS HAD SUBSTANTIAL ADVANTAGES. FOR GREG AND HIS WIFE LYNDA IT HAS ALLOWED THEM TO APPLY THE FUNDS THEY SET ASIDE FOR CHARITABLE PURPOSES IN THE MOST EFFECTIVE WAY POSSIBLE, ENSURING THE CAUSES THEY AND THEIR FAMILY SUPPORT RECEIVE THE GREATEST BENEFIT.
Greg and Lynda, who have three children, decided to set up their family’s philanthropic fund, which is a sub-fund of the Perpetual Foundation, when they were in their late 40s. They felt it was the right time to start the fund given the point Greg had reached in his career. “We knew we wanted to make a small number of material investments in building community capacity and achieve maximum impact,” he says. An important consideration in setting up a structured fund was that they could set aside the investment pool quickly. This meant the focus of their philanthropy became where to direct their donations and expertise for maximum impact and not have to constantly revisit the question of whether or not to give. “Giving well requires work, and we are able to spend time working on where and how to give, rather than having to ask what we can afford to give,” they say. Another important consideration for the Hutchinsons was the multiplier effect a structured approach can achieve. “Taking a structured approach helps, especially if you’re in the top tax bracket because the government effectively matches the contributions to a foundation as the money you put aside is tax deductible,” explains Greg. “As a consequence we have been able to put aside twice as much, after having reviewed our own long-term financial needs,” he adds.
The multiplier approach has also been important in deciding the two main projects to focus on, so they can achieve meaningful impact with limited funds. The largest to date has been providing seed capital to build workplace giving in Australia. This started with the creation of The Australian Charities Fund, a not-for-profit organisation which grows workplace giving in this country. Greg spent a significant amount of time for five years to help set this up and is still very involved. Workplace giving is a program that encourages working Australians, often with the support of their employers, to make regular charitable donations and become involved in charitable causes though their skills and time. One of the reasons the Hutchinsons decided to get behind this was because of the multiplier effect of workplace giving. Employees are able to receive an immediate tax deduction, and in many cases their employer will match their contributions, which means charities end up with double the funds. Both the employee and the business receive a tax deduction and the result is a highly tax and cost effective way of giving that creates a multiplier effect of four to five times versus traditional giving. Another element of the multiplier effect has been the support of friends providing philanthropic funding and employers like Bain, who have contributed in many ways to building workplace giving. Over the past few years workplace giving has taken off across the country: according to ATO figures, around $60 million is contributed to charities through workplace giving each year by employees and their employers matching, and there has been a 40 per cent increase in workplace giving over the past two years. The other important project for the Hutchinsons is empowering women, especially indigenous women, to play a greater role in the environment. As with workplace giving this is experimental in seeking out new ideas that can have a long term impact.
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Insight: Profile
“One of our early philanthropic investments in this area did not work in the way we had hoped,” explained Lynda. “We were probably on the right track but too early to have the right organisations to work with. We learned from this and now work with The Nature Conservancy (TNC), a highly professional organisation who are developing practical and sustainable ways of empowering indigenous leaders and their communities, through a combination of technology, practical training and employment creation.” One of the things that again attracted the Hutchinsons was the multiplier effect of government and other philanthropists matching their funding as well as the project generating its own income through carbon credits. They have spent time learning about the program and incorporated the lessons from their previous experience. While still at an early stage the project is already having a significant impact and has considerable potential for growth. Aside from these two main projects, the Hutchinsons’ fund supports a number of social enterprises about which the family feels strongly. As with the TNC project, several of these have a ‘gender lens’ targeting the empowerment of women in the community. Two in particular are supporting homeless women in Australia and poverty alleviation through microfinance in developing countries. In both cases the Hutchinsons are personally involved.
