Property Investing

The SMSF chooses the property to be purchased, obtains a loan approval (where applicable), and finalises their purchase through their solicitor as they would with a purchase by a natural person. However, the purchase needs to be in the name of the property trustee as the property is held in trust for the SMSF by the trustee.

The deposit, remaining balance of the price of the property, stamp duty, and any other costs are then paid by the SMSF.

The property is by definition mortgaged by the trustee to the lender. The SMSF is then in charge of managing the property as any superannuation fund would any type of investment or asset. As such, it’s responsible for ongoing costs associated with loan fees and repayments, maintenance and repairs, property management, land tax and rates.
The SMSF has a right to acquire ownership of the asset by payment and receives all the income associated with the property, such as rental income. When the mortgage has been repaid, the title of the property can be transferred to the SMSF.

All inflows and outflows of money go through your SMSF bank account.

Super contributions are paid in by your employer (or you can contribute privately)

Rent is paid in by the tenant, tax on rental income goes out to the ATO and loan repayments are paid back to the lender.

NO – Your SMSF is not allowed to purchase a residential property from a trustee or member of the fund or a related party, and cannot lease the residential property to a trustee or member of the fund or a related party. So your fund cannot buy your own home or your existing investment property from you.

YES – Your SMSF can purchase ‘Off the Plan’ property such as an apartment as long as the deposit and costs such as the stamp duty to secure the purchase are not borrowed (existing funds are required) and once the apartment is completed and strata titled, finance can be used to complete the purchase in line with the bank’s lending requirements.

YES, SMSF requires an investment strategy. An investment strategy is a set of rules or guidelines as to how a trustee intends to invest funds and contributions on behalf of members to achieve their objectives.

An investment strategy can be simple, but it must include actionable strategies to: maximise member investments; provide diversification across asset classes; include a strategy for paying benefits and maintaining liquidity; and take into account each member’s term to retirement, at minimum.

An investment strategy may also define a set of criteria or hurdles (for example yield, lease terms, asset size, etc) in order to draw a line between what is, and is not, acceptable as an investment by the SMSF. This may also extend to specific due-diligence requirements as part of the overall property investment strategy for a fund.

Trustees can set their own strategies, or where they need help they should seek help from a professional superannuation specialist, property specialist or financial adviser.  Without a strategy, trustees will not be able to determine how direct or indirect property fits into their SMSF portfolio, or what exposure they need to maintain at particular stages in life with respect to when members retire.

The good news for business people is that an SMSF is allowed to invest in, or buy your business premises, provided it is used wholly and exclusively for the business.

A superfund cannot purchase or run a business. It is a direct breach of the Superannuation Industry Supervision (SIS) regulations, attracting heavy fines from the ATO. However, a SMSF can indeed purchase the property in which a business is being conducted.

When a superfund buys the business premises of its member, the business simply becomes the tenant and pays the SMSF a commercial rate of rent. If a mechanic owned a factory from which he run his business, his SMSF would be allowed to purchase that factory from him because it would qualify as business real property. This would free up additional working capital to the business owner to expand the business. It can also facilitate the transfer of an attractive long-term real property asset into the superannuation as an investment.

When deciding to transfer business real property into their SMSF, trustees must take into account:

1. their overall fund investment strategy
2. how this will affect all members
3. how it will affect liquidity; and
4. Whether such a transaction will dilute their diversification benefits through creating a concentrated exposure to one asset.

Generally speaking, a superannuation fund cannot develop the property.  However, should a potential development represent a small portion of the fund’s total value and is in line with the investment strategy, incorporating all the other assets in the fund, it may be successfully argued that it is appropriate.

Due to the complicated nature of the process, specialist advice is highly recommended in order to take into account individual circumstances of the members and their fund, as well as the specific profile of any proposed development activity.

In September 2007, S.67(4A) was inserted into the Superannuation Industry (Supervision) Act 1993 (SIS Act), under which SMSFs became eligible to borrow in order to acquire a property as long as they complied with a number of provisions.

Recent changes to superannuation legislation now allow SMSFs to borrow to acquire assets including residential and commercial property to support their investment strategies subject to meeting a number of requirements.

Under the new guidelines, an SMSF borrows funds to acquire an asset, for example, a residential and/or commercial property. A separate trust is established to hold legal ownership of the property on behalf of the SMSF. These trusts are generally referred to as security trusts or warrant trusts. A loan is then arranged to meet the balance of the purchase price (plus costs) that the SMSF is not providing. The SMSF becomes the beneficial owner and manages the property as it would any other real estate investment.

The loan is a limited recourse loan and the property asset is used as security. In the event of a loan default, the lender only has recourse to the residential and/or commercial property. They cannot claim any other SMSF assets.

SIS law is very strict about residential property owned in SMSFs as an investment, including holiday property investments. They simply cannot be used by members or any related parties. Members including their family, associates and business partners are restricted in using the assets of the fund unless they are business real property, and then only if they are solely used for business purposes by a member or related party, and only where commercial rates of rent and lease terms are being provided to the SMSF which owns the asset.

