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SMSF super funds investing in property need to beware

Friday, July 27, 2012

The volatility in the sharemarket may tempt self-managed super funds (also known as DIY funds) to look elsewhere to invest and the recent rule changes to allow those funds to invest in property might look tempting.

Broadly, while super funds are generally not permitted to borrow money in their own right, there is an exception whereby a DIY fund is permitted to borrow money provided that the borrowing is made pursuant to what is known as a limited recourse borrowing arrangement, for example, an instalment warrant.

Such an arrangement entered into from July 7, 2010 can only be referable to a single "acquirable asset" held in a holding trust which the DIY fund is not otherwise prohibited from acquiring directly. In addition, a borrowing applied to the original acquirable asset can only be replaced with a "replacement asset" according to the relevant provisions of the law.

A major ruling has now been released by the Tax Office which gives the Commissioner's views on the limited recourse borrowing arrangement provisions. The ruling explains the key concepts of:

  • What is an "acquirable asset" and a "single acquirable asset".
  • "Maintaining" or "repairing" the acquirable asset (which is allowed with borrowed money) as distinguished from "improving" it (which is not allowed).
  • When a single acquirable asset is changed to such an extent that it is a different (replacement) asset.

The ruling outlines where money borrowed can be applied in maintaining or repairing (but not improving) a single acquirable asset. While such borrowings cannot be used to improve an acquirable asset, the Tax Office says money from other sources (e.g. accumulated funds held by the DIY fund) could be used to improve (or repair or maintain) that asset. However, any improvements must not result in the acquirable asset becoming a different asset.

The ruling notes that an "acquirable asset" is any form of property (other than money) that the DIY fund trustee is not otherwise prohibited from acquiring under the superannuation law. Although "property" can include proprietary rights or the physical objects of proprietary rights (e.g. land or machinery), the Tax Office says it is necessary to consider the meaning of property in both senses to determine whether money borrowed under a limited recourse borrowing arrangement has been applied for the acquisition of a single acquirable asset.

While the money borrowed can only be applied for the acquisition of a single acquirable asset (or a collection of identical assets with the same market value), the Commissioner considers that a single object of property may be acquired notwithstanding that it is comprised of separate bundles of proprietary rights (e.g. if there are two or more blocks of land). However, this will only be so where it is reasonable to conclude that, notwithstanding the separate bundles of proprietary rights, what is being acquired is distinctly identifiable as a single asset.

Money borrowed under a limited recourse borrowing arrangement may be applied in "maintaining" or "repairing" (but not "improving") the asset. To determine if an asset has been repaired or maintained (or whether it has been improved), the Tax Office says reference is made to the qualities and characteristics of the asset at the time the asset is acquired under the borrowing arrangement. To this end, the Tax Office says an asset is improved if the state or function of the asset is significantly altered for the better, through substantial alterations, or the addition of further substantial features or rights, to the asset.

To some extent, this repair vs improvement issue harks back to the age-old income tax treatment of repairs versus improvements. "Maintaining" the asset, which is allowed under the rules, means work done to prevent defects, damage or deterioration of an asset, or in anticipation of future defects, damage or deterioration provided that the work merely ensures the continued functioning of the asset in its present state. "Repairing" means remedying or making good defects in, damage to, or deterioration of, an asset and contemplates the continued existence of the asset.

In contrast to a repair, the Tax Office considers that an asset is improved if the state or function of the asset is significantly altered for the better, through substantial alterations, or the addition of further substantial features or rights, to the asset.

The Tax Office has given examples contrasting repairs (or maintenance) with improvements:


Repairs/maintenance (permitted)

Improvements (not permitted with borrowed money)

  • Fire damages part of a kitchen (cooktop, benches, walls and ceiling).
  • Restoration (replacement) of damaged part of kitchen with modern equivalent materials or appliances would constitute repair or restoration.
  • If superior materials or appliances are used it is a question of degree as to whether changes significantly improve the state or function of the asset as a whole.
  • Addition of a dishwasher would not amount to an improvement (even if dishwasher not previously part of kitchen), as minor or trifling improvement.
  • If house extended to increase size of kitchen this would be an improvement.
  • If as well as restoring the damaged part of the internal kitchen (a repair) a new external kitchen was added to the entertainment area of the house, external kitchen would be an improvement.
  • Guttering on a house replaced with modern equivalent and the house repainted. In replacing guttering a leaf guard can be fitted as minor or trifling addition to asset as a whole.
  • Fence is replaced using modern equivalent materials. Can add a gate to new fence as minor or trifling improvement.
  • Fire alarm installed to comply with new requirements of local council. Not an improvement as minor or trifling.


