Self Managed Super and You

I was at a friend’s place recently for a barbecue.  We were standing around chatting and someone asked what I did for a living.  Not wanting to give my sales pitch at a social function I said, “I’m a financial planner.”

Instead of clearing a space around me, this comment prompted a discussion about investment markets in general and superannuation in particular.  One of the guys declared that he was about to set up his own Self Managed Super Fund (SMSF) because he was unhappy with the returns in his Retail fund.

It’s difficult for me as a financial adviser to not give my opinion on every financial decision that friends make but when I’m out socially I try.  So in this case I smiled, asked who was helping him with that and then changed the subject.

For the right person, and the right reasons, SMSFs are a sensational idea.  They offer investment flexibility, estate planning advantages, insurance options and potential fee savings.  They also tap into Australia’s Do-It-Yourself psyche so we can enjoy some self congratulation when it all works out.

The superannuation industry has come a long way since compulsory super was first introduced.  In the good old days most funds offered a Henry Ford choice, “you can have any colour as long as it’s black.”  These days many Retail and Industry Funds offer a great deal of investment choice, including direct share ownership.  However, they often have restrictions on the proportion of shares you can own, or the amount of a single type of share you can hold which means even if all you want to own are Australian shares, then an SMSF may be the most appropriate super fund for you.

An investment option that is often overlooked in superannuation is the Fixed Income space.  In an adequately diversified portfolio, some Fixed Interest (bonds, term deposits, mortgages) is appropriate.  It is possible to invest in these products directly, saving fees, as long as you have a big enough potfolio to make it worthwhile.  In a Retail or Industry fund, direct fixed interest exposure is often not available (you can only use a manage investment option) but for an SMSF this exposure can reduce your overall volatility as well as providing an additional fee saving, but you still ned to be careful to get it right.

Where SMSFs have an obvious advantage, and the reason many SMSFs are set up, is in the Investment Property and Collectables space.  If investing in coins, stamps, artwork or any other ‘personal use asset’ is your thing then an SMSF may be just what you need.  If you are interested in building an investment property empire, then an SMSF could be ideal.  A word of caution when it comes to property though, you can’t develop property in your SMSF, you can only purchase established properties and maintain them.

That covers off some basics around investment flexibility, but what about Estate Planning? Blended families are making Estate Planning more interesting and the need for family wealth preservation is playing a larger role in many estate planning situations.  How do you ensure your assets end up where you would like them to?  As many people are aware, superannuation is not an Estate asset and therefore can be allocated without using a Will.  An SMSF can make this process even simpler.  You can implement binding nominations, use a corporate trustee to maintain control, reduce the tax your estate may have to pay and a number of other things too.  Estate planning with an SMSF can be particularly effective if insurance is included.

Holding your personal insurances within the superannuation environment means the premiums are not paid out of your day to day cash flow and are instead paid from the super fund.  This is useful for people who have an existing cash flow problem.  Most superannuation funds offer some form of personal insurance, however when using an SMSF you can tailor the cover to your specific needs.  You can insure for much larger amounts of cover inside an SMSF, you have greater control over how your various policies will work together, and you have greater flexibility if you need to make a claim.

It’s important to understand that insurance is most important at claim time.  Holding your cover, especially death cover, inside your SMSF will give you a number of options, including removing your balance entirely tax free should you be diagnosed as terminally ill.  While Superannuation Industry Supervision (SIS) legislation must be complied with at all times, as the trustee of your SMSF you are the person who determines if a claim should be paid to a member, who is also often you.  This can make the claims process easier as you are simply dealing with an insurance provider and yourself, rather than a super fund and an insurance provider in the case of a Retail or Industry fund.

The issue with SMSFs is that for the wrong person or the wrong reasons, SMSFs can be more trouble than they’re worth.  They can be time consuming, expensive, lacklustre in their performance, difficult to manage and may require additional professional help.  It is therefore important that before you set up your SMSF you recognise why you want one.