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WE HAVE TRAVELLED WITH OUR CHILDREN IN AFRICA… AND I SOMETIMES TRAVEL WITH GREG WHEN HE IS WORKING IN INDIA. SEEING POVERTY UP CLOSE COMPELLED US TO DO SOMETHING…
“Talking to women in India who have built successful microbusinesses with Opportunity International loans convinced me that we can do something about poverty,” explains Lynda. “We have travelled with our children in Africa and South America and I sometimes travel with Greg when he is working in India. Seeing poverty up close compelled us to do something,” she added. The trust also provides modest funding to support charities in a few areas such as education and the arts. Again the focus tends to be on early stage funding to entrepreneurial organisations where small donations can make a real difference. Some of their favourites are Social Ventures Australia, AIME and AIEF in education and Brandenburg Orchestra, Bell Shakespeare and MCA in the arts. More recently the Hutchinsons have branched out by allocating a small amount of their superannuation fund to an income earning investment with GoodStart Early Learning. In many cases the Hutchinsons are also assisting these organisations as a director, ambassador or advisor. “Our capacity for philanthropy is only modest, but the way we have structured the fund and our lives allows us to help a range of different organisations and social causes, often working with like-minded philanthropists and drawing on networks and skills” Greg explains.
Greg and Lynda Hutchinson
LAYING FUTURE FOUNDATIONS Now in his early sixties, Greg spends half his time working with Bain in Asia and the other half working with community organisations in Australia. He’s a director or advisor to around a dozen charitable enterprises. “Many of us will live well into our nineties, so retiring at 60 does not seem like a great idea,” says Greg, explaining with a smile that, “I’ve given up any hope of pursuing golf as a career.” One of the most important decisions the family had to make when they set up the trust was whether they would give away all the available funds and investment returns during their lifetime, or whether the fund would survive after their death. The family chose the former approach. “We don’t have the wealth to create a large foundation, so we wanted to make a few material investments and a larger number of small investments. By using all our available funds we are aiming to create something that will live beyond us, but doesn’t rely on us, and help others to do the same,” Greg explains. “We’re on track to invest all the money in the fund and recently topped it up with another donation. We have the joy of seeing the difference the fund can make while we are young enough to be involved,” he says. His advice to people thinking about setting up a charitable foundation is to consider four questions – Over what time period will the fund be fully committed? Can you get personally involved with skills and networks? What will be the sustainable impact of your charitable investments? Can you draw others into your projects? If you would like more information on this area or how you can get involved please speak to your Private Banker.
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Insight: Investing
THE HOUSE PRICE BUBBLE — REAL OR NOT?
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Westpac Private Bank – Insight Magazine – Issue 2, 2013
RESIDENTIAL REAL ESTATE PRICES HAVE BEEN CLIMBING AND THERE HAS BEEN WIDESPREAD MEDIA SPECULATION WE ARE IN A HOUSE PRICE BUBBLE. BUT ARE WE REALLY? The Reserve Bank of Australia (RBA), as well as other indicators, suggest the market is not overheating. So what data should we look at to determine if property prices are too high? Frank Allen is Director Westpac Property Markets Westpac Institutional Bank. He cautions against using the term ‘house price bubble’ at the moment. “There’s no formal definition for what a house price bubble looks like, but it’s an expression that’s sometimes used when prices inflate quickly,” he says. Indeed, rather than ‘house price bubble’, Allen prefers the term ‘active market’, as evidenced by rising sales activity in recent months. Total sales activity was around 19% higher in the three months to August 2013 when compared to a year earlier. However, total activity remained below that of 2007 and 2009 and well below the boom years of 2001-3. He points out that, according to real estate research house RP Data, although Sydney is experiencing strong real estate price growth, especially in the September quarter when prices rose by 5.2 per cent, we’ve seen similar quarterly growth rates before in 2009 and for a more sustained period in 2001 and 2002. It’s intriguing to note home values in Sydney grew by 15 per cent between October 2008 and October 2009, during what could be considered to be the height of the recent financial crisis. This jump, says Allen, was as a result of low interest rates and the Federal government’s financial stimulus package, and despite the overall loss of around 120,000 full time jobs.