  • Pergola built to create outdoor entertaining area.
  • Addition of swimming pool or garage.


  • Integrated home automation system installed including electronically controlled lighting, multi-room audiovisual distribution and security system.
  • House extension to add further bathroom.
  • Cyclone damages roof of house. Replacement of roof in its entirety with modern equivalent is a repair.
  • If superior materials are used it is a question of degree as to whether changes significantly improve state or function of asset as a whole.
  • Addition of second storey to house at time of also replacing roof would be an improvement.
  • If fire destroys a three bedroom residential house. Rebuilding broadly comparable house is not an improvement as it restores asset.
  • If superior materials, fittings or appliances are used it is a question of degree as to whether significantly improve state or function of asset.
  • Rebuilding a residential house that is not broadly comparable to that destroyed is an improvement. If the funds to rebuild are from an insurance company and not from borrowings this does not affect the LRBA.
  • Residential house acquired under an LRBA and rented out for a number of years. The area is now a "real estate hot spot".
  • Decision to renew kitchen which, although functional, is significantly out of date and showing wear and tear. The design of kitchen is improved and modern equivalent, rather than superior, materials and appliances are used. Changes do not significantly improve state or function of asset as a whole.
  • Residential house is acquired under an LRBA and is rented out for a number of years. The area is now a real estate hot spot.
  • Decision to demolish house. Rebuilding a residential house that is not broadly comparable is an improvement. However, if the funds to rebuild are not from borrowings this does not affect the LRBA.

Farm (on single title) is the single acquirable asset under an LRBA. At the time of entering into the LRBA the farm includes one set of cattle yards, 4 bores including windmills, tanks and troughs and 3 km of fencing:

  • Replacing a section of cattle yards or existing fencing is a repair.
  • Ensuring bores, windmills, tanks and troughs continue working is repair or maintenance. This would include laying new pipes between the tank and trough to replace old pipes.

Each of the following further additions is an improvement:

  • A further set of cattle yards;
  • A further bore, tank;
  • A windmill and trough;
  • A further dam; further shed;
  • A further 2 km of fencing.
  • Machinery or equipment item of earth moving equipment acquired under an LRBA. Immediately after its acquisition money borrowed under LRBA is used to fund repairs to hydraulic system of the asset to return it to its full functionality. This would be a repair.
  • A major overhaul of the asset is carried out with all significant parts of the asset being replaced. This is likely to be an improvement as changes have significantly improved the state or function of the asset.

Note that the improvements listed above could be carried out provided that the DIY fund uses its own money (and not borrowed money). According to the Commissioner, these improvements would not fundamentally change the character of the asset to such an extent to result in a different asset.

There are many rules surrounding the investments that a DIY super fund is allowed to make, and many traps for the unwary. Anyone with a DIY fund who contemplates investing in property should seek professional advice.

Terry Hayes is the senior tax writer at Thomson Reuters, a leading Australian provider of tax, accounting and legal information solutions.

Five strategies for SMSFs investing in property

Friday, July 27, 2012

SME owners should now have more confidence about arranging for their self-managed super funds to borrow to acquire their business premises and other investment properties – provided the assets measure up as quality investments.

This follows the recent release of a self-managed super fund final ruling providing a detailed explanation of the ATO’s interpretation of the SMSF borrowing rules in relation to the purchase, maintenance and improvement of geared assets.

Undoubtedly, many SME owners have been reluctant to gear an SMSF to acquire their business premises because of uncertainty about how the ATO, as regulator of self-managed super, may interpret the borrowing provisions in superannuation law.

The uncertainty – which largely arose after the tightening of the SMSF borrowing laws several years ago – mostly related to repairs and improvements to geared property, as well as the gearing of properties involving more than one title.

