The coming changes to the superannuation rules will impact on just about every aspect of SMSFs. Ben Kingsley takes a look at the implications for property investments.
In November 2016, legislation was passed that will reform Australia’s superannuation sector from 1 July this year.
According to Treasury, the Superannuation (Objective) Bill 2016 sets out a clear objective for superannuation “to provide income in retirement to substitute or supplement the age pension”.
Some of the measures reduce previous concessions for super account holders with high balances, while others are designed to assist low-income earners, the partially self-employed and retirees.
This article will discuss how the new superannuation rules impact on property investment specifically, as well as what the changes mean for SMSFs.
It will also discuss why property remains a solid investment class and the importance of qualified property investment advice.
Changes to transfer balance and contributions caps
From 1 July 2017, the caps for transfer balances and pre and post-tax contributions will change. According to Treasury, the changes mean:There will be a $1.6 million transfer balance cap on the total amount of accumulated superannuation an individual can transfer into the taxâ€“free retirement phase. Subsequent earnings on balances in the retirement phase will not be capped or restricted.
Savings beyond this can remain in an accumulation account (where earnings are taxed at 15 per cent) or outside the superannuation system.
Transitional arrangements will apply. People already retired with balances below $1.7 million on 30 June 2017 will have six months from 1 July 2017 to bring their retirement phase balances under $1.6 million.
The threshold at which high-income earners pay additional contributions tax (Division 293 of the Income Tax Assessment Act 1997) will be lowered from $300,000 to $250,000.
The annual cap on concessional (before-tax) superannuation contributions will be lowered to $25,000 (currently $30,000 for those aged under 49 at the end of the previous financial year and $35,000 otherwise).
The government will lower the annual nonâ€“concessional contributions cap to $100,000 and will introduce a new constraint such that individuals with a balance of $1.6 million or more will no longer be eligible to make non-concessional contributions. As is currently the case, individuals under 65 will be eligible to bring forward up to three years of nonâ€“concessional contributions.
Table 1: Impact of super reforms
Source: Federal Treasury www.treasury.gov.au/Policy-Topics/SuperannuationAndRetirement
What it means for SMSF property investors
Investing in property via an SMSF remains an attractive proposition for many Australians.Not only does it allow more people to buy investment properties to help improve their financial futures, it also still provides significant tax advantages particularly around the payment of capital gains tax (CGT), especially once the SMSF account holders have reached pension stage â€“ even after the new rules come into force.
The demand for property from SMSFs continues to be strong, with research showing as many as two in five SMSFs hold residential or commercial property. In fact, those SMSFs with residential property have increased to 22 per cent from 19 per cent over the past year, while direct commercial has risen to 20 per cent from 18 per cent, according to research by the Financial Services Council and UBS Asset Management.
While the full impact of the $1.6 million super ceiling may still not be widely understood, it is perhaps causing the most concern among SMSF account holders.
It’s important to understand there is no limit to how much money people can have in their super accounts, but the excess above $1.6 million per SMSF member needs to stay in the accumulation phase, which does attract a 15 per cent tax rate. For example, if an SMSF has two members who are both in retirement and the fund balance is $3.2 million (or $1.6 million each), then that is fine. However, if the two members have differing balances (one significantly above $1.6 million perhaps), then it would be astute to consider spouse contribution splitting to equalise the balance.
It also means SMSF trustees relying on current higher contribution caps to service loans in their super funds may have to make other plans.
According to some corners of the market, a raft of commercial properties are coming up for sale as a result of panicked SMSF investors fearing the new super rules will increase potential liabilities.
But they don’t have to sell: assets exceeding the $1.6 million individual ceiling will need to be spread across two holding accounts â€“ the pension account and accumulation account. The accounts are often routine in an SMSF, when there are various members and some are already retired and drawing a pension.
Another misconception appears to be that SMSF investors will be hit with retrospective CGT if they don’t sell a property before 30 June this year.
As we know, CGT applies when there is a disposal of an asset, such as a change of owner. However, in the case of an SMSF, the owner always remains the same whether you are in pension phase or accumulation phase, so there is no transfer of owner.
Within an SMSF, the way the tax-free status is applied (under a pooled method) is that the SMSF would engage an actuary to prepare a pension certificate to confirm the percentage of fund assets used to provide a pension income. Once that is determined, the income sourced from that percentage is exempt.
For example, if a fund has a property worth $2 million, the SMSF members would need to transfer $400,000 back into accumulation. The actuary would then issue a new pension certificate to state that 80 per cent of the fund earnings would be exempt. Hence there is no change of ownership.
