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FAQs - SMSF

What is a self-managed superannuation fund?

A self-managed superannuation fund, or "SMSF" is a trust that satisfies certain conditions that allow it to operate as a superannuation fund. A SMSF can have up to four members and the members must also be the trustees (or the directors of the  trustee company). The SMSF trustees are responsible for all aspects of running the fund including setting and implementing  the Fund's investment strategy.

What is a trustee?

A trustee is a person who is the legal owner of the SMSF's assets, and who holds them on trust for the beneficiaries, ie the  members. The trustee is also responsible for the general conduct of the SMSF including compliance with the superannuation  law.

A trustee can be a natural person or a company.

A SMSF trustee is subject to the general law of trusts, the various state Trustee Acts as well as the specific provisions in  the superannuation law relating to trustees.

What is a member?

A member is the beneficiary for whom the trustee holds the trust's assets, ie the member's superannuation benefits. The  member is therefore the person for whom the SMSF is run, and the trustee owes a duty of care to the member and must generally  ensure the member's interests are protected.

Because SMSF members must also be trustees, the distinction between members and trustees can sometimes become a little bit  blurred. We recommend the dual role, and the trustees' duty of care to the members, and general responsibilities under trust  law be borne in mind at all times.

Who regulates SMSFs?

The Australian Taxation office is responsible for regulating SMSFs.

The ATO provides an extensive range of SMSF information including detailed guidelines on its interpretation of the superannuation law, and this information can be accessed at http://www.ato.gov.au/superfunds/

Who can set up a SMSF?

Almost anyone can set up a SMSF. But before you should be confident that you can prepare and implement an investment strategy  that reflects your attitude to risk, your expectations of investment returns and your general financial profile and  psychology.

McMasters’ Accountants & Financial Planners and McMasters’ Solicitors can help you decide whether a SMSF is for you or whether another superannuation mode, such as a low cost industry  fund, is a better way for you to go.

Common examples of people setting up SMSFs include:

(i)     a small business owner who wants to use his or her SMSF to buy new business premises;

(ii)    a professional person, such as a doctor or a dentist, who wants to select their own share portfolio and avoid the high costs  and commissions connected to other forms of superannuation;

(iii)   a retired person who is looking forward to taking control of his or her own investments and to investing in a tax free  environment rather than a taxable environment;

(iv)    a manager or other employee who wants to reduce costs and also select a long term share portfolio emphasising capital gains,  to in effect defer income until after age 60 when the SMSF income becomes tax free; and

(v)     family members pooling their superannuation resources to achieve critical mass for running their own SMSF, say $100,000 in  total.

What does it cost to run a SMSF?

The answer is "it depends", but it is certainly cheaper than being a member of a retail managed fund where costs frequently  exceed 3% of the member's balance each year.

The average SMSF fee is about $1,800 a year.

Size does not matter. McMasters' fees are determined by time, not size. And time is in turn determined by the number of  transactions and the completeness of the underlying financial records.

McMasters’ Accountants & Financial Planners fees are set out in detail on this website and no fees are rendered without your prior agreement.

What steps are involved in setting up a SMSF?

The process of setting up a SMSF is described in detail in the Doctors' Guide to Self Managed Superannuation, which can be  downloaded at this website. In summary, the process involves:

  1. Order Super Fund Deed and Establishment Documents

  2. Application for Tax file Number, Australian Business Number and Registration with the ATO as a complying fund

  3. Set up a bank account for the super fund

  4. Set up Life Insurance / TPD/ Salary Continuance Policies in the new Super Fund name (if applicable)

  5. Advise Contributing Employers of the details of your new Super Fund

  6. Rollover existing Superannuation Accounts

Once the SMSF is set up, what then?

Once the SMSF is set up, the trustees are responsible for its general on-going operation and compliance with the law. This  includes:

(i) monitoring investments and compliance with the investment strategy;

(ii) maintaining basic records regarding the SMSF's investment transactions;

(iii) arranging for an audit each year (McMasters’ Accountants & Financial Planners does this for you); and

(iv) arranging for combined compliance and income tax return to be prepared and lodged with the ATO each year (McMasters’ Accountants & Financial Plannersdoes  this for you).

The trustees are also responsible for handling membership issues, paying benefits to members, general compliance with the  superannuation law and the day to day conduct of the fund, such as liasing with accountants, auditors, share brokers, banks  and other financial institutions.

This is why SMSFs are said to be "self-managed", ie the trustees manage the day to day operations of the fund.

How much do you need to set up a SMSF?

Alan Kohler writes that you only need $100,000 to set up and run a SMSF.

We agree with $100,000, although sometimes it can make sense to set up a SMSF with a lesser amount, for example, when the  client has a specific investment strategy, such as investing in
BHP Billiton, or a specific industry sector, or where the client anticipates large deductible contributions in the next few years.

The $100,000 limit makes particular sense if the SMSF has a simple investment strategy such as investing in the Vanguard Index Australian Shares Fund. Such a SMSF could expect annual costs below $1,200, including Vanguard's fees.

What should I call my SMSF?

