6 common mistakes made when buying an investment property in an SMSF

More and more investors, and particularly Baby Boomers, are using their Self-Managed Super Fund (SMSF) as a vehicle to buy an investment property.

So I’d like to share some of the most common mistakes I see people making so you can avoid them.

1. Debt

Your Self-Managed Superannuation Fund (SMSF) can borrow money to:

a) Purchase a property (including all acquisition costs),Self-Managed Superannuation Fund
b) Pay for repairs and maintenance and
c) Capitalise interest.

You cannot use borrowed funds to improve the property.

Improvements include additions, granny flat, extensions etc.

For these activities cash resources of the fund must be used.

It is critical to keep good records in your SMSF to identify whether borrowed funds or internal cash is used.

When debt is used, the property must be held in a Holding Trust with a Corporate Trustee and not directly in the SMSF.

Apart from the legislative requirement to not hold the property in the SMSF there are real and practical reasons why you would not want to hold it in the SMSF.

2. Associated Party Loan

Many people use external funds to assist them in purchasing property in their SMSF by contributing the cash as a non-concessional contribution.

The problem is that once contributed you cannot get the funds back until retirement or worse still you cannot put in sufficient funds within the allowable limits.

You can, however, lend the funds to your superannuation which allows its release if refinanced and there is no limit on the amount of the loan.

The mistake that many people make is to lend the funds with a simple loan agreement.

The loan agreement must meet the limited recourse borrowing requirements of the legislation as well as clearly identifying all terms and conditions.

3. Renovations

Renovations which merely return the component back to a new condition are classified as ‘repairs’ for the purposes of the superannuation borrowing legislation.  renovation property

Therefore a cosmetic renovation which replaces the existing kitchen or bathroom is allowable even with borrowed funds.

The mistake often made is to improve the kitchen by say extending the bench area or knocking down a non-load bearing wall.

The latter two are deemed to be improvements and must use internal SMSF cash.

It is a simple matter to ask your builder to split the invoice to show the improvement as a separate piece of work which can then be funded with cash and not borrowed funds.

If a property is demolished and say a duplex is built or land is initially purchased and then a separate contract to build is entered into then these are changes to the original asset and cannot be done within the SMSF while there is still an outstanding debt on the property.

4. Life Insurance

Life InsuranceLife insurance premiums are tax-deductible in super.

A common mistake is to assume this is still valid if the SMSF fund takes out a policy to repay debt on the death of a member.

It is not.

For the premiums to remain tax-deductible they must not relate to the specific use to pay down the debt.

Insurance to effectively achieve the same outcome and be tax deductible is possible with the correctly worded SMSF and policy identification.

5. Stamp Duty

When the debt is paid down the property must be transferred from the holding trust into the SMSF.

Many states will charge stamp duty at the full property transfer rate.

With the initial use of additional documentation at the time of purchase, the second stamp duty trap can be avoided.

6. Purchasing from a memberPurchasing from a member

While the SMSF can purchase a residential property from a non-related third party, it cannot purchase a residential property off a member or related person of the member.

An SMSF can, however, purchase listed shares or business real property (commercial and industrial) off a member.

There will be CGT and stamp duty consequences to the sale, but in relation to stamp duty most states allow for a minimal stamp duty if the property is in the individuals name, and they are also the SMSF member.

GET THE RIGHT ADVICE…

If you’d like to know more – why not have a strategic discussion with me about your individual needs and let Ken Raiss formulate a Strategic Wealth Plan for you, your family or your business.

Just click here and find out more about Metropole Wealth Advisory’s range of services and book a time for your strategic consultation. 

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Disclaimer

This article is general information only and is intended as educational material. Metropole Wealth Advisory nor its associated or related entitles, directors, officers or employees intend this material to be advice either actual or implied. You should not act on any of the above without first seeking specific advice taking into account your circumstances and objectives. 

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Ken Raiss

About

Ken is director of Metropole Wealth Advisory and gives strategic expert advice to property investors, professionals and business owners. He is in a unique position to blend his skills of accounting, wealth advisory, property investing, financial planning and small business. View his articles


'6 common mistakes made when buying an investment property in an SMSF' have 12 comments

    Avatar

    August 9, 2020 Ian Smits

    Is there an age limit of the investment property you can purchase with smsf?

    Reply

      Michael Yardney

      August 10, 2020 Michael Yardney

      Any property purchase must fit in with your documented SMSF investment plan – but you can buy an established property and there is no age limit

      Reply

    Avatar

    January 29, 2020 Tracy Lewis

    We purchased a house in the SMSF, for holiday letting, using SMSF funds. We have since fully renovated, again using SMSF funds. Since the fund is registered for GST (as we also have a commercial property) can we claim the GST on the building/renovation expenses?
    Thank you very much.

    Reply

      Kenneth Raiss

      January 29, 2020 Kenneth Raiss

      Hi Tracy
      Transactions relating to commercial property are categorised as a Taxable Sale and as such GST is applied to the selling price and you can claim back the GST included in the goods and services paid for that relate to the property. Residential property (unless new) is categorised as GST Free which means you do not add GST to any revenue received i.e rent and you cannot claim back any GST paid on goods and services paid for. Your SMSF therefore has mixed supplies and you will need to separate the transactions relating to the commercial and the residential properties and only claim GST credits relating to the commercial property and you cannot claim the GST on the building/renovation expenses on the residential property. If you pay for services on one invoice amount that relate to both properties then you will need to split these and apportion the GST.

      Reply

    Avatar

    November 10, 2019 Loretta Jensen

    I am thinking starting a SMSF to buy an investment property outright and renting it to a family member, are there any rules that would prohibit this?

    Reply

    Avatar

    January 10, 2018 Velan Super

    Thanks for the useful info about SMSF.

    Reply

    Avatar

    November 20, 2017 GCC Home Loans

    Some of the most common mistakes has identified that are being made by individuals:

    Using the incorrect entity name on the front page of the sales contract
    Purchasing a property directly into an SMSF which has not been set up with a Bare Trustee arrangement
    Incorrect lending arrangements where the name of the lender is the incorrect entity
    Many SMSFs have been found with rental income and interest expenses coming or going into the wrong bank account.
    Using the property for personal use or allowing related parties to do so
    Lack of liquidity within the SMSF.

    Reply

    Avatar

    March 18, 2016 Rick Wraight

    Our SMSF owns ( with no borrowings) a single storey commercial premises.
    Can we use cash within our SMSF to build a residential flat on top of the premises. We would not strata the flat but just rent it out for the SMSF.
    Thank you.

    Reply

      Michael Yardney

      March 18, 2016 Michael Yardney

      Rick, I’m not licensed to give Superannuation advice and you ddefinitely couldn’t borrow to chaneg the nature of your property, but I belive you could use cash to undertake the construction

      Reply

    Avatar

    August 22, 2013 Carol Hansen

    I would like to know more about the additional documentation needed at the time of purchase to avoid the payment of stamp duty when a property is paid down and transfers from the holding trust into the SMSF.

    Reply

    Avatar

    April 27, 2013 ulrikemcd.revelife.com

    My partner and I stumbled over here different web address and thought I may as well check things out.
    I like what I see so now i’m following you.

    Reply


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