Rogue property advisers turn their sights on SMSFs

SMSFs may be booming - but the unwary can also find themselves within the sights of a small number of dodgy property advisers and mortgage brokers, writes Damon Taylor. 

If one looks at the superannuation industry or even financial services more generally, self-managed super funds (SMSFs) are clearly the growth sector.

Yet as much as that growth and popularity has been an asset in the sector’s development, it has also come with its own set of risks and challenges.  

Fraudulent investment schemes, underqualified advisers and unscrupulous property spruikers all seem to be targeting SMSFs and for David Hasib, director of financial planning for Chan & Naylor, the sector’s regulators are finding it very difficult to keep up. 

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“I think the popularity of SMSFs, rightly or wrongly, has picked up so much momentum that regulators were always going have a hard time keeping up with the enormous wave of what’s happening,” he said.

“It’s certainly outpacing regulation, I don’t think there’s any question about that. 

“But the reasons for that popularity go well beyond your traditional goals of taking control and making prudent decisions,” added Hasib.

“I think it’s been fuelled by a love affair with property, the ability to borrow, the ability to invest in ways that simply aren’t possible within an industry or retail fund. 

“As a result, there’s been this false sense of optimism and, like it or not, I think most of the people going into SMSFs don’t quite understand their responsibilities, the obligations of the trustee and exactly what it is they’re taking on.” 

Equally concerned by the more predatory behaviour that had targeted self-managed super funds in recent years, Craig Morgan, managing director of Independent Mortgage Planners, said that the rapid growth of any product or service category would inevitably attract the attention of individuals with less than savoury motives. 

“Unfortunately, you very quickly get the cowboys circling on the hills,” he said.

“And invariably, until the industry effectively self-regulates or most often is regulated by the Government, that’s when they move on to whatever they think is the next quick buck. 

“Obviously, there are some very good operators in this space, and the good news is that those that are within the mainstream of giving advice to self-managed super fund trustees – the accountants and financial planners – have been regulated by their industry associations or by the Government or both for decades,” Morgan continued.

“And all in all, they’re in a pretty good state, but the challenge we’ve got is that things like direct property for self-managed super funds is unregulated. 

“So you’ve got this situation where some quite competent people are trying to protect trustees from themselves and yet other people can come along, put a bit of marketing goods around something, sound like they should be advisers or have got particular skills, acumen or whatever else – and take advantage of the situation.” 

Obviously, the headline items when it comes to self-managed super fund risk are all too easy to identify and yet it begs the question; is this not part and parcel of the choice to use an SMSF?

The control and flexibility available in an SMSF are clear advantages, so is this simply the risk premium trustees must pay in return? 

If so, Hasib said, most SMSF trustees are conscious of the price and the risk involved. 

“I think most mums and dads, generally speaking, are conscious of the fact that there are people out there who perhaps don’t have their best interests at heart,” he said.

“You see, I believe there are two types of clients when it comes to SMSFs. 

“There is your DIY (do it yourself) client and they’re generally people who have a level of experience, familiarity and understanding of investments,” Hasib explained.

“These are self-driven people who do control all aspects of the super fund and understand the rights and obligations of what they’re about to do. 

“I’d say they account for about 20 per cent of the market.” 

However, according to Hasib, it was the other 80 per cent of SMSF trustees – those who needed but did not always seek advice – who were the greatest concern. 

“The other 80 per cent of SMSFs, I think, are your mums and dads or trustees that require some competent people around them and, in particular, a good accountant and a good financial adviser, both of whom are accredited,” he said.

“They need their hands held to go down the path of what is called an SMSF. 

“But unfortunately, not all trustees recognise that fact.” 

According to Morgan, the notion that a self-managed super fund could or should be run entirely by the trustee was a dangerous one. 

“People seem to think that because it’s called a self-managed super fund, they’re going to do it all themselves, but I think that can be a very dangerous notion,” he said.

“Unless somebody is versed in the appropriate tax law, versed in the appropriate accounting, versed in the appropriate considerations that the financial adviser would be undertaking, they should be paying those professionals. 

“Now, people for some reason don’t want to pay those professionals even if the total cost of paying them each year works out about the same as the cost that would have been levied on their super in some sort of bundled fund,” Morgan continued.

“So if I’ve got $500,000 in a normal fund and the management fee’s 1 per cent, then obviously I’ve paid $5,000 to someone to look after all of those considerations. 

