As the success of SMSFs boomed in the last decade, some industry funds rolled out self-directed or member direct investment options that allowed their members to invest (with restrictions) into ASX-listed shares and ETFs.
Now we’re seeing the big super industry and retail superannuation funds trying to emulate SMSFs. They continue to target a growing pool of self-directed investors who want to take control of their super. This isn’t surprising, SMSFs control more than $766 billion in retirement savings for 1.1 million Australians, and comprise nearly one third of Australia’s total $2.76 trillion retirement system.
Where there once used to be limited investment options, many funds now offer a varied range that goes beyond conservative, balanced, and growth. The investment options offered by larger super funds have names portraying control, choice and self-management. Portrayed, but not delivered, when you peel back the shiny sticker.
The question is, do these pseudo self-directed super products actually deliver once you scratch the surface?
Limited options, limited opportunities
The limitations of pseudo-SMSFs are only the tip of the iceberg. Choice is limited within these industry fund self-directed options. In most cases, the investment menu contains the ASX 300, a selection of exchange-traded funds (ETFs) and maybe some listed investment companies (LIC)s.
The APRA-regulated industry funds restrict how much of your super you can invest in both their direct investment options as a whole, as well as limiting how much you can invest into a single stock or ETF (20%, typically).
Investors may accept a lack of flexibility and choice in exchange for possibly lower fees in the short term, but the restrictions cause frustration in the long term. Those seeking true control will sell out of their industry fund-owned ASX holdings and look at other options, such as retail wrap platforms or an SMSF.
SMSFs are quite different, they are a fundamentally different opportunity. Making this change exposes another advantage an SMSF has over its industry fund alternatives: tax.
Big super tax
All super funds — including SMSFs — pay the same amount of tax. But how and when tax is paid can vary greatly. APRA-regulated funds calculate the tax on your super investments and physically take the cash from your account on an ongoing basis. This happens even if you’ve not sold the investments and made a profit!
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With an SMSF, tax is only payable when an investment is actually sold for a profit. The tax isn’t physically paid for many months after the end of the financial year. What this means for SMSFs is they are able to keep more of their members’ money invested for longer, therefore, enabling greater returns.
Many who have been attracted to Big Super’s pseudo-SMSFs see them as a stepping stone to an SMSF, but they are unaware of the sting in the tail. For example, when they decide to step up to an SMSF, they’re forced to sell the investments and, in the process, trigger unavoidable capital gains tax (CGT).
We’ve also seen cases (especially after the market’s performance during 2020) where this additional CGT significantly outweighs the fees investors would have paid to run an SMSF. Capital gains tax is unavoidable, and because most APRA-regulated super funds are unable to make off-market transfers to an SMSF, brokerage and other transaction fees are also triggered.
This is why investors need to be careful about using a Big Super member-directed option as a stepping stone to an SMSF, especially if investing for the long term. On a direct fee comparison, self-directed industry super fund options will often be cheaper for individuals with lower balances (under $100,000). But this can’t be looked at in isolation. The capital gains tax issues and limits on choice are too great.
New wrapper, same offering
Putting lipstick on the proverbial pig is what we’re seeing with pseudo-SMSF. And while the analogy is playful, it can be detrimental to those who want to step into the world of SMSF and take control of their financial future.
Pseudo-SMSFs have repackaged the same traditional, old-school super fund approach with a new menu, in a new box. Too many young, savvy investors are defaulting their biggest life savings into the hands of opaque vehicles where they have limited choice and zero control.
SMSFs can be as simple or complex as the people running them decide. They control the fees based on the service providers they use and the level of service and inclusions they want.
Fortunately for those who want choice and control, like most archaic industries, technology will be the ultimate disruptor that will enable SMSFs to be more transparent and accessible than ever before.