The transitional arrangements allow for the member to reset the cost base in this process to the value as at 30 June 2017. Tax will then be payable on the growth on the 20 per cent of the asset that is in accumulation.
Compared with the top tax rate of 45 per cent for income earners over $180,000, a rate of 15 per cent in an accumulation account is still very attractive. CGT also remains at 10 per cent for SMSF assets, where the asset is held for more than one year.
It’s important SMSF investors considering selling their properties take into account the transaction costs and time involved in doing so â€“ the numbers are unlikely to add up to a win.
With all property investment, inside and outside of an SMSF, one of the keys to success is time in the market so that the power of compounding can work its magic.
Therefore, SMSF investors need to stay calm and look to the long term, rather than react to the relatively short-term impact of these changes.
Why property is still an attractive investment
While changing super rules can unsettle investors, well-selected property remains an attractive investment class for the long term.Despite unease among some SMSF investors, talk of property price bubbles and tightening investor lending policies, Australian property investors remain bullish about the long-term merits of residential real estate.
The second annual Property Investment Professionals of Australia (PIPA) “Property Investor Sentiment Survey”, which gathered insights from over 1000 property investors in late 2016, showed more than 70 per cent of respondents believed now is a good time to invest in property â€“ up by five percentage points compared with the year before. About 60 per cent of respondents were looking to buy property in the next six to 12 months.
The survey results confirm property investors remain focused on the long-term benefits of property investment, which is a mindset SMSF investors should employ as well. Importantly, most investors were not speculating on quick gains in a low interest rate environment. About 15 per cent of survey respondents had invested in property via an SMSF.
The long-term wealth benefits available from residential real estate include the potential for capital growth and rental income. Moreover it’s an investment class backed by a real asset everyday Australians can relate to and understand â€“ often better than other investments.
Property has also proven itself a very stable investment, particularly when compared to many other popular assets such as equities. While both have delivered relatively similar overall returns to Australian investors over the years, property has shown fewer price fluctuations and lower volatility compared to the share market. A recent report by Atchison Consultants confirms this, showing Australian residential property, with its relatively low volatility over time, provides a “stable anchor” to investment portfolios. This remains the case even with the new super rules coming into effect later this year.
PIPA’s 2016 Property Investor Sentiment Survey key stats at a glance
The opportunity for qualified advisers
Australians who have been carefully planning their estates under the current super rules will no doubt be forced to revisit that advice given the slew of changes to be introduced on 1 July. However, this provides an opportunity for qualified advisers to connect with clients. Anyone looking to set up an SMSF should seek advice from a licensed financial planner or qualified accountant. These industry professionals should concentrate on familiarising themselves with the changes in order to respond to trustees’ queries and concerns.
There are a number of Treasury fact sheets available online and financial planners and accountants should also use any information communicated by their respective professional associations, which may also hold educational forums on the super changes as 1 July draws closer.
What about property investment advice specifically?
Unlike financial planning and mortgage broking, the provision of property investment advice still remains unregulated. However, more and more investors are joining the call for this to change. PIPA research shows the vast majority of investors believe the provision of property investment advice should be underpinned by relevant legislation â€“ 87 per cent consider more education about the risks and potential benefits of investing in property is needed. As the peak association for the property investment industry, PIPA is steadfast in its view that direct investment in any form of property should be classed as a ‘financial product’ and should be regulated appropriately. An unregulated property investment market attracts unethical operators in search of big commissions, without any concern for the client’s best interests.
Until we secure regulation around property investment advice, professional SMSF practitioners, such as a licensed financial planner or a qualified accountant, have several options to ensure their trustees make a smart SMSF property investment.
Your first option is to upskill and gain a formal accreditation as a property investment adviser via PIPA’s Qualified Property Investment Adviser (QPIA) qualification. This can boost your individual service offering to allow you to better assist your clients in the property investment space.
Secondly, you can stick to your existing field of expertise. Opting to provide a professional introduction to an independent property adviser or advisory firm might be the most suitable option in this case.
Thirdly, you can diversify your business to encompass property investment advice and hire a qualified property investment adviser and buyer’s agent to facilitate this expansion.
A final option could be to consider a referral partnership with a property investment company â€“ delivering an expanded service to your client, without completely diversifying your advice offering.
Ben Kingsley is chair of Property Investment Professionals of Australia.
Ben Kingsley, Self Managed Super, 22 May 2017