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Jul 24, 2022

Investment in a single company

in SMSF Technical Forum

Hi all

I am auditing a fund that at June 30 2021 (established 2019) has the majority of its investment not just in listed shares, but in one specific company. Whilst this company pays excellent dividends it is in the mining sector and far from "blue chip."

Of $360,000 gross assets $320,000 is in this company, the rest is cash. Whilst this is a very dangerous way to invest member benefits (have drafted strongly worded management letter already) does it actually breach any requirements? Is it a qualification/contravention for a fund to do this?

This is a high litigation risk for me unless I make it very obvious how risky this strategy is, so suggestions in that regard also welcome.

I do not believe the trustees have changed investments for the 2022 year.

Thanks very much

3 answers0 replies

Comments (3)

Michael K

Jul 27, 2022

An auditor of a SMSF is prohibited from giving advice on investments (unless they are also financial advisors.) In my view an auditor who follows the ATO line and advising a fund to diversify would be giving financial advice. No win situation.

Unknown member

Jul 25, 2022

Thank you very much

THE AUDITORS INSTITUTE

Jul 25, 2022

Hi Matthew

This is a common issue faced by auditors where a Fund only has 1 investment or the majority of the Fund is made up of 1 investment (eg a property). It would only be a breach of SIS regulation 4.09 if the trustees have not given consideration to diversification.

That is in relation to diversification you can qualify on this if the trustees have not considered diversification as part of their investment strategy.

I agree with your comment that it is important to remind the trustees in your management letter of the requirement for them to consider diversification as part of their investment strategy.

The audit report states in relation to regulation 4.09 re the investment strategy that "the fund trustee has an investment strategy, that the trustee has given consideration to risk, return, liquidity, diversification, the insurance needs of fund members, and that the fund's investments are made in line with that investment strategy. No opinion is made on the investment strategy or its appropriateness to the fund members."

The ATO did write to trustees back in 2019 where they were of the view that the Fund's investments may not be diversified (based on information in the annual return). The ATO also advised:

"What does having regard to diversification mean and can I invest all my retirement savings in one asset or asset class?

While a trustee can choose to invest all their retirement savings in one asset or asset class, certain risks such as return, volatility and liquidity risks can be minimised if a trustee chooses to invest in a variety of assets. This is called a diversified portfolio which helps to spread investment risk.

Investing the predominant share of your retirement savings in one asset or asset class can lead to concentration risk. In this situation, your investment strategy should document that you considered the risks associated with a lack of diversification. It should include how you still think the investment will meet your fund’s investment objectives including your fund’s return objectives and cash flow requirements.

Asset concentration risk is heightened in highly leveraged funds, such as where the trustee has used a limited recourse borrowing arrangement to acquire the asset. This can expose members to a loss in the value of their retirement savings should the asset decline in value. It could also trigger a forced asset sale if loan covenants (for example, the loan to valuation ratio) are breached.

Super laws also require trustees to invest in accordance with the best financial interest of all members. You need to be aware of any legal risks that may result from investing in one asset class."

Thanks

SMSF AAA