Australians’ love for property shows no signs of diminishing. And across the new landscape of strategic investment, self-managed super funds are striding like a modern day colossus.
There’s no doubt that self-managed super funds are a phenomenon. Figures from the ATO show that the number of self-managed super funds registered each week in Australia is now over 1,000. The total number of SMSFs is now over 550,000, with more than 1 million members.
Super funds in general, across Australia, account for a total of around $2.2 trillion. This is a staggering amount of wealth that is being funneled in many directions: shares; property; fixed interest accounts and deposit accounts. The sheer force of weight and numbers behind SMSFs mean they’re a force to be reckoned with. They’re also unusual as an investment type in that they need to invest. SMSFs are a large pool of money that have to be channeled into an investment of some kind.
The value of residential property held within SMSFs has increased by 60% between 2008 and 2013
The average fund balance (as of June 2015) for a SMSF exceeds $1 million. SMSFs are rapidly taking up a large chunk of the Australian financial services market. What’s equally striking is where the holders of these funds are choosing to invest. We can see that 7% of funds now hold residential property as an asset, whilst the value of residential property held within SMSFs has increased by 60% between 2008 and 2013.
Some history
Part of the reason SMSFs have become such a decisive force is to do with the major super changes that occurred in 1992 when the government brought in compulsory super. As much as anything this was to do with growing concerns about the number of baby boomers set to retire and how to cope with funding so many pensions. The legislation forced employers to contribute 3-4% of the employee’s salary to a super fund. This quickly meant that the number of Australians with super funds went from around 70% to 90% by 1997.
It became apparent what a powerful tool super funds could be when the government began offering matched contributions. At one point it was $2 for every $1 that was voluntarily contributed. Measures like this forever changed the philosophy behind superannuation. Because once people started to bolster up their super funds with government contributions, this led to the hungry realisation there was a large, swelling sum of money that could be potentially utilised.
So now super funds have gone from being a sleeping, unnoticed giant to being identified as a very enticing cash cow.
SMSFs and property investment
The game changer came in 2007 when SMSFs were allowed to buy property. This unleashed the powerful forces we’re witnessing today.
SMSFs now allow flexibility and control over investment, which is what makes them so attractive. They also have minimal management costs. It’s a lean and agile model that is coming widely into play in the investment world.
The beauty of SMSFs as a property investment tool is that the fund pays the overheads and expenses: the maintenance of the property; agent fees; insurance and even repairs.
Another benefit of using SMSFs for property is that you can avoid capital gains tax if you use the fund to purchase the property while you’re still working and then sell it once you’re retired. In the meantime, you’ve accumulated years of capital growth plus rental yields. Plus the maximum tax you’ll face on the property’s rental income is 15% because it is counted as a super fund asset.
However there are some caveats. SMSFs, like all super funds, are established to provide for your retirement not as a business venture. This means you are limited in some respects as to what you can do.
- You can buy a property and pay for maintenance but you can’t undertake major renovations for the purposes of resale. This means you can’t buy a “renovator’s delight” or a 2 bedroom that you are planning to turn into a 3 bedroom.
- You can’t live in the property at any time, not as a temporary holiday home or place to stay, nor can any of your relatives.
Also, with great wealth comes scrutiny. And since the rise of SMSFs there’s been a reported increase in dodgy scams – with the ACCC announcing that up to 10 victims a week are losing their life savings. As of 2013, $100 million had been lost to scams.
SMSFs also have to be ATO compliant. To set up a SMSF requires professional advice and legwork. It’s the same amount of work as establishing a company. You’re required to attend board meetings, meet reporting requirements and comply with superannuation laws. This can all be easily done and maintained with the help of the right people.
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So there are clear and real benefits to using SMSFs to buy investment property. But also there are potential pitfalls.
Pros:
• They can be tax effective and have potentially strong tax savings
• Give you real firepower in terms of purchasing and maintenance
• They give the investor direct control, unlike other super funds.
• The total cost of holding the investment property can often be funded by the rent and ongoing employer contributions.
• The cost of setting up and maintaining a super fund are quite low if you have at least $200,000 in super as the fee can be capped and not a percentage of the portfolio.
Cons:
• You have to be prepared that you can’t renovate your investment property, only make urgent repairs or ongoing maintenance. This may restrict the kind of property you end up purchasing.
• You can’t buy a property for you or your family to live in or use as a holiday house, even part time.
If you're considering setting up your own SMSF, DPN can put you in touch with an SMSF professional and we can help you to find a suitable SMSF property.