In retirement, people need an income and a place to live. One of the most fundamental superannuation questions is whether a member can acquire a residential property asset in their SMSF that will eventually become their retirement home.

The answer to this question is it may be possible providing you have undertaken the necessary steps.  We would recommend you speak with an SMSF Specialist Adviser before you consider buying property to retire in.

As with all investments in a complying SMSF, because contributions and investments in the fund are preserved until retirement, they enjoy the beneficial superannuation tax regime.

Just like negative gearing in an individual’s name, the SMSF would benefit from the same tax benefits, that is, the tax deduction for the negative component of the interest, and depreciation; however, the biggest benefit is CGT. Should the fund hold the asset longer than one year and then decide to sell it then CGT drops from 15% of the gain down to 10%, and if sold in the pension phase (generally over 55 years of age) CGT is 0%.

The beneficial superannuation tax environment means that income and capital gains earned from a property held in an SMSF provide greater reinvestment value, being the difference between a member’s individual tax rate on income and capital gains, less the tax rate they pay within the superannuation environment.

The 2 main aims we have when selecting investment property for our clients are Capital Growth and Property Affordability.

Some people will tell you to buy land or a house as this will have the best capital growth, in some cases this is true. We must, however, also consider affordability; you don’t receive an income from land such as house blocks and thus in most circumstances can’t claim any benefits or costs associated with holding it.

Established houses are generally fair investments however will probably give you more troubles regarding Property Management, and cost you more to hold as generally, the returns are nowhere near as good as a new or near new apartment.

For SMSFs we generally recommend OTP or new apartments, townhouses or houses as they have high initial returns (rental income/cost) compared to established houses and are also easier to maintain and easier to let as there is a larger pool of tenants looking for quality new or near new apartments, townhouses or houses in the inner suburbs.

We have found that in some instances investors on an average income can buy a new apartment in suburbs within 1-12 kilometres from CBD and have it cost them as little as $10 to $40 a week after their tax benefits without noticeably affecting their cash flow. This is especially important when buying in an SMSF.

The best way to answer this question is to provide you with an example of how buying a property using LEVERAGE works compared to buying shares using your existing super balance.

Let’s say you had $200,000 in your family self managed super fund. You use the money in your super as a deposit including all costs to buy a property, the bank then lends you the rest.

So let’s say you wanted to buy a property worth $500,000, you could put in $175,000 which equals 30% plus costs, and the bank lends you $350,000 to complete the purchase.

Now your super balance has increased from $200,000 to $525,000 because the bank has loaned you the money. So in this scenario, if your fund made a 7% capital growth before you purchased your property, i.e. if you had your money in shares or cash, the increase in capital value on your $200,000 fund would be $14,000. Whereas, if you take that same 7% return and invest it within your SMSF on a property, the increase on your capital value in your super would be about $36,750. That’s a $24,500 or 162.5% difference in return.

It is also important to note that your loan repayments will be repaid by the tenant in rent, plus your personal, employer or tax-deductible super contributions. This demonstrates that substantially increasing the value of your fund (using leverage), significantly increases the potential for return on your investment in retirement.

The ATO has recently announced that it will be stepping up its compliance program for trustees of self-managed superannuation funds (SMSF’s).

Trustees that are found to be in breach may be fined or the fund could lose its favourable tax status and be taxed at the top marginal rate.

75% of all SMSF contraventions fall into six categories:

Loans to members or relatives (19%)

SMSF’s are prohibited from lending money or providing any financial assistance using the fund’s resources to a member or a member’s associate. For example, payment of personal expenses by the fund.

Breaches of in-house asset rules (16%)

An SMSF cannot acquire or hold in-house assets that are valued at more than 5% of the market value of total assets. In simple terms, an in-house asset is a loan, investment, or lease arrangement with a related party. If a fund has in-house assets, a review is required on a yearly basis to determine if the assets remain below the 5% level.

Assets not in the name of the trustee (14%)

The fund’s assets cannot be held in the name of the individual or corporate trustees in their own capacity but must be held in their capacity as the trustee of the fund. If the assets are not in the correct name, the fund’s assets are placed at risk as they are not identified as being owned on behalf of the fund.

Documents requested by auditor not provided (11%)

If the auditor requests a document in writing from the trustees, each trustee must ensure that the document is given to the auditor within 14 days of the request being made. This applies only to documents that are relevant to the preparation of the audit report.

Breaches of sole purpose test (8%)

An SMSF must be maintained solely for the purpose of:

• each member on or after their retirement; or
• a member’s legal personal representative or the member’s dependants after the death of the member.

The fund is not permitted to provide many benefits to a member or their associate (e.g. renting a residential property owned by the fund to a member, or hanging artwork owned by the fund on the member’s wall).

Unauthorised borrowings (7%)

 An SMSF is generally prohibited from borrowing money or maintaining an existing borrowing of money. An exception is instalment warrants, and even with these, trustees must ensure they comply with the very strict rules. 

For those projects that we decide to take on, we have a marketing agreement with the developer that ensures we are paid for the work that we do.