You can call your SMSF any name you want. We encourage clients to be a bit boring here and call their SMSF something like  "The J and J Smith Superannuation Fund". It's boring but its practical, and everyone knows straight away which fund we are  talking about.

The Regulator issues each SMSF with a unique reference number, and it is this number that formally identifies the SMSF. So it  does not matter if there are already ten other "J and J Smith Superannuation Funds", yours will be unique and will not be  confused with anyone else's.

What are the advantages of self-managed superannuation funds?

The major advantage of a SMSF over other forms of superannuation relates to control and flexibility. You know where your money is and what it is doing at all times. Most trustees know exactly what their investments are doing on a daily basis, by using simple reporting systems and low cost investment platforms.

SMSFs create investment peace of mind.

SMSFs generally cost less to run than other forms of superannuation.

SMSFs generally achieve better investment results than other forms of superannuation.

SMSFs can implement specific investment strategies tailored to the member's particular circumstances and preferences, and can be inter-grated into the member's overall financial position including their non-superannuation benefits.

SMSFs allow for very tax efficient personal financial planning strategies to be implemented, including large salary sacrifice strategies and similar strategies.

Does a SMSF have its own bank account?

Yes. A SMSF must have its own bank account.

We usually recommend trustees open just one higher earning cash managed trust account, that has a cheque book, and that this  account be used as an operating account for all transactions and also as an investment account in itself.

Costs can rise if more than one bank account is maintained.

How do I transfer my other superannuation benefits to my SMSF?

You contact your other fund and obtain a benefit transfer form. You then complete the form and send it back. Within a few weeks the other fund will send a cheque or electronic transfer to your SMSF and you then invest this money in line with your  SMSF's investment strategy.

It's not a bad idea to check the Super Seeker section of
http://www.ato.gov.au/individuals/content.aspx?doc=/content/33301.htm to see if you have any lost superannuation benefits, and if you do, arrange for those benefits to be transferred to your fund too.

Do SMSFs out-perform other superannuation funds?

The answer is it depends on what the SMSF invests in, and which other superannuation funds you are referring to.

SMSFs have a significant cost advantage over managed funds, particularly if the trustees avoid commission paying investments  (and most trustees do). This cost advantage helps SMSFs achieve better overall performance.

The available evidence suggests that, on average, SMSF trustees achieve better investment results than most fund managers.

Who can advise me on my SMSF?

Generally, a SMSF advisor must be an authorised representative of an Australian Financial Services Licence Holder, such as  Dover Independent Financial Planning, to advise on self-managed superannuation.

Accountants have a limited ability to advise on self-managed superannuation fund issues and this ability, and its limits, are  detailed on the Australian Securities and Investment (ASIC) website at www.asic.gov.au.

McMasters’ Accountants & Financial Planners holds a proper authority from Dover Independent Financial Planning.

Do the investment standards include anti-avoidance rules?

Yes. If a scheme (broadly defined) is entered into to circumvent an investment standard, for example, by interposing a third party to allow a SMSF to effectively acquire an asset from a member, then this is ignored and the acquisition is treated as an acquisition from a member. Penalties then apply. We recommend SMSF trustees respect the spirit as well as the letter of the law, and do not adopt aggressive or narrow interpretations of the investment standards.

Can my employer contribute to my SMSF?

Yes. And since the start of superannuation choice most employees can direct their employer to pay their mandatory  contributions and salary sacrifice contributions to their SMSF.

Can SMSFs handle life insurance?

Yes. SMSFs can own life insurance policies. It's a great way to arrange your life insurance because the premiums are in  effect paid out of tax deductible contributions, and this lowers the after tax cost of the insurance.

But bear in mind that the death benefits may be taxed at 15%, and this means you may need to increase the sum insured to  compensate for this possible tax charge.

McMasters’ Accountants & Financial Planners will arrange commission free life insurances through your SMSF for a fixed low fee  allowing you to enjoy 25% lower premiums for the life of the policy. (Which hopefully is not as long as your life.)

Can SMSFs invest through unit trusts?

SMSFs cannot invest through unit trusts where the unit trust is a related trust, that is, a trust that is controlled by a member or a standard employer-sponsor. SMSFs also cannot invest through unit trusts that have borrowed to acquire assets. An exception exists for "excluded instalment trusts". These arise where the SMSF invests in an instalment arrangement and the underlying security is held on trust until the purchase price is paid in full. These are permitted unless the underlying security is an in-house asset.

SMSFs could invest through related trusts with debt until 11 August 1999. But have not been able to do so since then. SMSFs with such investments have until 30 June 2009 to arrange for the underlying debts to be paid off.

What tax concessions apply to SMSFs?

There are generally three levels of tax concession. These are:

(i)     deductions for contributions paid to the fund;

(ii)    low or no tax on investment earnings; and

(iii)   low or no tax on benefits paid, whether as a lump sum or as a pension.

The tax concessions are designed to encourage people to save for their own retirement and are conditional upon the trustees complying with the superannuation law and generally running the SMSF for the sole purpose of providing retirement benefits to  members.

Can a SMSF invest in investment derivatives?

