Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 22

Look at super with different eyes

Too often I hear from people that the only important thing about super is ‘the return on my investment’. When you have a better understanding of superannuation regulations, you quickly find out super returns are far from the most important thing.

The purpose of this article is to encourage people to think differently about super, not to provide the only answer to a problem. The only golden rule of super is that there are no golden rules. Everyone’s situation is different. It is important to make your fund work for you, not you for it.

Thinking differently starts with the terms we use. Most people think of super as that thing we do for when we are old. Pensions are things we only use when ultimately we stop work, again about being old. Not so. Super is simply a trust structure, and pensions are just distributions from a trust. They are actually called income streams not pensions. In the same way, a distribution from a company is called a dividend and a distribution from a family trust is a trust distribution. The real driver is the tax benefits that the super environment provides everyone. Anyone who is paying tax on their investments should be asking the question, how can I do this better?

Let’s take it away from super for a moment. Here is a simple example of how to think differently:

  • person aged 55 with small business
  • expects to work for another 15 years then retire with children taking over the business
  • trustee of an SMSF with $200,000, all concessional amounts in accumulation
  • wants to acquire the business premises valued at $1 million
  • has $400,000 cash outside super.

What would normally happen?

  • continue to work and pay the base super guarantee amount to the fund, but no additional amount because borrowing money so will want to pay loan off quickly
  • head off to the accountant who will set up a Family Trust to buy the property
  • contribute or lend the $400,000 cash to the Family Trust and then go to the bank and borrow the remaining $600,000, giving bank security over the property in the Family Trust. This will ensure the asset is there for the family and a few tax benefits of distributing the earnings and capital gains around the family via the Trust.

Sound familiar? There is nothing wrong with this strategy, but there may be a better way to do it that ensures the whole family ends up better off with debt paid off faster. I suggest a rethink.

Starting with the existing SMSF, the first step is to commence a pension. This is where most people fall down – they don’t want a pension because they are not old.

By commencing the pension, there will be no income tax or capital gains tax in the fund on the income generated from the assets in the fund. I do note, however, being 55 and with the SMSF money coming from a concessional source, there will be some tax on the pension paid as outlined later. If the pension money is not needed, put it back into the SMSF. This is also a start of estate planning. It changes assets that would be taxed against the children into assets that won’t be taxed against the children. If the asset were in a Family Trust, the income every year would be distributed and tax would be paid.

Next, contribute the $400,000 cash to the SMSF and start a second pension with it. There are tax and estate planning benefits here as this is all a Non Concessional Contribution(NCC) therefore not taxed as it goes in and not taxed as it comes out, regardless of who it is paid to.

The client then buys the property through a holding trust entity within the SMSF, following the superannuation rules for borrowing money and buying property. Follow the rules when considering borrowing within your fund as getting it wrong can have adverse consequences. Don’t rush out and do this without getting proper advice. The bank is given the security. Strangely, this sounds exactly like the first scenario. The key benefit is that the asset in the fund is not subject to income tax or capital gains tax. If it were in a Family Trust, they would be. Which one do you want?

So what are the benefits of all this?

  • pension from the $200,000 @ 4% is $8,000 and is taxable at marginal tax rates less 15% (from age 55 to age 60)
  • commence a separate pension for $400,000 with all NCC tax free money (need to ensure the property is segregated to this account and the rent will cover the loan interest payments)
  • pensions are paid on net pension amount ie $400,000 not $1 million as the debt is taken off the calculation and 100% tax free even at age 55 ie 4% of $400,000 is $16,000 tax-free.
  • capital gains tax on the property if sold is nil under current legislation
  • net rent received is taxed at nil, yet fully deductible to the small company
  • in retirement 100% of income to client is not taxable
  • on death asset passes from NCC account to children tax free (no capital gains tax or ETP tax)
  • more effective loan payment (rent received is tax free so more money to pay off loan more quickly).

