Ins and outs of SMSF IP

its a wonder we dont have a forum heading in here about SMSF .???

I know the industry are not talking about it as much now, but who has an IP with their Self funded Managed Super ?

What is your experience? Would you do it again?

I know the yearly accounting costs are in the thousands but i have about 150k in my Superfund so im thinking switching to SMSF and buying an IP in the Country where I can get a good rental return.
I think its far better than leaving in some Super Fund not getting anywhere .

 

Things to consider...

1. Typically a bank will only lend 60-70% LVR to a SMSF
2. You cannot withdraw the equity against the property e.g. (500k->1M in 10 years you have to sell to get the money out).
3. Part of having a SMSF is it needs diversification (by law), how diversify would your SMSF be with only 1 very large asset and nothing else?

 

The 60% lends referred to by @Big Will above occur more for either commercial property, or for cases where the members are on relatively low incomes, or for cases where members are getting closer to retirement age.

The majors are generally offering 70% on residential property, or 80% in some cases (mostly where the balance of the SMSF is at least $150k.

Yes I have property in my SMSF and wouldn't have it any other way. There's a bit of hassle with paperwork and a couple of associated fees setting it up, but still, even if you're on a 70% lend it works out roughly that you swap a certain amount of super money for a property worth three times its value. You then let the tenants cover the bulk of the repayments and enjoy capital growth along the way. Find shares that will do that for you.

An important point to note is that there are postcode restrictions on where the SMSF property will be located in order for the bank to approve the loan. You cannot buy wherever you fancy and many country locations will be a point blank NO. Be sure to check with your broker before you start shopping for a SMSF property as to whether your target postcode area is permitted or not. You're better off sticking to areas such as approved major regionals or suburban areas that are close to employment and thus make the banks feel happier.

As a SMSF director you will be responsible for creating the investment strategy which dictates % splits of permitted asset classes. While the ATO has preferences to more diversification, there are plenty of folks out there with most of their super in direct property.

As @Big Will points out, you cannot release equity from a SMSF property. So once you've spent your super, there are only two ways to get enough money in the super fund to buy another property : put more money into super, and/or sell a SMSF property that has grown in value enough to fund two to replace itself.

 

Don't have an SMSF but I've been researching it for a while and this is what I understood so far.
1. At 70% LVR, it is likely to be neutral or +ve cf
2. Because of gearing(leverage). A 30% growth in CG over a 10 year period will end-up being more than 100% on your actual money invested(deposit etc). Compare that to returns from most super funds.
3. Benefits of offset account (tax free return at the same rate as your mortgage interest)
4. I believe there are CGT benefits if you sell it after you retire.
5. Costs can be high but I've been looking at esuperfund which ends up being around $1k/year even when property is involved. Keep in mind there are upfront costs when setting up bare trusts etc

 

Further to what @JohnPropChat says... at a 70% lend, it'd be around neutral geared on an Interest Only loan, depending on the rental yield. On a principal and interest loan there'd be a small discrepancy. As a guide, the discrepancy would be approx $70 per week on a circa $400k property yielding circa 5%.

 

Capital gains tax pre-retirement has a contrived calculation which loosely works out to the following:
15% if sold in first year of ownership
10% thereafter in leadup to retirement phase
0% in retirement phase

This is under review and CGT charges might be higher some time soon.

Expect to pay an accountant circa $1100 per year for the tax return & audit depending on how tidy your record-keeping is and how many assets etc the SMSF has.

 

@JacM can you provide more light on your reasons why you wouldn't want it any other way?

For me one of the key benefits of property investing is leveraging and accessing the equity to fund more. From my research this is not possible so if you had a 150k at 70LVR you could purchase 500k property. If in 10 years it double (1M) there is 500k in equity which if it wasn't in a SMSF you could apply to the bank and get it however with the SMSF you would need to sell (10-20k agents/marketing fees + 2x Stamp duty (for 2x 1M the duties would be 55k ($110k total) So to get a second property of the same asset today of 500k there is an approx. change over fee of $120k-$130k.

