(03) 9020 2905SUMMARY: Rice Warner proposes a copy of SMSF pension investment strategies in middle of a super ideas fest.
I think these chartered accountants mob might have a point. Perhaps it’s time to stop, survey the mayhem and consolidate some of the thinking.
We are being absolutely overwhelmed with ideas at the moment. “There are at least a dozen reviews and inquiries currently ongoing or due to commence, which overlap in terms of scope with the Financial System Inquiry,” said Chartered Accountants Australia and New Zealand senior executive Rob Ward.
He’s right. I’ve only got to look back over what I’ve written in recent months to realise that, when it comes to super, there have been a plethora of big ideas being shoved through the pipeline, largely in response to David Murray’s Financial Systems Inquiry.
See this info graphic here produced by CAANZ. Some really good ideas are going to be overshadowed in the deluge.
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One of the superannuation ideas that deserve a further look is a concept by actuaries Rice Warner, who have laid out a simple plan to deal with retirement income streams for super pension funds.
It’s interesting because it’s proposing that APRA-regulated managed fund super essentially mimic the way that many SMSF trustees actually do run their pension funds.
The plan is to turn the managed fund holding the investment assets into a distribution trust, which would pay out all income from the fund to a cash account, leaving the capital and investments sitting in the main trust.
If you look at the average income distributions from a managed fund, the income that comes out is usually in the 4-5% range. Michael Rice, Rice Warner’s chief executive, said this would, in most cases cover the minimum income requirements needed by retirees.
Under the age of 65, retirees are required to take a minimum pension of 4%, which rises to 5% between 65 and 74, then steadily increases.
With the cash account looked after and being reasonably certain that it will hit the income requirements from year to year, the capital account could be left to run a longer-term investment strategy. Mr Rice claimed that the payments of these dividends, at 4-5%, would produce a better return than would be achieved by most annuity based products in existence now anyway.
As a strategy, this could be adopted by most super funds very, very simply and administratively would be very cheap to implement, Mr Rice said.
In the cash account, there would be some complexity around franking credits – which can take up to 18 months to be returned to a super fund – but the major super funds could easily handle those calculations, he said.
The central point, however, is this: If the income needs are looked after by the distributions, then what does it matter what happens to the capital by way of fluctuations?
A far greater proportion of the capital account/trust could be invested for long-term growth, taking in more shares, property and less liquid infrastructure assets. This is far more likely to adequately meet longevity risk of requiring growth for later in life.
Mr Rice says that one of the big problems with APRA-regulated super funds is that they either sell down growth assets, force retirees to draw down capital when markets have fallen, or fail to cover longevity risk (by being heavily enough invested in growth assets).
Meanwhile the capital would be projected to grow steadily in real terms. The risk of market volatility impacting the underlying assets is also reduced as the member is not spending his or her capital,” Rice says.
“Self-managed super funds do this automatically,” he adds.
And that, they largely do. But to say that it’s automatic, and infer easy, belies the angst suffered by many SMSF trustees during the GFC, when incomes from their major shareholdings, such as the banks, did get cut and they were having to dip into their capital.
But it is largely how those who operate their own SMSFs operate their super, even when in pension phase.
Income is normally paid into the cash account. Bills and pension payments are made from there. When the tax return is done, some time later, franking credits get returned to the fund.
There shouldn’t be any need for panic when markets fall, because the income being generated by the fund should be enough, in the early years, to meet the pension requirements.
The industry has been calling for change to the tax treatment for products such as deferred lifetime annuities (see column of 28/7/14), to allow for better products to be established to deal with longevity risk.
Mr Rice said the annuities market was failing.
“Fixed term annuities are like term deposits with commissions in super. The UK abolished mandatory annuities because they gave very poor value,” Mr Rice said.
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The information contained in this column should be treated as general advice only. It has not taken anyone’s specific circumstances into account. If you are considering a strategy such as those mentioned here, you are strongly advised to consult your adviser/s, as some of the strategies used in these columns are extremely complex and require high-level technical compliance.
Bruce Brammall is director of Castellan Financial Consulting and the author of Debt Man Walking, one of five books on investment property topics. E: bruce@castellanfinancial.com.au