How to purchase an investment property using your SMSF

An SMSF is a way for Australians to manage their retirement savings by investing in various assets, including real estate. According to a 2019 study by the Australian Tax Office (ATO), investment property makes up about 13% of the assets owned by the nearly 600,000 SMSFs. And the trend of buying property with an SMSF is growing!

Benefits and Rules of SMSF Property Investment

Investing in an SMSF has its perks, but there are rules to follow. You might wonder if you can live in the SMSF property you buy or if you can run your small business from it. We've created this guide to help you understand if this option is right for you.

How Does SMSF Work?

When you want to invest in real estate using your superannuation in an SMSF but don't have enough cash for the entire property cost, you can still proceed. The SMSF can cover extra acquisition costs and between 10% and 40% of the purchase price, depending on the property and lender criteria. The SMSF can then take out a "limited recourse loan," using the property as collateral to secure the loan.

The SMSF holds the property in trust and receives its income. It is responsible for repaying the loan over time. Once the loan is paid off, the property's legal ownership can be transferred to the SMSF for investment purposes.

Is SMSF Right for You?

Using an SMSF to buy property can be a great way to save for retirement, but it's important to consider your current wealth level. Before buying real estate through an SMSF, investors need to consider the fund's capital, cash flow, and borrowing capacity.

Ideally, the fund should be large enough to cover the property purchase and any unexpected expenses. Also, diversifying your superannuation investments is always a smart move.

What Type of Real Estate Can You Buy?

You can use SMSF funds to buy any kind of real estate, whether it's residential, commercial, or industrial. However, you can't use SMSF money to buy your primary residence. You can lease commercial space for your business, though.

Buying Investment Properties with SMSF

To buy a property with an SMSF, you must meet certain requirements:

1. The asset must be for the sole purpose of providing retirement benefits to its members.
2. The property can't be bought from a family member of someone contributing to the fund.
3. Family members of a fund member can't occupy the property.
4. The property can't be rented by a fund contributor's family member.

Most SMSFs can buy their corporate offices and rent them directly at market rates. But tenants or family members of fund members can't live in a home purchased by SMSF. This is appealing to small business owners.

Selling SMSF properties can involve extra charges and taxes, reducing the amount in your superannuation account. It's crucial to understand all costs, including legal, stamp duty, property management, and banking fees, before agreeing to anything.

How Much Can an SMSF Borrow?

The amount an SMSF can borrow for real estate investments depends on the lender's regulations, the fund's liquidity, and its ability to repay loans. Lenders often provide loans covering up to 80% of the property's market value, known as the Loan Value Ratio (LVR). This percentage can change based on the lender's assessment of the SMSF and the property.

To get the best borrowing conditions, SMSF trustees should evaluate their fund's financial standing and consult lending experts.

Lending Rules, Rates, and Providers

Before borrowing within your SMSF, compare SMSF loan providers, loans, and rates to ensure they fit your investment plan and financial goals. There are strict requirements for SMSF loans:

• Limited Liability Borrowing Arrangements (LRBAs): SMSFs can borrow money with certain restrictions. The lender's liability is limited to the asset bought.
• Lending Money from an SMSF: It's prohibited to lend money directly to members or affiliated parties.

Investing and Financing Your SMSF

To invest through an SMSF, you need a well-defined investment plan detailing the fund's objectives and how it plans to achieve them. You must also be aware of the Superannuation Industry (Supervision) Act of 1993 (SIS Act) compliance and regulatory obligations. Finally, consider the fund's diversification and risk profile, and adjust the investment plan accordingly.

Mortgage Brokers for SMSFs

A mortgage broker with extensive knowledge of SMSF lending is crucial when investing in real estate through an SMSF. Here's how they add value:

• Proficiency in SMSF Lending: SMSF mortgage brokers specialize in locating and arranging loans customized to SMSF needs, considering the stringent compliance and financing requirements unique to SMSFs.
• Regulation Knowledge: They know the SIS Act and its implications for SMSF borrowing arrangements.
• LRBAs: Limited Recourse Borrowing Arrangements let SMSFs borrow funds to buy assets, with the lender's liability limited to the asset.

Loan Sourcing & Negotiation

• Finding and Negotiating Loans: SMSF mortgage brokers have access to various lenders and can pinpoint those offering attractive interest rates and terms suitable for SMSFs. They negotiate beneficial loan terms, such as flexible repayment schedules and lower interest rates.
• Support for Compliance: Brokers help with the substantial documentation needed for SMSF loans, ensuring all compliance standards are met. They guide and uphold compliance throughout the borrowing process.
• Strategic Advice: SMSF mortgage brokers provide strategic guidance to ensure the borrowing arrangements align with the SMSF's overall investment plan. They also assist in planning future financial commitments like loan repayments and pension payments.