SMSFs can invest in derivatives such as options and share rights. SMSF trustees should be aware that these investments are high risk and it is possible to quickly lose large amounts of capital. We have not observed SMSFs doing particularly well with these types of investments. We get worried when a client tells us that they have paid a small fortune for a software system that makes losses impossible. In some cases clients have been convinced that they can double their money every month forever! So far none have done this, most have made any money and some have lost all of their capital.

The high risk means these types of investments are normally not suited to SMSFs (although, strangely, the salesmen do not seem to care where the money comes from!). The same goes for commodities, currency and futures trading.

How is SMSF income taxed?

Concessional (ie deductible) contributions are taxed at 15%.

Interest, rents, dividends and other investment income are taxed at 15% unless the fund is paying a pension to a member.

Realised capital gains are taxed at 15%, unless the asset has been held for more than 12 months, in which case a one third  exemption applies, reducing the effective tax rate to 10%.

Franking credits in franked income reduce the amount of tax payable and may create a refund of tax.

Other income is exempt from tax. This includes non-concessional contributions, investment earnings and realised capital gains  where the fund is paying a pension and un-realised capital gains.

Do contributions have to be in cash?

No. A SMSF can accept contributions of property other than cash, including business real estate and listed company shares and other securities. Written advice should be sought before transferring an asset other than cash to a SMSF.

The employer is able to claim a deduction for the value of the property contributed to the SMSF. Typically the relevant tax rate will be 48%, whereas the SMSF will only pay income tax at 15%, so a tax saving of 33% (ie., 48% less 15%) arises on the transfer. For example, if property costing $100,000 is transferred to a SMSF this gives rise to a tax saving of $33,000. Further, in Victoria at least, no stamp duty is payable on such a transfer, so the transaction is very cheap to complete.

The self-employed may also claim deductions for the value of the property contributed to the SMSF.

How much time does a SMSF take to run?

The answer is it depends on how much time you want it to take.

Some SMSF trustees, particular older trustees, love spending time on their SMSF's investments. They read the investment  papers, visit chat groups, meet with friends and generally immerse themselves in the investment world. It's their obsession,  and they do very well at it. In some ways it's the thinking man's shed and the lap top in the spare room is where the action  is at these days.

Other SMSF trustees avoid spending time on their SMSF investments. For some its no more than a few hours a year. Their  investments are in, say, a selection of the top 20 Australian companies, a licensed investment company such as the Australian Foundation, or an Australian shares index fund. And earnings and contributions are re-invested automatically over time.

There is something to be said for each strategy.

The key point is that the strategy suits the trustee's investment preferences and they feel it is the best way forward.

McMasters' recommends clients use a low cost investment platform such as Praemium to reduce administrative time and  accounting costs.

Who are the trustees?

Except single member funds, only a member can be a trustee, and all members must be trustees or directors of the trustee company.

In most cases the trustees are "mum and dad", ie a couple, to the extent that SMSFs were once colloquially known as "Mum and Dad Funds".

For single member funds, it is not possible for a person to be a trustee for just themselves, so another eligible person can act as a trustee here, or the single member can form a company that he/she is the sole director to act as the trustee.

A member's legal personal representative may be a trustee if for any reason the member is not able to act as a trustee, for example, is under age 18 or is mentally incapable.

The members cannot employ each other unless they are related.

Who is barred from acting as a trustee?

An individual is barred from being a trustee if:

(i)     convicted of an offence involving dishonesty;

(ii)    subject to a civil penalty order under the superannuation law;

(iii)   disqualified by the Regulator, ie the ATO or APRA; or

(iv)   an undischarged bankrupt.

A company is barred from being a trustee if:

(i)     a director, secretary or executive officer is a disqualified person,

(ii)    there is application to wind up the company, or

(iii)   a receiver or liquidator has been appointed.

Do contributions have to be paid out of income?

We are often asked this question. The simple answer is "no". The question seems to reflect a misunderstanding attributable to the convention of deducting contributions from a regular pay cheque. The large bulk of all contributions are collected this way.

Contributions do not need to be paid out of income. They may be paid out of general cash reserves or loan facilities. It is not important how these reserves are built up: they may be generated by prior year profits, from share capital or from borrowings. For example, a client may dispose of some shares in order to pay a contribution of $50,000 to a SMSF or may borrow the money from a bank. Both can be good options to choose and can help ensure the maximum amount of contributions are made each year.

Is a director an employee for superannuation purposes?

"Yes". Section 82 AAA of the Tax Act includes a person who is a director of a company in the definition of persons who are directors of a company for superannuation purposes. This definition is commonly relied on where a spouse is a director of a family company. The person does not have to be an employee under the general law, or earn salary or wages from the position.

Sometimes clients, and other advisors, express concern at this rule. They would do well to visit the ATO's superannuation website which includes the following paragraph:

"As well as its normal meaning, 'employee' includes company directors, some artists, sports people and several other categories. Individuals working under a contract wholly, or principally for their labour, are employees for superannuation guarantee purposes, even if they quote an Australian business number (ABN)."

This may mean that a person who is a director of a company that is a trustee of a family trust may be superannuated up to his or her age based limit by the trust, as well as receiving superannuation contributions up to his or her age based limit from a separate (unrelated) employer, such as a school or a hospital.

