You’d probably be a bit disappointed if that was what you got for Christmas anyway. The point is that a self managed super fund (SMSF) is a serious commitment and not one that should not be taken lightly. At a time when many investors are turning to self managed super funds out of dissatisfaction with their existing arrangements, I’d like to discuss some of the good and bad reasons for initiating an SMSF. Some of these factors may not seem important in the heat of the moment, but just like buying a puppy, an SMSF is not something you can easily give up if it becomes too much hard work. If you’re thinking about heading down this path this might help you to decide if it’s the right way for you to go. If you’re already managing your own fund it will hopefully help you to decide if you’re in the right place.
The good reasons for running an SMSF
Ultimate control
A self managed super fund allows you and up to three other member/trustees to have ultimate control over many aspects of your superannuation. Within the confines of the regulations, you can choose what the fund can and can’t do such as paying out a transition to retirement pension, arranging insurance which is individually suited to the member’s needs or choosing what the fund invests in. Most of these options will generally be available through a managed fund or master trust structure however there may be greater flexibility to tailor appropriate options within an SMSF.
Reduced fees
A lot has been said about appropriate minimum balances for self managed super funds with suggestions ranging between $100,000 and $250,000. This is generally because of high flat dollar costs. Managed funds will usually have zero start-up costs (some may have entry commissions which can usually be avoided depending on the fund and the adviser) and a small ongoing flat dollar fee of say $100 to $200 with the remaining ongoing fee calculated as a percentage of the total investment value (anywhere from .5% to 3% depending on the fund and the investment option). Self managed super funds will usually have a set-up fee of $1,000 or more plus a much higher flat dollar fee usually starting at about $1,000 (and as much as $5,000 to $10,000 or more depending on the size and complexity of the fund). An SMSF may have no percentage based ongoing fee or there may be additional costs associated with the investment management depending on the investment style employed.
On a super balance of $10,000, a $1,000 fee represents 10% of the value of the fund; it is not a sustainable option. On a super balance of $500,000, even a $5,000 fee represents only 1% of the value of the fund. Depending on the complexity and cost of the administration and also the investment strategy employed and the associated fees, an SMSF can be very expensive but it can also be one of the cheapest options available.
Because you don’t mind the paperwork
There is definitely extra work involved in setting up a self managed super fund. You can usually pay someone to assist you with just about every part of the process however ultimate responsibility for managing the fund in line with the regulations remains with the members/trustees. You therefore need to be comfortable with the fact that there will be some extra administrative burden. Of course the more responsibility you may be able to take on yourself the more you may be able to save in fees. You should be conscious however that there are regulations to be adhered to in running an SMSF and there may be serious penalties for not complying with those regulations.
Access to otherwise unavailable investment options
Providing that they also are in line with the regulations (specifically the sole purpose test which is to provide retirement or death benefits to its members) SMSFs can choose from a wide range of investment options which may not be available through a traditional managed fund structure. When investing in a managed super fund you generally have a list of investment options to choose from. On selecting a particular option your money is generally pooled with the money of potentially thousands of other investors. This can have its advantages but you will have little visibility of what your money is ultimately invested in and little control other than to change your investment option.
Within an SMSF you can invest in either direct investments or managed funds and you have the capacity to take greater control of your investment. You could hold cash in the bank, artwork, a property (potentially with gearing) some direct Australian shares and maybe units in a managed fund invested into Asian growth stocks (or whatever the case may be). You can choose to have an adviser assisting you with some or all of these investment decisions or you may choose to make all of the investment decisions yourself.
Manage your own investments (aware that it’s not easy)
The option of having complete control over their investments is a very appealing one. Many individual investors have built up a wealth of knowledge and experience and are very capable of managing their own investments. One example that I have seen several times over is that of property investors who have honed their skills outside of superannuation, built up a sufficient balance and are now replicating their strategy within their super. This is of course something that can only be done via an SMSF.
Other investors with experience investing in shares have built up diversified share portfolios which have performed consistently well over time. Whatever the investment strategy, some choose to manage their own investments due to a well founded belief in their own ability, they may enjoy making their own investment decisions or they may wish to learn and improve their skills over time in a real world situation. For most people it is probably a mix of all three.
On its own, the desire to manage your own investments may not necessarily be enough of a reason for running an SMSF. Many managed super platforms provide access to ASX listed shares, fixed interest and other styles of listed investments in addition to managed funds. Depending on other factors, it may be cheaper and easier to achieve your desire to manage your own investments without setting up an SMSF.
