Issues an investor needs to understand when purchasing a property with debt within Super – Ken Raiss
The following article goes through the issues an investor needs to understand when purchasing a property with debt within super. It is important to appreciate that as a specific property is being purchased the investor must use a self managed super fund (SMSF) and not their retail and or industry fund, as they need to have control to make this sort of specific investment. The SMSF should also have a company as trustee.
On 24th September 2007 the Federal Government introduced new legislation to allow superannuation funds to borrow under certain conditions.
The ATO issued additional guidelines on 7th July 2010 explaining what they interpret the borrowing arrangements apply to, including the definition of what constitutes an asset and how a loan structure needs to be set up and administered. There were a number of significant items in the 7 July 2010 guidelines three being that (a) you had to hold the property outside of the SMSF in a Holding Trust with a company as trustee (b) you could not do a renovation on a property “held” in the SMSF that was subject to a loan and (c) you cannot replace an asset which has been destroyed, say by a natural disaster.
The 7th July 2010 guidelines defined an asset to be a single acquirable asset (SAA). The interpretation of a SAA by the ATO significantly restricts what asset can be purchased and how it is managed. This guideline meant that a renovation (with cash or borrowed funds) was not allowable if the property was secured with debt, as the renovation changed the asset and as such, it was no longer the same asset that was originally purchased eg the property. This ATO position is in part the genesis of much of the industry concerns about the guidelines.
On14th September 2011 the ATO released additional draft guidelines (SMSFR 2011/D1) in answer to industry concerns. The new guidelines amongst other things, now allows renovation if non borrowed funds are used. This is a major improvement to the legislative interpretation for property investors. This means that the SMSF can do a renovation with cash resources within the fund.
The position on borrowings is now much clearer but there are many areas that are not. Any investors contemplating purchasing a property in super with debt needs to get specific advice, including whether the actual property being considered fits within the borrowing rules.
The superfund deed must also be reviewed to ensure it allows for borrowings, and the documentation needs to be carefully prepared so as to not inadvertently trigger double stamp duties and CGT liabilities when the loan is paid off.
The borrowing must be limited recourse which means that no other Superfund asset can be used as security; the superfund member can go guarantor on the loan or give other non superfund assets as security if required.
The SMSF can use debt to purchase any non prohibited asset. The principle exclusion is a residential property off a member or associate of the SMSF member. The SMSF can however purchase business real property off a member.
The latest guidelines also clarify where debt can be used in relation to the property. Debt can obviously be used to acquire the property. Debt can also be used to do repairs, maintenance and to capitalise interest.
Difficulties arise when looking at off the plan (OTP) and house and land packages. It is allowable for the SMSF to use its cash resources to pay a deposit, and on completion of the construction borrow the remaining balance less any additional amounts from the SMSF to finalise the purchase. If land is purchased first (cash and or debt) with a second contract to build, the original asset being the land cannot be built on using debt.
Repairs and Maintenance
If the property was originally acquired by the SMSF using a borrowing arrangement, additional borrowings are permitted for repairs and maintenance. However, if the property is not subject to a loan then new borrowings for repairs and maintenance are not permitted.
The draft ruling notes that an asset may be bought in a state in which a part of the asset is defective, damaged or suffering some deterioration of what would be considered to be its normal level of functional efficiency. Accordingly, the Tax Office says a restoration of that part of the asset to its functional efficiency would be a repair (and not an improvement) for limited recourse borrowing purposes.
If the investor is looking at buying a “renovator’s dream” they need to be cautious as the ATO states that a substantial renovation of a rundown property would improve the functional efficiency of the asset as well as substantially improving its value and therefore, would amount to an improvement for which borrowings under the limited recourse borrowing rules would be prohibited.
While you cannot borrow to improve a single acquirable asset that is the subject of the limited recourse borrowing, the ATO in its latest ruling confirms its thinking that funds from within the SMSF can be used to improve the property. Caution is required in that the improvements cannot result in the property becoming a different asset. This will limit the type and size of any renovation
Please note that the 14th September guidelines are only in draft form so investors will
need to seek specific advice as to its use, and keep a watchful eye on any final ruling by the ATO.
Please contact Chan & Naylor Australia to organise an appointment to discuss what structure would best suit you 1300 250 122 or firstname.lastname@example.org
Ken Raiss will also be presenting at The Echoice Buying Property with your SMSF Workshop in Sydney.
Don’t miss this opportunity to listen to Australia’s leading experts on Self Managed Superannuation, Finance and Property. Let our experts educate you and a friend and show you how to substantially improve your superannuation.
Make your hard earned money work for you by taking charge of your super. NOW more than ever , people need to be making the right decisions when planning their financial future.
PLUS just for registering and attending, you will receive an unlimited 2 tickets for the price of 1 movie voucher valid for 6 months (1 per couple) and the popular Updated Ebooklet Buying Property with Your SMSF .
Complimentary tickets for clients and feel free to bring a friend
Details for this event are as follows:
Tuesday 11th October | 6 – 9:30pm
The Sebel Parramatta
350 Church Street, Parramatta
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Please contact Bianca 1300 250 122 or email email@example.com
for further information.
If you intend to rely on any of the information in this document to satisfy liabilities or obligations or claim entitlements that arise, or could arise, under a taxation law, you should request advice from a registered tax agent. This information does not take into account your individual objectives, financial situation and needs. You should assess whether the information is appropriate for you and consider talking to a financial adviser before making an investment decision. The information contained in this document is given in good faith and is believed to be correct at the time of publication, but no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors or omissions (including responsibility to any person by reason of negligence) is accepted by Chan & Naylor, its officers, employees, directors or agents.