What are the trustees' duties?

The trustees duties are discussed in detail in the Doctors' Guide to Self-Managed Superannuation, which can be downloaded from this website.

Interested readers should also refer to the ATO publication "A Guide for Trustees Running a Self Managed Superannuation Fund, which can be downloaded from
http://www.ato.gov.au/superfunds

From 1 July 2007 all new SMSF trustees have to sign
the trustee declaration that states they understand their duties as a trustee. This is normally done as part of the SMSF formation process.

Does the company have to pay a director's fee?

There is no requirement for the company to pay a director's fee. Of course, the director must still be "gainfully employed" for the purposes of the SISA, but the spouse does not need to be gainfully employed in connection with the company. This means the director must be gainfully employed for more than ten hours a week. The gainful employment does not have to be in connection with the company's activities. A common example is a spouse in full or part time external employment that is also a director of the family company.

What is the sole purpose test?

The superannuation law requires a SMSF to be run for the sole purpose of providing retirement benefits to members and paying benefits on the member’s death to the member’s dependents or legal representative. This is an overriding rule that controls all aspects of a SMSF's operation, particularly its investment strategy.

For example, the purchase of art for the aesthetic pleasure of the trustees is a breach of the sole purpose test.

Serious penalties may apply if the sole purpose test is breached.

How long do trustees have to keep records?

Financial documents have to be kept for fives years, and other documents have to be kept for ten years. But McMasters’ Accountants & Financial Planners  recommends all documents be kept forever, even if it they are only kept in digital form.

McMasters’ Accountants & Financial Planners does not retain client documents and all original documents are returned the trustees.

Can contributions be made for a person who is over age 65?

Contributions may be accepted from any source provided at the time of contribution the member has been gainfully employed for at least 40 hours over not more than 30 consecutive days during the financial year in which the contribution is made.

Mandated contributions may be made for a member who is over age 75 and SMSF trustees may also exercise its discretion to accept other non-mandated contributions in respect of a member in certain limited circumstances.

What can a SMSF invest in?

SMSFs can invest in property, shares and bank deposits, and derivatives of these three main investment classes.

Most SMSFs invest mainly in franked Australian shares, because of the underlying strength of the Australian share market, and  the special rules for refunding franking credits. These special rules give franked shares a legislative head start over  alternative investments, and this head start can be as much as 3 percentage points a year.

Some SMSFs invest in property, including business premises and residential property provided a member or relative does not  live in it.

Some SMSFs invest in shares and property indirectly, through managed funds and syndicate type arrangements.

Most SMSFs invest in cash deposits, via their operating account. It is a fair criticism of SMSFs that they hold too much in  cash, and not enough in growth assets.

SMSFs can invest in options, instalment warrants, contracts for difference and other investment derivatives.

McMasters’ Accountants & Financial Planners can help you with investment selection and asset allocation decisions.

What is an investment strategy?

The superannuation law requires all SMSFs to have an investment strategy.

An investment strategy sets out the trustees' intentions and plans for the investment of the SMSF's benefits, considering  issues such as return, liquidity, risk diversity and the ability to pay member benefits when due.

Legal E Docs' provides clients with a number of pro-forma investment strategies and can help trustees prepare and implement  their strategy if requested to do so.

Are salary sacrifice arrangements effective?

The answer to this question is "yes, provided certain ground rules are observed". A salary sacrifice arrangement occurs where an employee chooses to give up, or sacrifice, assessable salary income taxed at more than 15% for additional contributions taxed at 15%. The employee wins because less tax is paid. The employer wins because on-costs, including payroll tax and Work Cover premiums, fall drastically.

The ATO now accepts salary sacrifice arrangements provided the employee is sacrificing a future entitlement to income, not an existing right to income. Nevertheless, caution should be exercised. Expert advice should be sought from your accountant before sacrificing salary to superannuation contributions.

Does the superannuation law prohibit certain investments?

There are a number of investments that are not permitted under the superannuation law. These include:

(i)     loans to members or relatives;

(ii)    leases to members or relatives;

(iii)   residential property used by members or relatives;

(iv)   investments in businesses run by members or relatives; and

(v)    generally, investments where there is a purpose other than providing retirement benefits to members.

A SMSF cannot acquire assets from a member, other than cash, business real property, listed shares and other listed  securities.

McMasters’ Accountants & Financial Planners encourages clients to stick with the traditional investments and to not take any risks with other investments.

Can a SMSF own vacant land?

SMSFs can own vacant land.

How long does it take to set up a SMSF?

Technically it takes just an hour or so to set up a SMSF. The process for setting it up is described in the Doctors' Guide to Self Managed Superannuation Funds, which can be downloaded at this website.

But it can take as long as one month for the entire process to be completed. This includes receiving tax file number, an ABN and a SMSF registration document back from the ATO, and sometimes these are needed before third parties will deal with the  SMSF.

And a SMSF cannot technically start until it receives a contribution and rollovers: a SMSF is just a special type of trust, and a trust does not exist unless there is trust property.

