Rising from the ashes
A chaotic period filled with extensive regulatory reform and increased reporting has pushed the SMSF industry to its limit in recent times. Through it all, however, SMSF professionals and service providers have demonstrated their resilience and ability to adapt.
While the bulk of the measures that were announced in the 2016 federal budget commenced 1 July 2017, these measures have continued to have flow on effects for the SMSF industry this year. Transfer balance reporting, for example, became mandatory for SMSFs from 1 July this year. For many SMSF firms, the increased frequency in reporting has meant updating systems and software and the way they interact with clients. SMSF professionals worked tirelessly in the lead up to 1 July deadline to ensure that all SMSF clients receiving income streams since 30 June 2017 had lodged their transfer balance account report (TBAR).
The reporting regime has not come without challenges, however, with some SMSFs having to rectify information due to duplication errors. SMSF professionals have also been frustrated by the limited access they have to transfer balance cap information for their clients.
The impact of the reforms to super also continued to flow on to the estate planning space this year. SMSF trustees are still considering whether estate-planning strategies they had in place before the reforms came in will still provide the best outcome.
The government also floated some new measures this year, including a proposal to increase the maximum number of members in an SMSF from four to six. It also announced a controversial measure to extend the audit cycle for SMSFs with good compliance history to three years. This has been met with considerable backlash from the auditor community.
Technology has played a vital role in reducing some of the administrative burden associated with the new reforms. It has enabled SMSF firms to conduct their transfer balance cap reporting in bulk and have greater visibility over their clients. Increased automation also continues to eliminate a lot of the menial tasks associated with SMSF compliance. However, this also means that some SMSF practices may need to shake up their value proposition and the services they offer clients.
While SMSF professionals are now coming to grips with the reforms to superannuation, 2019 will still be an eventful year, with the new professional standards set by the Financial Adviser Standards and Ethics Authority applying to new entrants to the advice industry from 1 January 2019. Existing advisers will be subject to transitional arrangements. The three-year audit cycle measure is also expected to cause some headaches for the industry this year, if it is passed as law.
Despite the new and ongoing challenges faced by the industry this year, mostly resulting from a raft of regulatory and legislative changes, SMSF professionals have remained committed to the SMSF space and providing clients with an exceptional level of service. Research from Investment Trends suggests a more optimistic outlook for 2019, with the number of firms that plan to grow their SMSF services increasing for the first time in three years. Investment Trends director Recep III Peker says SMSF professionals have “rekindled their interest in the SMSF sector”.
“They have now adapted to the reforms and licensing regime, they have greater clarity on what’s happening and have re-engineered their businesses so that they can focus on the growing role of SMSFs in their practices,” he says.
Blue-chip favourites take a hit
SMSF investors further diversified their portfolios this year, with some of their favourites underperforming. The downturn in the housing market this year and the revelations of the royal commission saw bank stocks, in particular, suffer at certain points this year. This has seen SMSF investors reduce their exposure to the top ASX 20 stocks. The CommSec SMSF Trading Trends Report released in September shows that while ASX 20 stocks still account for around a third of SMSF share holdings, the figure has dropped from last year when it was 40 per cent.
Wealth Within chief analyst Dale Gillham says it’s been a “rough road” for AMP shareholders in particular and there is still the risk of further downside.
Mr Gillham says it’s possible that the market has now factored in the negative news about company profits and findings from the royal commission.
“How it behaves in the last quarter of 2018 will shed light on its direction in 2019,” says Mr Gillham.
Instreet managing director George Lucas warns that the findings of the royal commission will inevitably result in a tougher legislative framework, which will “flow into smaller profits and lower payouts”.
“It won’t be Armageddon, but I suspect it will mean slower growth and small smaller dividend cheques from the banks,” says Mr Lucas.
Another trustee favourite, Telstra, also saw headwinds this year when it decided to cut 8,000 jobs.
