Purchasing property using SMSF is becoming widespread. However, careful consideration is required before you decide to do this.
Make sure that it fits perfectly with your general investment strategy to prevent needless risk.
Property Purchases in SMSF 101
Properties purchased through super have become popular as a result of the Limited Recourse Borrowing Arrangements (LRBA).
Super funds are allowed to buy an asset, or a group of similar assets with identical market value, using borrowed monies. The beneficial interest in the assets purchased is received by the SMSF trustees. However, the holding trust has the legal ownership of the asset.
The good thing is your entire super fund is protected under LRBA in case the loan is defaulted. The manner that a debtor can recoup their funds is also restricted. Ask yourself these questions before proceeding:
- What type of property should you buy if you use your SMSF?
- What is your option if you don’t have a super fund?
- What benefits would you derive from creating an SMSF to buy property?
Owning a property in an SMSF offers many advantages. 15% tax will be deducted from your super fund on earnings, a rate that is significantly lower that majority of individuals’ personal tax rate.
The capital gains tax is computed at a reduced rate if the asset is divested during the accumulation phase. If the property is divested when the super fund is in pension phase, it is not taxed at all.
But before you start on establishing an SMSF specifically to purchase property, residential or commercial, you have to take note of some important things.
Buying a home in an SMSF
The first you should know is buying a residential property for you to live in, or a relative to live in, is not allowed.
There is a rule that the trustee of the fund, its members, or any family members, cannot benefit from the asset.
The only purpose of buying an asset is to support the fund’s investment strategy in growing wealth for retirement.
Is your super short of funds?
If you are considering purchasing a house but your SMSF does not have sufficient savings, or you prefer not to use an LRBA, another option is available to you.
In a Tenant in Common (TIC) process, you can divide the borrowing across your super fund and your family home.
For instance, if the price of the asset you want is $400,000, you are allowed to loan $200,000 against you family home and use $200,000 from your super fund under TIC.
Buying a commercial property in an SMSF
Usually, people utilise their super fund to purchase a commercial property to be rented back via their business. You have to be aware of a few specific conditions if you are considering this:
- No rental holiday: You can’t skip the rent when the market is down. You have to pay rent on time, all the time, in full.
- Commercially competitive: You have to be sure that the terms of the lease are commercially competitive. Leasing it back for “mates’ rates” to benefit financially is not permitted. SMSFs are regularly monitored and audited by the ATO to make sure all arrangements are compliant?
- Sole purpose test: The ‘sole purpose’ test must be passed by the investment. This purpose is to offer retirement benefit to the SMSF’s members.
- Valuations: The super fund’s compliance depends on routine valuations being conducted on the asset. This requires time and involves plenty of paperwork to accomplish.
Still going through with it?
In the end, the test decision to purchase an asset in an SMSF should be made rationally using facts and sound advice.
Ask these questions about your potential investment:
- Is the asset deemed a good investment?
- Will its value increase?
- What risks should I anticipate?
- What is the income?
To help you make a sound decision, hire a qualified, independent third party to review the potential investment and give you their honest opinion. You may not be able to get good advice from a person who would benefit from selling the property.
If you are considering buying a property, whether commercial or residential, using your SMSF, meet with one of our tax experts to guide you through the process. If you want to know more about super funds and how to use it to purchase asset, contact PJS Accountants.