Can a SMSF own art, wine or jewellery?

The answer is yes. However, trustees must comply with the superannuation rules. The regulation requires that:

1.      Collectables and personal use assets must not be leased to any related party of the funds

2.      Collectables and personal use assets must not be stored or displayed in the private residence of any related party of the fund

3.      Trustees must make a written record of the reasons for the decisions on where to store the collectables and personal use assets and keep the      record for 10 years

4.      Trustees must ensure that collectables and personal use assets (other than a membership of a sporting or social club) are insured in the name of the fund within seven days of acquisition

5.      Collectables and personal use assets cannot be used by any related party of the fund

6.      The transfer of ownership of collectables and personal use assets to a related party of  the self-managed super fund must be done at a market price determined by a qualified independent valuer.

When may members receive benefits?

Members can receive certain pension benefits on reaching age 55 or age 60, provided conditions are met. Members can also  receive benefits on:

(i)    death;

(ii)    permanent incapacity;

(iii)   severe financial hardship (strict conditions apply);

(iv)   compassionate grounds;

(v)    permanent departure from Australia, for temporary residents.

Can a SMSF own business premises?

Yes, it can. The SMSF may decide the premises occupied by the business are an appropriate investment. This means the SMSF may buy the premises from a third party and then lease them to the business and, provided certain conditions are observed, may buy the premises off the business (or a related entity) either directly or through an interposed unit trust. This is, however, a complex area and detailed accounting advice should be sought before proceeding with either option.

When must members receive benefits?

The SIS Act does not states when the members must receive the benefits. However, once the member goes into pension mode, the annual minimum pension withdrawal has to be met.

Do SMSFs pay capital gains tax on investments?

The answer to this question is "yes, SMSFs do have to pay CGT". In fact, special rules in the Tax Act make sure SMSFs pay CGT tax and are not assessed as traders or speculators (who are taxed on gains as ordinary income).

A SMSF includes two thirds of any net capital gain in its assessable income each year. This amount is then taxed at 15%, which in effect means the net capital gain is taxed at 10%. "Net capital gain" is the sum of any capital gains less the sum of any capital losses realized in the year. The amount of CGT will depend on the tax profile of the SMSF.

Careful planning may reduce CGT. For example:

(i)   the disposal of the asset with a capital gain can be deferred until the SMSF is paying a pension. This means the tax rate on the capital gain will be zero, and therefore the capital gains tax will be nil;

(ii)   the disposal of the asset with a capital gain can be deferred until the same period as the disposal of an asset with a capital loss. Capital losses reduce net capital gains and cannot be offset against other types of assessable income. Without a capital gain a capital loss is not worth anything; and/or

(iii)  buy shares that pay franked dividends. The franking credits help offset any CGT.
              
      

Can a SMSF receive a distribution from a family trust?

The answer to this question is "yes, it can, but the distribution will be taxed at 47%". This means there is no tax advantage in a SMSF receiving a distribution from a family trust. In fact, in most cases there is a strong tax disadvantage in doing this.

What happens if a member becomes bankrupt?

Once most trust deeds had a clause that said a member's benefits were forfeited on the member becoming bankrupt. This meant the trustee in bankruptcy could not access them. Once the member was out of bankruptcy the benefits would be restored. This mechanism effectively protected a member's benefits from bankruptcy, although the member had to rely on the good grace of the trustee for the benefits to be restored.

Since 1 July 1994 any clause in a deed that purports to forfeit benefits on bankruptcy is void. This does not mean a member's benefits are exposed to the trustee in bankruptcy. This is because the SISA now formally protects the member's benefits up to the member's pension RBL. There are only three situations where a trustee in bankruptcy can access a member's benefits. These are where:

(i)   a member is receiving a superannuation pension when the act
       of bankruptcy occurs. Here, if the pension is above the
       amount prescribed in the Social Security Act, the trustee may
       access the excess amount of the pension;

(ii)   if the member becomes entitled to a lump sum benefit after the
        act of bankruptcy occurs then any part of the member's benefits
        that exceed the pension RBL may be accessed by the trustee
        in bankruptcy. The rest of the benefit will be protected. Any
        income received from investing the benefit may be accessed
        by the trustee in bankruptcy; and

(i)    if the member becomes entitled to a pension after the act
        of bankruptcy occurs and the pension is above the
        amount prescribed in the Social Security Act, the trustee
        in bankruptcy may access the excess amount of the pension.

Who can contribute to a SMSF?

Most trust deeds permit any person who is a member to contribute to the fund, but the superannuation law sets out a number of  age-based restrictions and work tests for older members. These restrictions and test are tabulated as follows:

Age Rule
Up to age
65
Anyone can contribute regardless of their employment circumstances
Between
65 and 70
A work test applies: the member must work at least 40 hours in a consecutive 30-day period. Concessional (ie deducted) and non-concessional contributions can be accepted.
Between
70 and 75
A work test applies: the member must work at least 40 hours in a consecutive 30-day period. Only mandatory contributions and non-concessional contributions can be accepted.
After age 75 Only mandatory contributions can be accepted.

Can a SMSF transfer benefits to a non-complying fund?

