Directly held property makes up approximately 19% of all SMSF assets, indicating that it is considered an important and significant part of a diversified portfolio. There are numerous strategies and ways for property to form part of your SMSF’s investments. It is imperative you are aware of the risks and returns and carefully consider whether property is suitable for your investment portfolio.
Investment strategy first!
Before any investment decision, it is imperative and a legal requirement that as part of your requirements as a trustee, you consider your investment strategy. Your strategy should detail such things as how much exposure you would like to the property market, the form of exposure and how appropriate it is for your current circumstances. A well-diversified portfolio is essential to provide income for retirement and spread investment risk so that any single asset class, such as property, does not dominate your SMSF risk and returns.
A common form of property exposure is direct investment into a property, in the form of either a residential property or commercial property. When purchasing a property within your fund, there are some important considerations you must work through, including:
- Your asset allocation and diversification
- Potential rental income and property expenses
- How close you are to retirement and the need for liquid assets to pay pensions
- Unless the property is a business real property (BRP) you or your related parties cannot use the property:
- If the property is BRP you may be able to work from the premises which is owned by your SMSF
- You may also be able to utilise the small business CGT concessions and contribution limits.
Another way to gain exposure to property for your SMSF is through indirect investment. This can include listed invested vehicles such as, listed investment companies and exchange traded. Managed investment trusts are also a common investment for SMSFs to gain exposure to property. Investing indirectly may suit your fund’s needs more than a purchase of a property because it is relatively simple and most likely will not require a large amount of capital. It also allows your fund to get exposure to large value properties such as office blocks, shopping centres and industrial properties that would otherwise be out of reach. Investing in these products should be accompanied by SMSF Specialist advice to ensure it suits your specific circumstances.
Limited Recourse Borrowing Arrangements (LRBA)
You may also invest in property within your SMSF through an LRBA.
A Limited Recourse Borrowing Arrangement (LRBA) is a complex borrowing structure that allows you to take out a loan from a third party lender. These funds are then used to purchase a property which is held in a separate trust.
The lender only has recourse to the property held in the trust – this is why the loan is “limited recourse”. An LRBA should only be utilised when it is the right structure for you and your fund on the basis of SMSF Specialist advice.
Some very important considerations in addition to the ones above include:
- Can your fund maintain the loan repayments over a long period of time considering asset returns, interest rates, liquidity, and contributions caps?
- Evaluating set-up costs and structures.
- Is your property valuation accurate?
- You cannot use borrowed money to improve the asset or change the nature of the property at any time.
- Do you meet the strict bank lending requirements?
- Typically, lenders require the SMSF to have a minimum of net assets of $200,000 or more and for the loan to have a loan to value ratio below 70%.
Seek advice from an SMSF Specialist
It is important to seek the advice of an SMSF Specialist in order to assist you in understanding the risks and returns involved with property investment within your fund. To find your nearest SMSF Specialist, use our Find a Specialist function.
Disclaimer: The information contained in this document is provided for educational purposes only, is general in nature and is prepared without taking into account particular objective, financial circumstances, legal and tax issues and needs. The information provided in this article is not a substitute for legal, tax and financial product advice. Before making any decision based on this information, you should assess its relevance to your individual circumstances. While SMSF Association believes that the information provided in this article is accurate, no warranty is given as to its accuracy and persons who rely on this information do so at their own risk. The information provided in this bulletin is not considered financial product advice for the purposes of the Corporations Act 2001.