A DIY danger looms

Self-managed super has entered the next generation … but be careful what you invest in.

Summary: The self-managed super fund landscape is continuing to evolve, and more Australians are planning to establish their own funds. Among them is a new generation of investors, the sons and daughters of individuals already operating a SMSF. An increasing amount of DIY super funds are being shifted into direct property, and that raises some concerns.
Key take-out: The current super property surge smells of a boom with excesses, badly structured funds and suspect deals that will result in a bust.
Key beneficiaries: SMSF trustees and superannuation accountholders. Category: Superannuation.

A large number of Eureka subscribers have their own self-managed fund. So this week I want to introduce you to yourselves and explain just how the self-managed fund movement is developing.

To help me in this task I am resourcing a joint research project by the SMSF Professionals Association and the Macquarie Group. The first thing the research report isolates is that around one in five Australian adults who do not have a self-managed fund say they plan to establish one at some stage in their life, and one in 12 Australian adults (1.4 million people) say they plan to start one in three years.

If that actually happens, then in three years we are going to see a doubling of the already huge self-managed funds market. Self-managed funds are set to dominate upmarket savings in Australia. Frankly, I think superannuation is going to be split between industry funds and self-managed funds. The groups in the middle like MLC, BT, AMP and the Commonwealth Bank’s Colonial will be put under great pressure. These household superannuation names will find that their main growth market will be to try and convince self-managed fund investors to use their managed funds. But to do that the majors will need much lower charges.

A new DIY generation

In terms of these new investors, around 71% have dependent children but there is a significant number of young people in their ranks who live at home. And so 15% of the intending self-managed fund investors are sons living with their parent or parents. More significantly, 17% are daughters living at home.

What this means is the culture of the middle-class families who establish their own fund is passing to the next generation, and in particular to daughters who can see that they need their own fund so they are not trapped like their predecessors in not having enough superannuation. Take a bow Eureka readers; you are being good parents.

Those living away from home often pay full rent and tend to concentrate on that burden rather than their long-term savings.

In mixing with parents of children aged in their 20s, I am finding an increasing number using their large houses to accommodate their children and their children’s partners. It is a very big change in our society and it is being reflected in the self-managed fund movement. As you would expect, the SPAA/Macquarie survey shows those managing self-managed funds are moving their investments away from cash and term deposits into equities. And indeed their equity percentages have almost returned to pre-GFC levels. Of course the amount of equity that is chosen depends on age, with the older people being more conservative than the younger people. This is exactly what should happen. As you get older you become more conservative, although it sometimes depends on how much money you have in your fund.

Property builds momentum

But there is one area that disturbs me. Self-managed funds are rushing to leverage property. Direct property has always been an important asset class amongst self-managed fund investors, and as at March 31 it accounted for 14.7% of managed fund assets, up from 10.7% in June 2006. Put another way, that means that property assets grew by 230% to more than $73 billion – a higher growth rate than any other class.

This swing has obviously been generated in part by people not wanting to be dependent on the volatility of shares and the falling interest rates of cash. But it also reflects the boom in geared property investment. According to the SPAA/Macquarie survey, investors aged 50 to 54 are most likely to have used their self-managed fund to gear into property investment, reflecting the fact that members in this age group are likely to diversify into direct property as part of their investment strategy and the fact that they have accumulated enough money to do this.

Below is a graph of Macquarie’s self-managed funds clients, with residential property loans by age. Geared residential property investments, if correctly structured and well bought, can be a worthwhile strategic investment. Negative gearing can also be good, but if there are substantial capital gains it can be a lot more tax effective to have a residential investment property in your superannuation fund than owning it directly. And under the current rules, it can be transferred to you at aged 60 providing you make the necessary adjustments to your fund.

What worries me is that there is a boom in real estate agents selling properties to people and setting up self-managed funds for the buyers. This smells of a boom with excesses, badly structured funds and suspect deals that will result in a bust. I fear that legislators will then come into this area. Also see Bruce Brammall’s article, Super property bells ring louder. There are many excellent real estate agents who will handle such transactions well, but the industry does tend to attract people who are looking for a quick commission and I fear that a number of people will be saddled with superannuation problems for a long time, which will require the authorities to act.

If you do plan to buy an investment property via a superannuation fund and to gear it, and you have done your homework properly, then I would do it now. I can smell that the next government will take action in this area, particularly as we well know that Treasury hates self-managed superannuation funds. Although it was thwarted in its last attempt to machine gun self-managed funds, Treasury will return if it can see a better target.

A family affair

There is an old saying that the families that pray together stay together. That rule still applies but these days, unfortunately, praying has become far less prevalent. But I get the impression that self-managed funds are becoming the great family uniting point. The SPAA/Macquarie survey indicates that self-managed fund investors are particularly active in discussing their finances as a family. And they also talk about a wide range of subjects including charitable giving, organ donation and other community topics areas. Most describe their family conversations as free flowing and ongoing over time. As part of that wider area of activity, about 78% of them are looking around for shopping discounts: 67% buy in bulk, 64% shop online, and 42% are taking advantage of interest-free repayments. In other words, they are not only researching their investments and investment strategies but are researching their use of money over a wide range of areas. And they are also avoiding wasting their money – an old so-called Protestant ethic that is returning via self-managed funds. And, of course, as you would expect, self-managed funds people understand the value of savings.

Because most self-managed funds involve all members talking about what is taking place, it is widening the conversations in the family. And with daughters and sons also planning self-managed funds, they are getting involved as well.

This is a very different environment to the one in which I grew up, where pretty much one person dominated the family investment decision making process. SPAA/Macquarie say that self-managed fund investors are adept to converting their discussions into action. And, in particular, they work out a strategy and then implement it. And this of course is spreading through the generations.

Advice patterns

The good news for advisors is that 44% of baby boomers and 55% of the older generation (that’s me) say they currently have an advisor.

My experience is that they do not like advisors who charge an arm and a leg, and the new rules will make advisors explain their charges very frankly. We will therefore find more people using advisors, but they will use them more intelligently. Of course, as self-managed fund investors get older, health concerns increase. But about 28% of recent self-managed fund groups say they are not really concerned about anything. In other words, they have a job or a business and are confident about their life and what is ahead.

In my view, the nation is going to be built and prosper on the back of those who have self-managed funds. We can be very grateful for the accounting profession, who made it easy and cheap to set up self-managed funds, and in the process have greatly improved our nation. Again, take a bow you Eureka readers with self-managed funds.

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