With improved changes to allow Self-Managed Super Fund (SMSF) borrowing, specifically called Limited Recourse Borrowing (LRB also known as LRBA with “Arrangement” added) in 2007, buying property with your SMSF is becoming a very popular strategy, and more people want to know what property investments are allowed.
Updates in the lending rules allow borrowing to buy property under certain arrangements. One main reason people are interested is that it allows an increase to the size of super fund assets using leverage and has the potential to substantially increase their final superannuation balance using residential or commercial property.
The Superannuation Industry (Supervision) Act (SIS Act) is the act (and associated Regulations) that set the compliance rules for your SMSF. Due diligence must be taken to ensure you invest correctly without breaching the SIS Act.
Most importantly and as a start, your SMSF must have a Trust Deed AND an Investment Strategy by the SIS law, that allows it to invest in direct real property. As a responsible trustee, one must prepare and implement an investment strategy for their SMSF as per the SIS Act. Remember that an investment strategy needs to show the purpose behind the strategy and how it will benefit the members of the SMSF (the sole purpose test).
When gearing is involved in the purchase of a property a “bare” or “holding” trust (or a custodial trust) must be set up to hold the new asset until it is no longer required as security (after the loan has been paid off) and many lenders require a Corporate Trustee for the Bare Trust as well. Our Loan Brokers can help find the loan that suits your situation, with no obligation.
What Types of Real Property are Allowed?
- Residential Property or Real Estate – Houses, units, and semi detached;
- Commercial Property – Factory, warehouse, business leased premises, eg professional building such as medical centre (also known as business real property).
Some Restrictions to Comply With – You CANNOT:
- Acquire a property from a person or entity that is related to a trustee member of the SMSF (ie relative or associate by some connection);
- Rent to yourself, a related party or related entity or associate;
- Acquire your own home;
- Acquire your existing holiday home;
- Acquire your existing investment property (will have to be sold at market and re-purchased by the SMSF);
- Purchase land and then construct a property with borrowings as it is not considered one single asset at the time;
- Upgrade, improve or change the asset to change its nature or the type of asset, eg update a family home to a boarding house.
Some Things You CAN Do:
- Purchase a property outright without borrowings if the SMSF has enough funds for full price and purchase costs;
- Purchase Business Real Property from YOURSELF or RELATED parties – at market value, which is a property that is wholly used by one or more currently running businesses. For example, purchase your business premises where your business operates from and then lease it back to your business. Examples include a warehouse, a retail store or a medical surgery;
- Rent business real property to YOUR business at market rental rates;
- Purchase off the plan – This is considered a “single” asset – Progress payments are not allowed. The deposit and costs such as the stamp duty to secure the property are typically paid using existing cash funds in super. The property is held in the name of the bare/custodian trust and when completed finance can be arranged to complete the purchase in line with the banks limited recourse lending requirements;
- Pay for maintenance and repair with borrowings, to keep the property in efficient state.
Things to be Aware of With Borrowings
- Valuation Risk: The property may not value up when it is completed (or upon purchase) later-on (say 6-12 months when completed and ready for settlement, otherwise the whole super fund could be in a position of losing the deposit if it is unable to settle on finance. A cash buffer just in case the banks value it down depending on the property market or at the time the property completes is a good safety measure;
- Occupancy Risk: A loss of tenant or no tenant at all can give cash flow pressure on the SMSF. Always keep Landlord Insurance to reduce this risk;
- Borrowing Risk: Rising interest rates may mean the fund cannot meet the repayments of the loan, or the rent decreases or you lose a tenant. Once again a cash reserve is wise.
As with all investments, proper research and due diligence are the best way to ensure the property asset stacks up in order to provide a benefit to the fund and its members (sole purpose test). It is advisable to study the population trends, infrastructure, demographic and economics of a location or suburb, but if you have limited time it can still work to outsource it to one of our property consultants who can show you where to buy and work to your SMSF needs.
Stay compliant with the provisions of the ATO and stick to the SMSF rules so you don’t put yourself and your retirement assets at risk. Read the ATO guide and SIS Act clauses to be sure (these rules are in section 67A and B of the SIS Act).
Want to learn the core issues of SMSF and Property Investing? SuperBenefit and Property Friends have combined to present this special seminar which includes: What’s involved, what is a Self-Managed Super Fund (SMSF) and is it for me? Property Friends have developed a system that delivers investment returns so reliably that they are guaranteed, regardless of market conditions. For dates and times see Property Boost to Super or call 0407 361 596
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