“Regardless of its original purpose, removal of dividend imputations for those who pay little or no tax will affect many self-funded retirees who have come to rely on it, particularly those less well-off retirees because they won’t have tax to offset it against”
Shane Oliver, AMP Capital
While cost-cutting in public companies can be a potential boost for share prices, a forecast of lower profits in the telco’s disclosures in June saw values take a hit.
Verante Financial Planning director Liam Shorte says in the longer term the moves by Telstra to simplify the business and prepare it for the new market conditions of NBN and 5G mobile could provide returns in the medium to longer term.
“I believe a leaner, meaner Telstra could be a winner but I think many retiree investors will not be prepared to wait for the outcome,” says Mr Shorte.
With SMSFs frustrated by some of the performance of the ASX 20 stocks, Commonwealth Bank head of SMSF customers Marcus Evans says SMSFs are spreading out and looking to diversify into some of the higher performing Australian stocks and sectors such as information technology, as well as international shares.
“SMSFs have been criticised in the past for focusing too heavily on the high-yield, fully franked dividend-paying stocks, but a lot of those stocks have had a tough time over the last 12 or 18 months and that’s sort of created a stronger push towards diversification,” says Mr Evans.
In international markets, the escalating trade war between China and the US has led to concerns about economic growth for these countries. Earlier in September, US President Donald Trump announced further tariffs of 10 per cent on US$200 billion worth of Chinese goods, which will rise to 25 per cent in 2019 in the absence of a deal. China retaliated with its own levies of up to 10 per cent on US$60 billion of US imports.
Fidelity International market research analyst Ian Samson predicts these measures will only make a minor dent on China’s growth prospects and provide a one-off boost to US inflation.
“We estimate the measures will lop 0.6 per cent off Chinese growth in 2019, assuming the US implements the higher 25 per cent tariff,” he says.
AMP chief economist Shane Oliver says on balance the outlook for global markets still looks OK.
“The greatest near-term risks are around the US dollar and Trump’s trade war. Beyond this, cyclical indications are still okay,” says Dr Oliver.
Contribution changes still tripping up trustees
The changes to contribution caps that applied from 1 July 2017 have seen some SMSF trustees make mistakes with contributions in the 2017-18 financial year.
Miller Super Solutions founder Tim Miller says the extension of the lodgement date for SMSF annual returns this year also further complicated decisions in some respects.
“We all love a lodgement extension because it gives people more time to finalise everything from the previous year, however, it also means that it takes longer for people to get funds up to date,” warns Mr Miller.
“SMSF clients may not have had adequate time and information to be able to make contribution decisions, particularly with the total super balance rules.”
Mr Miller warns that issues with excess non-concessional contributions may arise because some trustees will have inadvertently contributed amounts that are under the cap, but because of their total super balance they weren't entitled to make those contributions in the first place. SMSF clients who had a total superannuation balance above $1.6 million at the end of the previous financial year cannot make non-concessional contributions.
Deductible personal super contributions, which became available from 1 July 2017, have also received a lot of attention this year. BT Financial Advice technical consultant Tim Howard says personal super contributions can be a very useful tool for clients who want to “top up their super before the end of the financial year”.
Personal superannuation contributions offer an alternative strategy beyond the salary sacrificing arrangements available through employers, says Mr Howard.
The government also introduced a range of measures in this year’s budget relating to exit fees and insurance for low balance or inactive accounts for public offer funds. Colonial First State executive manager Craig Day explains that the proposed measure means that insurance in superannuation will move from a default framework to one that’s offered on an opt-in basis for those members with low balances of less than $6,000, members under the age of 25 years and members whose accounts have not received a contribution in 13 months and are inactive.
“Where you’ve got someone that’s set up an SMSF that’s perhaps in their 40s and they’ve already got life and disability insurance inside a large fund, it’s not uncommon for them to leave $20,000 sitting inside that large fund and then roll over the balance to commence an SMSF and then redirect their employer contributions into their SMSF,” he explains.
“[Since], you’ve got no employer contributions going to that fund, under these new rules there’s a risk that it could be deemed to become inactive and therefore that insurance policy could be cancelled unless you take action to make sure that it doesn’t get cancelled.”