If your decision is based solely on investment choice (and you just want to use Aussie shares or cash and managed funds) then a Retail or Industry fund may be your most appropriate option.  If setting up your SMSF is solely about fee savings you need to consider carefully the amount of time you will spend managing your own fund and determine whether paying someone else will work better for you.

SMSFs are a great tool in the right hands.  They offer a huge amount of flexibility and control but they also come with a great deal of responsibility.  Before you set your fund up make sure you have understood why you want one and the implications of having a fund.  Talk to a professional to help with this decision if you are unsure of how it may work for you.

To get back to my BBQ friend, he set up his SMSF and purchased a portfolio of Australian shares.  Since then he’s not traded and has built up a significant cash pool because investing is too much work.  Perhaps it is time for me to use my sales pitch and let him know that as a financial planner I can help with investment decisions and also assist him in using his SMSF to achieve his long term wealth goals.

Daniel Hogben

What does the 2011 Australian Federal Budget mean for financial planning?

For both good and bad reasons; not a lot.

It was a good budget in that financial services, superannuation, personal taxation and the like are all an over-abused territory these days. It has been very rare over the last decade for the Federal government to resist significant tinkering each year, often greatly increasing the complexity of the system, even when delivering financial benefits to the general public. I can’t really complain, it has kept me busy.

It was a welcome relief though to see only a gentle tweak here and there, without a root and branch overhaul. The pending Simple Super and Future of Financial Advice reforms, coupled with the Resource Rent Tax and the still very vague Carbon Tax, will leave us all a little fatigued before it is all over, so let’s not get too aggressive on the budget front for now. That said, some of the welfare led reforms did seem somewhat punative, but there was an overall feel of tightening the tax net (squeezing more blood from the stone) and a definite push to try and plug the skills shortage and relieve wage pressure by making non-working individuals, wherever possible, head off to work. But at the end of the day, the real filler the government will have to use, and are already doing so, is skilled migration. Nothing else will work fast enough.

Where the Government did fail (significantly some might say) is in the lost opportunity to correct a few glaring errors and reduce complexity. Real tax reform is best left for future Governments in less precarious possitions, but it would have been good to get some improvement around the ridiculous excess contributions tax in superannuation (who ever heard of penalising you for saving too much for your retirement anyway?) and returning the co-contribution and other savings incentives back to normal levels. The small changes announced will make minimal difference going forward.

Changes that affect our clients

• Minimum pension draw down relief will be reduced from 50% this year to 25% next year, returning to normal minimums from 1 July 2012

• The Self Manged Super Fund annual charge is being lift by $30 to pay for various initiatives

• The Government is sticking to its intentions (for now) to reduce the $50,000 concessional contribution limit for over 50′s to just $25,000 from 1 July 2012 if your supernnuation balance is over $500,000. But this is significantly lacking details still, such as are pensions included? So we need to stay nimble on this.

• Dependent Spouse tax offset removal – taxpayers with a dependent spouse aged less than 40 years will no longer be eligible for the dependent spouse tax offset from 1 July 2011.

• Removal of the low income tax offset for minors receiving ‘non-working’ income. So trust distributions and other types of unearned income that families may be distributing to their minor children will no longer be able to benefit from the low income tax offset, significantly reducing the small amounts these children could currently receive.

• Family Tax Benefit improvements – An increase in Family Tax Benefit (FTB) Part A for 16-19 year olds with families receiving up to an additional $4,200 a year for each eligible teenager that stays in school. From 1 January 2012, the new maximum rate of FTB Part A for 16-19 year olds will increase by around $160 per fortnight to ensure assistance for families does not drop when children turn 16.

• For all new car packages from budget night, existing Fringe Benefits Tax (FBT) rates will move to the existing 20 per cent rate, which applies to vehicles traveling 15-25,000 kilometres a year. This represents a decrease in the tax rate for vehicles travelling less than 15,000 kilometres a year and an increase in the rate for those travelling more than 25,000 km.

There are numerous other changes, but most dont relate to the majority of our clients, though if you have specific questions that relate to your situation and you would like to know more, let us know and we will do our best to fill in the details for you.