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Insight: Investing
It’s worth noting Sydney is the only city to have experienced significant residential real estate price increases recently, with the most substantial lift in asset values taking place since August.
Nevertheless, RP Data’s figures show average house prices across all capital cities have increased over the past 12 months, with combined capital city home values rising by 7.9 per during the past year.
“According to RP Data, house prices in Sydney have grown by 12 per cent in the year to October and half that growth happened between July and October. At the moment that’s not a concern, but it could be if the 5% a quarter rate of growth continued for a year,” he explains.
Aside from Sydney, the standout markets have been Melbourne (up by 7.8 per cent across the same period) and Perth (up by 6.9 per cent).
The figures also show Sydney house values are now more than nine per cent higher than the previous peak, reached in October 2010. However, house prices for all other cities remain below their peaks. Allen comments that Sydney’s recent growth follows a period where on average Sydney prices have only risen by 2.7% pa over the past 10 years. On a city-by-city basis, house prices in Hobart are still 15.2 per cent lower than prices recorded at the peak in October 2010, Darwin’s prices are 9.5 per cent lower and Brisbane’s prices are 8.4 per cent below their peaks. So there’s still a considerable way to go before Australian residential real estate prices achieve a technical recovery.
MARKET DYNAMICS So what’s driving price growth in markets experiencing healthy rises? The obvious factor is the low cash rate, which in turn is making mortgages more affordable. “The other factor is people who are missing out at auction wanting to buy properties,” explains Allen. “People get sick of going to open houses and auctions. With rates low, they are generally able to borrow more, which can flow through to an ability to pay higher prices,” he adds. Certainly, says Allen, there appears to have been a change in market sentiment compared to the early part of the year, with more cautious buying in the first six months of 2013. Although there has also been speculation overseas buyers are fuelling the price spike in the Sydney market, Allen says this is unlikely given Foreign Investment Review Board rules mean foreign nationals can only buy new properties. Rather, the return of property investors to the market is a more important factor driving prices. ABS data shows finance for investment into residential property in NSW has risen by 26% since the start of the year and is 31% higher than a year ago. While price growth will have attributed to some of this growth, the rise in activity is clear to see.
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The key set of data that needs to be considered is house price affordability. Allen points to the Real Estate Institute of Australia’s affordability measure, which compares the value of the average mortgage with average income. According to data released in September, the proportion of income needed to meet repayments nationally is 28.7 per cent. “This figure is around 34% for NSW, with interest rates at generational lows and the data is only to the June quarter, so misses the impact of the recent surge in Sydney prices. When interest rates start to rise the figure will lift and slow the market down, like it did in 2010/11” says Allen.
“Anecdotal evidence suggests self-managed super fund investors are getting into residential property because it’s an asset class they like and feel they understand,” he says.
THE RATES FACTOR Clearly, the record low cash rate is a key variable as to why property prices are rising. So it stands to reason that any rise in the official cash rate could temper the market. Says Allen “rates are at their lowest levels since the 1960s. It’s likely when the RBA thinks the economy is strong enough it will put rates up. That’s what happened in 2010/2011 and property prices came off.” However, although the property market is one of the factors the central bank takes into account in its determinations about the cash rate, there are many other elements of the economy it also considers. For instance, inflation is a critical factor, given the RBA’s mandate is to keep annual inflation in a range between two per cent and three per cent. The unemployment rate is another important determinant of the official cash rate. Unemployment is expected to rise above six per cent in 2014, which is a variable that could encourage the RBA to keep rates low.
TOTAL SALES ACTIVITY WAS AROUND 19% HIGHER IN THE THREE MONTHS TO AUGUST 2013
THE PROPORTION OF INCOME NEEDED TO MEET REPAYMENTS NATIONALLY
IDENTIFYING OPPORTUNITIES As the saying goes, buy low, sell high. Given the increase in property prices, is now a good time to get out of residential property and take profits? Allen cautions against making hasty decisions to sell in a hot market.
