By Colin Lewis, Head of Strategic Advice, Fitzpatricks Private Wealth
May 2024

Careful when investing your super in more unusual assets

Frederick Flintstone runs a diamond retail and wholesale business, specialising in pink diamonds.

Having expertise in this field, Fred wishes to invest in diamonds via his SMSF.

He proposes to acquire the diamonds from his business and in due course sell them back to it to be made into jewellery.

This scenario poses some interesting issues.

Can Fred’s SMSF invest in diamonds?

Fred, as trustee of his SMSF, is free to choose the type of assets his fund invests in, providing those investments are not prohibited by superannuation law, meet the sole purpose test, are permitted by the fund’s trust deed, and are consistent with its investment strategy.

This includes investing in assets which are classified as collectable or personal use, however, strict rules apply to the acquisition, storage, insurance and use of these assets which sees many trustees shying away from investing in them.

Investing in pink diamonds may be a lucrative proposition to potentially make significant gains given their rarity, but if they’re considered collectable or personal use assets, then the red tape to cut through to invest in them can be onerous.

What are collectable or personal use assets and what’s the fuss?

Super law is specific – it applies to jewellery, artwork (e.g. paintings, sculptures, drawings, engravings and photographs), antiques, artefacts, coins, medallions and bank notes if their market value exceeds their face value, postage stamps and first-day covers, rare books, manuscripts and folios, memorabilia, wine and spirits, motor vehicles and motorcycles, recreational boats and memberships in sporting or social clubs.

Gold and silver bullion products are not considered collectables because they’re not usually bought for fun, but as an investment. However, it’s different with bullion coins if their market value exceeds their face or nominal value, and they’re traded at a price above the spot price of their metal content.

Storage, use and access

Collectable and personal-use assets must be for the benefit of members in their retirement or to pass onto their dependent beneficiaries when they die – like any fund investment.

SMSFs holding these assets must therefore comply with rules that restrict where they are stored and how they are able to be used and accessed, ensuring compliance with the sole purpose test.

As collectable and personal-use assets must not provide any present-day benefit for SMSF members or related parties, they cannot be used by or leased to them. And they cannot be stored or displayed in the private residence of a member or any related party.

Say your SMSF owns a painting. It cannot be stored or hung in your home or the home of a related party, but it can be leased out to a gallery provided the gallery is not owned by a related party and the lease is on arm’s length terms.

And if your SMSF owns a vintage car, you or a related party can’t drive it, even to take it for servicing or for restoration work but a non-related party can.

Decisions on where these assets are stored and why must be documented by the trustee, ensuring appropriate storage has been considered and the investment is directed towards producing retirement income or capital gains rather than providing current-day enjoyment for members. This record must be kept for 10 years.

These assets must be valued at market value when preparing the fund’s annual accounts and financial statements.

Insurance

Collectable and personal-use assets must be insured within 7 days of acquisition by an SMSF, and the policy must be in the trustee’s name – they definitely cannot be insured under the trustee’s home and contents policy.

Sale of a collectable

Collectable and personal-use assets can only be sold or transferred to a related party if it’s done on commercial terms and the asset is first valued by an independent qualified valuer – a non-related party with a formal valuation qualification or with specific knowledge, experience and judgment as recognised by their professional community.

Given the stringent requirements and additional documentation for these assets, SMSF trustees investing in them are generally those who have particular expertise in the area and are confident investing members’ retirement savings in assets they know well.

Are Fred’s diamonds collectable or personal use assets?

Last year, the ATO was asked if pink diamonds are classified as collectable or personal use assets.

Natural diamonds, including pink diamonds, held in loose form are not considered collectable or personal use assets under super law, and thus do not have specific storage and insurance requirements.

This only applies to diamonds held in loose form, meaning they cannot be mounted, integrated into, or used as an item for adornment or other purposes which would be inconsistent with them being held in loose form for investment purposes.

Can Fred’s SMSF acquire diamonds from his business?

Super law prohibits the acquisition of assets from a member or other related party of the fund – even on an arm’s length commercial basis.

There are a few exceptions to this rule, such as listed securities, business real property and ‘in-house assets’ that does not result in acquiring more than 5 per cent of the fund’s assets, but clearly doesn’t include diamonds.

Importantly, this prohibition is not restricted to the physical purchase of an asset – ‘acquire’ includes any means by which the fund becomes the legal and equitable owner of the asset and thus captures transfers in via specie contributions.

So, whilst Fred’s SMSF may invest in diamonds, it cannot buy them from his business, nor can they be contributed to the fund. The trustee will need to acquire the diamonds from a non-related third-party on commercial terms.

And Fred’s business cannot sell the diamonds to a non-related party and have his SMSF buy them back because super law prohibits a trustee from entering into an avoidance scheme to acquire assets from a related party.

Can Fred’s SMSF sell the diamonds to his business?

There is nothing in super law preventing Fred’s SMSF from selling diamonds held in the fund to his business, provided it’s done on an arm’s length commercial basis.

So, Fred’s SMSF may invest in diamonds provided they’re acquired from a third-party supplier on an arm’s length basis.

The fund will not be subject to the strict rules and additional documentation required for collectable and personal use assets. Despite this, best practice for protecting fund assets means that Fred should still hold adequate insurance and consider appropriate storage for any diamonds the fund acquires.

And if Fred’s SMSF sells the diamonds to his business, whilst they don’t have to be first valued by an independent qualified valuer, the trustee must still be able to demonstrate it’s done on an arm’s length basis.