If you are looking for a good summary of the 2011 Australian Federal Budget, try the ABC media centre here.

Thanks again for reading.

Stephen Farrell

Value of Advice

There is a lot of information available about financial planners (or advisers, if you prefer) and the value of advice.  Numerous websites, blogs, newspapers and other media all have articles about getting value, while your friends and family may also have their own opinions and experience.  This article will (hopefully) highlight what you can expect to receive from your financial adviser and what value should be included in your dealings with them.

Before we talk about value it is important to highlight what is typically offered by financial planners and therefore what you can expect from them.  Financial advisers and financial advice businesses, like any professional, can vary a great deal.  Some financial planners are primarily investment advisers and provide only specific advice based around your investments, such as Australian shares or a managed fund portfolio.  Some financial planners are insurance brokers and their advice is often focused to recommending an appropriate level of personal insurance cover and the product that bests suits your situation.  Some financial advisers will only talk about your superannuation with perhaps some detail about what your retirement may look like based on your specific super balance.

Lastly, there are those planners who offer full advice across all these areas, but while possibly also specialising in one or two particular fields.  It is important to know what your financial adviser does (and doesn’t) do, so you know what you can expect their advice to cover.  If your financial planner offers a limited service they are likely to have relationships with other businesses or planners to help you with those things they don’t deal in directly.

Your financial planner should begin to add value in your first meeting.  The initial appointment should leave you with an understanding of their business and what they do (a Financial Services Guide should always be provided) but ideally you will have done an equal amount of the talking.  You should have talked about your reasons for meeting with the planner; had a discussion about your lifestyle goals, discussed your saving (or spending) habits, talked through that longed for holiday, your kids private school education, your feelings about investment options and possibly even your favourite football team.  Before a planner can begin to give any advice, they have a legal obligation to ‘know their client’, that’s you!  It’s not necessarily them trying to pry into all areas, it is simply something they are required to do for everyone.

Financial planners are not allowed to provide advice in your initial meeting, as they are yet to know your situation properly and do other background research. However they can, and should, provide you with an outline of workable solutions to your most pressing problems.  Factual questions such as contribution limits to super, concerns about investment markets, clarification around lease agreements or a range of other quite specific items are all examples of what can all be provided in that meeting.  If a more in depth analysis is required your financial planner will advise you and may recommend putting together a Statement of Advice (a financial plan).

The tangible things you will receive, as part of the value a financial planner provides, include; a Statement of Advice, educational flyers, assistance with paperwork and (if you stick with your plan) more money.  Some of the intangibles are: peace of mind, a clear picture of where you are now and where you are likely to be in the future, accountability, options and ideas, and someone to protect you against financial self-harm.

In the past year our firm has been able to achieve the following with some of our clients; increased a family’s net wealth position by over $115,000 in five years, helped a cash flow poor couple take two overseas holidays and reduce their work hours, reduced the stress of a self funded retiree by restoring her confidence in her long-term wealth management, helped a young couple avoid a costly debt issue, given an investment focused couple the confidence to stop their inaction and purchase a second investment property, and protected a growing family from financial detriment if something unexpected should happen to Mum.  Each one of these clients recognised the value in seeing a financial planner, but for a wide variety of reasons.

Our knowledge of wealth creation and management, gearing, specific superannuation strategies, taxation, insurance and over ten years experience all came into play for each of these clients.  Did we get paid for our work?  Yes.  Despite some perceptions that maybe it should be otherwise, financial advice is a paid service and does not come free, and like most things in life, you get what you pay for when it comes to quality.  Did all our clients receive value for their fees? Absolutely.  But what each client values, and where we were able to help, was different for each individual.  What is consistent across all clients though is that our value does not come from selecting products or chasing returns, our value comes from our knowledge.

The value you receive from working with a financial planner will depend on a few things: what you value, such as education, information or peace of mind, and what your financial planner offers.  When looking for value you need to know what your financial planner can help you with and communicate to them about what you expect.  Knowing what you value will help your planner add value.

