[ MAStech ] SMSF SET-UP

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1 SMSF SET-UP IT IS N OT (P UR EL Y) AB OU T TH E CO ST S 20

2 BY DAVID BARRETT, HEAD OF MAStech DAVID Barrett Just under 3,000 new self managed super funds (SMSFs) per month were established in 2012/13, with the total number of SMSFs now exceeding 509,000 according to the Australian Taxation Office (ATO). This growth in SMSF numbers is one reason for the closer scrutiny by the Government and its regulators. The Australian Securities and Investment Commission (ASIC) released three SMSFrelated papers this year: ASIC Report 337 SMSFs: Improving the quality of advice given to investors; Rice Warner Actuaries Costs of Operating SMSFs; and ASIC Consultation Paper 216: Advice on selfmanaged superannuation funds: Specific disclosure requirements and SMSF costs (CP 216). These papers provide insight into ASIC s concerns with the SMSF advice sector, and its proposals to alleviate those concerns. While the proposals may lead to increased compliance requirements for SMSF advice providers, those affected will ultimately benefit from long-term improvements to the quality of SMSF advice and its public reputation. MEETING THE PROPOSED DISCLOSURE REQUIREMENTS CP 216 sets out ASIC s broad proposals for Australian Financial Services licensees and their representatives (licensed advisers) who provide personal advice to clients on establishing or switching to an SMSF. Many of the obligations, if finalised, might be met by discussing the issues with clients and providing appropriate supporting information, possibly including a signed acknowledgement by the client. In practice, however, some issues will SMSF COST ESTIMATES ARE BASED ON THE SMSF RUNNING SMOOTHLY. WHERE UNFORESEEN ISSUES ARISE, IT WILL BE INCUMBENT ON THE TRUSTEES TO MAINTAIN COMPLIANCE WITH THE SUPERANNUATION AND TAXATION LAW. THEY WILL BEAR THE COSTS OF THE ADDITIONAL TIME COMMITMENT ON THEIR PART OR ADDITIONAL OUTSOURCED ADMINISTRATION SERVICES REQUIRED TO ALLEVIATE THE ISSUE. often involve more than simple discussion and written disclosure. These include developing and implementing an appropriate investment strategy, discussing and implementing appropriate insurance arrangements, and analysing the costs of establishment, running and possible wind-up of an SMSF. This article focuses on the latter analysing the costs. As a prerequisite for any consideration of the cost-benefit analysis between an SMSF and an APRAregulated fund, it has been assumed that the client has been assessed as competent for the decision-making involved in, and the general running of, an SMSF. In addition, it is assumed that the client doesn t perceive the risks of loss of legal capacity, or of family breakdown, to be too high to prevent the establishment of an SMSF. It is also assumed that the client is comfortable with being unable to access the Superannuation Complaints Tribunal for dispute resolution and understands that the statutory compensation provisions for fraud or theft do not apply to SMSFs. ANALYSING SMSF COSTS At the outset, it is worth noting that ASIC has explicitly stated it is not proposing a mandated minimum balance for SMSFs. It appears that the regulator accepts that the issue is too complex for a simple, all-encompassing cutoff threshold. The complexity arises on a number of fronts. 21

