Macquarie Bank's David Barrett takes a closer look at the cost complexities of setting up a SMSF.
With Australian Taxation Office figures showing almost 3000 new self-managed super funds (SMSFs) per month established in 2012/13 and the total number of SMSFs now exceeding 509,000, the growth of the SMSF sector has prompted closer scrutiny by the Government and its regulators with the aim of improving the quality of SMSF advice and its public perception.
In 2013, the Australian Securities and Investment Commission (ASIC) released three SMSF-related papers giving insight into its concerns with the SMSF advice sector and outlining its proposals to Australian Financial Services licensees and their representatives (licensed advisers) on how to alleviate these concerns.
While many of these proposed obligations might be met through discussion, additional information and signed client acknowledgements, in practice, some issues will often involve more than this and might include: the development and implementation of appropriate investment strategies; discussing and implementing appropriate insurance arrangements; and analysing the costs of establishment, running and possible wind-up of an SMSF.
This article focuses on analysing the costs and, as a prerequisite, assumes the client:
- has been assessed as competent for the decision-making required and the general running of an SMSF;
- understands the implications in regards to being unable to access the Superannuation Complaints Tribunal for dispute resolution; and
- understands that statutory compensation provisions for fraud or theft do not apply.
It is also worth highlighting that ASIC has explicitly stated it is "not proposing a mandated minimum balance" for SMSFs, perhaps indicating the regulator accepts the issue is too complex for a simple, all-encompassing cut-off threshold. The complexity arises on a number of fronts.
Outsourcing administration
Of great impact on the overall expenses paid by an SMSF are the decisions a client makes in terms of the various aspects of running it.
A client might perform all of the SMSF administration functions legally possible, including the preparation of financial statements and lodgement of tax returns, which could keep the costs relatively low (for example costs for ASIC, ATO and audit fees might be $600 per annum in total).
However, many trustees are too time poor, lack the required expertise or may be comfortable with specialist support to minimise their compliance risk.
If trustees are in a position to invest their own time, it is prudent to estimate the number of hours per annum required to perform the chosen administration functions and multiply this by the value the client places on their own time.
On the other hand, a fully outsourced SMSF administration service (including investment administration and reporting) at the higher end of the charging range may cost in the vicinity of $7500 per annum in accumulation phase, and approximately $8000 per annum in pension phase, according to Rice Warner. SMSFs paying this level of fees with fund balances of less than $500,000 generally compare unfavourably on a cost basis with industry funds and retail super funds.
For most SMSFs, trustees will outsource some of the required administrative functions and perform some tasks themselves. How this work is divided should be determined on a case-by-case basis.
The above cost estimates are also based on an SMSF running smoothly and as expected.
When unforeseen issues arise, trustees must maintain compliance with the superannuation and taxation law and bear the costs of their additional time commitment and additional outsourced administration services required to alleviate the issue.
Future SMSF fund balance
While an SMSF's initial fund balance might be much less than would otherwise be justifiable for SMSF establishment and the cost of doing so, future increases to the fund balance (for example, from superannuation contributions, transfers from other funds, other members joining the fund and expected investment returns) might make set-up appropriate.
Conversely, those approaching retirement age may experience a decrease in fund balance over time, making it relatively more difficult to justify SMSF establishment at a given fund balance than if in the accumulation phase.
Insurance through super
The cost of life and disability insurance may differ between an SMSF and an Australian Prudential Regulation Authority (APRA)-regulated fund, as larger funds often have access to group life insurance scheme premiums, generally not available to SMSFs. If so, this additional cost should be accounted for in the costs of SMSF establishment and ongoing management.
Capital gains tax
Most funds impose CGT when exiting the fund during the accumulation phase. This cost should be considered in a potential transfer to an SMSF.
Conversely, the future CGT liability may be a positive incentive to switch if a CGT liability is ultimately imposed by the fund when switching to pension phase anyway.
Winding up
An SMSF is usually established with the view that it may survive a person's lifetime, ultimately involving their spouse and children.
However, it can be necessary to wind up an SMSF earlier than expected – for example, due to a loss of desire to continue running it or family unit breakdown.
Nevertheless, the closure of an SMSF is ultimately inevitable so an exit strategy should be considered prior to establishment, as well as having the cost of the wind-up factored in.
Rice Warner indicates that approximately one year's administration expenses are a reasonable estimate of wind-up expenses.
Cost versus benefit
The reasons for establishing an SMSF are well-documented and broader than cost savings alone. Popular reasons for SMSF establishment include investment control, flexibility and outperforming a current fund.
In addition, an SMSF can offer features – such as super borrowing, real property and exotic investment, and unlisted share investments – that some APRA-regulated fund members cannot access via their current fund.
Certain clients may be willing to pay additional costs, whether it is in time or monetary form, in order to access these SMSF features.
If so, a comparison between an APRA-regulated fund and an SMSF will involve more than objectively identifying the least expensive option of the two: it will involve the subjective resolution of whether the SMSF features sought justify any additional costs, and the possible loss of features the APRA-regulated fund might offer, like less expensive life insurance and the statutory compensation provisions.
David Barrett is head of MAStech at Macquarie Banking and Financial Services Group.
Originally published by SMSF Essentials.