Countless SME owners have long favoured holding their business premises in their family self-managed funds. But it is understood that doubt about the ATO’s interpretation of the SMSF borrowing laws has deterred some from proceeding with the strategy.

Business real estate – such as the premises of a family SME – is among the few types of assets that SMSFs are permitted to acquire from their members and other related parties. Further, business real estate is one of the few types of assets that funds can lease to related parties – including fund members and their businesses – without a limit on its value.

SMSF trustees in general are likely to feel more comfortable about borrowing to invest in residential and commercial property now that the ATO has issued this final ruling.

While the final ruling largely confirms the main points made in a draft ruling issued in September last year, there are some significant clarifications and additional examples.

Here are five strategies for SMSFs that are considering gearing to buy property:

1. Don’t waste time on an unnecessary clash with ATO

The final ruling provides wide perimeters for SMSFs wanting to buy, maintain and improve a geared property without breaching the borrowing laws or upsetting the regulator.

In short, this gives SMSFs a solid base to work within without having a costly and time-wasting dispute with the regulator.

Meg Heffron, co-principal of SMSF administration group Heffron, won’t go as far as saying that the final ruling provides a definite rule book for SMSFs with geared property – “but we are probably a lot closer to it than we have ever been”.

As Heffron says, circumstances will inevitably arise with geared SMSF properties that are not covered in the final ruling.

2. Borrow to invest with more confidence

This is because the final ruling confirms that the regulator will provide SMSFs with a fair degree of freedom within the borrowing laws when carrying out repairs and improvements to geared property.

Heffron is convinced that the ruling will give SMSFs more confidence about borrowing to invest in property.

This marks quite a turnaround for the prospects of holding geared property in SMSFs.

Almost two years ago, amendments to superannuation law toughened the laws about borrowing to invest through a SMSF. After July 7, 2010, an SMSF could:

  • Only acquire a single asset – not multiple assets – under a borrowing arrangement.
  • Could only drawdown on a loan (entered into after July 7, 2010) to make repairs, not improvements to a geared property.
  • Could not make a capital improvement to a geared asset that was extensive enough to have created a new or replacement asset.

Heffron says her “gut reaction” to the ATO’s initial views on these amendments were that it would be almost impossible for an SMSF to borrow to buy property. And she had regarded the ATO’s interpretation at the time as “a ban by stealth” on future gearing of property in an SMSF.

But the release of the final ruling together with its earlier draft has confirmed how ATO has taken a much more pragmatic and much less restrictive approach.

It is taking a more realistic attitude about what is a geared single asset, the difference between repairs and improvements, and about the extent of improvements will lead to a new asset being created.

3. Feel more assured about borrowing to invest in properties covering more than one title

This can be a key factor for SMSF property investors because many properties are on multiple titles.

Take the classic example of an apartment that has a car space on a separate title or a factory that happens to be built over several titles.

Following the 2010 amendments, ATO’s initial view was that a property with, say, two titles equated to two separate assets and could not be acquired under the one borrowing arrangement.

This meant that many properties were simply considered unsuitable for gearing through an SMSF.

But under the draft and final rulings, Heffron says the ATO takes a broad interpretation of what is a single asset. “The ATO takes the view that where the two cannot realistically be separated, they will be treated as a single asset for this purpose,” she explains.

In the ruling, the ATO gives the example of a factory that is built over three titles would be treated as single asset that could be acquired under a single borrowing arrangement.

And the ruling gives the example of an SMSF that wants to gear to buy an apartment and its car park, that are on separate titles on the same strata plan, yet state law specifies that the two cannot be registered separately.

Under the final ruling, the ATO regards the apartment and its car park as a single asset that can be acquired under the same borrowing arrangement.

4. Carry out quite extensive repairs to geared property

The final ruling clearly explains the ATO’s views in details about how far repairs can extend before reaching the point of becoming improvements. This is a vital distinction for gearing a property through an SMSF.

Martin Murden, a director of SMSF consulting for services provider to accountants Partners Group in Melbourne, suspects that uncertainty about the ATO’s initial interpretation of the difference between repairs and improvements had caused much concern among SMSFs.

