Let’s talk about diversification and your SMSF

By Michael Mekhitarian

In the past several weeks, the ATO has sent out more than 17,000 letters to Self-Managed Super Fund (SMSF) trustees and their auditors to notify them that their investment strategies may not meet the diversification requirements of the Superannuation Industry (Supervision) Act.

And while I have not actually seen a copy of the letter itself, it is perfectly understandable that any correspondence from the ATO which suggests you could potentially be fined “an administrative penalty of $4200” would cause some panic. And there has been a reasonable amount of that.

But there are a few things to (calmly) take note of right now.

Firstly, the ATO has been conducting a review of SMSFs, with a focus on diversified investment strategies, the outcome of which has been this round of letters to trustees.

Secondly, the ATO often sends out letters similar to these which are intended to act as a ‘gentle warning’ and they are certainly no cause for concern if you are genuinely doing the right thing.

So, what does the letter actually mean for trustees of SMSFs?

It’s actually a good reminder that all SMSFs must have a clear, documented investment strategy which outlines how financial goals are being met within all legal requirements for SMSFs. This investment strategy needs to be reviewed regularly and any discussions, decisions and changes also need to be documented.

This is critical, because your SMSF’s primary purpose is to fund your retirement. It’s not a ‘set and forget’ proposition, it does need to be actively managed.

Diversification and your SMSF

Most financial planners talk about the importance of diversification in any investment portfolio. Essentially, it means ‘not putting all your eggs into one basket’, and doing this by investing across a number of different asset classes and industries.

Because all investments run in cycles, when one type is not performing well, another is likely to be performing very well, so when averaged out over a given period of time, your returns remain relatively steady and solid, even if you have some non-performers in your stable. More importantly, your risk of major loss is minimised.

But what, for example, if you’re running your own small business and you have used 90% of your SMSF to purchase the property you operate your business from? If you’ve done that, (and many SMSFs did so before the banks tightened lending criteria) then essentially your investments are not ‘diversified’.

However, being invested in a single asset class (in this case property) is not against the rules. Under the regulations which govern SMSFs, there is a requirement for trustees to consider diversification within their investment strategy.

SMSFs need to undergo regular strategy reviews

Similarly, an SMSF must consider insurance for members. Neither is mandatory, but the SMSF needs to demonstrate that decisions around investment strategy, as well as insurance policies, have been robustly discussed, debated and decided.

In response to all the kerfuffle the ATO letters have caused, the tax office itself says that it is not trying to dictate investment strategy, but rather to ensure, as regulator, that SMSFs are informed of their legal responsibilities.

In a nutshell, for all SMSFs – not just those recipients of the ATO’s letter – this is a very timely reminder that SMSF investment strategy should be regularly (annually) reviewed, and that any review must include a review of insurance.

It would also be prudent for SMSFs to get professional advice when conducting any reviews.

At ATB Partners we are both accountants and financial planners, and, as such, as we can add real value in this particular instance for SMSFs.

Global markets are shifting, property prices have moved, interest rates are currently the lowest they have been for many years, and given all of these economic factors, it’s a good time to assess where you’re at, what your goals are and the plans you have in place. This will give not only give you confidence that you have a solid SMSF investment strategy that meets your predicted future needs, but also that you have the appropriate documentation required for audit too.

Let’s talk about diversification and your SMSF