No. If the trustee did this it will breach the SISA and expose the fund and its trustees to heavy penalties." The non-regulated fund, since it is a non-complying fund for income tax purposes, will be taxed on the transferred benefits at a rate of 47%.

What rate of tax do SMSFs pay on their net capital gains?

The answer depends on the time the asset was acquired, but the rate of tax paid cannot be less than 10% unless that asset is held for less than 12 months.

If the SMSF acquired the asset after 21 September 1999, and held the asset for more than 12 months before disposing of it, any capital gain will be reduced by 1/3. This means the effective tax rate falls by 1/3, from 15% to 10%. Capital losses, including carried forward capital losses, must be deducted from the capital gains before the 1/3 discount is applied. The cost base used in the calculation of capital gain is not indexed for inflation.

If the SMSF acquired the asset after 21 September 1999 and held it for less than 12 months the discount factor does not apply. This means the capital gain is taxed at 15%. The cost base used to calculate capital gain is not indexed for inflation.

If the SMSF acquired the asset before 21 September 1999 then it may claim the 1/3 discount or index its cost base in the capital gain calculation. This means the tax rate cannot be more than 10%, but may be less if the indexed cost base calculation is chosen. This depends on the amount of cost base, the date of acquisition of the asset, and the consideration received on disposal.

The capital gain will be 100% exempt if the super fund is full pension mode, so there is no tax needs to pay.

Does a SMSF have to diversify its investments?

"No". This is a common misunderstanding. Many people think there is a statutory requirement for a SMSF to diversify its investments. There is no requirement diversify investments. There is no rule saying a SMSF cannot invest 100% in one investment class or even one investment. For example, the trustees may invest 100% in shares, a fixed deposit with a bank or a rental property.

The investment strategy must consider diversification. But the SMSF is not required to diversify its investments. Many advisors preach diversity as a creed. They belong to the portfolio school of investment advisors and it is fair to say this school has dominated investment theory in the last few decades. The portfolio school has its critics. Relevant thoughts include:

(i)   to achieve a statistically sensible degree of diversification a SMSF needs at least sixty investments and more than $1,000,000. Most SMSFs have fewer investments and lower amounts under management; and

(ii)   by selecting particular shares and not diversifying the world's best investor, Warren Buffett of Berkshire Hathaway, has more than doubled the Dow Jones index each year for more than thirty years. The idea is why select under performing stocks just to diversify? Why not invest in businesses you are confident will grow in value?  This is known as the "value" school of investing. Its premises are a lot more sensible than the portfolio school of investing. In the context of a SMSF run by the owners of a small business it means: "Why not invest in a property you know has a good tenant and will pay a 10% pa rent on time every time rather than fixed interest at 4% or a bundle of risky shares at 5.5%?".

Who receives a deceased member's death benefits?

The trustees may pay the benefits to the estate or to a dependant, ie a spouse or a child or any other person who is  financially dependant on the deceased member.

In most cases this is not complicated. But it may be complicated where, for example, family members do not get on or there  has been a divorce and a re-marriage or some other complication exists. Here expert advice from a solicitor on estate  planning is needed, including advice on a binding death benefit notice. A binding death benefit notice is a binding direction  to the surviving trustee to pay the member's benefits in a certain way.

What is "salary sacrifice"?

"Salary sacrifice" is jargon for a strategy whereby an employee asks an employer to reduce his or her agreed salary in return  for an equal increase in the amount of deductible superannuation contributions made for that employee.

The tax benefit of the reduced salary is normally greater than the tax cost of the increased contributions, and the employee  is better off as a result.

Salary sacrifice contributions strategies are common amongst higher earning employees and older employers, and are often  combined with other strategies including gearing strategies and transition to retirement strategies to achieve very tax  efficient results.

Does a SMSF need to have liquid investments?

No. This is another common misunderstanding. Many people believe there is a statutory requirement for a SMSF to invest in liquid investments, ie assets that are cash, or are easily converted to cash. There is no requirement for the trustees of a SMSF to keep any of its assets in liquid investments. For example, the SMSF may decide to invest 100% in a rental property and not keep any cash.

The investment strategy must consider liquidity. But the SMSF is not required to keep a specified amount of its investments in cash or near cash investments.

Will I get the Government co-contribution?

The Federal Government provides generous co-contribution rules for low income earning SMSF members. The co-contribution can  be up to $1,500 a year.

Contributions paid to SMSFs qualify for the $1,500 co-contribution.

The current eligibility requirements are:

(i)   you have made personal superannuation contributions in that year. Contributions made from pre-tax salary (salary sacrifice)  or contributions made on your behalf by a third party, e.g. your spouse or employer, are not considered personal  superannuation contributions;

(ii)    your total income (assessable income plus reportable fringe benefits, note it is assessable income not taxable income) for  that year is less than
the phase out threshold;

(iii)   you have received 10% or more of your total income from eligible employment, i.e. you must not have been substantially  self-employed and you must have had a least some income from employment;

(iv)    you have not held an "eligible temporary resident visa" at any time during the year; and

(v)      you have lodged an income tax return for the year;

(vi)     you are less than 71 years old at the end of the financial year.