Daniel Hogben

The Facts of Life (Insurance) – Part 3

Hi All,

So continuing on from my previous posts in this topic, today I am going to go through the basics on Total and Permanent Disability insurance. As usual, please remember this is general advice not personal financial advice (see our standard disclaimer here), so look left, then right and then left again before crossing the road!

Total and Permanent Disability (TPD) – Similar to life insurance, TPD provides a single lump sum, this time though it is in the event you are severely disabled and unlikely to ever be able to work again. It is often attached as ‘rider’ to a life policy, but it can also be set up as a stand-alone cover. Some TPD policies (and all policies inside Super) only cover you if you can never work again in any paid work that you are reasonable qualified for by reason of education, training or experience. Other policies are more generous and will cover you in the event you cant work in your own specific occupation. These are called ‘Own Occupation’ policies, and are extremely valuable for highly specialised occupations such as a surgeon or specific skilled jobs like an architect.

Where a policy is attached to a life policy, it is important to realise that wherever a TPD claim is paid, it will often reduce the life cover by the amount of the claim. Where the TPD is the same value of the life cover it can potentially cancel the life cover upon a full claim. This is not always a problem, and there are sometimes options with the newer covers that can counter this treatment with ‘buy back’ and similar options should you need it, but it is something you should be aware of when planning your overall cover.

The amount of TPD cover you need is usually determined in a similar way to your life cover (see out last article), but it can be increased by the extra out-of -pocket medical and associated expenses of being disabled (bare minimum $100,000, safer to say $200,000 but it is up to you and there is no definitive number), and also may be decreased by any income protection cover you have in place. If you don’t have income protection (or are ineligible, such as not working more the 20 hours per week), then it is quite possible you need more TPD than you do Life cover, so where that is not allowed (nearly always), you should try to increase your Life cover to match the TPD or take out a second, stand-alone TPD policy.

As with your Life cover, a major part of you TPD insurance will be to replace lost income. We will cover Income Protection at a later date, but suffice to say that you generally only cover your income to 75% using an Income Protection policy, leaving 25% that still needs to be covered by TPD in the event of permanent incapacity.

Features & Benefits - generally there is not a massive difference from one product to the next on the quality and scope of your cover, but there is some difference. Definitions of TPD don’t tend to vary much, but timing of claim eligibility, particularly when looking at degenerative diseases like MS or Parkinson’s as an example, can vary considerably. It is always worth a browse through the Product Disclosure Statement of the insurance company to see their specific wording, or of course get your financial planner or insurance specialist to do it for you.

Lastly, TPD cover held personally comes to you tax free, this is because the premiums are not tax deductible. However, as superannuation funds are able to claim a tax deduction for TPD premiums, there can be tax consequences to a payout. You should consult with your financial planner or a tax professional (such as your accountant) about these possible tax implications, as individual circumstances play a huge role in this area, I’m not even going to touch the complexity of also using a Self Managed Super Fund!

For neatness and simplicity tax wise, holding TPD in your own name is the best way to go, but this does miss out on some nifty cashflow and tax savings when combining with super so be careful.

A similar issue can arise where an insurance policy is owned through a business, but this is again a whole other topic, with it’s own specific considerations so, again, one for the future.

Our next topic will be on Stepped versus Level premiums (a pause halfway between the four types of insurance policies). This choice applies to all types of insurances and adds another layer of complexity to insurances, but can make a massive difference to the long term cost and affordability of you cover, so is worth allocating some time to.

Hope you are still getting some use out of this series, dont forget to put through any questions or comments as we go along.

Thank you.

Stephen Farrell

Congratulations to the Financial Planning Association of Australia!

We just wanted to put out our congratulations to the Fiancial Planning Association (FPA) of their successful resolution at yesterday’s EGM. The vote was effectively to remove any representation by non-fiancial planning individuals (such as product manufacturers and large planning corporates), with other Constitutional changes which will then allow for the substantial lifting of the bar on future entry and education requirements.