However, according to Allen selling now is a strategy that could make sense if the investor were to sell out and invest in a different asset class, if the investor considered that another asset class could generate higher returns.
“It’s important to take into consideration why you are selling and also the cost of buying and selling properties. Yes, there could be a correction in the market at some point, but that may not warrant selling now given the cost of agents’ fees, marketing costs and, if you were to sell and buy again, the cost of stamp duty,” he explains, adding that this can account for between seven and eight per cent to the value of a property.
He also has sound advice about what to look for when purchasing a property. “The key thing is to always look for a point of difference, especially in a market where there is an oversupply.” Buying a property that is different to other properties is also a way of helping to maintain a property’s income and help outperform the general market , no matter which direction the market is headed, Allen says.
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Investing
INVESTOR SENTIMENT
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Investing
Investors are feeling more positive about investment conditions than they have been for some time. Results from the latest Westpac Private Bank Investor Sentiment Indicator continue the positive trend displayed in the third quarter’s results. The indicator, produced by Westpac Private Bank in partnership with CoreData Research Australia, provides an insight into investment markets by examining both past results and investor intentions to invest in the future.
Specifically, the survey reveals: —— Expectations about the performance of investment markets —— Perceptions of their current financial situation —— Future investment intentions. In the December quarter (Q4), the overall Sentiment Indicator rose by 7.1 points to +25.4 points – its highest ever level.
The results of this research are a reliable indicator of this group’s perception of opportunities in investment markets.
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Investing
REASONS FOR IMPROVED SENTIMENT The performance of the indicator reflects the nature of the markets and the news cycles. A number of events during the quarter contributed to the dramatic recovery in sentiment. The strengthening of the US equity market and property uplifts in NSW and WA as well as more confidence in general returning to the economy following the Federal election, have all buoyed investor confidence. Continuing low interest rates, which have led to a lower dollar, are other factors that have contributed to the improvement in this quarter’s results.
LEARNINGS FROM KEY INDICATORS The Sentiment Indicator comprises five key drivers: market prediction, household financial security, investment satisfaction, new investment product purchase intention and intention to invest new money into existing investments. There were improvements across all key drivers this quarter (see chart below), but it is especially pleasing to note the proportion of respondents reporting worse financial conditions has also fallen compared to the previous survey. According to findings from the survey, more than one in three high net worth individual (HNWI) respondents
(36.9%) say they now have better household financial conditions compared to the previous survey, when this figure was slightly lower at 33.6%. The proportion of respondents expecting worse financial conditions has also fallen to 19.6% in this survey, down from 26.1% in the previous survey. Moreover, 49.2% say they expect household financial conditions will improve in the next year, compared to 36.5% in the previous quarter. Overall, HNWIs have indicated they are more satisfied with their investments compared to the previous quarter. The results show satisfaction levels are now sitting at 66.0%, compared to 62.6% for the July quarter. This result is likely to be a reflection of the improved conditions in equities markets. It’s also interesting to note HNWIs are most satisfied with their superannuation investments, with 73.2% happy or very happy with this part of their asset base. After super, respondents were most happy with residential property investments, an asset class which turned in a satisfaction score of 72.8%, followed by managed funds, which had a satisfaction score of 70.9%. Respondents were least satisfied with their savings account, with 41.4% saying they were happy or very happy with their cash holdings. This is to be expected given the low interest rate environment.
