There are obvious benefits to holding investment assets in superannuation rather than in your personal name. A few of these can include: lower rates of taxation on both earnings and capital gains tax; protection of assets in the event of pursuit by creditors and providing a tax effective income stream leading up to and during retirement.
So what assets are suitable to move in to an SMSF? Generally, superannuation law does not prescribe the types of investments in which a fund can invest. The first and most basic test for suitability is that it must pass the ‘Sole Purpose Test’. This basically states that assets are to provide members with benefits in retirement. In other words, if the asset is provides a benefit before retirement, then having your fund own that asset can breach the Sole Purpose Test. Moreover, if your asset is investing in shares, managed funds or commercial property, chances are you are fine. Whilst there is no restriction on your fund investing in assets such as art, jewellery, cars, or other collectibles, these are assets that tend to provide you with personal enjoyment.
So, as a trustee, if I want my fund to invest in art or other collectibles, what steps do I have to take to ensure I don’t breach the sole purpose test? Firstly, make sure your trust deed allows you to invest in such assets. Even though there is no ruling from the ATO to state you can’t invest in these assets, if it isn’t stated in your trust deed and funds investment strategy, you could be asking for trouble. Secondly, make sure you are not receiving a personal benefit now. If you have transferred a work of art into your SMSF, make sure you are not going to hang it on the wall at home, or in your office. It needs to be stored, preferably insured, and any lease agreement with a third party must be at arms length and commercial rates.
So sticking with the art example, am I able to move a work of art held in my personal name into my fund if the fund intends to lease that asset to a gallery or unrelated business at commercial rates? Possibly, but we need to ensure we pass another test; the In House Asset Test.
An In House Asset is defined under section 71 of the Superannuation Industry Supervision Act 1993 as “an asset of the fund that is a loan to, or an investment in, a related party of the fund, an investment in a related trust of the fund, or an asset of the fund subject to a lease or lease arrangement between a trustee of the fund and a related party of the fund”. In this example, the artwork would be regarded as an In House Asset, as it would be the subject of a lease to a related party. What is the consequence of the SMSF investing in an in house asset? Superannuation funds are restricted to holding no more than 5% of the total market value of the fund in In House Assets. So using the artwork example, if the SMSF paid you $50,000 for some artwork you owned and that was its market value at the time, the total market value of the SMSF would have to be in excess of $1,000,000 to avoid breaching the In House Asset test. And theoretically, the balance of the fund would have to stay above that level. Note that if the SMSF had purchased the art work from an unrelated party, the 5% rule would not apply; however, it would still need to satisfy the sole purpose test.
So we now know that transferring assets into your SMSF needs to pass both the Sole Purpose and In House Asset Tests, and on the surface this would seem quite restrictive. However, luckily there are some assets that are selectively excluded from the In House Asset Test, and therefore not subject to the 5% rule. These include listed securities, units in a widely held trust, and business real property.
So what does this mean in terms of consolidating personal assets into your SMSF? Firstly, given the above mentioned assets don’t fall under the 5% rule, you could transfer any amount into your fund regardless of the SMSF’s total balance. (There are other considerations, such as contribution caps that may need to be addressed, but we look at that later in this post). Now, most of us know what shares and managed funds are, but what is business real property? Business Real Property generally refers to land or buildings used exclusively in a business which is carried on by an entity, including a related party. So for example, in a situation where a doctor owned his surgery, he could sell that surgery to his SMSF in a commercial transaction and not breach the In House Asset Test. The result of this transaction is that the SMSF effectively becomes the landlord of the surgery, and the doctor or related party pays a commercial rate of rent to the SMSF for use of that property.
So what are the benefits of transferring these In House Exempt Assets to your SMSF? In the case of managed fund or shares, it may be to get a better tax outcome. Dividends and distributions are taxed at an individual’s marginal tax rate which can be as high as 46.5% including Medicare levy. In the superannuation environment, this income is taxed at a maximum of 15%. Capital gains tax (CGT) is also potentially less in the superannuation environment upon the eventual sale of these assets. CGT on the sale of assets in super is at 15% for assets held for less than twelve months, 10% for those held for longer and zero if the member of the fund is in pension phase. There is also the issue of asset protection. If you are in a profession where you are potentially subject to litigation, then assets held in your SMSF are kept separate from those in your personal name and are not subject to creditors.
Now we have established which assets are suitable to consolidate into super, and some of the benefits of doing so, we need to look at how we go about it. There are a number of options, including using the cash in your fund to purchase the assets from you, transferring those assets in specie or a combination of both. Note that it is also now possible for a super fund to borrow funds from a bank or related party to purchase assets; however, this is a complicated area and the subject of another post entirely.
