Traditionally, SMSFs grow their funds through a variety of investment strategies like shares, term deposits, managed investment schemes, derivatives, collectibles and more. Investing in property was a less popular choice due to the large amount of funds required to purchase one. Since 2007 however, superannuation laws in Australia have allowed SMSFs to borrow money to invest in property, making property investment yet another viable option for growing a SMSF.
If you’re looking to grow your SMSF, here’s why you should consider purchasing property:
- Possibility of generating high returns, thus maximising your retirement income.
- Minimum taxation on the rental income that the SMSF property earns.
- Not affecting your personal savings since the cost of purchasing the property and maintaining it are borne out of the SMSF.
- Interest paid on loans, insurance, maintenance and other expenses related to the property are eligible for tax deduction. This will considerably bring down the tax you owe on your SMSF earnings each year.
- Availing a discount on the capital gains tax if you happen to sell the property before your retirement, and if the property is sold when in retirement, no capital gains tax is applied.
Residential, commercial and industrial property can be purchased through a SMSF however must pass the ‘sole purpose’ test – meaning the property should have been bought solely for providing retirement income to the SMSF members. Purchase of the property should not directly benefit the trustees or people related to them in any way so trustees cannot live in nor rent the property to fund members or any other person related. The only exception to this is a SMSF member can purchase a property that their business operates out of and pays rent to the SMSF at current market rates.
What if your SMSF does not have sufficient funds to buy property?
You can use a Limited Recourse Borrowing Arrangement (LRBA) to fund the purchase. A LRBA is a type of loan where a SMSF trustee takes a loan from a third party lender to fund purchase of a single asset. The asset, in this case the property, will be held in a separate trust from your other SMSF investments. In case of loan default, the lender can only use the property purchased via the loan and any other security offered against the loan to recover the loan value. The other SMSF assets and investments will not be at risk.
Ideally, SMSFs should have a sizeable fund value before investing in property. While this is a good investment option, you may still want to have a diversified portfolio so as to minimise your risks. Also, consult professional help if you have decided to invest in property to ensure you are not putting your SMSF at any unnecessary risks. Remember that any non-compliance can invite a high penalty, leading to substantial loss of your fund money.
When done right, property investment can be a great way to maximise your retirement benefits. If you are considering making a property investment through your SMSF and want to know the dos and don’ts regarding property investment in SMSFs so that you are never at risk of being non-compliant, let us know and we’ll be more than happy to guide you through.