Did you know it’s possible to buy an investment property through a self-managed super fund (SMSF)? An SMSF is a private superannuation fund that can have between one and four members. All members are responsible for decisions made about the fund and compliance with the relevant legislation.
It’s common for SMSF trustees to consider purchasing investment property through their fund. However, the process is often complex, particularly when it comes to borrowing money. Before buying property through your SMSF, you must be aware of the specific rules and regulations that apply.
Buying investment property with an SMSF
In order to buy property through an SMSF, you must abide by the following requirements.
The property must:
- Meet the ‘sole purpose test’ of solely providing retirement benefits to fund members
- Not be acquired from a related party of a fund member
- Not be lived in by a fund member or any fund members’ family
- Not be rented by a fund member or any fund members’ family.
While a property cannot be rented or lived in by a fund member or their relatives, most SMSFs are entitled to purchase their business premise, allowing trustees to pay rent directly to their SMSF at the market rate. This is particularly appealing to small business owners.
SMSF property sales often attract higher fees and charges, which can reduce your super balance. It’s important to be aware of any fees including legal costs, stamp duty, property management expenses and bank fees before signing up.
Borrowing money when buying property with an SMSF
It’s possible to borrow money when purchasing property through an SMSF, however it must be done under strict conditions referred to as a limited recourse borrowing arrangement (LRBA).
A LRBA involves an SMSF member taking out a loan to purchase a single asset, in this case a property, which is held in a separate trust. Any investment returns earned from the property go to the fund. If the SMSF defaults on the loan, no other assets are affected.
The SMSF fund generally needs to have a minimum balance of $120,000 to be able to purchase a property and an annual contribution of at least $15,000. In addition, most banks require an SMSF to have at least 30 per cent of the value of the property as a deposit and often charge a higher rate of interest.
As borrowing to invest can sometimes be considered high risk, it’s best to discuss your borrowing options and LRBA with a trusted financial adviser.
Recent laws affecting SMSFs
The ATO reduced concessional contribution caps in 2018, a decision that attracted controversy due to the already complex nature of SMSF contribution legislation.
Concessional contributions are the funds that go into your super account from your before-tax income. The concessional contribution limit is now set at $25,000, while the after-tax or non-concessional limit is $100,000.
The ‘bring-forward rule’ allows a trustee to contribute up to three years’ worth of non-concessional contributions in one year. This means the trustee can contribute $300,000 in one year as long as the total super balance (TSB) isn’t above $1.5 million and you complete the three-year period before turning 65.
If a trustee makes accidental excessive contributions, they cannot simply withdraw the excess amount. Doing this can result in being penalised for withdrawing funds from an SMSF when ineligible to do so. This is because a trustee has to meet a condition of release before they are able to withdraw from their SMSF.
To withdraw an accidental contribution, a trustee must apply for a condition of release with the ATO.
The way the ATO calculates a trustee’s TSB has also changed. In certain circumstances, an individual’s LBRA amount will be factored into their TSB if the loan contract was entered into on or after the 1st of July 2018. This will apply if:
- The LBRA is with an associate (relative, other member of SMSF, partner or company) of the fund. All members of the fund whose interest is supported by the asset purchased using the loan must include the LBRA in their TSB calculations.
- A member of the fund met a condition of release with a nil cashing restriction.
If your TSB is greater than $1.6 million, you can no longer make non-concessional contributions.
The ATO also made changes to the way an SMSF can buy assets such as property. A property purchased through an SMSF must be done on an ‘arm’s-length basis’, meaning that a transaction made by the fund must reflect the true market of the asset.
Any income made from that asset must also reflect the true market rate of return. For example, an SMSF trustee cannot purchase a house to be rented by their son at a lower rental rate. Any non-arm’s length income (NALI) is taxed at a higher marginal rate.
In 2018, the definition of NALI was expanded. From the 2018-2019 financial year and onwards, the income of a super fund will be taxed at the top marginal rate if trustees are not dealing with each other at arm’s length and the fund:
- Incurs a loss that is less than expected had the parties dealt with each other at arm’s length
- Incurs a loss to acquire a fixed entitlement to the income of a trust and that loss is less than expected had the parties dealt with each other at arm’s length.
Can you claim depreciation for an SMSF investment property?
There are tax implications when the trustees of an SMSF choose to invest in real estate. As with any other property investment, SMSF trustees who invest in real estate are entitled to claim capital works deductions for the wear and tear of a building’s structure as well as depreciation for any eligible plant and equipment items.
It’s important that SMSF trustees take advantage of the additional funds available via a depreciation claim. BMT Tax Depreciation can prepare depreciation schedules for trustees with an investment property to help maximise their claims.
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