Why you need more than just $200,000 to start your own super fund

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Why you need more than just $200,000 to start your own super fund

Opinion piece written by John Maroney, CEO, SMSF Association

First published in Financial Review on 23 January 2023. Licensed by Copyright Agency. 

It’s not only about the starting amount, says the regulator – illustrating the point with two different case studies.

For anyone considering setting up a self-managed super fund, the updated guidance released recently by the regulator is essential reading. Aside from highlighting the risks associated with having an SMSF and the importance of professional advice, the Australian Securities and Investments Commission abandons the recommendation of a minimum balance of $500,000 to set up a fund.

In essence, what ASIC says in Information Sheet 274, Tips for giving self-managed superannuation fund advice, is that while a superannuation balance remains important, it is just one factor potential SMSF trustees must consider before embarking down this path. To quote the regulator, “other important factors include the risks and costs associated with setting up and/or switching to an SMSF, investment strategies, diversification, liquidity, asset choice, trustee responsibility and time commitment, and the potential benefits of professional advice when deciding to set up and/or switch to an SMSF”.

In issuing this advice, ASIC has implicitly recognised the validity of recent research into SMSF costs and performance, and explicitly highlighted both the complex nature of the decision-making involved in assessing the suitability of an SMSF and why professional advice is typically needed.

To tackle the former first, in late 2020 research by the actuarial firm Rice Warner comprehensively demonstrated that an SMSF with a balance of $200,000 was competitive on an operating cost basis compared with an APRA fund, and above $500,000 typically the cheapest alternative. Research by the University of Adelaide released in early 2022 found there were no material differences in investment performance patterns for SMSFs between $200,000 and $500,000, dispelling the notion that smaller SMSFs in this balance range deliver materially lower investment returns.

In both reports, the cut-off point for SMSFs being competitive with APRA funds on either a cost or performance basis is $200,000. Below this number, they fall by the wayside. So, it seems fair to assume that $200,000 has become the de facto threshold to establish an SMSF – and potential trustees would be well advised to keep this figure in mind.

Regarding the latter, ASIC emphasised the need for financial advisers to have specialist SMSF knowledge before providing SMSF advice, stressing the importance of maintaining this knowledge and expertise over time. Joining the dots, the message from the regulator is clear. Advisers must ensure they have the SMSF specialist advice competencies to exercise their professional judgment.

To assist potential SMSF trustees reach a decision, ASIC cites examples of two couples, Lauren and Chen-Xi and Naira and Ted. In both cases, their combined superannuation balances are the same at $172,000. ASIC suggests the former are well situated to take up an SMSF, but not the latter, highlighting the fact that there is no “one size fits all” approach to determining if an SMSF is the correct option.

Lauren and Chen-Xi are in their 30s with no plans to have children, in good health, and do not envisage any changes to their personal circumstances. They have a combined income of $250,000, a small mortgage ($15,000) and a direct share portfolio giving them an understanding of investment markets. An annual surplus cash of $30,000 has been used to pay down the mortgage but they now plan to redirect it into superannuation. Finally, they have an established relationship with their adviser.

With this profile, ASIC believes they have the interest, willingness and time to actively manage their SMSF trustee responsibilities, as well as having a strong surplus cash flow. The couple appreciates that specialist knowledge is required to manage their diversified investment portfolio, and therefore may need to engage their adviser on an ongoing basis. Finally, they have demonstrated an ability to save and intend to increase contributions to superannuation, making their SMSF more cost-effective as their balance grows.

By contrast, Naira and Ted, also in their 30s, have two young children, no family home and, most importantly, no investment experience. Naira also has health concerns. So while their combined income is $250,000 and they have an annual surplus cash of $30,000 being put towards a house deposit, ASIC advises against an SMSF.

First, they have no investment experience and are not interested in managing their own financial affairs. With both in full-time work and a young family, life is too busy to think about investments.

Second, their primary goal is to buy their family home, and this is where any surplus cash flow should be directed.

Third, it is important for Naira to retain her existing insurance arrangements while her health circumstances are being investigated. Finally, the fees to set up and maintain an SMSF are not cost-effective when compared with their existing superannuation and there is no indication this will change in the near term.

SMSFs are not for everyone. To make the correct decision, as ASIC’s advice sheet graphically illustrates, it requires considering a multitude of factors as well as getting, in most instances, professional advice. The simplistic approach based on just cost and investment competitiveness was never valid – as ASIC now confirms.