Cash may not be as glamorous as other assets, but it is the oil that greases the wheels of a well-run self-managed super fund. Unfortunately, it often takes a crisis to appreciate the value of a flexible and accessible cash hub.
In the accumulation phase, while you are still working to build your super balance, a cash reserve can be used to take advantage of investment opportunities and to keep your powder dry during a market downturn.
But it is once you shift into pension mode and dependent on regular, reliable income from your investments that prudent cash management can make the difference between a worry-free retirement and a real headache.
Retirees need cash to cover periods when dividend or rental income falls, investments fail or funds are frozen as some were during the global financial crisis.
Managing your cash flow
The average fund had about 25 per cent of its assets in cash and short-term deposits as at December 2012 (1). Given that the average fund balance was just under $1 million at the time (2), this translates into a lot of cash sitting in bank accounts and term deposits. It also highlights the importance of managing it profitably.
Financial advisers suggest that retirees hold anywhere from 18 months to 3 years of living expenses in a super bank account and term deposits with staggered maturities.
This strategy will not only reduce the need to sell assets during a downturn, but give you breathing space to rebuild your capital. The strategy also assumes that you can get higher interest on a term deposit than your SMSF bank account. The best rates on one-year term deposits are currently about 4.0 to 4.5 per cent, better than most savings accounts.
Say you are a self-funded retiree with $1 million in super earning $50,000 a year. You might be advised to put $50,000 in a bank account that can be accessed quickly, $50,000 in a one-year term deposit and another $50,000 in a two-year term deposit.
By staggering the maturities you can align your cash flow with your personal requirements. As each term expires the cash can be re-invested in new term deposits if it is not needed for short-term living expenses.
Where to stash your cash
All SMSFs are required to open a bank account to accept contributions from members and income from investments as well as to pay expenses and pay out benefits. This account need to be separate from your personal cash to satisfy the sole purpose test (see Chapter 5 for details of the sole purpose test).
Most people simply go to their local bank and open a new account or accept the recommendation of their SMSF administration service. Either way, too many people accept what is offered without seeing what else is available.
These days all the major banks and financial institutions offer accounts suitable for SMSFs, with three main choices:
- Savings account. The main advantage of a regular bank savings account is flexibility. They offer a variety of payment options such as BPay, phone banking, direct debit (not credit) Visa or Mastercard and cheque books. Interest rates are lower than rates available elsewhere but some savings accounts offer competitive rates for higher balances. Not all accounts are suitable for SMSFs so check first.
- Cash management account. CMAs typically offer tiered interest depending on your account balance. The top rate often only kicks in for balances of $100,000 or more. For lower balances, you may be better off with a high-interest savings account. Most have a minimum opening balance and many charge an account-keeping fee.
- Cash management trust. CMTs generally offer a single rate of interest which is higher than rates on CMAs and savings accounts. In order to compete with other accounts CMTs generally offer a range of payment options. Most CMTs charge a management fee and many have a minimum account balance. You need to fill in a prospectus to open a CMT because technically you are investing in a unit trust that specialises in cash.
Ratings group Canstar (3) recently surveyed 141 accounts offered by 61 institutions, revealing a wide range of offerings but a growing convergence of features between different types of accounts.
On a balance of $100,000 you can earn interest of up to 4.75 per cent, or $4,750 a year, and pay no monthly account fees or transaction fees. That’s more than enough to cover your annual SMSF reporting and compliance fees. At the other end of the scale, some accounts pay as little as 1 per cent interest and charge a monthly fee of up to $15 plus transaction fees.
But interest rates and fees are not the only salient features to watch out for. Cheque facilities are the feature most often lacking, which can cause problems if investment and other income is paid by cheque.
Less is more
Many SMSFs make the mistake of opening multiple bank accounts, often through no fault of their own. It is easy to accumulate accounts when administration services and trading platforms offer discounts to use their linked account.
In some cases it may be difficult to avoid multiple accounts, but there are benefits in channelling all transactions through a single cash hub.
For starters, you will have all your contributions, pension payments, investment transactions, dividends and interest earned all in one place. Not only does this make it easier to follow your cash trail during the year but it will simplify end-of-year reporting easier as well.
- SMSF investment patterns survey, December 2012, Multiport
- Self-managed super fund statistical report, 2012, ATO
- Self-managed super funds star ratings, April 2013, Canstar