Under these proposed rules, members will either need to redirect employer contributions back into that account to prevent this or opt in for the insurance cover, Mr Day explains.
Another area where there has been significant movement is with SMSF loans. SMSF trustees looking to implement a borrowing strategy for their fund have been hit with some significant headwinds this year. Various lenders have tightened their lending policies for SMSF loans or exited the market altogether. Two major banks, Westpac and CBA, have ceased offering loans to SMSFs for both residential and commercial properties. There are now no major banks offering SMSF loans for residential properties. AMP also exited the space.
Hurdles with TBAR and ECPI
One of the most significant changes for SMSFs in pension phase this year was the commencement of the transfer balance cap (TBC) reporting regime. All SMSFs with a pre-existing income stream were required to lodge a TBAR before 1 July 2018. By the end of July 2018, 135,000 SMSFs had reported transfer balance cap information to the ATO. The ATO subsequently issued approximately 2,000 excess transfer balance determinations to members of SMSFs.
ATO deputy commissioner James O’Halloran says the ATO expects that some of these determinations will be amended or revoked as further information is reported to the ATO.
“For example, if a member rectified a small excess under the transitional rules,” says Mr O’Halloran.
Some common issues have arisen with the new reporting regime, according to ATO assistant commissioner Tara McLachlan, with some SMSFs reporting commutations that occurred on or before 30 June 2017 when only events from that date needed to be reported.
TBARs containing incorrect ABNs or TFNs for the fund or member have also caused issues, along with incorrect values, explains Ms McLachlan.
Missing information, particularly a member’s date of birth, has also been a problem.
There have also been issues where the SMSF has reported pensions that are not paid by the SMSF.
“For example, a lifetime pension a member received from a defined benefit fund. [In these situations,] the SMSF only needs to report the pensions it pays; otherwise, there will be duplication,” she explains.
Some of the inefficient aspects of the reporting regime have also caused frustration for the SMSF industry. Mr O’Halloran acknowledged that accessing information about a client’s transfer balance cap has been difficult for example.
“We appreciate agents want to be able to see the information we’ve relied on when determining their client has exceeded their TBC,” says Mr O’Halloran.
While the ATO does plans to make this information available for tax agents through the ATO’s online services environment, there does not appear to be a solution in sight for other types of professionals.
This means that SMSF practitioners will have to continue asking clients to access this information through their MyGov account, download the information and email it to them.
SMSF Alliance practice principal David Busoli says relying on the member to provide this information from their MyGov account is “not workable in the real world”.
“SMSF administrators and financial planners are usually not the member’s tax agent but they need to access the ATO’s TBC information as well,” says Mr Busoli.
“Until TBC information is accessible to all parties involved in servicing the member’s needs, errors will be common.”
The declarations section of a TBAR is also cumbersome, according to SuperConcepts general manager for technical services and education Peter Burgess, as the entity lodging the report must obtain a declaration from the trustees, confirming that the tax agent is authorised to report the information provided.
“Based on our own conversations with the ATO and the ATO’s stated position on the bulk lodgement of activity statements and tax returns, it is our understanding that these declarations are required every time a TBAR is lodged, which really defeats the purpose of bulk lodgements as it makes the whole process grossly inefficient,” says Mr Burgess.
“Until TBC information is accessible to all parties involved in servicing the member’s needs, errors will be common”
David Busoli, SMSF Alliance
The SMSF industry also encountered some significant changes with exempt current pension income (ECPI), with the ATO deciding to enforce its interpretation on what constitutes a segregated current pension asset for the 2017-18 financial year onwards.
The new interpretation means that funds that are wholly in retirement phase, even for a short period, must use the segregated method to claim ECPI for income earned during that period.
This goes against the “long standing industry practice that unless a fund is solely in pension phase for an entire income year, the trustee can elect to use either the segregated or unsegregated methods when claiming ECPI”, explains Accurium general manager Doug McBirnie.
Coupled with this new interpretation on ECPI, the integrity measures introduced to support the transfer balance cap also require a new test each year to determine whether a fund is eligible to use the segregated method, based on the members’ total superannuation balance.