High Net Worth Investor Sentiment Index 30 20 10 0 -10 -20 -30
Investor Market Prediction — Better or Worse 10
-5 -10
0
0
Q3 13
Q4 13
Q4 12
Q3 13
Q4 13
Q1 13
Q2 13
Q3 13
Existing Investment Satisfaction
Household Financial Security 12 10 8 6 4 2
5
Q3 12
Q4 13
Purchase New Investment Products
Invest New Money in Existing Investments
10
10
5
5
5
0
0
0
-5
-5
-5
-10
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Q3 13
Q4 13
-10
10
Q3 13
Q4 13
-10
Q3 13
Q4 13
Investing
OTHER RESEARCH INSIGHTS
COMPARING THE NEXT QUARTER TO THIS PAST QUARTER, DO YOU THINK THE AUSTRALIAN ECONOMY WILL GROW AT A SLOWER OR FASTER RATE? Comparing the next quarter to this past quarter, do you think the Australian economy will grow at a slower or faster rate?
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Among the high net worth individuals surveyed:
HNWI Q3 2013 HNWI Q4 2013
40
30 % 20
10
BELIEVE BUSINESS CONDITIONS WILL IMPROVE IN THE NEXT QUARTER (UP FROM 33.1% IN Q3).
0
Slow down a lot
Slow down slightly
No change
Speed up slightly
Speed up a lot
COMPARING THE NEXT QUARTER TO THIS PAST QUARTER, DO YOU THINK BUSINESS CONDITIONS AUSTRALIA Comparing the next quarter IN to this past quarter, do youWILL think BE BETTER OR WORSE? business conditions in Australia will be better or worse? 50
BELIEVE BUSINESS CONDITIONS WILL WORSEN IN THE NEXT QUARTER (DOWN FROM 27.1% IN Q3).
HNWI Q3 2013 HNWI Q4 2013
40
30 % 20
10
BELIEVE THE AUSTRALIAN ECONOMY WILL SLOW DOWN EITHER SLIGHTLY OR A LOT IN THE NEXT QUARTER (DOWN FROM 42.6% IN Q3).
EXPECT BETTER INVESTMENT MARKETS IN GENERAL IN THE NEXT QUARTER (UP FROM 33.6% IN Q3).
0
Much worse
Somewhat worse
Neither worse nor better
AN APPETITE FOR EQUITIES As share markets continue their upward trajectory, so too has investor sentiment towards equities, with more HNW investors stating they are more likely to invest in equities compared to those who are less likely to gain exposure to this asset class. This dynamic is a key reason why the Investor Intention index, which measures future investment intentions, is now positive for the first time in two years. According to the results, the Investor Equities Index has jumped from 17.0 points in the third quarter of this year to 29.0 points in the current survey, the second highest level reached in the past two years. Appetite for equities is likely to remain strong, with 29% stating this is their most likely next investment.
Somewhat better
Much better
HNW investors are more willing to purchase new investments, with this measure up from 26.9% in the third quarter of the year to 30.4% in the current quarter. But roughly the same proportion indicated they are satisfied with their current investments, with the percentage of respondents stating they are likely to withdraw money from their investments at 27.5%. This would indicate continuing caution among investors towards their investment intentions, even though financial markets have improved and stabilised over the past six months.
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INVESTMENT PERSPECTIVE By George Toubia
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Global markets incorporate forward discounting so the exact timing of US quantitative easing (QE) taper start is less relevant and the markets’ readiness for the inevitable QE moderation is necessary. Markets have already priced some QE moderation without any action from the Fed. We consider that to be more important than when the Fed actually starts moderating their unconventional easing. US long-end yields are today at circa 1% higher than what they were earlier in the year, global emerging market (EM) bond prices are still 5 full points below their May levels, outflows from multi-year one-way destinations (such as Asia and Emerging Markets broadly) have already surpassed $US 40 billion and volatilities in global equity markets have somewhat normalised from the 10% level they were stubbornly compressing towards. All without actual QE moderation. All this is beneficial for market stability as QE addiction needs to be tempered. QE taper discussions readily demonstrated which markets had been driven too far on the back of huge flows of cheap money which had largely originated in the US. Economic management credibility of the US was damaged hugely by the government shutdown and the dangerous dealing surrounding the debt ceiling. Pain has been encountered where liquidity flows have exposed crowdedness: using that to your advantage has never been as powerful. Crowdedness occurs when demand for an asset is such that its valuation is driven outside of normal fair valuation ranges. It is most visible when the inevitable rush to the exit occurs and price rapidly reverses direction.