The bad reasons for running an SMSF
Because you have a high super balance
Some investors and advisers regard the size of the super balance (either of individual members or the total balance) to be of utmost importance when deciding whether or not to set-up a self managed super fund. A high balance may be part of the reason for initiating an SMSF as it can result in lower overall fees than alternative options and it can also allow for investments into assets such as direct property that may not be accessible on a smaller balance. At the same time, many super platforms have tiered fees which can result in lower percentage costs the higher the balance or even capped fees. They may also provide access to a diverse mix of investments such as ASX listed shares for example. The other benefits of self managed super may not be of interest to some investors, regardless of their balance.
To manage your own investments (thinking that it’s easy)
Whereas many investors are well placed to take on the management of their superannuation, some may not have the appropriate level of commitment, knowledge or experience to get the most out of their super ongoing. Of course we’ve all seen the competitions where the guy throwing darts at the newspaper outperforms the stockbroker and the economist in picking stocks but I think we’d also prefer not to have that guy managing our super.
After the past 18 months, many investors that I speak to just want to “get out”, “get me into cash” and perceive an SMSF as the only way to achieve this. I obviously can’t argue with them when they say that they would have been x thousands of dollars better offer if they had spent that period in cash, but there is also a real risk that these same investors will be still sitting in cash 5 or 10 years from now, having lost out in the downturn and not benefited from the recovery.
Of course if you really want to invest in cash or if it’s appropriate for your situation, most managed funds have cash, stable or even capital guaranteed investment options. If they don’t it’s usually a simple process to move into one that does. Often in these situations it is about educating people as to the power and control that they do actually have over their existing investments and encouraging them to be pro-active and to exercise that control as appropriate.
For example, many people aren’t aware that most diversified managed funds invest in line with a mandate (such as 80% growth and 20% defensive assets) and couldn’t have moved into a more conservative mix 18 months ago even if they knew what was coming. This is small consolation and may sound ridiculous to some, but ongoing it is a healthy reminder that you need to be pro-active and involved to get the most out of your super, whether it is invested in a managed or self-managed environment.
Because an adviser tells you to
First of all, a good adviser will make a recommendation based on their considered opinion regarding the best course of action for your situation. Having said that, be very careful if an adviser tells you should start up an SMSF (be very careful if an adviser tells you to do anything!). Despite some movements in the right direction, vested interests abound in adviser world. The reality is that most financial planners probably won’t recommend an SMSF as it usually doesn’t make sense to then invest funds held in the SMSF into a managed fund (the preferred investment and fee vehicle for the majority of financial advisers). The reason is that this generally results in one or more unnecessary layers of fees and may also result in unnecessary layers of investment management with both the adviser and the fund manager having a say in where the funds are invested (which rather defeats the SM part of the SMSF).
Even where an adviser does recommend an SMSF it may not always be for the right reasons. Accountants for example will often recommend the structure for the same reason that financial planners won’t. Many accountants are not licensed to provide financial product advice and are therefore unable to recommend a commission or fee-paying investment. They are usually capable of advising and therefore charging fees on the set-up and ongoing administration of a self managed super fund. I have spoken to many people that find themselves in an SMSF not meeting any of the criteria detailed above and paying thousands of dollars a year in management, administration and audit fees.
Recommending an SMSF may also be the sales path of least resistance for the adviser (accountant or planner). A new or prospective client sits down in front of an adviser and they currently have good reason to be upset (whether or not somebody is actually to blame). The adviser could try and convince them that the markets will turn and that managed funds aren’t to blame, or they could empathise with the client and direct them towards an SMSF, whether or not it is appropriate for their situation.
Revenge
I’m sort of joking with this one, but not really. Politicians, telephone companies, banks, fund managers and financial advisers often bare the brunt of public discontent. Investors fed-up with the performance of their investment or flaws (real or perceived) associated with their existing superannuation set-up may choose to take their bat and ball and go play elsewhere. Understandable though this may be, it often results in investors spending time and money setting up and maintaining SMSFs that end up invested in cash for long periods of time (and not for good considered reasons) or even worse, that end up investing straight back into the managed funds or master wraps giving them none of the advantages and all of the disadvantages of the two structures.
Before jumping into an SMSF make sure that you have ticked at least some of the other “good reason” boxes detailed above, otherwise there may be better ways to achieve your objectives.