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Adding value to your Self Managed Super Funds with property
02 May 2013
Australia’s love of property is well documented so it is not surprising that the number of people using a self-managed super fund (SMSF) to invest directly in commercial and residential property is growing steadily, with real property investment accounting for $70b or 15% of total assets invested in SMSF. 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 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 ought to be made with appropriate consideration for the risk appetite and retirement goals of the funds’ members. Borrowing to invest within your SMSF follows similar fundamental principles as borrowing to invest outside your SMSF.
Some of the key benefits of borrowing within an SMSF to invest in property are:
1. 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.
2. Increased Purchasing Power
Borrowing from within your super increases your SMSF’s purchasing power. This enables your SMSF to potentially purchase a property worth more than its available cash funds.
3. Loan Repayments
The repayment of the loan is able to be funded not only from tenant rental payments and other earnings of your superannuation fund but as well as employer and personal contributions of fund members.
4. 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.
Although there are plenty of benefits to gearing and owning property through your SMSF, there are a number of risks that need to be considered. Some of the inherent risks of borrowing within your SMSF include;
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 the diversification within your fund. The danger here 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 dangers.
3. Cash Flow
It is 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 is important that you receive financial advice to ensure your investment complies with all of the superannuation legislation and all risks are considered. Westpac can help. To find out more visit www.westpac.com.au/smsf
Important information: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. For this reason, any individual should, before acting, consider the appropriateness of the information, having regard to the individual’s objectives, financial situation and needs and, if necessary, seek appropriate professional advice.