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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 LoanAssociated 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. 

investor-enquiry-form

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.



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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 5 comments

  1. Avatar for Property Update

    April 27, 2013 @ 4:19 am 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

  2. Avatar for Property Update

    August 22, 2013 @ 9:36 am 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

  3. Avatar for Property Update

    March 18, 2016 @ 7:35 am 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

    • Avatar for Property Update

      March 18, 2016 @ 7:55 am 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

  4. Avatar for Property Update

    November 20, 2017 @ 10:39 pm 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


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