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Setting Up an SMSF to Buy a Property

Written by Kris Wrenn

As all long-term Hudson clients will know, we love property and we truly believe in it as a long-term growth vehicle. If done right, it’s my personal belief that property has better growth potential than shares and one of the best ways to consider property can be within a SMSF. It’s certainly not for everyone and one of the most important things to know is that in most cases you need to have “time on your side”.

Why do you need time on your side? … property is very illiquid. Unlike shares, there is no exchange that opens every (business) day to allow you to trade some or all of your asset. Property takes a while to buy and a while to sell. It also usually requires a longer investment timeframe … the share market can often jump 5%, 10%, even 20%+ within a month … property doesn’t tend to do the same, unless you get VERY lucky. Finally, property is very expensive to buy and sell. These days with shares you can put any amount you wish into an entire market (the Australian share market for example) for as little as $20, and sell out of it again the same day for another $20. Property on the other hand, you are possibly looking at $20,000 to get in (think stamp duty) and $20,000 to get out (think agent fees), hence a longer timeframe required.

As such, buying property within a SMSF may NOT suit:

1/ Those with a short investment timeframe

2/ Those with little funds to invest (i.e. upfront cost is an issue)

3/ Those that need to gradually sell down capital to create an income (e.g. retirees)

Who WOULD property within an SMSF suit?

1/ Those with time on their side. Perhaps you have a decade (or two) of employment ahead of you … this means you have a long investment timeframe. It also means you will in all likelihood be adding funds to your Super across that timeframe, which is important (see below case studies).

2/ Sufficient funds to invest. This is a tricky one and I can only give you my opinion. I have many clients come to me over the years with the likes of $100,000 (or less) in their Super and want to look at buying property within an SMSF. For me it doesn’t work, in that your borrowing capacity would not allow for a high enough quality of property. I would consider $200,000 a minimum starting point.

3/ Those regularly adding to their Super. The more you are contributing the better, to maintain a healthy bank balance and allow for any unexpected expenses or periods of vacancy.

WHY do a property within an SMSF?

This really touches on point number 1/ above. For me, the absolute number 1 reason to consider property within an SMSF is because, in theory, you can completely avoid all capital gains. As mentioned at the start of this article, I believe property to be a fantastic generator of capital gains (growth), but with capital gains comes capital gains tax. Or does it? In Australia we are privileged to have a completely tax-free investment environment known as “Pension phase”. In Pension phase all income is tax-free. Realised capital gains (perhaps from the sale of a property) are also … tax free. However, key point to note … the only way to invest in Pension phase is by converting assets into it from Super (accumulation phase).

How to invest in property in a SMSF.

It is far easier than you think! And you could quite possibly move the balance of your Super to a SMSF within a couple of weeks. You would need to engage the services of an accountant and also a financial adviser and the cost to set up an SMSF can be as little as $3,000 all up. From there you can potentially purchase a property in the name of the SMSF. If your Super balance is not sufficient to purchase a property outright, you will need to set up an additional trust (a bare trust) to enable the lending and this would be an additional cost (maybe around $1,500?).

The end game … once you satisfy a “condition of release” (this is usually retirement and under current law is usually after age 60), you can convert the assets within your SMSF (including property) to be in Pension phase. From here (assuming no changes to current Government legislation) you could potentially sell that property with no tax implication.

Case study 1 – Blake

Blake is 35. He earns $100,000 and as such his employer contributes around $11,000 p/a to his Super, the current balance being approximately $200,000. He speaks with Hudson and between them and their referral partners, he sets up a SMSF and also a bare trust. He uses Hudson’s finance broker Brendan Gilmour to set up a loan with a bank and using $180,000 of his Super balance he purchases a unit for $600,000. The unit is cash flow positive and in Super the tax on earnings is just 15% p/a.

Case study 2 – Dylan

Dylan is 44 and earns $150,000 and as such his employer contributes around $16,500 p/a. His Super balance is $320,000. He also engages Hudson’s services, sets up a SMSF and using $300,000 as a deposit buys a house on 600 sq/m for $900,000. His property is slightly negatively geared and as such costs him around $5,000 to $6,000 a year to hold. His employer contributions therefore more than cover the loss in income and the cash balance in his Super continues to grow. Within a few years, the property becomes cash flow neutral and he’s also used some of the Cash to start a share portfolio.

In both cases, Blake and Dylan keep their properties until age 60 at which time they retire. They convert their Super from accumulation to Pension phase and can sell the property completely tax-free, whether the property is worth $1 million, $2 million or $3 million at the time.

Buying property within an SMSF may well be one of the most tax-advantageous investments you ever make. If you want to discuss whether it might suit you, book in with a Hudson adviser on 1800 804 296 and we can assist with every step of the process.

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