Opinion piece written by John Maroney, CEO, SMSF Association
First published in The Sydney Morning Herald on 09 June 2020. Licensed by Copyright Agency.
One of the benefits of saving for retirement through a self-managed super fund is that when you need to respond quickly to changing economic or market conditions that could hurt the value of your portfolio, you can generally react quickly.
This is particularly important in times of volatility, as the share market has shown in recent months.
However, is it still prudent for SMSF trustees to continue holding a significant percentage of their fund’s holdings in cash – upwards of 20 per cent – as shown by quarterly Australian Taxation Office statistics?
Some question the wisdom of holding such large cash percentages, with an opportunity to maximise the benefits of being fully invested lost by holding too much cash.
However, an important balancing act for trustees is to not only consider the performance of the fund but to also be mindful of their legal obligations. This is particularly so for trustees who are among the 45 per cent of SMSFs paying a pension to one or more fund members.
Trustees have an obligation to meet all fund liabilities as they fall due. Prudence suggests that holding enough cash reserves to meet those obligations and avoid selling investments at inappropriate times makes sense.
The concept of holding about two years’ of future pension payments in cash is an accepted practice among SMSF trustees.
When an SMSF has a recently retired pensioner or a member nearing retirement, being able to meet pension liabilities from already established cash reserves before the pension starts is crucial.
Even for SMSFs that do not pay pensions, trustees need to keep cash aside to meet regular annual expenses. It is not appropriate to think of these cash reserves as funds available for investment.
An additional consideration for SMSF trustees is that setting aside amounts to enable them to meet their payment obligations requires that as cash is paid out income earned on investments is first allocated to top up the cash account before investing any excess.
In current times, with returns on many investments still volatile, topping up and maintaining cash reserves is harder.
Major banks announcing intentions not to declare dividends is an example of an unexpected but damaging event for many SMSF trustees who rely on those payouts to maintain cash reserves.
Depleting the cash reserve of an SMSF below what is needed to meet ongoing payments can end in a “fire sale” of assets, harming the long-term retirement savings of all members.
The decision to hold a relatively large allocation of cash leading into this period of volatility may, in hindsight, have been a very good decision. And for cashed-up SMSFs still in the accumulation phase, today’s lower market valuations represent a good time to buy shares at cheaper prices.