Looking ahead to 2019, the level of income received by SMSF members could take a hit, with Labor planning to abolish cash refunds from imputation credits from 1 July 2019, if elected in the federal election.
AMP Capital’s Dr Oliver believes many self-funded retirees will take a hit if the policy is introduced.
“Regardless of its original purpose, removal of dividend imputations for those who pay little or no tax will affect many self-funded retirees who have come to rely on it, particularly those less well-off retirees because they won’t have tax to offset it against,” he says.
Estate planning considerations
Many SMSF trustees are still in the process of reviewing the impact of the superannuation reforms, including the transfer balance cap, on the estate planning strategies they have in place.
Cowell Clarke partner Peter Slegers explains that careful planning is required for members with transfer balance accounts at or close to $1.6 million.
“Where a member expects that the payment of a death benefit income stream will cause the recipient to exceed their transfer balance cap, the member should consider making the income stream reversionary so that the recipient has 12 months from the date of the member’s death to make important commercial and tax decisions regarding their superannuation affairs,” he says.
The SMSF industry also received some clarity this year on whether attorneys have the power to renew a binding death benefit nomination following an important judgement handed down by the Supreme Court of Queensland.
In this case, Re Narumon Pty Ltd  QSC 185, Justice Helen Bowskill declared that the binding death benefit nomination (BDBN), which had been renewed by the enduring power of attorney, was in fact an effective BDBN.
“The judge considered in the case whether it was a conflict, because in this particular case the attorneys were also the recipients, [but] they said because you are confirming the existing estate planning intention, you didn't have a conflict. So it may be a different answer if you are making one from scratch,” explains Cooper Grace Ward partner Scott Hay-Bartlem.
Cooper Grace Ward senior associate Hayley Mitchell, who worked on the Re Narumon case, says it also raises questions around what a trustee’s obligations are in terms of continuing to pay a pension to a nominated beneficiary or paying a death benefit in circumstances where documentation is missing or incomplete.
Where a pension automatically continues to a new recipient through a reversionary pension, the trustee has no discretion, Mr Mitchell explains.
In the Re Narumon case, there were extensive searches for the original or copy pension documentation.
“We were unable to find the pension documentation, but, through conducting this search, we collected various secondary evidence to support a finding that the pension was in fact reversionary,” she says.
“The factors that supported this finding included the actuarial certificates, which made an assumption the pension was reversionary, the way in which the pension payments were calculated due to the nature of the complying lifetime pension and the written financial advice provided to the member about their options for a pension.”
The court therefore accepted that the member had made a reversionary pension nomination and required the trustee to pay the pension to the reversionary beneficiary as required by the SIS Regulations, she says.
With the government looking to extend the maximum number of members in an SMSF from four to six, this is an area that will require significant planning if SMSF clients do decide to increase the number of members in their fund.
While View Legal founder Matthew Burgess believes the proposal to increase the SMSF member limit from four to six is positive in some respects, he says there is huge complexity hanging over this change when it’s looked at through the lens of binding nominations and estate planning.
“There are enough war stories just with two, three or four members. To then take that to five or six members, to me it potentially makes things significantly riper for problems. Every extra member you add is an extra complication when you come to the exit arrangements for the fund,” explains Mr Burgess.
“Even just with the day-to-day control, there is going to be the need for the industry to think about how director voting happens, and what the shareholding of the corporate trustee needs to look like. Four is relatively simple to manage but suddenly when you go to six it adds a whole new layer of complexity there.”
Some SMSF professionals are also concerned that adding extra members could result in greater incidents of elder abuse.
“If you’ve got a mum and she has four kids and dad has passed away and mum is still in the fund with the kids, the kids might say ‘well we're in this fund now, let's collude so that mum can only take her minimum pension payment out each year and we're keeping more money in the tin for us when mum pops her clogs’,” explains Cooper Partners director of SMSF and succession Jemma Sanderson.
“Now I'm not saying that people think like that, but with elder abuse becoming more and more on the radar, those sorts of things you need to be looked at.”