Most people have now heard that Self Managed Superannuation Funds (SMSF’s) have become more popular for retirement savings, property investment vehicles and for structuring borrowing inside super to buy property.
As at September 2015, SMSF assets held under a borrowing arrangement were estimated by the Australia Taxation Office (ATO) to be $18 billion, representing approximately 3% of total SMSF assets of $576 billion.
Why has this boomed over the past 10 or so years? In 2007, the ATO relaxed the borrowing rules within SMSF’s, this can now be done through a limited recourse borrowing arrangement (LRBA).
What is a LRBA?
Basically, it requires a SMSF trustee to take out a loan from a third party lender to buy a single asset. This asset is held separately to the SMSF (in a separate Trust).
Why is this the requirement?
If the loan defaults, the third party lender can only recover the debt against the single property, i.e. the rest of the SMSF’s assets are protected.
I can talk you through how this works but let’s face it, if you are going to do this you will engage a solicitor and accountant to help you out. So I wont bore you with the detail interms of setting up a SMSF, corporate trustee of the SMSF, bare trust, corporate trustee of the bare trust, etc. Let me outline the most important things you need to know about this type of arrangement:
A property inside super is meant to provide for your retirement. That is and has to be the sole purpose of your SMSF. You can never live in the property, or stay in the property. If you are buying an investment property/holiday home, don’t buy it in your SMSF. Save yourself some money now and buy it outside of super as you will eventually need to change it and you will need to pay double stamp duty!
You cannot transfer a residential property that you own yourself into the SMSF. Residential property purchases need to be off a third party. Commercial properties are ok.
Commercial properties that your business occupies are ok. These are the one of the best types of arrangements you can do because you will be the worlds best tenant.
If you are thinking of transferring your commercial property into your SMSF, you could potentially be up for capital gains tax (CGT) but there are ways around minimising stamp duty on the transfer. Make sure you consult an expert on this to avoid paying unnecessary costs where they could be avoidable.
Buying property inside a SMSF obviously has its tax concessions. Rental income is taxed at 15% or 0% if you are in pension. Capital gains are taxed at 10% or 0% if you are in pension phase.
Further to point 5, if you are negatively gearing your investment property, the tax benefits of doing this inside your SMSF aren’t as good as what you would get outside of super.
We live in a very litigious world. There is no shortage of legal cases going on at the moment. Having assets held inside super gives you great protection from creditors in the event you are sued.
Lending criteria varies from bank to bank however generally, banks will lend you 70% of the price of the property. It is also common to need an extra 10% of net assets, in your SMSF post settlement. A mortgage broker can help provide solutions for both of these limitations. As an estimate, if you are establishing a new SMSF with just enough cash available, you could say they will lend you 60% of the property price. Additionally, you cannot use your existing property/s as security for the purchase of a new property inside your SMSF.
Further to point 6 above, an often under utilised strategy that can enable you to buy a higher value property inside super is by using a structure called a non-geared unit trust (NGUT). Basically, you can setup a new NGUT, buy the property under this trust, use as much cash as you can to purchase a percentage of the trust inside your SMSF and the remaining portion is purchased through personal funds, either through savings or via borrowing against an existing home or an investment property. Then over time when either funds build up inside the SMSF or you contribute extra funds into your SMSF, your SMSF can purchase units off yourself to transfer a percentage of the ownership of the property over to your SMSF.
Borrowing criteria differs lender by lender. It is important to consult a mortgage broker to ensure the bank you are going through suits your needs. For example:
a. Lender A– confirms loan servicing criteria with just your super fund contributions and rental income on your property, applies a standard variable mortgage interest rate, doesn’t need personal assets and liabilities and requires a personal guarantee from the SMSF members;
b. Lender B– includes your personal income streams and your personal liabilities and commitment, applies a commercial interest rate, requires all personal assets and liabilities to be notes and doesn’t require any personal guarantees.
When you sign your Contact of Sale on the purchase of the property, the name that goes on the contact is the Bare Trustee for the Bare Trust. Not the SMSF.
It is important to get advice from your solicitor to make sure you do not pay double stamp duty, i.e stamp duty on the purchase of the property and stamp duty on the subsequent transfer of the property from your Bare Trustee for the Bare Trust to your Trustee of your SMSF.
Properties that are purchased using an LRBA cannot be significant changed, i.e. you cannot do major renovations to the property.
An estimation of the costs involved to undertake this type of arrangement is between $5,000-$10,000. This includes accounting fees, legal fees, ASIC fees and the like. This does not include stamp duty. Therefore, it is hard to justify doing this for a property around the $200k-$300k mark.
In summary, as you can see, there are many benefits of buying property inside super and doing this through a borrowing arrangement. In saying this, it doesn’t suit everyone. It can be very costly if you go by this the incorrect way. Due to this and the fact that it is a very complex issue, you need to talk to your financial advisors before taking action.