For Australians trying to grow wealth for retirement, self-managed super funds (SMSF) are becoming increasingly popular. From a relatively paltry 271,515, the number of SMSFs in Australia now stands at 531,059 as of June 2014, according to the Australian Taxation Office (ATO). There are now more than 1 million SMSF members.
SMSFs aren't only a vehicle through which to establish a secure retirement, however. Thanks to a law change in 2010, Australians can now make use of the funds stored up in their SMSFs to start investing in property. By leveraging your super savings in order to buy property, you're not only making it easier to expand your portfolio - it's also a proven method of growing your overall wealth.
But before going into more detail, it may be better to take a step back and go over the basics.
What is an SMSF?
An SMSF is a superannuation fund designed to help you prepare for retirement. Unlike a regular super fund however, which is run by a professional fund manager, an SMSF has the unique advantage of being operated by its beneficiaries. You and up to three other people (such as your partner or another family member) can be trustees in an SMSF, giving you greater control and flexibility over the management of the account.
The benefits of property investment through an SMSF
Using an SMSF to purchase real estate has a number of advantages. On the property investment side of things, some investors have seen their property be solely funded by the savings in their SMSF, coupled with the rental income from the property. Not only that, but there is the potential to generate higher capital growth on the value of the property through this strategy.
There are also significant tax benefits. With an SMSF-bought property - which, ideally, will be neutrally geared - your rental income will be taxed at the more favouarble maximum rate of 15 per cent. Not only that, but if you sell the property once you've started receiving a pension from your fund, the resulting profit generally won't fall under the capital gains tax.
Finally, using the funds stored up in your super fund in order to become an Australian property investor can be good for your wider portfolio. You'll both expand and diversify it, keeping it better shielded from risk. And remember, all other assets held under an SMSF are generally exempt from debt recovery.
By using an SMSF, you can not only leverage that money to borrow for a property and achieve investment goals that would otherwise have been out of reach, but you can also grow your retirement fund.
How does an SMSF work?
You can choose either a corporate or individual trustee structure. It's recommended you set up the account with an accredited corporate body. This will help alleviate some of the responsibility pressures that come with running an SMSF.
In addition to this, you'll also need to:
Create an investment strategy, outlining how the fund will achieve retirement needs and providing a framework for decision-making
Obtain a trust deed, which sets out the rules for operating the fund
Register the SMSF with the ATO and open a bank account for the fund
There are also costs associated with its running.
What are the costs?
It's recommended you have substantial super savings before opening an SMSF in order to cover the various expenses involved. These include:
Ongoing fees and expenses associated with reporting
For instance, if you take a more hands-off approach, you'll need to pay an administration fee to an adviser. You'll also have to pay an annual SMSF supervisory levy, cover insurance if it is purchased through the SMSF and pay any advisory costs if you seek out professional guidance.
In addition to this, there are expenses associated with the yearly reporting of the fund to the Australian Securities and Investments Commission (ASIC):
An annual review fee paid to ASIC
Paying an independent auditor to do the yearly audit of your SMSF
What are the reporting requirements?
The annual audit mentioned above is probably the most important reporting requirement for an SMSF. You'll need to hire an independent auditor each to check your SMSF's accounts, statements and compliance, and provide them with the necessary documents.
SMSFs have strict record-keeping requirements, partly for this reason. Some documents, like accounting records, need to be kept for at least five years while others, like trustee declaration, have to be held onto for at least 10.
As well as the audit, SMSFs have to lodge an SMSF annual return, which reports income tax, regulatory information and member contributions for the fund.
How to get started
If you're interested in starting an SMSF, get in touch with an SMSF professional who can help you set it up. Most people speak with an accredited financial planner, who can get the process started, as well as help them come up with an investment strategy.
You might also speak with an accountant, who can help you get the necessary paperwork together for registration. Meanwhile, a lawyer or other legal practitioner can help you draft the trust deed.
Your SMSF property investment efforts can start at DPN, where we can put you in touch with all of the relevant professionals.
How to purchase an SMSF investment property
If you're already running a successful SMSF, then the next step is to find a suitable property to invest in. DPN can provide you with a free property investment plan to get you started, presenting you with viable options for where to put your SMSF funds.
There are restrictions on the type of property you can purchase with an SMSF. The property must meet the sole purpose test, meaning it must only provide retirement benefits for the fund's members. This means members or any of their "related parties", in the words of the Australian Securities and Investments Commission, cannot live in the property, whether renting or not. In addition to this, the property cannot have been obtained from a "related party".
Before making any property investment decisions with an SMSF, the trustees must check whether or not that goal lines up with the fund's investment strategy. When satisfied, the trustees will typically enter into what's known as a limited recourse borrowing arrangement (LRBA).
This is a special kind of loan that can only be used to buy one asset, and where the legal title of the property is held on 'security trust' for the SMSF. Before taking out an SMSF loan under limited recourse borrowing, however, it's important to be make sure you can still operate the fund while paying down the loan.
You'll have to balance the potential profits you stand to make with the loan's set-up expenses, ongoing fees and interest, as well as any potential commission charged by the individual arranging the loan. Be sure, too, that you'll continue to meet the costs of arranging an annual audit, and other SMSF requirements.
An SMSF loan is a specialist product, so if you want to purchase a property through your SMSF, you'll have to find the right broker who can source non-conforming loans such as these. DPN can get you started on this journey and use their industry knowledge to connect you with the relevant professionals.