Traditionally, property investment inside an SMSF has been for commercial property, usually the operating premises. Recently we have seen a rise in promotional activity in borrowing for residential property in SMSF’s.
Bank of Qld CEO Stuart Grimshaw gave recent warning about a rising trend in using leverage within SMSFs to buy residential property, particularly in Brisbane and Melbourne.
A recent private equity group’s newsletter stated:
“As an example, we sold out our most recent project in 6 weeks (46 townhouses) with 70% going to self-managed super fund investors. Sales rates are up across the board as long as the investment property is under $450,000 and has a rental yield of over 5%.”
ATO data shows SMSF ownership of property increased from 15.8% to 16.4% and gearing increasing from 29% to 34% by end of March quarter 2013
Like any investment you need to consider if this is the best strategy and what alternatives are available. In this report we compare Property and Shares.
Property vs Shares
- High upfront and ongoing costs of purchasing property
- stamp duty, loan fees, estate agent fees
- legal fees to establish custodial trust and documents
- repairs, insurance, rates, real estate/management fees, etc
- tenancy risks, damage to property and lack of income
- Property position is based on long term capital growth not dissimilar to shares
- Cannot borrow 100% – so 20%+ deposit required for property. Shares may need protected lending component – upfront cost, or use Self Funding Instalment Warrant
- Property may get more favourable interest rates
- Tax advantage of franking credits makes shares the winner from a purely income perspective.
Owning Property in SMSF
- Diversification – issues if property is the only asset
- Liquidity – ensuring SMSF can meet liabilities (including death benefit payments)
- Cash flow – rental returns vs expense obligations or pension payments – hard to generate positive cash flow with property
- Risk – property market conditions, insurance (death benefits & property/landlord insurance)
- Tax – capital gains tax, stamp duty, GST – possible introduction of new SMSF pension income limits– sale of property could trigger penalty as realised in one single year.
- Some lenders may impose a premium because of limited recourse nature of property
- Best practice would be to keep LVR under 60%
- ATO considering whether ‘nil or low interest’ contracts breach rules
- Advisers cannot just ‘sign off’ on a borrowing arrangement; they risk their license if they don’t conduct a full analysis of the strategy and its appropriateness for your SMSF.
As always, seek professional advice to fully understand the benefits and risks of any investment strategy. For more information call 02 6686 4144.