“I believe people can now determine before proceeding [with repairs or improvements] whether their actions are going to result in a problem with super legislation and regulation,” he says.

Under the 2010 amendments, as discussed earlier, SMSFs could only drawdown on a loan to buy and maintain an asset – not to improve it.

This made the different between repairs and improvements even more crucial. And the question immediately arose: When does building work on a geared property reach the point of going beyond a repair to become an improvement?

“These issues will always be regarded as a matter of degree,” comments Heffron, “but the ATO clearly envisages quite a wide range of activities which might incidentally add to the value of the property falling into the ‘repairs’ category.”

“Replacing or rebuilding with ‘modern equivalent’ materials will generally be considered a repair or maintenance, but replacing or rebuilding with superior materials is potentially an improvement,” she explains.

Crucially, a fund can use its own money to improve a property – within limits discussed in Strategy Five.

5. Carry out improvements to a geared property with more confidence

The challenge for SMSFs is to know how much they can improve a property, such as the fund members’ business premises, without reaching the stage of creating a new asset.

If improvements to a geared asset lead to the creation of a new or replacement asset, the borrowing arrangement would have to be dissolved.

“The ATO originally took the view that improving a property will necessarily trigger the replacement of one asset [the unimproved property] with another asset [the improved property],” says Heffron.

“Like the draft ruling, the final ruling takes a far more liberal position and indicates that, in the ATO’s view, not all improvements will necessarily result in a replacement asset.

“Essentially, the ATO now draws a distinction between improvements that ‘fundamentally change the character of that asset’ and those that do not.”

The ruling gives examples of improvements that would not be regarded as replacing a geared asset. For instance, the addition of several bedrooms, granny flat, extra bathroom, a garage or a swimming pool would be regarded as improvements that do not lead to the creation of a new or replacement asset.

But the ATO ruling states a new asset would be created if, say, a residential house was converted into a restaurant with such changes as the inclusion of a “fully-functioning” commercial kitchen.

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Can I borrow and buy property inside a SMSF?

Friday, July 27, 2012

Can I borrow and buy property inside a SMSF?



by Peter Switzer

I am in my early 50s and we have paid off our house and we want to buy an investment property as we have surplus savings as we both work and pay a considerable amount of tax. I have been advised that we can borrow to buy and renovate a property inside a SMSF and that it could be tax-effective, especially if you wanted to live in the property after we retire. Is this right?

There are a number of issues here — some right but some wrong depending on how you interpret it.

First, I think it can be very tax-effective to buy a property inside your super fund for a couple of reasons. The best reason is that arguably if you held the property until retirement, you could withdraw the house as a lump sum payment. You would avoid capital gains tax, as a fully retired person who has met the right age for a release of super for a pension is in the no tax zone.

Be clear on this, you could not live in the house while it is in the SMSF but you could let it out to someone just like with an investment property outside of super. The SMSF can claim the tax deductions of interest and the costs of the services such as real estate agent fees.

You can borrow to buy the property but you might need a bigger deposit than with a loan outside of a SMSF but you can’t use borrowed funds to renovate the property — you must use money inside the fund.

Another tax advantage is that you can salary sacrifice into your SMSF and use this money to pay off the loan more quickly. If you try to pay off an investment loan for a property using post-tax dollars that could have been taxed at 46.5 per cent compared to the 15 per cent tax on salary sacrificed money in your SMSF, you can see that you would pay a loan off a lot quicker inside a SMSF. If you want to know more about this, have a look at, which has a resource centre that tackles these thorny super questions.

For advice you can trust book a complimentary first appointment with Switzer Financial Planning today.

Important information: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. For this reason, any individual should, before acting, consider the appropriateness of the information, having regard to the individual’s objectives, financial situation and needs and, if necessary, seek appropriate professional advice.

Can I rent a property from my SMSF?

Friday, July 27, 2012

Can I rent a property from my SMSF?

You can not rent residential property from your own SMSF; however in some circumstances you will be able to rent a commercial property if it is for business purposes. The rent will have to be at a market rate and the premises will need to be for running your business.

