SMSF investors best prepare for more change

Australia’s population of Self-Managed Super Fund (SMSF) investors continues to grow with over 600,000 SMSFs up and running. More investors are being attracted by the key benefit of being in control of their own super along with the improved transparency, flexibility and customisation potential SMSFs offer.

Many SMSF investors also believe they can generate better investment returns than third-party super funds. On that note, a number of financial advisers have noticed the popularity of SMSFs with Millennials and Gen Z as they tend to enjoy doing their own thing when investing.

The growth in SMSF popularity has not gone unnoticed by the Federal Government, nor has the fact that a large portion of SMSF investors are high net worth investors. As such, there’s a key change coming that SMSF investors should be prepared for, whilst a Federal Government mind-set shift suggests more change is coming.

The main SMSF change on the horizon

One of the biggest changes coming for SMSF investors is the Federal Government’s proposed Division 296 Tax, which is due to apply from July 1st, 2025 (assuming it proceeds following a Senate review).

In essence, the new Division 296 Tax is an additional 15% tax on total super balances above $3 million at the end of each financial year. It was driven by the Federal Government’s desire to reduce the superannuation benefits being received by Australia’s wealthiest investors while raising more tax in the process.

The proposed Division 296 tax will be calculated on the movement between the investor’s opening and closing total SMSF balances for the financial year after adjusting for withdrawals, contributions and specific exclusions—and it’s proportionate on how much of an investor’s SMSF balance is above the $3 million threshold.

Why so many trustees are against the change

Almost half of SMSF trustees are concerned about the proposed Division 296 tax and it’s not just the idea of the government raising taxes which is upsetting them.

Of particular concern is the notion that the tax will be calculated on annual movements in unrealised asset valuations. That creates obvious cash flow management issues for SMSF investors who’d intended to own their potentially illiquid investment holdings for the long term. By ignoring this issue, the Federal Government have revealed to all that they’re more concerned about receiving their new tax than in ensuring investors are able to manage their SMSF accounts effectively.

To add insult to injury, the Division 296 doesn’t include an indexing mechanism. In other words, the Federal Government are positioned to benefit from the wealth creep effect whereby the more investors who naturally fall into the realm of the new tax each year, the more tax they’ll receive.

As you can tell, there’s not a lot of good news to report about this new tax beyond its potential to reduce wealth inequalities nationally.

Implications for $3m+ SMSF investors

There are two noteworthy implications of the proposed Division 296 tax for $3m+ SMSF investors:

1. The incentive to own more than $3 million across SMSF balances is about to significantly decrease. This is worth factoring into investors’ financial planning ahead of the change to ensure there isn’t an opportunity cost (or trading cost) associated with any reactive investment adjustments post the change.

2. Given the proposed law’s requirement that investors pay tax on their unrealised gains above the $3m threshold, having enough cash on hand is likely to become more important for affected SMSF investors, as is the liquidity of their investments. For example, holding a large portion of SMSF balances in illiquid assets is likely become more challenging from a cash flow management perspective post the introduction of the proposed tax.

The Government are watching the SMSF space like hawks

The proposed Division 296 Tax doesn’t just reveal the Federal Government’s desire to increase tax through this particular mechanism. It also reveals the government’s growing focus on generating as much tax as possible from SMSF investors who are generally amongst the wealthiest in the country.

In other words, there could be more changes coming. For example, some financial advisers have surmised that the government may play around with the treatment of franking credits in the future to reduce the benefits for high net worth SMSF investors.

In the words of Shelley Banton, head of education at ASF Audits:

“The SMSF industry should be prepared to expect the unexpected in 2024. The government has demonstrated it is targeting SMSFs in a way we have never seen previously, and we should be anticipating that more changes will come.”

Let’s hope these words of warning are the equivalent of a weather forecaster mentioning the risk of a cyclone hitting landfall when in fact it’s too busy collecting offshore taxes to be bothered.

Change to remain the name of the game

As the number of SMSF investors continues to grow each year, the Federal Government’s proposed Division 296 tax on balances above $3 million signals more change is likely looking forward. There appears to be a view in the Federal Government that Australia’s wealthiest SMSF investment population are benefitting too much from the advantages of self-managed super.

Whilst the benefits of SMSFs are likely to remain attractive for many, it’s worth ensuring you are aware of the upcoming changes and risks looking forward. One thing’s for sure … the higher your SMSF balance the more interested the government will be in ensuring they’re receiving their fair share of tax.

Make sure you’re ready for the proposed Division 296 tax when it’s introduced on July 1st 2025, as well as more potential changes thereafter.

Disclaimer: This article is prepared by Simon Turner. It is for educational purposes only. While all reasonable care has been taken by the author in the preparation of this information, the author and InvestmentMarkets (Aust) Pty. Ltd. as publisher take no responsibility for any actions taken based on information contained herein or for any errors or omissions within it. Interested parties should seek independent professional advice prior to acting on any information presented. Please note past performance is not a reliable indicator of future performance.