While it will take some time for the effects to filter through, the end result will be a professional association that is focussed solely on individual planners, and how they are to act in the public’s interest first and foremost. It will establish the FPA designation as a sign of high quality professional practitioners, not simply those with the bare minimum requirements imposed by law (which is sadly a very low standard).

Although Daniel and myself have long exceeded the educational and ongoing development requirements of the legislation and ASIC, the ever higher requirements of the FPA designation will be something clients and the general public will soon see as something stronger and more trust worthy all together. Hopefully those outside our profession will come to agree.

Stephen Farrell

New video post on Australian Share Investing Basics

Uploaded a new video overnight, let us know what you all think. Goes for about 12 minutes so get a coffee first

 

Latest Investment Articles

Check out some of the latest investment articles from a few of Australia’s leading investment managers.

Perpetual Investments examine how to make the most out of income investments, rather than lending to a bank with Term Deposits, consider lending like a bank.

Perpetual Income Examiner – 2011-03

AMP’s Shane Oliver asks the question, what do rising oil prices mean for the investment outlook?

Olivers insights 2011-03-24

Tom Stevenson of Fidelity International suggests how we might beenfit from tapping into the 21st centuary’s big investment themes.

Fidelity – Investment Commentary 2011.03

These articles and more are also available from the HFFP website at http://www.hffp.net.au/index-10.html.

The Facts of Life (Insurance) – part 2

Personal Insurances Types – Life, TPD, Trauma and Income Protection

There a four general ‘types’ of personal insurance available to Australians. When done properly they will work together to provide a complete ‘safety net’. Life, Total & Permanent Disability (TPD) & Trauma cover will each provide a once off lump sum payment when you make a claim, whereas Income Protection is an ongoing income replacement that starts when you can’t earn income, but stops when you recover. Today’s post will start with the ‘easy stuff’ – Life cover.

Life insurance – This is great because it is simple. You die, your estate gets paid a single lump sum. There are very little practical differences from one policy to the next. If you don’t have a stand-alone policy, get out your Superannuation statements, it is very possible that you have some there. Super is a good place for life insurance as it is often cheap and can be paid from the super fund rather than your pocket. Additionally, premiums are tax deductible to the super fund, so even though you can’t get a personal deduction, at least your super can.

Be aware though that although life insurance benefits are tax free when owned personally, if held in a super fund, some tax is likely to be payable by the fund on the final payout. This may even affect the tax on your super account (the investment component).

How much do you need? As a very general rule (and all advisers are a bit different with other methods or priorities) as a minimum starting point, you need enough to pay out all debts (e.g. home loan, car loan, investment loan).

Add another $50,000 to cover miscellaneous expenses such as medical, funeral and estate/legal costs. This amount is just a rough guide and you should calculate a more relevant figure for you personally.  You may also wish to allow for a few key expenses such as children’s private school fees.

Lastly, and this is the most difficult, you need to add an amount to replace the lost income of the individual (you or your partner), but adjusted for the debts you no longer need to pay. In the event that you don’t earn an income (i.e. homemaker) then you need to allow some funds for someone to do this in your place, either hired help, or the remaining spouse working less hours to now do these things.

As an alternative, I personally prefer a present day value, or multiple, of all lost income (salary, wages, etc. not investments). This is nice and neat because it assumes all future expenses don’t have to be guessed at in advance. We just assume that if you replace your lost income, you can afford the same level of spending in the future as if you were still here to generate that income.

To calculate the present day value of your income you need to allow for inflation, years to retirement, and an assumed investment return on the capital providing the new income. Once you know these assumptions, a simple present value calculation (in a spreadsheet formula as an example) will give you an insurance amount.

Remember, regardless of what calculation you make, any benefits actually received should be distributed using a set strategy that you stick to. It is no use saying here is the money for the next 50 years, good luck. You need to make it last the way it was intended to in the first place. This should definitely include a thorough review of your Estate Planning (Wills), but that is a whole other topic.

