What to Look for in an SMSF Investment Property (Residential)

If you’ve ever considered purchasing residential property in your SMSF, you would already know the ‘golden rule’ which is that you cannot occupy the property. In other words, it cannot be lived in by any fund member or parties related to the fund member. That includes short term rentals, which means members cannot make use of a holiday home purchased through an SMSF, even in the ‘off-season’.

However, there are plenty of other rules that add complexity to the process of choosing an investment property for your SMSF. I will outline a few here but I strongly recommend you seek professional advice if you intend to purchase a property through an SMSF as it can be very easy to make a mistake – and those mistakes can be costly.

Define your strategy upfront

I’ve talked previously about the different strategies you can adopt when purchasing an investment property. Specifically, I looked at investing for rental yield compared to investing for capital growth.

When it comes to buying property in an SMSF, this conversation is magnified, because interest rates are generally higher for SMSF loans. For example, if you are solely focused on rental yield, you may find it difficult to achieve real gains while rates remain high.

Having a clear strategy for your SMSF property purchase is incredibly important, because you are legally required to prepare an investment strategy for your fund. Under superannuation laws, the trustee of the fund must explain how the investments meet the SMSF members’ retirement objectives.

You can adjust your strategy as you age – in fact, an annual review of your investment strategy is generally recommended – so you may want to revisit your SMSF investment strategy before you start your property search.

Consider things like how long until you retire, whether you are planning to sell the property in retirement or prior to drawing down on your SMSF, and whether you have sufficient diversity in your portfolio. For example, if you are many years from retirement, you may choose to purchase a property with high capital growth potential over the long-term.

Beware the fixer-upper

Unlike other types of property investment, where you can add value through renovations, there are limitations on the work you can carry out on a property held by an SMSF.

First of all, you should be clear about how you intend to fund the purchase. If you are borrowing to invest, ie: using a Limited Recourse Borrowing Arrangement (LBRA), you cannot make alterations that result in the property becoming a different asset, until you pay off the SMSF property loan. For example, if a residential house were to be transformed into a medical practice or restaurant, these would be considered renovations that substantially change the character of the property and therefore would not be permitted.

However, if you purchased your SMSF property outright (eg: using funds from the SMSF) you are free to make whatever changes you would like. Of course, you need to consider where the funds for the renovation will come from. If the improvements are funded by the member, not the SMSF, then the value of the improvement will count towards contribution caps.

The rules are also different depending on the type of work being carried out, and whether it can be defined as ‘repairs’ or ‘renovations’. Repairs are permissible using borrowed monies, renovations and construction are not. Repairs are those works that are necessary to ensure the continued functioning of the property in its present state. This would include actions required to prevent future deterioration or damage. In contrast, renovations are improvements that alter the property for the better to a significant degree. This includes adding features like a shed or deck.

Calculate your property expenses upfront

If you purchase a property through an SMSF, you must always have sufficient liquidity to meet your property expenses. This is why it’s useful to calculate the annual expenses associated with the property before you enter the contract.

Property expenses can include:

• loan repayments and bank fees
• insurance premiums
• rates
• property management fees
• body corporate fees and charges
• property maintenance
• pest control

So, it may be prudent to avoid properties with high strata fees, or that require significant upkeep (eg: have a pool).

While you may be able to claim a tax deduction on property expenses you need to be careful with possible tax losses, as these cannot be offset by your personal income outside the fund.

Where can I go for help?

As you can see, purchasing a property in an SMSF is not a simple exercise. A lot goes into selecting a property that meets your needs. As a specialist in SMSF borrowing, I have developed a thorough understanding of the rules and regulations that impact LBRA and SMSF property. I have also cultivated a number of professional relationships with accountants and financial planners whereby we work together to achieve the best possible outcome for the SMSF trustee. I can help you connect with expert help or can work with your existing advisors so that your property purchase proceeds as smoothly as possible.

For more tips and tricks to help you reach your financial goals faster, follow me on LinkedIn or reach out for a chat.