When to Consider an SMSF Loan?

Consider an SMSF loan if you want to invest in real estate but don't have enough cash or equity outside your superannuation account.

Tax Benefits:

• Voluntary contributions
• CGT considerations (Capital Gains Tax)

Points to Consider When Buying Property in Your SMSF

• Don't Put the Cart Before the Horse: Before making any investments, determine your SMSF's objectives and plan of action for achieving them. SMSFs must always follow a plan specifying the maximum direct property exposure allowed for the fund and the types of exposure permitted.
• Diversification: Ensure your investment portfolio is well-diversified to spread the risk and generate income for retirement.
• Use Caution When Buying and Using Property: SMSFs cannot buy residential property from anyone connected to the fund or use it for personal purposes. However, commercial property used for business purposes is allowed.
• Multiple Choices: If you don't have enough money saved to buy a house, consider other methods like tenants-in-common or linked non-geared unit trusts for property ownership in super.
• Get Everything Ready: Organize your affairs to prevent issues and raise the necessary stamp duty.
• Recognize Loan Limitations: Understand the limitations on improvements and developments to the property under a lease-back agreement (LRBA).
• Find Out Where Borrowed Money Came From Financing an SMSF property can be challenging, especially with big banks no longer lending to SMSFs for LRBAs.

Relationship Loans and Safe Harbour

Handling a loan from a connected party poses a risk. To avoid issues, ensure loan terms are benchmarked against commercially available loans or comply with the ATO's safe harbour principles.

Always Be Prepared for the Unexpected

Unforeseen events, such as a member's premature death or the breakdown of a partnership, may necessitate the forced sale of the property at an unfavorable time. It's important to plan for such events.

Benefits of SMSF Property Investment

• Increased investment control
• Risk-free borrowing capabilities with non-recourse loans
• 15% tax on net rental income
• There are no taxes on income or capital gains for people over 60
• Account modifications are permitted for SMSFs

New SMSF Laws

• The maximum contribution amount before taxes is $30,000.
• The maximum gift after taxes is $100,000.
• Under the "bring-ahead rule," trustees who meet certain conditions can bring forward up to three years' worth of non-concessional payments into one year.

Conclusion

Investing in real estate through an SMSF has several advantages, such as tax savings, asset diversification, and potential capital growth. However, it has complexities, including strict regulations, limited financing options, and liquidity issues.

Assessing the benefits and drawbacks of real estate investing through your SMSF while keeping your long-term retirement goals in mind is essential. Seeking advice from financial and legal experts can provide crucial guidance in making informed investment decisions.

Contact Nfinity Financials for the right financial advice.

FAQs

Q. Can I use my SMSF to purchase any kind of real estate? Yes, as long as the acquisition aligns with SMSF requirements, including providing retirement benefits to its members, an SMSF can purchase both commercial and residential property.

Q. I have an investment property. Can I sell it to my SMSF? Selling residential property you own to your SMSF is usually forbidden to ensure transactions are at arm's length, but you can sell commercial property to your SMSF.

Q. Can I sell myself property from my SMSF? Generally, you cannot sell residential property from your SMSF to yourself or any connected person due to the in-house asset and sole-purpose test criteria.

Q. Can I rent a home that my SMSF owns? You or any connected party cannot rent a residential property held by your SMSF. However, if you rent commercial property at market rates and adhere to SMSF requirements, your SMSF may rent it out to a related party.

Q. Can I own both an industry fund and an SMSF? Yes, having an SMSF and being a member of an industry super fund is possible, allowing you to utilize various retirement plans.

Q. How Do I Set Up an SMSF to Invest in Property? To set up an SMSF to purchase real estate, you must establish the trust structure, register the fund with the ATO, open a bank account, and create a compliant investment plan. You also need to get an ABN and TFN for the fund.

Q. What are the penalties for living on property owned by an SMSF? If you reside in an SMSF property without fulfilling the requirements, the ATO may impose harsh penalties, including fines, trustee disqualification, or the compulsory sale of the asset. Adhering to the ATO's SMSF property restrictions is crucial to avoid these penalties. For more detailed information, read our related Article or CONTACT US. You can also book a consultation call with us at 1300 GET LOAN.