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Insight
If there was any doubt of the inter-connected world of global finance, then recent market activity has surely put that to rest. Even the hint of tapering of quantitative easing in the US has triggered a series of shifts in credit and equity markets around the world.
George Toubia BT Private Wealth Chief Investment Director
The most vulnerable markets are those of global market local bonds, global high yield markets followed by safe haven instruments like gold and the Swiss Franc. To highlight the extreme, the price of Brazils’ sovereign 10-year bond succumbed from 125 to 95 dollars in the space of two months. The chart below highlights the eruptive absolute increase of 2% and 4% in the overall yield of the Brazilian and Indonesian 10 year sovereign respectively, while the broader maturity bond index experienced a 1.5% increase in yield to maturity. We expect these wider yield levels (although lower from extremes in July) to become the norm. In addition, we do not believe such current valuations adequately compensate investors on a relative basis.
7.0
High Yield Markets Selective mindset One of the flow-on effects of risk repricing that we are anticipating is the moderation in the pace of high yield issuance and the increasingly selective nature of capital markets in absorbing issuance. This is part of the differentiation backbone we expect to start building over time: while credit-worthy companies will continue to borrow at favourable terms, credit-vulnerable balance sheets will now start to face a trickier debt-financing climate with tougher terms. Corporates with sub-optimal capital structures will have to time their financing needs much more opportunistically from now on. For credit investors, the need to stay extremely selective remains as credit spreads are very tight and primary markets start to become very selective in who to rescue.
6.0
Adjusting to an inevitable rise in long term yields should be welcomed not feared.
5.0 4.0 3.0 2.0 Nov-10
May-11
Nov-11
May-12
Nov-12
May-13
Nov-13
JP Morgan Emerging Markets Bond Index Global Spread Brazil Government – US$10 Year Bond Indonesia Government – US$10 Year Bond
In the process, adjusting to a more permanent state of higher volatility, focusing on the importance of downside risk management, resist compromising a high investment hurdle and employing differentiated thinking to take advantage of misunderstood and overlooked value are some of the requisite tools to navigate this environment ahead of us.
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Insight: Profile Insight
PURCHASING PROPERTY IN SMSF USING A LIMITED RECOURSE BORROWING ARRANGEMENT
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Warner Leung Financial Planner Westpac Private Bank
Insight
With Self Managed Superannuation Funds becoming more and more attractive with Australians, we are now seeing a tendency for Trustees who are purchasing either residential or commercial properties using borrowed funds to help facilitate this. There are limitations though on what assets can be purchased and Financial Advice should be sought to ensure the risks involved are understood, as well as the legal requirements in relation to the acquisition of certain types of property that meet the superannuation law requirements.
Under a Limited Recourse Borrowing arrangement: —— T he asset must be held in trust for the superannuation fund (Fund). The trustee of the trust will have legal ownership of the asset with the trustee of the Fund having beneficial entitlement to the asset. The Fund will be entitled to all income and capital growth from the asset. Once the loan is paid out, the legal ownership of the asset can pass to the Fund.
At the end of the term, the loan will be repaid by: —— Selling the underlying asset or —— Making additional contributions over the term of the loan into superannuation and using these funds to repay the loan at maturity or —— T he trustee of the Fund making incremental payments over the term of the loan using surplus income of the Fund and contributions made to the Fund to reduce the principal of the debt. Any residual amount of the debt at the end of the term can be repaid by redeeming other assets within the Fund or making additional contributions.