Can a SMSF invest in non-income producing assets?

"Yes". Nothing in the SISA stops trustees from investing in assets such as land or precious metal. Provided they are in the investment strategy and are intended to enhance the members' retirement benefits they are acceptable investments.

Some caution is appropriate in some cases. The absence of a regular income stream can raise a presumption the asset was acquired for a purpose other than investment. Art and other collectibles are two examples. Readers should note the comments above regarding lifestyle assets. External expert evidence of the asset's investment potential is a wise precaution, as a minimum. But on balance we prefer assets that do not produce income to not be held.

Can a SMSF invest in wasting assets?

Wasting assets are assets such as depreciable plant, intellectual property and equipment and leasehold interests in properties. A SMSF can invest in wasting assets. The comments in the preceding section are also relevant here.

Can a SMSF accept investments as contributions?

"Yes", provided the SMSF's trust deed permits this (and most do) and the acquisition does not otherwise breach the superannuation law. For example:

(i)   a SMSF may not be able to accept as a contribution an asset that is leased to a member, as this may breach the in-house assets test; and

(ii)   a SMSF cannot accept units in a unit trust if the trust has borrowed to acquire assets, as this breaches the rule against acquiring assets from members.

Can a non-complying fund transfer benefits to a SMSF?

The answer is "yes". The broad thrust of the SISA is to encourage trustees to stay in the regulated environment. This thrust includes a prodigal son rule to not penalize members where benefits are brought into that environment. Therefore the benefits transferred generally are not taxed in the hands of the SMSF. The exception is the untaxed element of any post June 1983 component of an ETP included in the roll over amount.

Who can be paid a superannuation benefit on my death?

The superannuation law limits the payment of a benefit on the death of a member to a 'dependant' or their legal personal  representative.

A dependant includes a spouse (including de facto), children (including adopted children, step-children and ex-nuptial  children) and anyone with whom you have an interdependency relationship.

Two persons are considered to have an interdependent relationship if each of these conditions is met:

(i)     they have a close personal relationship;

(ii)    they live together;

(iii)   one or each of them provides the other with financial support; and

(iv)   one or each of them provides the other with domestic support and personal care.


An interdependent relationship also exists where there is a close personal relationship and either or both people suffer from  a physical, intellectual or psychiatric disability. In these circumstances there is no requirement for cohabitation or  provision of financial or domestic support.

A close personal relationship is one that involves a demonstrated and ongoing commitment to the emotional support and  well-being of the two parties.

The definition is not intended to include people who share accommodation for convenience or who provide care as part of an  employment arrangement or on behalf of a charity.

Should your SMSF provide life insurance?

The answer to this question is probably "yes". Life insurance premiums paid by the SMSF are deductible losses and outgoings. This means the member is in effect able to claim a tax deduction for the cost of the life cover. The premium is tax deductible but any benefits paid to a dependent (usually a spouse) are tax free up to the member's RBL. Excess benefits can be retained in the SMSF and allocated to the surviving member(s), who typically is the deceased member's spouse. This is the cheapest way to organize life insurance, particularly renewable term life insurance and is a significant advantage of self-managed superannuation.

Make sure the SMSF actually owns the life insurance policy from the beginning. Life insurance policies should not be transferred to a SMSF, whether formally by notice to the life insurance company, or informally by simply having the SMSF start paying the premiums each year. This will breach the rule against SMSFs acquiring assets from members set out in section 66 of the SISA.

Should your SMSF provide trauma insurance?

Trauma insurance is, briefly, an insurance policy that pays a benefit on the occurrence of a health-based trauma, such as a heart attack or a stroke. Trauma insurance premiums are not tax deductible. Many life insurance salesmen glibly state trauma insurance premiums will be tax deductible if the policy is owned by a SMSF. Therefore, they say, large (and typically expensive) trauma insurance premiums should be paid this way.  This may be true, but in the event of a trauma the trustees can only pay a temporary income based benefit. (These rules are covered elsewhere in this manual). This isn't the end of the world: it is better to have $200,000 in a SMSF than to not have $200,000 at all. And the period of incapacity can be very long. But the restrictions on accessing the benefits should be understood before structuring the trauma insurance policy this way.

Can a SMSF borrow money for investments?

Yes a SMSF can borrow for investment but limited to circumstances. A SMSF may borrow small amounts for short periods of time for specific purposes.

Also, a SMSF can borrow to investment in properties through instalment warranty structure. At McMaster’s, we provide all the legal and accounting documentation to  assist clients to set up the right structure to invest in properties in their SMSFs. Contact us if you need any assistance in regards to this.

Do I have to provide the tax file number to the bank?

No, you do not. But the bank must deduct tax at 45% if you do not. This tax is credited to the SMSF when its tax return is lodged. Often when a SMSF is set up the trustees may need a bank account before the TFN is available. We recommend the account be opened without the TFN and the TFN be provided to the bank as soon as it is available.

Is interest on loans to pay contributions tax deductible?

Interest on amounts borrowed by an employer to pay employee contributions is tax deductible under sub-section 51(1) of the Tax Act. This is because it is a loss or outgoing incurred in producing an employee's assessable income. The ATO accepts this position.