Looking at our first option, the main issue here is that the fund must have enough in cash to purchase the asset or be able to sell other assets within the fund to generate the necessary cash. Often this is not a viable option, as the fund may not have enough cash to purchase the assets in question. The second option is an in specie transfer. This simply means that ownership of the asset changes, but there is no sale and repurchase. The advantage of doing this is that in the case of shares, there is no risk they are out of the market and missing out on potential upside whilst in the process of being sold and repurchased. There is also the benefit of not having to pay brokerage twice. It is important to note that whether there has been an in specie transfer or a sale and repurchase, the ATO will consider that there has been a CGT event and CGT may be payable by the individual.
What are some of the implications of transferring assets into your SMSF, and are there strategies we can implement to mitigate these implications? As mentioned, transferring assets into an SMSF may trigger a CGT liability for the individual. In the event the super fund has purchased the asset from the individual, there should be some cash available to meet this liability, however in the event of an in specie transfer, the individual may have to find funds from elsewhere to meet this cost.
An additional cost involved with transferring property is stamp duty. Whenever property is bought and sold there, stamp duty is generally payable. This is an ad valorem duty and differs from state to state, but it is fair to say it is usually a considerable cost. Currently in New South Wales, there is an exemption on ad valorem stamp duty on transfers of Business Real Property into SMSFs , the state charging a flat fee of $50 instead. While this is a great opportunity, there are a number of conditions, one of which is the fact that the current owner and the member of the super fund who has beneficial ownership be the same person. This restricts you applying for the ad valorem exemption if the asset is currently owned in joint names or in a trust. Also, the asset must be segregated inside the fund which can create additional compliance costs.
Another issue that needs to be addressed is the breaking of contribution caps. In specie transfers are regarded as contributions by a member. Therefore contributions need to be closely monitored to ensure contribution caps are not breached.
There are some actions you may be able to take to help mitigate these potentially negative consequences of consolidating assets into your SMSF. These include transferring assets at a time when asset values are depressed or realising other losses in the same tax year to help reduce potential CGT expenses. Checking whether you are eligible to make concessional (tax deductible) contributions to super and regarding payment of stamp duty, investigating whether you’re eligible for ad valorem stamp duty exemption in NSW. Finally, regarding breaching contribution caps, try to use a combination of in specie transfers and existing super fund cash to avoid having to pay any penalty tax exceeding your caps.
Most importantly, remember that many of these transactions are complicated and paying a professional to help you strategise will be money well spent in the long run and help make your SMSF work for you.
Further Reading.
- ATO SMSF compliance focus for 2011-12 | Money Management -- The Australian Taxation Office (ATO) has recently released information on its SMSF compliance focus for the 2011-12 financial year. David Court points to a few areas which, if neglected, could prompt the ATO to deem an …
- Have the Benefits of Getting an SMSF account | Personal finance … -- For a better future for yourself and for your family, acquiring judicious choices for your funds is very important. Make the most with SMSF strategies, it.
- Specialist approach to SMSF insurance | Money Management -- AIA Australia has come to market with an insurance package tailored to SMSFs.
- ASFA extends SMSF education offering | Money Management -- ASFA has moved to extend its education services to SMSF trustees.
- SMSF Investment Management – Thinking Like a Professional Fund … -- As a group, SMSF trustees control a staggering amount of money and we should start thinking as professional fund managers rather than as “mum and dad” retail investors. I had a look at the Education for Professionals section on the …
Related Posts -
Free Seminar - Volatility and Opportunity Peter McManus and John Lockton will present at Wilson HTM’s latest seminar “Volatility and Opportunity” in the Checking the Pulse series. When: There are 3 sessions: Thursday 28th July – Luncheon – 12.15 – 2.00pm Wednesday 3rd August – Luncheon – 12.15 – 2.00pm Wednesday 3rd August – Evening – 6.00 –...... -
What is a Self Managed Super Fund? What is a Self Managed Superannuation Fund (SMSF)? A SMSF is a small superannuation fund established for 1-4 people with the fund being controlled by trustees/directors who are also the members. Control is kept in the hands of the members, and the members decide how the fund will operate and......
Related Websites -
Year End Tax Planning Strategies It's that time of year when all of us need to think about tax planning strategies to minimize our 2009 federal income tax obligations. That includes this baby boomer. Here are some year-end moves to consider: 1. Sell Some Losers. If you own stocks or mutual funds in taxable accounts,...... -
Gold Is A Lousy Investment Gold hit another record today and is currently trading over $1,100 as I write this. However, it hasn't prevented several news stories coming out about how gold is a lousy investment. Investment stalwarts from Warren Buffet to Monish Pabrai have all denounced gold as an investment. And despite the decent......
Twitter
LinkedIn
Digg
Facebook
RSS
Email