Superannuation is an important contributor to the long-term financial security of Australians. It’s been designed as a low-tax, investor-friendly vehicle to help fund a comfortable retirement for millions of people.
While it is mostly a win for Aussies, there is one fly in the ointment. Most of the money invested via superannuation ends up in stocks and securities, but plenty of people would rather devote their self-managed superannuation fund (SMSF) balance to investing in real estate.
The challenge is that the space is highly regulated. While protections are a good thing, it does mean you must be right across the rules and regulations before you use your SMSF for real estate investment.
Here are the guidelines to help explain this SMSF option.
Before we proceed, I need to point out that none of this article should be considered investment advice. You must talk to your own qualified advisors about your specific circumstances before proceeding with any investment plan, particularly in relation to your SMSF.
Property buying rules
There are strict criteria for buying property using your SMSF.
Firstly, it must meet the sole purpose test of exclusively providing retirement benefits to fund members (i.e, you). For example, you can’t buy a holiday home in the fund that you rent back from the SMSF at a reduced rate simply so you can take more vacations.
In addition, the property can’t be purchased from an SMSF beneficiary or a related party. For instance, buying your parents’ home in your SMSF to help fund their retirement is not allowed. Similarly, you can’t purchase a home and then rent it back to you or your relatives. This closes a loophole that would effectively see your super balance devoted towards providing shelter to yourself or a family member.
There is more flexibility when it comes to commercial property and your ability to utilise your fund. SMSF rules allow you to buy a commercial premises in the fund and then lease it back to your business, but it must be at market rental rates.
Financing your SMSF property
It is possible to secure finance to purchase real estate in your SMSF, but again there are some very strict guidelines surrounding this.
The term you need to be familiar with is ‘limited recourse borrowing arrangement’ (LRBA).
LRBAs allow a SMSF trustee to take out a loan and use those funds to acquire a single asset which is then held in a separate trust. Investment returns earned from the asset go to the SMSF trustee.
If there’s a loan default, the lender can only seek recourse via the asset held in the trust. This protects your other SMSF assets from being seized.
There are risks and considerations attached to borrowing in an SMSF. For starters, loan arrangements tend to be more costly in terms of fees and charges. In addition, you must ensure the fund generates enough cashflow to meet the expenses (e.g. loan repayments, insurances) of holding that property investment.
You must also ensure there is a way for the SMSF to repay the loan in the event of your illness, disability or death, or if rental vacancy becomes an issue. This can include holding enough liquid assets in your SMSF balance to cover these expenses.
There’s also no ability to offset tax losses generated by the property against your personal taxable income. All elements must be contained within the fund.
In addition, you can’t alter or renovate the property in a way that changes its fundamental character until its loan is paid off in full.
Given the complexities related to holding property assets in your SMSF, I have a few top tips for investors.
First and foremost, always consult specialist advisors when doing anything in your SMSF. This includes accountants, licensed financial advisors, solicitors and mortgage brokers. The penalties for non-compliance – even if it’s inadvertent – are severe.
Next, know your numbers. It’s important you are right across your SMSF’s balance sheet and assets and liabilities statement. You need to know there’s enough cashflow, liquid assets and insurances to cover you if things go awry.
Finally, understand all the risks and challenges before proceeding. Lean on your advisors to set out what can go wrong and how you can progress if things aren’t working out the way you’d hoped.
SMSF property investing can be a lucrative option to fund your retirement, but wise investors do not act without qualified professional advice.
Finding a great broker requires a little effort on your part, but it will pay handsome dividends in terms of finance success. If you’re looking to secure funds for your next purchase, why not reach out to our team at Intuitive Finance for a chat.
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