“But no one ever notices those fees – it’s almost like they don’t see it, they don’t feel it.” 

Yet according to Morgan, the visibility of such fees could become quite a bit clearer once an industry or retail fund member became an SMSF trustee. 

“So if you need to invest $3,000 a year to get some decent competent advice, for some reason most SMSF trustees balk at paying that figure,” he said.

“For me, that’s the educational gap and I know there’s been some suggestions that maybe it should be compulsory for trustees to undergo certain courses, to get a certain level of education. 

“But if not that, they should at the very least be willing to pay for the advice that they need.” 

Of course, above and beyond how well trustees are equipping themselves to mitigate against predatory behaviour in the marketplace, is the question of exactly how prevalent these cases are.

Media being what it is, it is inevitable that stories of fraud and misfortune are going to get the spotlight and yet does this go beyond front page news? 

Indeed for Peter Townsend, principal of Townsend Business and Corporate Lawyers, the reality is that good news is no news. 

“Yes, self-managed super funds have been targeted by the ne’er do wells of this world and yes, it is right to raise peoples’ awareness that this is happening, but I don’t think it should go further than that,” he said.

“There are what – 470,000 self-managed super funds out there now? And yet we’ve probably only heard of 100 or so instances of trustees being caught out by fraudulent investment schemes or underqualified advisers. 

“I personally don’t think this is anywhere near as prevalent as much of the media would have us believe,” Townsend continued. “As we all know, good news is no news – and it’s no different in this.” 

Bryce Figot, director at DBA Lawyers, was similarly quick to point out that as serious as instances of SMSF fraud and misfortune were, they were the exception and not the rule. 

“I’m mindful of not making a mountain out of a mole hill in this,” he said.

“There are half a million self-managed super funds and the Cooper Review has already concluded that overall it is an exceedingly well regulated and well run sector.  

“I guess it’s a bit like terrorism,” Figot continued.

“There are undoubtedly people who spend a lot of time worrying about terrorism or a terrorist attack but if you compare that against the number of people who worry about, say, bowel cancer, then it’s significant. 

“By the numbers, that’s what we should be worrying about, but it’s the terrorists that are easier for people to focus on.” 

Yet for Morgan, the prevalence of wrongdoing in the SMSF sector is largely a matter of perspective. 

“I’m not aware of significant numbers of people that have used limited recourse borrowing arrangements to acquire a property and have gone through a cycle to the point where they’ve sold that property at a massive loss,” he said.

“And certainly, there seems to have been very little if any foreclosure activity around these things because the lending has been quite conservative. 

“But what I am seeing is significant numbers of new SMSFs being established with the bare minimum required to make a property transaction work,” Morgan continued.

“And it would appear that the reason that the SMSF is being formed is because somebody’s run a seminar or given some information to that consumer and the people giving that information or running that seminar are linked to the property or linked to the mortgage. 

“They’re not somebody who’s a financial planner saying ‘hey, I’m in the business of helping set up self-managed super funds.’” 

In fact, Morgan said that it was doubtful such people had sufficient money to be thinking about running an SMSF full stop, let alone rolling all of that money into one single acquirable asset. 

“So I think that’s where there’s significant numbers of things happening that are not in the best interests of the client,” he said.

“Its not that their money’s been stolen; it’s not that these things have turned into a train wreck; in fact there’s every chance that those properties will bubble along very nicely and some will get better returns than others – that’s not a problem. 

“The problem is when these people hit 60 and, particularly when these things are negatively geared; they haven’t necessarily considered what having their retirement savings wrapped up into that one illiquid asset might mean,” Morgan added.

“And again, it’s the lack of a competent person sitting there and saying ‘well wait a minute, what’s your investment strategy? Why are you doing this? How is this in your best interests?’ 

“And there seems to be thousands and thousands and thousands of cases of that happening.” 

So it seems that even as self-managed super funds continue to enjoy tremendous growth and continuous improvement through auditor registration, limited licensing regimes and regulator penalty flexibility, there remain pitfalls to be avoided.  

However the key for Hasib, is that both trustees and service providers alike must avoid being complacent. 

“Look, I think besides the ongoing enforcement of education and understanding to the trustee, besides the constant monitoring of these perhaps unregistered investments and the education levels of advisers and accountants, I think the industry as a whole cannot be complacent,” he said.

