Once you’ve set up your self-managed super fund, you’ll need to work out an investment strategy that fits with the retirement goals and circumstances of you and anyone else in the fund. The investment strategy will not only help you manage your investments, but it can also serve as a useful document if the investment decisions of the fund are ever called into question by an auditor. It should include:
- Risk and return
- The ability of the fund to discharge its liabilities
An investment adviser or financial planner can help you prepare an investment strategy. Alternatively, you can prepare your own by following these steps:
Step 1: set investment objectives
What’s your investment objective and how will it support your retirement plans? Start by answering some key questions, such as:
- How old are the SMSF’s members? Are they in accumulation or pension phase? If the former, how many years until they retire?
- What assets do the fund’s members have both inside and outside the fund?
- How much income will you need in retirement?
- What level of investment risk are the members prepared to accept?
The answers to these questions should help you determine the investment objectives, which should be measurable, achievable and able to be communicated to the members of the fund. Examples of these objectives could be a simple statement, such as: “The fund will outperform inflation by 3% per annum over the long term,” or a more complex statement, such as: “The fund will keep pace with inflation while avoiding a negative return in any one year.”
Step 2: define asset weightings
As a trustee, you’ll need to decide where to invest your assets in the same way professional fund managers carefully determine how to allocate funds across the various asset classes. The investment plan should clearly state the types of asset classes you want to invest in – like equities, cash, fixed interest and property – as well as the percentage weightings (that is, the percentage of the fund that will be invested in that asset) and benchmarks for each asset class.
Different SMSFs will choose different asset class weightings based on their member’s investment timeframe, their level of risk, their need to protect capital, and potentially, their medium-term investment perspective. A fund that is prepared to take on more risk and has a longer investment timeframe is more likely to have a higher proportion of ‘growth’ oriented assets, such as equities and property, while a fund where capital protection is important will most likely have a higher proportion of ‘income’ oriented assets such as cash and fixed interest securities.
The percentage ranges for the various asset classes should be set wide enough to allow for day to day market variation, although not so wide as to render them useless as a monitoring tool.
Step 3: detail any other specific rules
After the asset allocation has been set in a way that will best meet your investment objectives, the final step is to detail any other investment rules or restrictions you wish to impose on the fund. These rules can be used to foster diversification, maintain adequate liquidity, or strengthen the probability of delivering strong after-tax returns.
Examples of these rules could be:
- “For the Australian equities portfolio, the trustees must ensure that there are at least five different securities from different sectors in the portfolio.” (Diversification)
- “No single asset or security in the fund will represent more than 25% of the fund’s total assets.” (Single asset risk)
- “The Fund will ensure that, at all times, it has at least $5,000 in a cash deposit with an ADI available within 24 hours notice.” (Liquidity)
- “The Fund will look to take advantage of dividend imputation by having a preference for companies that pay fully franked dividends.” (Tax efficiency)
- “The Fund will not invest in collectibles such as works of art, rare coins, stamps etc. or other assets where a market value cannot be readily established. (Defining what assets the Fund can’t invest in)
A sample investment strategy can be accessed at sample investment strategy.
What else should I consider?
While there is no requirement to write up your investment strategy, a written document will make it much easier to demonstrate to the fund’s auditor (and potentially the ATO) that the trustees have considered all the relevant issues. Moreover, where the trustees have invested in a single (or very material) asset such as business real property, or in “exotic” assets such as artworks or collectibles, a written strategy will assist in demonstrating that the relevant issues have been considered and that the investment is not ad hoc or reckless.
If the SMSF is to invest in a single asset or predominately a single asset (such as business real property), it is advisable for the trustees to formally record in the minutes of a meeting that they reached the decision after having considered the relevant issues. These would include:
- The investment objectives of the fund;
- The expected return from the asset;
- The need for diversification given the investment timeframe and level of risk of the asset;
- The need for liquidity given the age of the members and the expected time when benefits would start to be paid; and
- The fund’s ability to meet ongoing operating expenses from the investment income on the asset.
Notwithstanding what is written in the investment strategy, trustees must always comply with the SIS Act investment rules. These rules are lengthy and sometimes quite complex, and a breach of one of these rules could lead to your SMSF being deemed ‘non-complying’ by the ATO. An intentional or reckless breach could further leave the trustees being liable to both civil and criminal penalties. To avoid problems, trustees should pay particular attention to the ‘in-house assets’ rule.
Keep your strategy up-to-date
Finally, your investment strategy should not be a static document – it needs to be reviewed at least once a year, and certainly when the personal circumstances of any of the members change to ensure that it is still appropriate. These circumstances will include the death or departure of a member, the addition of a new member and the retirement of an existing member.