Buying property through your SMSF may have attractive tax benefits.
But while it may be a great way to buy your first investment property, if you don’t understand SMSF property law, you can unknowingly make mistakes that may be costly and tedious to fix.
Here are six traps to avoid when buying property through your SMSF.
1. Following incorrect advice from an “expert”
Almost 20% of complaints received by the Australian Financial Complaints Authority (AFCA) between 2019 and 2020 involved advice in establishing an SMSF and investing in property.
Some inexperienced property professionals may not fully understand the rules and regulations around SMSF property investing. So they may give incorrect or misleading advice. Unfortunately, you won’t be able to escape the consequences of following bad advice, because, as the saying goes, ‘ignorance of the law is no excuse’.
If this is the first time you’re buying an investment property through an SMSF, make sure you consult a reputable property professional like a lawyer specialising in SMSF property.
2. Setting up the wrong SMSF structure
An SMSF must be set up as either an individual trust or corporate trust. The members of the fund are the trustees. If you’re planning to use your SMSF to buy property, it’s important to choose the right structure. You have five options:
- SMSF direct
- Tenants in common
- Reg.13.22 trust
- Unrelated trusts
- Limited-recourse borrowing arrangement
Each has its own set of rules. Should you structure your SMSF incorrectly, it may hinder or prevent you from taking certain actions. For example, you won’t be able to borrow money from a lender to buy a property, unless you established it under a limited-recourse borrowing arrangement.
3. Buying an SMSF property from a fund member
SMSF property law prohibits you from using the fund to buy property from a member or a member’s relative or any other associates. Members are also not allowed to transfer assets they already own into the SMSF in lieu of cash.
There is one exception to this rule – buying ‘business real property’, or property that will be used for business purposes. This does not apply to unused property that is zoned for commercial purposes or vacant land planned for commercial development.
4. Ignoring the ‘sole purpose test’
Some new SMSF property buyers make the rookie mistake of buying a property thinking they can rent it to a family member.
According to the law, the sole purpose of buying property through an SMSF must be for investment purposes to accrue retirement funds. This means neither you, nor your fellow fund members nor any of your relatives may live in the property; also, you can’t rent it to anyone associated with the fund.
5. Making unlawful renovations
A common investment strategy is to buy a fixer-upper and upgrade it. If this is your plan, don’t make the mistake of buying the property under a limited-recourse borrowing arrangement. You are not allowed to use borrowed funds to make improvements that increase the property’s value. You can, however, make repairs and perform maintenance such as painting.
One way around this is if members pay for the renovations out of their own pockets. In this case, the value of the renovation must be recorded as a contribution made to the fund and will count towards contribution caps.
6. Trying to do SMSF property conveyancing yourself
Some investors try to cut costs by handling the property transfer themselves. Attempting property conveyancing yourself can actually cost you more if you bungle the process. SMSF conveyancing differs from standard conveyancing and it’s best to hire an experienced SMSF property conveyancer to manage the process.
Adam Zuchowski is a senior property lawyer with experience in self managed superfund conveyancing.
Sutton Laurence King Lawyers articles are intended to provide commentary and general information. They should not be relied upon as legal advice. Formal legal advice should be sought in particular transactions or on matters of interest arising from this article. Persons listed may not be admitted in all States and Territories.