“SMSFs, by nature, have become not only a large beast but a sophisticated beast. 

“So for both the preservation of super and the longevity of super, it has to be always under the microscope, constantly adjusted in the interests of the beneficiary which is, of course, the member.” 

And whilst such constant scrutiny might cause frustration, Hasib said that the consequences made it necessary. 

“I say ‘necessary’ because it’s ultimately the Government that is underwriting the decisions of trustees and their investment choices,” he said.

“If the trustee gets it wrong and they make decision after decision that hasn’t quite worked out, simply because they didn’t understand asset allocation, they didn’t understand the investment, they didn’t understand the SIS Act and regulation, then there are consequences. 

“At the end of the day, if they retire and they’ve lost a good part of their super because of bad decisions, then that’s a problem,” Hasib explained.

“They can then hold out their hand saying ‘I now pass the means test, I’m entitled to the age pension.’ 

“And that’s a burden on everyone.” 

Offering an entirely different perspective, Morgan said that additional regulation and additional scrutiny was not necessarily the answer. 

“There’s a gentleman whose opinion I value highly who is really anti additional regulation in any space simply because he believes it makes people go to sleep at the helm,” he said.

“He believes that the more we regulate, the more people believe the Government’s got their back covered and that’s when the sharks start to take big lumps out of people because everyone’s asleep, everyone thinks they system has them covered and that they’re safe.  

“So superannuation generally, and the SMSF sector in particular, is a well functioning industry,” Morgan continued.

“Everything’s there – the Government’s on the job, ASIC (the Australian Securities and Investments Commission) is on the job, and because it’s been such a growth industry there are some very intelligent financial planners and accountants who have chosen to specialise in this area. 

“Even SPAA (the SMSF Professionals’ Association of Australia) has done a great job of self-regulation and it seems to have attracted some of the best and brightest who want to be on their board and really add value.” 

For Morgan, the only caveat is awareness. 

“If there’s a message to be delivered, it’s that it’s all there for you but there’s also big segments that aren’t ring fenced, where you’re not protected,” he said. “So for crying out loud, don’t take your advice from the person selling you a property. 

“Bottom line, figure out what FOFA (the Future of Financial Advice reforms) is forcing and figure out whose interests are being served here,” continued Morgan.

“If you’re getting free advice from your property adviser, guess what? Run a mile. If you’re getting free advice from your mortgage broker, guess what? Get out of there. 

“Go and pay someone who does have regulation that requires them to act in your best interests; pay them a fair and reasonable fee for service and then, if their recommendation is to tap into certain products and services, by all means do so.”

In the end we’re all dead

While it’s the self-managed super fund (SMSF) predators out there who warrant the headlines and represent the sector’s ‘terrorist’ risk, for Bryce Figot, director at DBA Lawyers, the far greater risks arise from an issue much closer to home. 

“Yes, there are predators out there who will encourage super funds to do various things and then run off with the money but statistically, I see that the far bigger risk to people’s wealth in super funds coming from disputes upon death,” he said.

“For me, the reality is that everyone will die whereas there’s probably only a relatively small percentage of people who will ever be enticed by cowboy advisers and promoters. 

“And I think there are very few people who have properly planned for that eventuality, not for that possibility but for that definite outcome.” 

Even looking at the most basic level at which a trustee could prepare themselves, Figot said that very few people have actually made a binding death benefit nomination. 

“And that’s even assuming a binding death benefit nomination was sufficient because, in my opinion, it’s not,” he said.

“What people really should be focusing on is who’s actually controlling the fund because if I’m a ratbag and I’m controlling your fund, I may well not respect the binding death benefit nomination you made, I might hire a barrister or a ritzy lawyer and find some reason why I can ignore it. 

“Then, when it comes to your grieving widow or whoever, I’ll say ‘too bad, I hold the purse strings, possession is 9/10ths of the law, if you don’t like it take me to the Supreme Court.’” 

According to Figot, it is the bowel cancer risk rather than the terrorist risk that SMSF trustees needed to focus on. 

“So I think people need to go further here,” he said.

“There are a number of key steps that people need to take and one of those steps is that people need to really focus on who’s going to be controlling the fund when they lose capacity, who’s going to be controlling the fund when they die. 

“I think there hasn’t been nearly enough focus on that because there’s a lot of truth to the old clichÈ that possession is 9/10ths of the law.”