It is becoming increasingly popular to borrow to invest in real estate through a self-managed super fund. There are many clients for whom this strategy is beneficial, as long as the financial plan addresses the limitations of this approach.
- Understand the restrictions: You’ll need to be very well read or well advised to ensure that you follow the strict rules for borrowing to buy an SMSF property. For example, you can ‘improve’ the property but not with borrowed money. You can ‘repair’ the property with borrowed money, but only to restore to modern equivalent. You cannot subdivide a property while a loan is in place.
- Identify the objective: Remember that the tax rate in super is only 15%, so negative gearing for a tax advantage shouldn’t be your sole objective. Loan repayments that need to be met with your own super contributions makes the strategy somewhat risky. You will need to consider what you would do if you lost your job and consider taking out extra income protection insurance.
- Plan for liquidity: Consider this scenario; you purchase a property in your SMSF, and by the time you reach 60 it is worth $1million with all debt paid off. At age 60 it is almost always best to move into pension phase, since all SMSF income, capital gains and payments to the member become tax free. To meet the minimum pension amount of 4%, you would need to access $40,000 cash per year after all costs of running the SMSF and managing the investment property. If this turns out to be unachievable, then you will either end up paying 15% tax instead of 0%, or else have to sell the property. Ensure you have a plan for your pension phase, so that you can avoid an undesirable quick property sale. Also be aware that your pension is dependent on the reliability and longevity of your tenants paying their rent.
On Balance: We’ve had many clients who have benefitted from borrowing to buy property in their SMSF, commonly business owners with commercial premises. The potential rewards will depend on your situation, so ensure you are receiving comprehensive advice. For more advice about SMSF’s contact me on 9908 9888 or wealth@edneyryan.com.au