By borrowing to invest, your Fund could benefit from the following: —— Gearing into growth assets can increase the SMSF’s returns over the longer term, in comparison to investing saved funds only. However, this also increases the level of associated risks. —— Provided the borrowed money is used to purchase an asset that is used to produce assessable income, your Fund should be able to claim a tax deduction on the allowable interest expense. —— The Fund may benefit from taxation benefits associated with superannuation. Tax up to 15% will be payable on income and capital gains earned within the Fund, while no tax will be payable on income and capital gains when the Fund is in pension phase.
Using limited recourse loans will allow the Fund to: —— Borrow to invest within your SMSF to purchase your desired properties that meet legislative conditions. —— Limit the potential loss to instalments already paid or the asset the loan is held against as the lender cannot make a claim against the other assets of the Fund.
PROPERTY PURCHASE IN SMSF • It is imperative that there are sufficient inflows via contributions and rental payments to cover loan repayments, insurance premiums and other relevant costs. • Gearing is a complex and long term strategy that requires regular review. Part of the review is to consider the Fund’s financial position and the appropriateness of the gearing strategy at least annually. • Having adequate amounts of insurance is crucial to ensure in the event of death or a serious illness or injury of a member, the Fund will be in a position to pay any death or disablement benefits without having to sell down illiquid or growth assets at inopportune times. Insurance over the asset itself is also important, eg in the event of property damage. It is a legal requirement that trustees of SMSFs consider insurance needs for members of the fund. • The investment will be held in trust until the loan is paid in full, at which time it will be transferred to the Fund.
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Insight
Loan Repayments
SMSF
Limited Recourse Loan
Beneficial Owner
TRUST
• The loan must be limited in recourse and be used to purchase an asset. The superannuation fund will have a beneficial interest in the asset. The asset purchased must be an asset which: —— The Fund would not be prohibited from acquiring (as stipulate in the Trust Deed) —— Would not be considered an in-house asset if it were purchased directly by the Fund —— The Fund maintains the right to acquire the legal ownership of after all the instalments have been paid. • When considering how you will repay the loan it is critical that you consider the superannuation contribution limits. • The Fund assets cannot be used as security for the borrowings. Where the lender requires a party (such as a member of the SMSF) to act as guarantor for the limited recourse loan, that party will be liable for any loan repayments should the superannuation fund fail to make an instalment and hence default under the loan arrangement. In order to meet the requirements of the Superannuation Legislation you will also need to waive any right you have as guarantor to indemnity from the borrower (i.e. the superannuation fund).
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Investment Income from Asset
Legal Owner
LENDER
Limited Recourse Security
ASSET
This means you will not be able to recover any amount from the superannuation fund that you become liable for in your capacity as guarantor. These amounts may also be considered as contributions to the fund and assessed against members’ contribution caps. • Lending criteria will vary depending on the property type (commercial or residential) and Trustee as to whether they are individual or corporate. • There are costs associated in considering a strategy like this and it’s important to seek advice to understand not only the legal requirement and risk, but also to ensure your current SMSF is allowed under its trust deed to borrow.
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Warner Leung has over 8 years experience in the Financial Services industry. Warner joined Westpac Private Bank three years ago. Warner is a certified Financial Planner and a member of the Financial Planning Association of Australia. He specialises in strategic planning, estate planning, asset and lifestyle protection and SMSF. His philosophy centres around empowering his clients to make informed decisions to ensure they are able meet their goals and aspirations. Warner also has a firm belief that connecting his clients with teams of specialists at the right time is just as important as the advice he provides.
Insight: Insight Profile
HAND-PICKED INVESTMENTS — A MENU OF OPPORTUNITIES FOR INVESTORS WHO WANT GREATER CONTROL OVER THEIR INVESTMENTS, THE WESTPAC PRIVATE BANK GLOBAL INVESTMENT SERVICE GIVES YOU A CHOICE OF UNIQUE OPPORTUNITIES FROM AROUND THE WORLD.