There are a couple of key overall insurance options that are available even with the most basic of our four insurance types (Life cover), the biggest one being ‘Stepped’ or ‘Level’ premiums. I will have to give that a closer look at in a future article as I think I have carried on for long enough.

Stephen Farrell

The Facts of Life (Insurance)

It seems to becoming more widely accepted and understood that we have an under-insurance problem in Australia. Although I am not talking about General Insurance (like home and contents), it is major events like the Victorian Bushfires of 2009 and the Queensland (and Victorian) Floods of 2011 (almost enough to make you want to move to NSW) that are starting to make people take notice on how they are insured, and are they protected like they think they are?

If you are unlucky enough to lose a car or your household contents, or even as far as the family home, that kind of financial setback can emotionally scar people and leave them struggling financially for decades, if not properly insured. Imagine the trauma and difficulty you might face if there was instead a death, or just serious injury, to a family member, particularly an income earner whom the rest of the family rely on.

This is a question for single people too, what would you do if you couldn’t work through illness or injury? Move back with Mum & Dad? Do they really have the capacity to look after you if it is a long term problem?

Are you approaching or in retirement? Adult kids independent and off your hands? Maybe some grand children starting to appear? How comfortable and peaceful will your retirement be if those same ‘independent’ children become injured or ill and move back home? What if they bring their whole family? Might be time to have a family chat.

I am saddened to hear that 90% of people will insure their cars, about 70% of people their homes, but when it comes to your single greatest asset (no, not your home – your ability to earn an income), only a third of people have adequate personal insurances.

Now I will give you some leniency, personal insurances can be terribly complicated and often deal with topics many of us would prefer to pretend don’t happen. I have lost count of the number of times people have told me they never did a Will because it seemed like ‘asking for something to happen’.

Although personal insurances can seem like a terrible spectre, and overly complicated, unlike General Insurances, there are dedicated professionals who can give you personalised, carefully customised, insurance advice to take the uncertainty out of the ‘Am I getting this right?’ question. I wish I could get the same when it came to reviewing my house and contents insurance last year, what a nightmare!

Now the rise of the online insurance broker is a bit of a worry to me, they lack the essential tailored advice you get from an insurance professional, but they are a significant improvement over the ‘just call now’ basic insurance cover also becoming popular. These ‘one size fits all’ infomercial-driven policies are severely lacking in depth and quality of cover. They are often significantly overpriced for those with relatively good health, as they must cover those who are not so healthy.

I mean, my local chemist is starting to sell life insurance! This is a product that may need to provide for my whole family, and cover many thousands of dollars, and you want me to buy it along side hair & skin products?

So if you are determined to go it alone, or if you simply want to know what all this jargon means when talking to an adviser, I will try to explain some of the basics over the next couple of weeks. If you have questions as we go along, just let us know and we will try to flesh out the areas you find of most interest. Remember, as with everything on this blog, this is only general advice, not personal, and you should always consult a professional (refer to our full disclaimer here).

However, if the idea of spending the hours necessary determining the right level, structure and types of insurances for your situation is just too depressing, don’t wait for the future articles and just give us a call. We are ready and happy to help.

Stephen Farrell

A ‘Yes’ vote to keep the financial planning profession ahead of the game

Daniel & I just voted ‘Yes’ to the Financial Planning Association’s (www.fpa.asn.au) constitutional change to radically overhaul the FPA and its membership. Should seriously lift the standard in years to come, lets hope it gets up!

Unfortunately it needs a 75% yes vote so it is not necesarily a done deal, even with such obviously strong merits. Significantly higher minimum education standards for advisers and less product owner and large dealer group representation.

It’s a very important initiative for the Financial Planning profession, I am not sure where things could head in the future if the change doesn’t get up. The FPA itself has stated ‘there is no Plan B’!

Either way Daniel and I will just continue to do the best we can, operating with ‘clients first’ regardless, not waiting for our primary professional body, nor the government, to catch up.

Stephen Farrell