Interest on amounts borrowed by a person other than an employer to pay a superannuation contribution are not tax deductible under sub-section 51(1) of the Tax Act. This is because the interest has no connection with the payer's income. The position is put beyond doubt in section 67AAA of the Tax Act, which provides that such interest is not tax deductible.

Self-employed persons and employees should take care that any borrowings are not directly connected to the payment of a contribution. If they are the interest on the borrowing will not be tax deductible. If self-employed persons want to contribute and do not have enough cash at hand to do so they should consider borrowing to pay general business outgoings and use their gross cash receipts from the business to pay the contribution.

Can a SMSF own a holiday home?

No. The existence of the recreational or familial motivation means that the sole purpose test is breached. Whether the holiday home is a good investment or not is a moot point. The SMSF cannot own it.

(Interestingly, a holiday home can be a tax efficient investment if bought with borrowed funds and is available for rent for most of the year, except when the family is in residence. This means that even if a SMSF could own the holiday home it would usually be better to instead own it in the name of a high tax rate person, or may be a family trust.)

Who can set up a SMSF?

There is no restriction on who can establish SMSFs. They are set up by people of all ages from all walks of life. Normally people with higher incomes or who have significant wealth set up SMSFs. Older people predominate, since they are able to pay larger contributions and are more aware of their ultimate retirement. Younger people using the SMSF's to set themselves up for later life are becoming increasingly common.

How much do you need to set up a SMSF?

Some say a person should have $100,000 of super before setting up SMSF. They say below $100,000 the costs of running SMSFs outweigh the benefits. The threshold of $100,000 is often too high. It significantly overstates the cost of setting and running a SMSF and significantly understates the various commissions and fees connected to managed funds.

We believe a more accurate figure is $50,000. This is also the figure quoted by the Australian Society of Certified Practising Accountants as the "break even point" for a SMSF. Some people use SMSFs with less than $50,000, confident that over time the enhanced returns coupled with a robust contributions strategy, will make up for any cost inefficiencies in the early days.

The figure of $50,000 comes with two caveats: these are that the SMSF has a simple investment strategy and does not have a large number of small value transactions. It is the number of transactions that determines the cost of running a SMSF, not its size. One good strategy for a SMSF is to have all of its assets in an investment like an indexed fund. This is an extremely easy investment to account for and to audit and this means these costs are kept to a bare minimum.

Do you need more for a SMSF paying a pension?

The figure is closer to $200,000 for a SMSF that is paying a pension. This is because most members would be better off taking a tax free lump-sum benefit if they have any less than this. Hence the higher threshold for the SMSF to be economically viable.

How does a SMSF differ from other superannuation funds?

SMSF members do not need the benefit of the consumer protection type rules applying to larger superannuation funds with hundreds or even thousands of members, and no involvement by the members in the operations of the fund. They do not need the benefit of these rules because they are both members and trustees, and therefore are actively involved in the SMSF's operation and able to access information about it at will.

Examples of this include:

(i)   the equal representation rules between employers and
       employees do not apply;

(ii)   the rules for member inquiries and complaint procedures do
        not apply;

(iii)  there is no need to appoint a custodian or a manager to  SMSF;

(iv)   a wider class of persons may audit the SMSF. This is because
        the formal qualifications for an auditor are less rigorous;

(v)   the information to be provided to members is less extensive.
       There is no need to provide members with details regarding
       income and expense allocations and the general requirements
       to provide formal information are more relaxed, since the
       members have access to this information on a daily basis; and

(vi)   the trustees have nine months, rather than six months, from the
        end of the financial year to arrange for the audit to be completed
        and for the annual return to be prepared and lodged with
        the Regulator.

This means the costs of running SMSFs are  lower than otherwise would be the case.

Can I arrange for my employer to invest on behalf of my SMSF?

The answer to this question used to be "yes", but now it is "no". It was quite common for SMSFs to arrange for a member's employer to purchase, say, $1,000 a month of a particular security in the name of the SMSF, and for this to be treated as a contribution to the SMSF. There was no tax advantage to doing this: it was just an administrative expedient, a short cut that saved time and money for both the employer and the SMSF.

However, in early 2003 the Regulator announced that he considered this practice to be a breach of the SISA, as it meant the SMSF was not keeping its assets separate from those of related persons, and that from 1 July 2003 the practice would not be accepted.

This issue would not rank heavily on the ATO's culpability index. It's more of a technicality than anything else. But it is still wise to make sure that the SMSF pays all of its costs itself and that related parties do not pay these costs on its behalf.

Can a SMSF invest in geared listed trust?

Can a SMSF invest in a geared listed trust?

Yes. SMSFs can invest in geared listed trusts.

Geared listed trusts are managed funds that borrow money to accelerate growth in value. The idea is that as the fund manager can earn more than the cost of funds, the fund should borrow. This is fine in theory, and historically would have worked very well over the last twenty years or so. Just remember that the management expense ratio tend to be high and that gearing works in reverse too.

More helpful information

Have a look at the resources available under the 'Video and technical material' section.

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