Self managed superannuation funds

Sole purpose test |  Right choice for you? |  Setting up

Do-it-yourself superannuation, in one form or another, has been around for about 30 years. But it has only been over the last few years that these smaller super funds (or as they are more commonly called, self-managed superannuation funds, or SMSFs) have made an indelible mark on Australia's retirement savings landscape.

The SMSF sector now claims a bigger slice of the super pie than it ever has, in terms of asset values and number of funds. The 471,388 SMSFs in the country have an average balance just shy of $1 million. With more than $432 billion of superannuation assets, SMSFs represent roughly a third of Australia's total.

This stunning data is contained in the Tax Office's statistical report on SMSFs up to the end of June 2012, released in September 2012. An earlier government statistical summary stated that the SMSF sector grew at an annualised rate of 20% over five years, compared to around 8% for other super funds.

By asset value, SMSFs have now surpassed retail and industry super funds. The regulator of superannuation, the Australian Prudential Regulation Authority (APRA), says retail funds accounted for 27.4% of total superannuation assets by June 30, 2011, industry funds 19.2%, but that SMSFs accounted for the biggest slice – 30.3%. Here is a link to APRA's March quarter 2012 report.

Almost every SMSF is regulated by the Tax Office, but other super funds are regulated by APRA (there are a handful of SMSFs with more than four members that are still under APRA's wing).

Sole purpose test
One overriding obligation that every SMSF must meet is to pass the 'sole purpose test', which basically states that the fund is legally required to be maintained for the sole purpose of providing benefits to each member on retirement or at age 65 (or to surviving dependants). Compliance to this test is fundamental, and straying from it can lead to severe penalties.

Right choice for you?
But is an SMSF for you? Basically, a self-managed superannuation fund is a trust that is established for one to four members, who are also the trustees or directors, and so control the fund. Therefore it is the members themselves who decide how the fund will operate, and where it will invest (subject to certain legislative constraints).

Wanting greater control is often cited as one of the chief reasons that people want their own SMSF, followed closely by the desire to have greater flexibility over investment choice. It is a point of difference that may have boosted SMSF performance of late, as the Super System Review paper also reports that while SMSFs mostly have very little exposure to overseas assets, the average default asset allocation (usually the balanced option) for other super funds typically show about 29% exposure to overseas investments.

So given the fact that an SMSF is more hands-on, they are a type of super fund that will need a commitment to run, as managing your own super takes knowledge, time and skill. Members may be fine about investment control, but there are also regulatory responsibilities to shoulder and manage. So while an SMSF will be suited to a lot of people, they are not for everyone.

One more thing that running a self-managed super fund takes is money. An interesting item to come from the government's review was that SMSF members in the peak earnings age range (from 35 to 60) had an average taxable annual income of $106,000. Other types of super fund members earned an average annual income of $55,000. Compared to other types of super, SMSF members are on average older, the report says, earn more money, and have larger balances.

The latest estimate of an average SMSF account balance is just over $889,000, and over the last five years the proportion of smaller funds (less than $200,000) in the total SMSF pool has been declining. So SMSFs seem more suited to those that have the wherewithal to set one up.

Operating expenses can seem onerous as well, with the average running costs (based on paying third-party professionals such as tax agents or auditors) estimated at $6,500 a year. The Super System Review puts the average audit fee at $664. So to be cost-effective, the bigger the balance the better.

Operating expenses are unavoidable however, as it is compulsory under the legislation (the Superannuation Industry (Supervision) Act 1993, or SIS) to have all accounts audited by approved auditors every year. The Tax Office says there are around 11,500 approved auditors operating across the SMSF sector.

SMSFs also need to pay a $200 supervisory levy every year to the Tax Office, which is included in the SMSF annual return (set to increase to $300, effective from the 2013-14 financial year). It was previously $150 from the 2007-08 year, but started out at just $45.

SMSFs are taxed, like most super funds, at a concessional 15% rate on the income of the fund, including contributions for which the member has claimed a tax deduction (such as for self-employed). Realised capital gains on investments held for at least 12 months are taxed at an effective 10% (with a 33 1/3% discount available), and the usual tax-lowering tools of franking credits and offsetting capital losses are still available.

Setting up
How do you start your own SMSF? The first step is to establish a trust deed, which spells out the rules, rights and obligations for members of the fund and the powers of the trustee. In fact, there are a few main steps to setting up your own SMSF:

• establish a trust deed
• appoint trustees
• register with the Tax Office
• open a bank account.

The trust deed is a legal document that sets out the rules for operating the SMSF and the powers, duties and responsibilities of the trustees/members. It also details how contributions are made and benefits paid, appointing professionals and so on (such as auditors) and other governing rules. You are likely to need the help of a tax agent or other professional adviser to assist with this.

Appointing trustees is simple (all members are required to be trustees, or the directors of a corporate trustee) but they need to sign a declaration, which states that the trustees understand their duties and responsibilities. After that the SMSF must register with the Tax Office, which will see the fund get a tax file number and an Australian business number as well as 'elect to be regulated'. The SMSF will need to register for goods and services tax if it conducts an enterprise and annual turnover is more than $75,000.

You will need to open a bank account in the SMSF's name to enable any transactions to take place, but also to accept contributions and rollovers of amounts from other funds, to direct investment earnings to, and from which to pay expenses and liabilities.

An SMSF will need to record each member's entitlements (called a member account), which should show member contributions, earnings allocated to them, and benefit payments.

Reviewed September 14, 2012

Cooper Review of superannuation

The government's comprehensive review of Australia's superannuation system, the Super System Review, was compiled by a special panel led by Jeremy Cooper. The review had broad terms of reference, and was charged with examining and analysing the governance, efficiency, structure and operation of Australia's superannuation system. The review focused on achieving an outcome that is in the best interests of members and that maximises retirement incomes for Australians.

Readers with Taxpayers Australia membership can obtain the entire preliminary report (60 pages) by clicking the link in the membership-only area below. Also access Taxpayers Australia's general comments on the final review.

Members-only Log-in at right to access the preliminary report on the Cooper Review, Taxpayers Australia's comment on the report, and The Taxpayer journal articles: 'SMSFs and share losses' and 'TPD premium deductibility'. Don't have a membership? Join now, or view member benefits.

Free for non-members

DIY Superannuation Manual: Complimentary preview

The DIY Superannuation Manual is a comprehensive resource covering all you need to know about running a self-managed superannuation fund. To assist you in determining whether the publication is right for you, we’re pleased to provide you with a complimentary content preview. Brought to you by Superannuation Australia, a wholly owned subsidiary of Taxpayers Australia.

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