3 A RECENT ADMINISTRATIVE APPEALS TRIBUNAL (AAT) DECISION ILLUSTRATES A WORST-CASE SCENARIO. OUTSOURCING ADMIN The time a client devotes to the various aspects of running an SMSF may have a great impact on the overall expenses paid by the SMSF. For example, a client might perform all of the SMSF administration functions legally possible, including the preparation of financial statements and lodgement of tax returns. If so, the SMSF s only costs would be ASIC, ATO and audit fees, which might be as low as $600 per annum in total. In practice many trustees will be too time poor, lack the required expertise (especially in relation to financial statement preparation and tax return lodgement) and/or unwilling to accept the compliance risk without some specialist support. Even so, where trustees are in a position to invest their own time, quantification of the time cost will be prudent. This may be achieved by estimating the number of hours per annum required to perform the chosen administration functions, multiplied by the value the client places on their own time. At the other end of the SMSF cost spectrum, Rice Warner indicates that a fully outsourced SMSF administration service (including investment administration and reporting) at the higher end of the charging range may cost in the vicinity of $7,500 per annum in accumulation phase, and approximately $8,000 per annum in pension phase. SMSFs paying this level of fees that have fund balances of less than $500,000 generally compare unfavourably on a cost basis with industry funds and retail super funds. Most SMSFs will fall somewhere between these two cost extremes that is, the trustees will outsource some of the required administrative functions, but not all, with the trustees performing some tasks themselves. A case-bycase approach in analysing this issue is appropriate. Clients should also consider that the above cost estimates are based on an SMSF running smoothly and as expected. Where unforeseen issues arise, it will be incumbent on the trustees to maintain compliance with the superannuation and taxation law. They will bear the costs of the additional time commitment on their part or additional outsourced administration services required to alleviate the issue. A recent Administrative Appeals Tribunal (AAT) decision illustrates a worst-case scenario. An estranged husband illegally transferred nearly all of the couple s SMSF assets offshore without his partner s knowledge. The AAT affirmed the ATO s finding that the wife was liable for nearly $3 million of additional tax and penalties. The AAT commented that despite the appearance of unfairness, it should not obscure the nature of the fund, the role of trustees or the regulatory regime within which they function. SMSF FUND BALANCE Another complexity is the SMSF s proposed net asset level. The initial fund balance might be much less than would otherwise be justifiable for SMSF establishment, but set-up might still be appropriate because of future increases to the fund balance. These could come from, for example: superannuation contributions (concessional, non-concessional or other); transfers from other funds; other members joining the fund; expected investment returns. Conversely, those approaching retirement age and planning to draw a pension may experience a decrease in fund balance over time, making it relatively more difficult to justify SMSF establishment at a given fund balance than if in the accumulation phase. 22

4 THE AAT AFFIRMED THE ATO S FINDING THAT THE WIFE WAS LIABLE FOR NEARLY $3 MILLION OF ADDITIONAL TAX AND PENALTIES. THE AAT COMMENTED THAT DESPITE THE APPEARANCE OF UNFAIRNESS, IT SHOULD NOT OBSCURE THE NATURE OF THE FUND, THE ROLE OF TRUSTEES OR THE REGULATORY REGIME WITHIN WHICH THEY FUNCTION. INSURANCE ARRANGEMENTS The cost of life and (temporary or permanent) disability insurance may differ between an SMSF and an APRAregulated fund, as larger funds often have access to group life insurance scheme premiums that are generally not available to SMSFs. If so, this additional cost should be accounted for in the costs of SMSF establishment and ongoing management. CAPITAL GAINS TAX Switching from an APRA-regulated fund during the accumulation phase will generally result in a capital gains tax (CGT) impact. Although the CGT impact is often already reflected in the exit unit prices quoted to the member, it is an exit cost nonetheless and is sometimes viewed as a deterrent to switching. However, this CGT liability is often unavoidable even if the client remains in the fund until retirement. Some APRAregulated funds impose CGT when switching balances from accumulation phase to pension phase within the fund. If so, this is a possible reason in favour of switching to an SMSF sooner rather than later. Note that (like SMSFs) most sophisticated master trust-style funds do not impose a CGT liability when switching from accumulation phase to pension phase within the fund. SMSF WIND-UP COSTS Presumably most clients establish an SMSF with the view that it may survive their lifetime, ultimately involving their spouse and children. However, circumstances can arise which may cause an SMSF to be wound up earlier than expected for example, loss of legal capacity or desire to continue running the fund, family unit breakdown, or a low fund balance because of poor investment performance. More generally, the wind-up of an SMSF is ultimately inevitable. An exit strategy from an SMSF should be considered prior to establishment, as well as the cost of the wind-up. Rice Warner indicates that approximately one year s administration expenses are a reasonable estimate of wind-up expenses. THE COST-BENEFIT TRADE OFF It is well documented that the reasons for establishing an SMSF are broader than costsavings alone. Investment control, flexibility and outperforming a current fund are popular reasons for SMSF establishment. In addition, an SMSF can offer features that some APRA-regulated fund members cannot access via their current fund such as super borrowing, real property and exotic investment and unlisted share investments. Certain clients may be willing to pay additional costs (in time or monetary form) to access these SMSF features. If so, a comparison between an APRAregulated fund and an SMSF will involve more than objectively identifying the least expensive option of the two it will involve the subjective resolution of whether the SMSF features sought justify the additional cost (if any) of the SMSF, and the possible loss of features the APRAregulated fund might offer (such as less expensive life insurance). 23

5 BY LUIS SARMIENTO, MAStech SOFTWARE help Macquarie has developed software to help with objective cost comparison, which may be used in conjunction with consideration of the subjective issues to help a client determine whether an SMSF is an appropriate retirement vehicle for them. The following example illustrates how the software is used MORE INFORMATION The SMSF fee comparison application is available at macquarie.com.au/calculators. 24