Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 133

Ructions in the SMSF market

Two issues that are currently working their way through the SMSF market could have a profound impact on the way the market operates.

The first involves the way that the largest profession servicing this market, accountants, operates. The second involves an aggressive tax play used by SMSFs.

Let’s start with a reminder of how the SMSF market is regulated.

What’s happening to accountants?

While becoming a member of an SMSF technically is a dealing in a ‘financial product’, which would normally require the adviser to be licensed under the Corporations Act, accountants are, until 1 July 2016, exempt from those rules when advising on setting up or winding down an SMSF.

Now things are changing and accountants need, from that date, either a full financial services licence or a limited financial services licence, if they want to advise a client on setting up an SMSF and dealing with their existing superannuation interest.

The most obvious client example where this would be relevant would be an individual coming up to retirement having, say, $700,000 in a retail or industry super fund, who wants to manage it themselves using an SMSF, as they will now have more time on their hands. Usually, they would seek guidance from their trusted accountant, but what will happen in future?

If the accountant goes down the licencing route, either as a licensee or an authorised representative of a licensee, their world changes significantly as the business will differ greatly from an accounting practice. At a macro conceptual level, licensees and authorised representatives work on a ‘disclosure basis’, in that the potential investor has to have all the risks associated with a potential investment disclosed and then they decide whether to invest or not.

At a legal relationship level, there are a whole range of rules for managing conflicts of interest by licensees and authorised reps, such as acting in the best interest of the client and not being remunerated by commission.

At a practical level there is also the paper work. Licensees and authorised reps must tell clients what they can do in terms of financial services (a Financial Services Guide) and, more importantly, they must document their recommendations and reasons for them (a Statement of Advice).

Compare this formal and stylistic way of working with that of an accountant, which is largely the reverse, where clients rely on and trust decisions and recommendations made by accountants. Ultimately, clients rely on the membership of an accounting body subject to its ethical and professional conduct restraints.

(Note, there are a few alternatives for accountants who do not want to go the licensing option, such as providing execution-only services or co-venturing with a licensed financial adviser who does all the activity requiring a licence).

ATO closing a contributions loophole

The other issue that will affect the SMSF market involves income tax. To limit the amount of tax benefits anyone can get out of using a SMSF, there are limits on how much they can contribute, both concessionally-taxed and after-tax. These are called the contribution caps.

It was different prior to 2007, when you could put as much into a SMSF as you wanted (not all of which would be deductible of course), but if you took out more that was considered reasonable, you paid extra tax. These were called the Reasonable Benefit Limits. From 2007, the tax system reverted to the way that it had operated before 1997, when there were limits on the amount that could be contributed to a SMSF. Which is what we have now with the caps.

If instead of contributing to a SMSF and being limited by the contribution caps, you could lend all your wealth interest free, well, you have just driven a Mack truck through some pretty important integrity measures in the system, being those contribution caps.

As you are both the borrower, being a member of your SMSF, and the lender, why pay yourself interest? Indeed, that is what has been happening.

The ATO is now actively trying to resolve this serious integrity breach by reclassifying the income that the SMSF receives from the investment that it acquires with the funds that have been borrowed at zero interest from the member as “Non Arm’s Length Income”- NALI, in the trade (an unfortunate acronym for those involved). That type of income is taxed at the highest marginal tax rate and not the preferential super tax rates of 15% or 0% if in pension mode.

After a couple of false starts, the ATO has now put the SMSF market on notice of the risk of tax at 47% on related party non-commercial loans.

The SMSF advising market seems to have got the message and are now saying that all loans to SMSFs, including from related parties, should be on full commercial terms. Not just with respect to the interest charged, but also in terms of LVRs and payment schedules.

 

Gordon Mackenzie is a Senior Lecturer in taxation and business law at the Australian School of Business, University of New South Wales.

 

RELATED ARTICLES

Top 10 hints for SMSF trustees before 30 June

What exactly is the ATO’s role in SMSFs?

What are wealth industry regulators thinking about?

banner

Most viewed in recent weeks

Lessons when a fund manager of the year is down 25%

Every successful fund manager suffers periods of underperformance, and investors who jump from fund to fund chasing results are likely to do badly. Selecting a manager is a long-term decision but what else?

2022 election survey results: disillusion and disappointment

In almost 1,000 responses, our readers differ in voting intentions versus polling of the general population, but they have little doubt who will win and there is widespread disappointment with our politics.

Now you can earn 5% on bonds but stay with quality

Conservative investors who want the greater capital security of bonds can now lock in 5% but they should stay at the higher end of credit quality. Rises in rates and defaults mean it's not as easy as it looks.

30 ETFs in one ecosystem but is there a favourite?

In the last decade, ETFs have become a mainstay of many portfolios, with broad market access to most asset types, as well as a wide array of sectors and themes. Is there a favourite of a CEO who oversees 30 funds?

Australia’s bounty: is it just diversified luck?

Increases in commodity prices have fuelled global inflation while benefiting commodities exporters like Australia. Oftentimes, booms lead to busts and investors need to get the timing right on pricing cycles to be successful.

Meg on SMSFs – More on future-proofing your fund

Single-member SMSFs face challenges where the eventual beneficiaries (or support team in the event of incapacity) will be the member’s adult children. Even worse, what happens if one or more of the children live overseas?

Latest Updates

Investment strategies

Five features of a fair performance fee, including a holiday

Most investors pay little attention to the performance fee on their fund but it can have a material impact on returns, especially if the structure is unfair. Check for these features and a coming fee holiday.

Interviews

Ned Bell on why there’s a generational step change underway

During market dislocation events, investors react irrationally and it should be a great environment for active management. The last few years have been an easy ride on tech stocks but it's now all about quality.  

SMSF strategies

Meg on SMSFs: Powers of attorney for your fund

Granting an enduring power of attorney is an important decision for the trustees of an SMSF. There are alternatives and protections to consider including who should perform this vital role and when.

Property

The great divergence: the evolution of the 'magnetic' workplace

The pandemic profoundly impacted the way we use real estate but in a post-pandemic environment, tenant preferences and behaviours are now providing more certainty to the outlook of our major real estate sectors.

Shares

Bank reporting season scorecard May 2022

A key feature of the May results for the banking sector was profits trending back to pre-Covid-19 levels, thanks to lower than expected unemployment and the growth in house prices.

Why gender diversity matters for investors

Companies with a boys’ club approach to leadership are a red flag for investors. On the other hand, companies that walk the talk on women in leadership roles perform better, potentially making them better investments. 

Economy

Is it all falling apart for central banks?

Central banks are unable to ignore the inflation in front of them, but underlying macro-economic conditions indicate that inflation may be transitory and the consequences of monetary tightening dangerous.

Sponsors

Alliances

© 2022 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.