Is Property a Suitable Investment for Your SMSF? - dummies

Is Property a Suitable Investment for Your SMSF?

By Trish Power

In recent times, some sections of the superannuation industry have expressed concerns about the level of interest in property investing by self-managed super fund (SMSF) trustees. The main concern seems to be surrounding the use, and potential growth in use, of a special type of indirect borrowing available to SMSF trustees.

Investing directly in property has always been a feature of SMSF investing, although over the past 10 years, the percentage of total SMSF assets allocated towards property has remained within a fairly narrow band of between 12 and 16 per cent of total SMSF assets.

A property investment generally delivers two types of returns to an investor, such as a SMSF. Your fund receives rent income from tenants in return for leasing the property, and your fund may receive a capital gain on the sale of the property. A capital gain occurs when an investor sells an investment for more than was paid for the investment after taking into account, buying, selling and holding costs.

Generally speaking, direct property is a suitable investment for a SMSF since this category of asset has played a significant role in the investment strategies of many SMSFs. As a SMSF trustee, the more important question to ask is whether investing in property is suitable for your SMSF, and for your SMSF members.

Taking into account your fund’s investment strategy

Deciding whether a property investment — such as a house, flat or shop — is suitable for your SMSF depends primarily on your fund’s investment strategy, which needs to take into account important considerations including your fund’s risk profile, your fund’s policy on diversification, and any cash flow requirements (for example, fund expenses and benefit payments). You also need to consider the tax implications of any property investment.

When investing directly in property, you also need to factor in the time necessary to manage the property, even when you appoint a real estate agent to manage the property for you. Depending on where the property is located, you may also have to allow for periods where the property may be vacant, or allow for repair costs when they arise.

Unlike listed shares, if you need to sell a property it can take a few months to find a buyer and you have to include the buying and selling costs of the property when working out any capital gain, or loss, on the sale of the property.

If your SMSF purchases a residential property, note that your immediate family or other relatives can’t rent that property from your super fund.

Can your SMSF borrow to buy property?

You need a lot of money to invest directly in a residential property or a commercial property. Since 2007, SMSFs have been permitted to use a limited form of borrowing known as a limited recourse borrowing arrangement (LRBA). Limited recourse means that if your fund gets into trouble with repaying the loan, the bank or other type of lender can only claim the asset purchased with the LRBA rather than other fund assets as well.

Some LRBA providers seek personal guarantees from SMSF trustees.

A SMSF can use an LRBA to invest in any type of asset that is permitted under the super rules, but the majority of LRBAs are used to purchase property.