I do stress, this is not the only answer. This example was put together to illustrate my point. We don’t think enough about how to get the best out of superannuation. Take some time to talk through the options and design it for yourself. Get some advice, super is designed for your benefit, use it if it helps but if nothing else start the thinking process. And go and see a professional.

 

Andrew Bloore is Chief Executive Officer of SMSF administrator, SuperIQ.


 

Leave a Comment:

     

RELATED ARTICLES

Getting the most from your age pension

Give this risk the credit it deserves

SMSFs and infrastructure is marriage made in heaven

banner

Most viewed in recent weeks

Stop treating the family home as a retirement sacred cow

The way home ownership relates to retirement income is rated a 'D', as in Distortion, Decumulation and Denial. For many, their home is their largest asset but it's least likely to be used for retirement income.

Welcome to Firstlinks Edition 433 with weekend update

There’s this story about a group of US Air Force generals in World War II who try to figure out ways to protect fighter bombers (and their crew) by examining the location of bullet holes on returning planes. Mapping the location of these holes, the generals quickly come to the conclusion that the areas with the most holes should be prioritised for additional armour.

  • 11 November 2021

Welcome to Firstlinks Edition 431 with weekend update

House prices have risen at the fastest pace for 33 years, but what actually happened in 1988, and why is 2021 different? Here's a clue: the stockmarket crashed 50% between September and November 1987. Looking ahead, where did house prices head in the following years, 1989 to 1991?

  • 28 October 2021

Why has Australia slipped down the global super ranks?

Australia appears to be slipping from the pantheon of global superstar pension systems, with a recent report placing us sixth. A review of an earlier report, which had Australia in bronze position, points to some reasons why, and what might need to happen to regain our former glory.

How to help people with retirement spending decisions

Super funds will soon be required to offer retirement income strategies for members in decumulation. With uncertain returns, uncertain timelines, and different goals, it's possibly “the hardest, nastiest problem in finance".

Tips when taking large withdrawals from super

You want to take a lump sum from your super, but what's the best way? Should it come from you or your spouse, or the pension or accumulation account. There is a welcome flexibility to select the best outcome.

Latest Updates

Interviews

John Woods on diversification using asset allocation

All fund managers now claim to take ESG factors into account, but a multi-asset ethical fund will look quite different from a mainstream fund. Faced with low fixed income returns, alternatives have a bigger role.

SMSF strategies

Don't believe the SMSF statistics on investment allocation

The ATO's data on SMSF asset allocation is as much as 27 months out-of-date and categories such as cash and global investments are reported incorrectly. We should question the motives of some who quote the numbers.

Investment strategies

Highlights of reader tips for young investors

In this second part on the reader responses with advice to younger people, we have selected a dozen highlights, but there are so many quality contributions that a full list of comments is also attached.

Investment strategies

Four climate themes offer investors the next big thing

Climate-related companies will experience exponential growth driven by consumer demand and government action. Investors who identify the right companies will benefit from four themes which will last decades.

Investment strategies

Inflation remains transitory due to strong long-term trends

There is momentum to stop calling inflation 'transitory' but this overlooks deep-seated trends. A longer-term view will see companies like ARB, Reece, Macquarie Telecom and CSL more valuable in a decade.

Infrastructure

Infrastructure and the road to recovery

Infrastructure assets experienced varying fortunes during the pandemic, from less travel at airports to strong activity in communications. On the road to recovery, what role does infrastructure play in a portfolio?

Economy

The three prices that everyone should worry about

Among the myriad of numbers that bombard us every day, three prices matter greatly to the world economy. Recent changes in these prices help to understand the potential for a global recovery and interest rates.

Shares

Why green hydrogen is central to achieving net zero

Hundreds of green hydrogen projects show this energy opportunity is finally being taken seriously. While a cost disadvantage and technical challenges need to be overcome, it promises to deliver a path to net zero.

Sponsors

Alliances

© 2021 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. Any general advice or ‘regulated financial advice’ under New Zealand law has been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892) and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. For more information refer to our Financial Services Guide (AU) and Financial Advice Provider Disclosure Statement (NZ). You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.

Website Development by Master Publisher.