Can I buy property for my SMSF that I already own personally?

Friday, July 27, 2012

Can I buy property for my SMSF that I already own personally?

In some instances yes, it will depend on whether the property is residential or commercial. You can buy a commercial property that you already own and even borrow against it as long as you meet the borrowing criteria i.e. a maximum LVR of 72% for residential property and 63% for Commercial Property.

If you want to buy a residential property then it must be at arms length and not currently owned by a related party, it must be purchased from and leased to an unrelated third party.

Why not own property through a SMSF?

Friday, July 27, 2012

Why not own property through a SMSF?

Many people feeling depressed and out of control due to the recent turmoil in global financial markets are looking for different ways to invest their superannuation.

How does a SMSF work?

It works very much the same as a other superannuation funds. It accepts contributions from members, and invests and manages those contributions and subsequent earnings.

You become the trustee of the SMSF and are involved in all the decision made by the fund. This means you are responsible for tasks such as administration and accounting, managing tax implications and ensuring an investment strategy is in place. However, SMSF professionals at WFS Canberra are able to complete all of the administrative tasks for you and assist you in every aspect of running your fund.

What are the benefits of a SMSF?

- You have control over how and where and when your money is invested.
- There can be fee savings if you use the services of WFS Canberra.
- The potential to use tax savings strategies not possible in other types of funds.
- Purchase your business' real property.

- Puchase residential investment property

Amendments to the Superannuation Industry (Supervision) Act 1993 ("SIS Act"), effective from 24 September 2007, allows superannuation funds to borrow money to acquire any asset which a SMSF is permitted by law to acquire directly, which includes Property

Case Study: Borrowing to Purchase Residential Investment Property


Josh is 48 years old.
Josh is looking to purchase an investment property for 400,000 (net 5% yield).
Josh wants to fund the investment property through an quity line of credit against his principal residence.
Josh has accumulated $200,000 in superannuation and has a SMSF.
Josh could fund the investment property purchase though his SMSF with himself as the lender to his SMSF.



The benefits of Josh owning the investment property in his SMSF are substantial:


                                                        Individual                                 SMSF

Rental Income (30yrs)                          $878,054                                $878,054
Interest Expense (30yrs)                      ($780,000)                              ($585,000)
Rental Tax Liability/Benefit (30yrs)        ($40,692)                                ($9,921)
Capital Gain on Property                      $418,563                                 $418,563
CGT Payable                                      ($86,852)                                 $0  

Total Return                                        $389,073                                $701,696

Structure Benefit                                                                              $312,623

* Key Assumptions:
5% rental yield
2.5%pa rental growth
5%pa capital growth

Australia's Property Market outlook

Friday, July 27, 2012

Housing market to remain soft: NAB survey

Australia’s housing market is predicted to remain soft over the next year, with a NAB survey predicting a decline in house prices of 0.7 percent.

NAB’s Residential Property Index fell in the June quarter, dropping to -11 from +5 in the first quarter, weighed down by weaker conditions in Victoria and NSW.

The survey polled around 300 real estate agents and property managers, property developers, asset and fund managers, and owners/investors.

Victoria (-43), SA (-15) and the NT (-15) posted the lowest scores on the index, while WA (+34) and Queensland (+2) are the only states in positive territory.

NSW slumped dramatically over the period, from +28 in the previous quarter to -13 by the end of June 2012. Victoria’s index score moved further in the red, from -16 to -43.

Key findings of the report include:

  • National house prices fell by 2 percent in the June quarter, with the biggest falls in Victoria (2.9 percent) and NSW (2.3 percent). They are expected to fall by 0.7 percent nationally over the next year, but grow by 1 percent over the next two years
  • Average national rent growth slowed to 0.4 percent in the June quarter, down from 1.1 percent in the first quarter of the year. The long term outlook is for softer rents in all states over the next two years, except for WA
  • Respondents indicated tight credit conditions and housing affordability are the most significant constraints on new housing development. Employment security is now viewed as the biggest impediment to purchasing existing property, especially in Victoria and Queensland
  • Capital growth expectations are strongest in the sub-$500,000 price range, while the outlook for properties worth more than $2 million remains poor

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