Updated: Oct 22, 2018
Self-managed super funds are the largest sector in the Australian superannuation industry and the trend could well continue with around 32,000 new SMSFs being set up every year.
While people have generally always been able to buy property through self-managed super funds, what has changed in the past few years is that SMSFs can now borrow money to do so. This has meant that people are now able to use their SMSF to invest in properties they may not have previously been able to afford.
However, it's crucial to know whether an SMSF is right for you, and that's why we have outlined six things which you should keep in mind before setting up an SMSF. However, the following advice is of general nature, so be sure to contact us at 1300 707 955 if you would like SMSF advice that is tailored toward your needs and financial objectives.
The following factors should be taken into consideration when setting up an SMSF:
1. How much money do you need to get started?
As a general guide you need a minimum of $200,000 in existing super savings for an SMSF to be a cost effective option. That’s because on amounts under $200,000, the fees on a typical retail, industry or corporate super fund are generally cheaper.
It also ensures you will have enough money to allow some diversification in your investments. Putting all your super eggs into the one property basket rather than spreading a portfolio across other types of investment, can be a risky strategy.
Remember, this recommended fund size is based on the entire fund balance which includes the superannuation assets of all fund members (e.g. your spouse).
2. How much can you borrow?
Banks will generally allow SMSFs to borrow around 70-80 per cent of the property value, however it is more desirable to have at least a 50 per cent deposit so the property is positively geared or close to it.
Tax deductible personal super contributions, salary sacrifice contributions, and compulsory super guarantee payments made into your SMSF, as well as any rent your fund receives on the property, can all be used by your SMSF to help cover the loan repayments.
It’s also important to have a sound strategy in place to pay the property off over time.
3. What are the benefits of an SMSF?
If you buy a property through an SMSF the fund will pay a maximum 15 per cent tax on rent it receives from the property. On properties held for longer than 12 months, the fund receives a one third discount on any capital gain it makes upon sale, bringing any capital gains tax liability down to a maximum of 10 per cent.
Once fund members start receiving a pension at retirement – assuming they’ve held the property in the fund for this long – the fund will no longer pay tax on either rental income or capital gains when the property is sold.
4. Who is it not right for?
Purchasing property through an SMSF is not advisable for people who don’t have a large enough lump sum to allow diversification of their investments. Ideally you would allocate a percentage to other investments such as shares and/or term deposits.
And, borrowing through an SMSF may not be a good idea for low-income earners who are really going to stretch themselves in terms of cash flow.
5. Things to weigh up
With great power comes great responsibility and there is no doubt that managing an SMSF successfully requires a lot of expertise, time and money.
Further, there is rigorous auditing and reporting requirements for an SMSF and the ATO can impose harsh penalties for those who do not comply, so it is vital you get appropriate tax, legal and financial advice. Penalties for non-compliance are severe (up to a 45% tax penalty and the risk of prosecutions). Trustees must therefore keep a very close eye on their fund. This is, again, a burden that can be reduced by making use of professional services.
If you are considering buying a property within an SMSF, the first step should be to speak with a financial adviser about whether this strategy would suit your investment goals, timeframe and feelings about risk.
Buying property through an SMSF can be a powerful way to build your superannuation, ensuring you will be able to live the life you want in retirement. However it’s important to be clear about your obligations and have the time, money and ability to meet them.
To explore managing your own super and determine if it would suit you, please call us at 1300 707 955 or email firstname.lastname@example.org for a no-cost, no-obligation consultation where we can tailor a financial plan around your needs and financial objectives.