Investing in real estate with a self-managed Superannuation fund
So, you have set up a Self-Managed Superannuation Fund (SMSF) and want to invest in real estate. Provided your superannuation fund trust deed allows the purchase of real estate the following is a brief overview of some of the things you can and can't do and the rules you need to be aware of around investing into real estate:
1. The Sole Purpose Test
An SMSF must have a at least one core purpose and can have ancillary purpose and the fund must be maintained to meet these purposes. A core purpose can be for example provision of retirement benefits to members and an example of an ancillary purpose can be provision of benefits as a result of ill health.
If you buy property on behalf of your SMSF the sole purpose of that purchase must be to meet the core and ancillary purposes of your fund.
Here are some examples:
I want to buy an investment property and rent it out to generate income for the fund.
- The rental income from your investment property will increase the fund balance and therefore the amount available for payment of benefits once they become payable. On the face of it this transaction meets the sole purpose test.
I want to buy a holiday house, use it for family holidays and rent it out on Airbnb when we don't use it.
- As generating income for the fund is not the sole purpose of this transaction it does not meet the sole purpose test.
2. Acquiring property from related parties
An asset the fund acquires from a member or someone related to a member is called an 'in house asset' and there are very strict rules around these types of assets. In-house assets cannot exceed 5% of the total value of assets held by the fund. There are exceptions but you need to be very careful when acquiring in-house assets and get advice from your accountant and solicitor to make sure you do not fall foul of the rules.
Here are some examples:
My brother owns an investment property I want to buy for $500,000.00. My SMSF currently has $1 million in assets.
- Any asset you buy from your brother will be considered an in-house asset. The value of the property would represent 1/3 of the total value of the assets of the fund after the sale goes through and is clearly above the threshold for in-house assets. This transaction breaches the rules governing SMSFs.
I run a business and own the property the business is run out of. Can I transfer the property to my SMSF?
- There is an exemption to the in-house asset rules for business real estate. You can transfer business real estate you are using to run your business into your SMSF on the following conditions:
- You lease the property from your SMSF under a written lease; and
- The lease is on commercial terms
3. What is Limited Recourse Borrowing?
You want to buy an investment property on behalf of my SMSF but the fund does not have enough money. Someone mentioned 'limited recourse borrowing' to you as a possible solution. Here is what you need to check and how it:
Check your trust deed
- You can only borrow money to buy property on behalf of the trust if your trust deed allows this.
- The loan and Mortgage must be structured in a way which means the bank (or other lender) only has 'recourse' to the property bought with the loan funds in case you can't repay the loan and any other property the fund owns is safe from the bank.
- The way this is achieved is through a 'Bare Trust'. You will need to have a custodian trustee (a person or a company) that buys and holds the property in his/her on trust for the ultimate beneficial owner, the SMSF.
- That trustee must be different from the trustee of the SMSF.
- The bare trust only holds the one asset – the property it is buying.
- The bank or lender enters into a loan agreement with the trustee of the SMSF, which is the borrower and responsible for repayment of the loan, but the loan documentation states that only the property held by the custodian trustee can be called on in the event of a default.
- Because of the limited recourse the bank has banks will often also require personal guarantees from third parties, for example the directors of a company trustee. This can have serious consequences for the guarantors if the SMSF defaults as their liability is usually not limited.
As you can see, investing in property on behalf of your SMSF can be a minefield if not done correctly and you should always speak to your solicitor as well as your accountant and financial adviser.
If you want to know more give our experienced property team a call on 1300 366 441.