How do you handle diversification with one asset within your SMSF?

What happens come retirement and you have the house or houses and you need to cash in - how do you handle this?

 

Guys, how much money does one need to be able to buy an IP in SMSF? I mean minimum. I'm considering buying one but not sure how much I need to have upfront.

 

Based on the lender. Assume 70% lend so need 30% deposit + 6% to 8% for setup and purchasing costs plus extra as a buffer (10% or 6 months rent depending on the lender). So for a $400k property about $180k to $190k. Some banks lend 80% so that will certainly help.

 

Speaking of SMSF loans, I read that banks need personal guarantee from the members - what are the implications? I thought SMSF loans are limited recourse?

 

They are. The SMSF assets cannot be taken. The only asset of the fund that can be take is the security property, which is held on trust (a trust on a trust) for this purpose.

But the guarantee will mean the personal assets of the guarantor can be taken if there is a short fall.

 

Hi @Big Will happy to elaborate.

Taking an example of a recent client acquisition.... they had a 70% lend on a $300k purchase and that utilised around $100k of their superannuation money. Swapping $100k for an asset worth three times its value ... for which tenants will babysit the mortgage and capital growth is cream on top. Swapping $100k for an asset worth three times its value. Nice return. In contrast, retail funds did nothing but lose my super on the stockmarket, charge me fees for the rights to do so, and try to hide the fact that any gains made were actually my superannuation money coming in from my employer.

@JohnPropChat a rough guide presuming it'll be a 70% lend is as follows :

$115k is the approx amount that would be consumed for setup of SMSF, acquisition of first property priced at $300k, and $3k left in the fund as emergency money. These figures change to $98k for a $250k property. Rough guide, depends on your circumstances, eligibility etc, these figures are based on what I know eligible folks have spent on acquisitions.

 

@Big Will

With respect to approaching retirement. Let's say a person got to retirement and had a few properties in the fund, fully paid off. Maybe there are some other assets also. Collectively the assets produce enough income and rent for the person to live off. Excellent... nothing needs to be sold. If there is not enough income, the person would need to talk to their accountant about pension phase strategies as this is a complex thing. One of the things in the mix may be sell one property, live off the proceeds until the pile of money runs out, then sell another, and so on and so forth.

Personally, I don't think it is sensible for a SMSF to deliberately set up with a view to having only one asset come retirement day. However one must start somewhere. Perhaps it gets set up, acquires an asset, saves some money, acquires another etc.

A person in their early employment years in a retail fund may have a balance of just $5k in super and of course they cannot retire on that. Ever. However the balance in theory grows as they work more thus have more member contributions going into super, and hopefully the retail fund performs in its own right also. Moral of the story being when anyone starts out with super - retail fund or SMSF - there is very little diversification but rather intent to diversify as the fund becomes financially able.

 

Didn't realize that the ball can start rolling with less than $100k in SMSF. Just $3k in emergency fund? May I ask which bank was that?

 

Hi @JohnPropChat

Each lender has different "liquidity" (emergency fund) requirements. If you have less than $100k there is only one bank to choose from hehe. St George/ Bank of Melbourne.

Just $3k I haven't seen them kick up a stink about. Personally I would prefer a $5k slushy fund.

Technically there is no rule saying how much you need in super before you can set up a fund, but there is certainly a point at which common sense prevails. If you intend to use super to buy property and don't have enough $$ already and won't do for many years, there is little point setting up till there is enough money.

 

I have 2 in my SMSF. There are limitations as others have said. Whether the strategy works for you or not is totally dependent on your goals and your current situation. $150,000 does not sound like enough to invest in real property inside an SMSF to me.
As far as I know there is no law that says you have to diversify in an SMSF, but you are required by law to have an investment strategy that supports the decisions you make.
Liquidity can be managed via the use of offsets while there are lenders still offering them, but in your case you would no have much cash left after a purchase.

