Ask an expert: Using your super to invest in property

Tim Howard from BT‘s Technical Services team answers some frequently asked questions on super, tax and social security issues. This time he’s tackling the rules around the use of self-managed superannuation funds to make property investments. 

Q). I’ve recently established an SMSF so I can use my super to buy property. How is borrowing by an SMSF different to normal residential mortgages? What are the additional considerations of owning a property in this way?

Housing affordability challenges mean home ownership is increasingly beyond the reach of many young Australians. As a result, they are turning to alternative strategies to gain exposure to the property market. 

One of those is to purchase property at the more affordable end of the market as an investment while continuing to rent (or live with their parents). 

To do this, millennials (aged 28-42) are also making use of their super fund. Research shows this generation ranks second in setting up self-managed super funds.*

One of the unique aspects of an SMSF is that it allows you to borrow money to invest. However, this shouldn’t be confused with, or compared to, borrowing to invest in your own name.

Borrowing money to make an investment, also known as leveraging, comes with additional risks that need to be carefully considered. Borrowing will magnify any gains and losses from an investment. On top of this, borrowing within super comes with additional strict and specific limitations under superannuation law.

An SMSF is only permitted to borrow if the funds are used to acquire what is referred to as a single acquirable asset, with the investment held on trust until the debt is repaid.

This structure is referred to as a limited recourse borrowing arrangement (LRBA). This means that in the event of a loan default, the recourse of the lender is limited to the acquired asset only, not any other investments held by the SMSF.

It’s also worth noting that there are strict rules on who can rent the property owned by your SMSF. For example, a relative cannot be a tenant. You also generally cannot live in or use the property while the SMSF owns it. 

What is a single acquirable asset?

A single acquirable asset includes things such as property, shares, units or even collectibles, that are not money, and neither superannuation law nor any other law prohibits the SMSF from acquiring.

Purchasing a residential investment property on the open market would generally meet this definition, however you always need to take a closer look when the purchase is done via your SMSF.  

A single acquirable asset can occasionally include more than one asset, where the assets cannot be dealt with separately, or where any law prohibits the assets to be purchased or sold separately. 

For example, a house on a parcel of land, where a portion of the land is on a separate title and can be sold separately, would not be regarded as a single acquirable asset.

Similarly, the purchase of two residential strata units under a single LRBA would not be allowed, even if the vendor refuses to sell the units separately, whereas a strata unit and a garage on separate titles would be a single acquirable asset if state laws require they be sold together.

Repairing, maintaining and improving the property

Owning property is likely to include the need to repair, maintain, or even improve the asset for rent or sale. 

Borrowed money can be used to repair and maintain an asset under an LRBA, however any improvements must be undertaken using the SMSF’s own resources.

A repair involves restoring the asset to its former state - correcting any physical defects, damage or deterioration caused by wear and tear so that its functional efficiency is restored.

Maintaining includes work done to prevent or anticipate defects, damage or deterioration, to keep the asset in good working order.

Work done to significantly improve an asset’s functional efficiency and value is an improvement. Although borrowed money cannot be used for improvements, money from other sources such as super contributions or fund earnings may be used for this purpose.

Importantly, improvements cannot be such that the qualities and characteristics of the property change considerably. 

Transforming the single acquirable asset while the loan is outstanding can breach SMSF borrowing rules. For example, actions such as buying land and then subdividing it to create multiple assets or building a property on vacant land would change the asset from land to land and building. 

Converting a residential property to a business premises, for example a dentist’s surgery, or looking to knock down a home and build strata title units also creates a different asset and would breach the borrowing rules.

Important things to consider 

If there is no borrowing involved, for example, you purchase the property outright using cash within the SMSF, some of these rules won’t apply; however, consistent restrictions will remain.

And regardless of whether the SMSF borrows or not, any investment the SMSF makes must have a primary objective that is in line with the sole purpose test, which includes things such as providing retirement benefits to fund members.

The amount you can borrow from a commercial lender is often less than for an investment in your own name, and the interest rate is often higher, reflecting additional risks.

Prudent management of your retirement savings is crucial, and borrowing via an SMSF isn’t for everyone. Depending on your super balance, consider the concentration risk of such a strategy and seek professional financial advice to ensure you’re not missing important considerations in relation to the additional responsibilities of managing your own fund.

*Source: Class Benchmark Report 2024

Tim Howard is an advice technical and strategy consultant with BT, with close to 20 years of experience assisting financial adviser and their clients with all aspects of financial planning. BT’s Technical Services team receives around 8,000 queries a year from financial advisers on superannuation, tax, social security and regulatory topics.

DISCLAIMER 

This information was prepared by BT, a part of Westpac Banking Corporation ABN 33 007 457 141 AFSL and Australian Credit Licence 233714 (Westpac) and is current as at 26 November 2024. The information provided is general information only and it does not constitute any recommendation or advice. It is intended to provide an overview or summary and should not be considered a comprehensive statement on any matter or relied upon as such. Any recommendation or opinion provided does not take into account your personal objectives, financial situation or needs, and you should consider its appropriateness having regard to these factors.