Australia’s love of property is well documented, so it’s not surprising the number of people using a self-managed superannuation fund (SMSF) to invest directly in commercial and residential property is growing steadily, with real property investment accounting for over $93bn or approximately 15% of total assets invested in SMSF.1
Alongside this, share market volatility, changes to borrowing rules for property and low interest rates are all adding to the attraction of including property within SMSFs. There are a number of key benefits which may make property a good vehicle for long term investments within your fund.
Owning property through your SMSF typically involves the fund acquiring a residential or commercial rental property which is leased to unrelated tenants, as fund members or relatives generally can’t rent a residential property from an SMSF because of the in-house assets test. Alternatively, it could involve the fund acquiring a related party’s business premises through which you or another fund member operate a business, and leasing it back to the business at a market rate.
Changes to superannuation legislation in 2007 have enabled super funds to borrow to fund investments via a ‘Limited Recourse Borrowing Arrangement’ (LRBA), subject to the fund meeting strict criteria. Deciding to gear within your SMSF is an important decision, and should be made with appropriate consideration for the risk appetite and retirement goals of the fund’s members. Borrowing to invest within your SMSF follows similar fundamental principles as borrowing to invest outside your SMSF.
Benefits of borrowing within an SMSF to invest in property
1. Increased Purchasing Power
Borrowing from within your super may increase your SMSF’s purchasing power. This enables your SMSF to potentially purchase a property worth more than its available cash funds.
2. Loan Repayments
The repayment of the loan can be funded not only from tenant rental payments and other earnings of your superannuation fund, but also from the employer and personal contributions of fund members.
3. Asset Protection
Under a Limited Recourse Borrowing Arrangement, in the event of default other SMSF assets are secure as the lender does not have recourse to any of your SMSF’s assets apart from the purchased property.
4. Tax Concessions
Gearing within superannuation may provide several tax advantages.
- Rental Income – due to the concessional tax rate that applies to superannuation investment earnings, rent received by your SMSF will be taxed at a maximum rate of 15%.
- Deductible Expenses – loan interest payments and certain expenses related to the ownership of the property such as land rates and property maintenance may be a deductible expense of your SMSF.
- Capital Gains Tax – special tax rates also apply to any capital gain made as a result of an increase in a property’s value. As such, depending on when you decide to sell the property, any capital gain your fund makes on the sale of the property will be taxed at 15%, or even be tax free if you are in the pension phase of your fund.
Although there may be plenty of benefits to gearing and owning property through your SMSF, there may also be a number of risks that need to be considered. Some of the inherent risks of borrowing within your SMSF include the following.
1. Investment Risk
While borrowing to invest can magnify your returns, it can also magnify your losses if the investment makes a negative return. Members need to be investing in a way that maximises returns, whilst taking into account the risk with each investment.
Depending on the size of your SMSF, purchasing a single property could have a major impact on diversification within your fund. The concern is that if your property suffers a major drop in value, the value of your entire SMSF balance will suffer a similar drop. It is important to have your SMSF sufficiently diversified to avoid such risks.
3. Cash Flow
It’s important to consider the fund’s capacity to meet current and future expenses, such as insurance premiums, property repairs and maintenance, tax liabilities and loan repayments. Trustees need to ensure that either the fund holds sufficient cash or the members have capacity within their contribution caps to make additional superannuation contributions to meet any shortfall.
4. Property Restrictions
There are restrictions on whether the property can be improved, developed or sub-divided whilst there is a loan attached. Before borrowing to invest into property via your SMSF, it’s important to seek good advice to ensure your investment complies with superannuation legislation and all risks are considered.
5. Moving from accumulation to pension
When you move from accumulating towards retirement to being in retirement and drawing a pension from your SMSF, you need to consider whether holding a property in your SMSF is still appropriate, as cash flow needs will increase as benefits are paid out. Also, there may be implications to how much can be held in a pension if the SMSF still has a debt owing on the property.
For more information, please call 132 135.
1. As at 30 June 2016, Australian Taxation Office Self-managed super fund statistical report June 2016
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Things you should know
The information does not take into account your personal objectives, financial situation or needs and so you should consider its appropriateness, having regard to your personal objectives, financial situation and needs having regard to these factors before acting on it. Any taxation consideration outlined in this presentation are general statements, based on an interpretation of the current tax law, and do not constitute tax advice. The tax implications of the relevant products mentioned in this presentation can impact individual situations differently and you should seek specific tax advice from a registered tax agent or registered tax (financial) adviser.
BT Portfolio Services Ltd ABN 73 095 055 208 AFSL 233715 (BTPS) operates Panorama Investments and administers Panorama Super. BT Funds Management Limited ABN 63 002 916 458 AFSL 233724 (BTFM) is the trustee and issuer of Panorama Super, which is part of Retirement Wrap ABN 39 827 542 991. Westpac Financial Services Ltd ABN 20 000 241 127 AFSL 233716 (WFSL) is the responsible entity and issuer of interests in BT Managed Portfolios. Westpac Banking Corporation ABN 33 007 457 141 AFSL and Australian credit licence 233714 (Westpac) is the issuer of the BT Cash Management Account (BT CMA). Together, these products are referred to as the Panorama products. A Product Disclosure Statement or other disclosure document (PDS) for the Panorama products can be obtained by contacting BT on 1300 881 716, or by visiting bt.com.au. You should obtain and consider the relevant PDS before deciding whether to acquire, continue to hold or dispose of interests in the Panorama products.
In addition, BTPS is the provider of the SMSF Establishment Service and the SMSF Administration Service. A Guide and Terms and Conditions is available for each of these services by contacting BTPS on 1300 881 716.
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