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Like most busy people, you probably don’t have time to research and monitor the latest investment opportunities. But what if you could have someone do all of the legwork for you, then present a shortlist of the best for you to choose from? That is the idea behind Westpac Private Bank’s Global Investment Service (GIS) — a service that was launched in 2011 to help private bank clients access the best opportunities in the post global financial crisis economy. Mark Sherwood is a Director of Private Wealth Services, and one of the people responsible for presenting the investment menu of the GIS. He says one of the team’s main goals is to be highly selective in the opportunities they make available to clients.
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“We look to provide only best-of-breed opportunities, so there might only be a dozen opportunities on the GIS menu at any time. But this gives clients the comfort of knowing each of these opportunities has been thoroughly researched by the Private Wealth Investment team.”
HOW IS THE INVESTMENT MENU ASSEMBLED? Mark says an investment can only be added to the GIS investment menu after a rigorous process that includes four key steps: 1. Developing the vision “Our investment team, led by insights from our Chief Investment Officer, closely analyse the global investment markets to build a vision of our views on the investment universe.” 2. Finding the investment themes “Based on our view of the universe, we look for investment themes that make sense in the current market conditions from a risk-reward perspective.” 3. Choosing the best managers “We only choose investment managers whom we believe offer ‘best-of-breed’ solution for a particular investment theme.” 4. Monitoring “We regularly review all of the investment options on the menu to make sure they match our changing view of the world and that the managers we’ve chosen are staying true-to-label.”
WHAT ARE THE BENEFITS OF THE GIS? • Access to wholesale investments • Attractive risk-adjusted opportunities • Thematic investment opportunities identified by the Chief Investment Director • Rigorous initial and ongoing due diligence on investments • Safe custody with global custodian (JP Morgan)
HOW DOES AN INVESTMENT IN THE GIS WORK? As an investor in the GIS, you can choose from the options that are currently available on the GIS investment menu – taking into account your personal opinions and goals. “The GIS is a general advice service only,” Mark says. “We look for the best opportunities that are available, but they are not tailored to your personal goals – that’s for you to decide with the help of your other trusted advisers.” If you decide to invest, your money is pooled with other GIS investors. The advantage of this is that you can often access investment opportunities that would otherwise be inaccessible to individual investors. “Most of the investment managers we work with only deal with large institutions, so outside the GIS you may need a minimum of around $5 million to invest with them,” Mark says. Investments through the GIS are held under a custodial arrangement by sub-custodian, JP Morgan. JP Morgan is responsible for executing and settling the trades, maintaining the registry of investors and performing monthly reporting on the investments. “JP Morgan is a world-class custodian which is why we selected them, and custodial assets held with JP Morgan are protected from creditors – so our client’s assets are always safe.” Under the custodial arrangement, ‘beneficial ownership’ of the investments stays with the individual. This means you receive any dividends or distributions from the investment personally, as you would if you owned the assets directly.
WHAT TYPES OF INVESTMENTS ARE AVAILABLE? The GIS investment menu typically includes a diverse range of asset classes and sectors, from both Australia and overseas. Mark says the menu is likely to change over time, as different market conditions open up different opportunities. “It’s not a static platform – it evolves as our view of the world evolves. That’s why we’re constantly reviewing our menu to make sure these opportunities still make sense as market conditions change.” Over the last year, Mark says some of the more popular opportunities have related to distressed debt portfolios in the US and Europe, opportunities in high-quality industrial property, and a specific wholesale equity income fund for Australian share exposures. “We’re finding that clients are concerned about capital preservation and risk management, but there’s a strong desire to draw a stable income in a risk-controlled way. “The biggest advantage of being part of the GIS is that we can help our clients find and filter risk-controlled opportunities from around the world, and keep track of them so they remain the most suitable opportunities available.”
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If you’d like to find out more about the GIS, talk to your Private Banker. 20 Westpac Private Bank – Insight Magazine – Issue 2, 2013
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