 

I look at super a bit differently, given the focus on property outside of super, I go with equities. I have a few shares outside of super & mostly international - so this is my version of diversification.

I decided against an SMSF, signed up to Member Direct, and buy shares as and when I want, with full transparency of what's in my fund and without paying a fund manager. There is a known annual fee and brokerage.

I target blue chips yielding 5.5% plus, buying in the inevitable dips in the market, with franking credits which means you can actually get tax back on dividends received if franked higher than the 15% super tax rate. 5.5% becomes 6.7% net if the dividend was franked at 30%. Happy days.

 

Yes, you are required to have an investment strategy, but they're really just lip service for most funds. A compliance box to tick and that's it.

You need to give 'regard' to diversification when investing. You can arguably invest in property and nothing else as long as you have considered the risks and produced an investment strategy as evidence of this. I've never seen anything that strictly mandates diversification in an SMSF.

This is as it's written in SIS:

 

NRAS in SMSF = extremely powerful.

Assuming a 400K Purchase price as an example, and assuming a 70% LVR STG/BOM product at 5.2%, the SMSF contributions of 30% + stamp duty would total @ 135-140K ( stamp duty varies between states)

At 70% LVR, 5.2% I/O and market rent of $400 per week ( discounted to $320 NRAS rent) and a MTR of 15% , and assuming 6K of other costs (NRAS consortium fees, tenancy management fees, strata, rates, insurances etc) you'd be generating @ 9K tax free after the NRAS credit is accounted for .

Between the approximately 9K tax free surpluses and 9.5% member contributions, a person or couple on 100K income would be able to pay down the 280K debt ( 70% of 400K) within @ 15 years. For a couple with a higher household income and /or larger member contributions, it could be done in considerably less than 15 years.

That would leave the SMSF in a significantly superior position that may otherwise be achievable.

In this example, the NRAS acts as a massive accelerant, and is very effective in essentially tripling the footprint of your super within 15 years or less even if very modest growth is achieved. For example, with just 30% growth in 15 years, the 400K asset becomes a 520K asset. That represents 3 x the 140K that the SMSF deployed as deposit + stamp duty. ie 300% With just 50% growth in 15 years, the asset value of 600K represents a 428% footprint expansion on the 140K investment. I'm not convinced that even a portfolio full of high yielding, fully franked shares can achieve that in 15 years

And of course, there are compounding benefits that equities cant provide. By paying the 280K into an offset rather than into the loan, it can redrawn and used towards other assets purchased if you chose to, allowing you to grow the footprint even further., and to use the 2 rental incomes and member contributions to pay down the 2nd asset in even less time than the first... and so it goes... the power of compound.

But even if the redraw/reinvest thing isnt for someone... the 300-400% asset growth, coupled with the passive income produced by that asset , are impressive outcomes. so for someone whose goal is to have their SMSF grow enough income to provide them with a comfortable passive income for life, this example certainly shows how an accelerant like NRAS can be more than a little helpful towards that end.

But above all else - whatever else you do, before you even consider setting up an SMSF at all, and then consider property as an investment vehicle for the SMSF, you should be getting advice from relevant professionals. These decisions must be thought through and properly considered.

 

One needs to keep in mind that, in pension phase (that is where I am), your SMSF must pay a minimum of 4% of its 1 July value as a pension. In my experience, not too many investment properties generate a net return of 4% even without debt.

My longest held IP:

• Bought in 1992 (over 24 years ago) for $125,000
• Now worth $550,000
• Current Rent $445pw or $23,000pa
• Costs (excluding interest, depreciation, accountant fees) $8,000
• Net Return $15,000 or 2.7%

If I bought this property in my SMSF 24 years ago, now that I am in pension phase, my SMSF would have to pay me 4% of this asset value as a pension or $22,000pa.

That is, my SMSF would need to find $7,000pa from its cash reserves, other income or other capital to do this. This may or may not be fine depending on the fund balance, asset mix, etc.

I am not saying one shouldn't buy property in Super but one should start with the end in mind and have plans to address any/all issues.