How to create an investment strategy for an SMSF

Work out an investment strategy that fits your goals.

Align it with your retirement goals to help stay on track.

By Paul Rickard


One of the most important things you need to do once you’ve set up your self-managed super fund (SMSF) is 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, it can also serve as a useful document if the investment decisions of the fund are ever called into question by an auditor. Your investment strategy should include:
  • Investment objectives
  • Risk and return
  • Investment timeframe
  • Diversification
  • Liquidity
 
You will also need to consider whether one or more members should take out insurance cover, and even if you are a seasoned trustee, you need to review this document every year, or when your circumstances change, to make sure the reality meets the theory.

Step 1: Set investment objectives

To work out your investment objective and how it will support your retirement plans, you need to 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 the members 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 cent 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

The investment plan should clearly state the types of asset classes you want to invest in – such as equities, cash, fixed interest and property – as well as the percentage weightings and benchmarks for each asset class.

Different SMSFs will choose different asset class weightings based on their members’ investment timeframes, their level of risk, their need to protect capital and potentially, their medium-term investment perspectives. 

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.

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 per cent of the fund’s total assets.” (Single asset risk)
  • “The fund will ensure that, at all times, it has at least A$5,000 in a cash deposit with an ADI (Authorised Deposit-taking Institution) 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 or other assets where a market value cannot be readily established. (Defining what assets the fund can’t invest in)

What else should I consider?

Your investment strategy should be properly documented, as a written document will make it much easier to demonstrate to the fund’s auditor (and, potentially, the Australian Taxation Office) 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.

Notwithstanding what is written in the investment strategy, trustees must always comply with the provisions of the SIS Act, such as the “in-house” asset rule, which prohibits SMSFs from investing more than 5 per cent of a fund in an in-house asset.

Insurances

Trustees are now required to consider whether the fund should take out insurance cover for one or more of its members. Insurances could be life cover, trauma cover, TPD (temporary or permanent disability) or income protection.

If you decide not to take out any insurance cover, it is probably a good idea to formally record this decision in a trustee minute every year, the same minute you make after reviewing the adequacy of your investment strategy.