The headline-grabbing news for SMSFs this month is without doubt the Government’s announcement that it had rejected a recommendation by the Murray Financial System Inquiry to prohibit super funds from directly borrowing using limited recourse loans.
While the Government notes there are "anecdotal concerns" about SMSF borrowing, it doesn’t consider there to be enough information at this time to intervene. Nevertheless, the Council of Financial Regulators and the tax office, as regulator of self-managed super, will monitor the risk of SMSF borrowing and report back in three years.
Interesting, the tax office’s latest Self-managed super fund statistical report indicates that limited recourse loans accounted for 2.6 per cent of total SMSF assets by the end of June. This was up from 0.5 per cent two years earlier. Such statistics help put the SMSF borrowing issue into perspective.
There was another piece of recent news this month regarding SMSF borrowing that understandably did not receive the same degree of attention as the Government’s response to the Murray inquiry.
In mid October, the NSW Supreme Court found that a real estate group, Park Trent Properties, had unlawfully carried out a financial services business without an Australian financial services licence (AFSL) by advising investors to buy investment properties through their SMSFs. It had "persistently contravened" the Corporations Act for more than five years.
As the court’s judgment explains, the property company had developed a strategy to encourage clients to buy investment properties through SMSFs.
"The strategy more or less coincided with the enactment of the amendments to the Superannuation Industry (Supervision) Act which made it easier for SMSFs to borrow by way of non-recourse loans to acquire real property," the judgment added.
The court found that Park Trent’s strategy had depended on "persuading relatively unsophisticated investors of the virtues of using their superannuation accounts to purchase investment properties and to establish SMSFs (at considerable expense) to enable the purchase to proceed".
Further the judgment stated: "… investors were influenced to make important financial decisions concerning their superannuation strategy with little or no genuine consideration of whether the decision took proper account of their individual circumstances".
Critical messages arising from the Government’s response to the Murray recommendations and the NSW Supreme Court’s judgment in the context of SMSF borrowing and SMSF investing include:
- The fact that the law permits an SMSF to directly borrow to invest using a limited recourse borrowing arrangement does not mean that it is an appropriate strategy given the circumstances of an SMSF and its members.
- It is crucial to understand an investment and its risks – whether or not the asset is geared.
- Investors should only accept investment advice from the holder of an AFSL.
- It is crucial to fully recognise the risks of borrowing to invest – whether or not an investment is held inside or outside super. As the maxim goes, borrowing to invest magnifies any gains yet magnifies any losses.
- SMSF trustees should not overlook their compulsory investment strategy when deciding whether to invest in a direct property.
Trustees are required to prepare, implement and regularly review an investment strategy that has regard to the whole circumstances of their fund. These circumstances include: investment risks, likely returns, liquidity, investment diversity, risks of inadequate diversity and ability to pay member benefits.
Although fund trustees must consider diversification when preparing an investment strategy, they are not legally required to diversify their portfolios.
Indeed, some fund trustees specifically decide to have SMSF portfolios holding a single property asset, such as the premises of their business, perhaps after considering the diversification of their other super and non-super investments.
 |
Robin Bowerman is Head of Market Strategy and Communication, Vanguard Australia. As a renowned market commentator and editor Robin has spent more than two decades writing about all things investment. |
|
