Q: I’ve heard people say that buying property in an SMSF is better because of the tax benefits. We don’t have enough savings for a property and I don’t want to miss out on the property market. Do you think an SMSF is right for us?
We meet with many families in this situation and are asked this all the time. It’s not an easy question to answer because starting an SMSF isn’t so simple, although some people make it out to be!
What is an SMSF?
Self Managed Super Funds (SMSFs) perform the same role as regular “institutional” super funds. They invest and manage your super contributions and make them available to members after meeting a “condition of release” – usually at retirement age.
The biggest difference between institutional super funds and SMSFs is that the members of self managed super fund are also trustees of the fund. This means they control and managethe investment of their contributions, and are responsible for the payment of their retirement savings. This control is often what is most desired about an SMSF.
There are both benefits and responsibilities associated with having this level of control.
Benefit: In controlling how to investment the funds, trustees have increased flexibility over where funds are invested. For example, they have the ability to purchase direct property, which is not possible in existing institutional funds (note, there are still some restrictions to what can be bought).
Responsibility: Trustees of an SMSF must facilitate the legal establishment and regular audit/compliance requirements of their fund, and must manage the ongoing administration of the fund. These various roles can be outsourced to a collection of professionals and product providers, however these services come with a price-tag in the thousands each year. Trustees also retain the ultimate legal responsibility for the SMSF and are directly liable should something go wrong, even if the fund is being managed by a professional third party.
Who is an SMSF right for?
There are generally two reasons you might consider an SMSF for investing your retirement savings:
- Cost savings – institutional funds often charge investors a percentage-based administration fee. For larger super balances (above $500,00 for example) this can escalate into the multiple thousands. In these instances, using an SMSF structure with fixed cost administrative fees could work out to be less expensive. It’s common to hear people say that an SMSF is only worth considering for total balances over $200,000. If your driver is cost-savings, we’d suggest you have much more than $200,000 before it’s the best option for you.
- Direct Investment Strategy – investors who are trained and experienced in a direct investment strategy, such as direct property investment or trading financial derivatives, find sufficient benefit in being able to directly control their own super investments to outweigh the cost, the responsibility and the liabilities associates with running an SMSF. The direct investment strategies these investors use commonly involve increased risk, so great care is required when you invest your retirement savings in this way.
We often get asked whether property can be owned through a superannuation fund. The simple answer is yes. But not every person is well suited to owning direct property through their superannuation fund. In reality, most super funds already have sufficient exposure to property through a diversified portfolio (look out for “listed commercial property trusts”). This exposure means that your super is not necessarily “missing out” on the property market, even though you might not own a residential property with your name on the title deed.
Can I borrow in my SMSF
At this point in time (July 2015), trustees are able to borrow money within an SMSF for investment purposes, although restrictions do currently apply. Unsurprisingly, this has given rise to a surge in the number on non-complying SMSFs and an increasing number of property spruikers preying on ill-advised SMSF trustees. Borrowing in your SMSF is a big decision and should only be explored in consultation with a financial planner who can also advise you on the limitations of borrowing in an SMSF when purchasing a property.
Tax benefits of an SMSF
Tax is normally the carrot people are chasing when they explore the benefits of an SMSF. But it’s important to look at the numbers! Buying property through your SMSF doesn’t necessarily mean your tax position will be better off. In many instances, SMSF property investors miss out on significant tax benefits they could have been eligible for had they purchased the property in their own name. SMSF property investors often miss out on negative gearing benefits, and also pay much higher land tax as there is no tax free threshold for land tax in your super fund.
Long term, investing in property through your superannuation can be favourable, as super offers a flat 15% tax rate, rather than your usual marginal tax rate (often larger than 32.5% + Medicare levy). Furthermore, once you reach the “preservation age” for you super, you can move your investments into an allocated pension account, which has a flat 0% tax rate. Yes, that mean no tax whatsoever.
The SMSF-property-tax-benefits your hear people talking about are likely the ability to buy a property now, hold it through to retirement and pay no capital gains tax on it when you sell it. This is a legitimate strategy, and it does suit certain investors. But you also need to weigh up the potential benefits with the annuals cost of managing an SMSF, the additional costs of setting up a loan in your SMSF and the hassle of using various complex legal structures for your property investment.
To work out whether investing in property through an SMSF is right or not for you, give us a call on 1300 205 292 and we can discuss your situation in more detail.