SMSF and borrowing for property

I've just read an article in the Bulletin which mat radically change property investment.

In the past, it has been common knowledge that an SMSF cannot borrow to invest.

But there's some EXTREMELY interesting legislation coming around the corner.


DIY funds await green light

Self-managed super funds will get an investment fillip with a Senate decision allowing them to borrow. By Michael Laurence.

A bill is expected to be passed by the Senate this week that will trigger extensive borrowing by self--managed superannuation funds to snap up residential and commercial property.

"Expect an avalanche of new gearing products aimed at DIY funds to follow," says Sydney tax and superannuation lawyer Robert Richards.

...

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If this is true, this could lead to a major change in property investment as a whole, not just following normal property cycles.

Super funds might add drastically to the demand for resi properties.




There's a bit in the print copy, which is not available online. And it has some interesting stuff. (Note that I have just typed this from the 25Sep07 issue of the Bulletin, and whatever I have typed out may not be an accurate representation of the original article).

Once the legislation is passed, self-managed funds will be allowed to override the generasl prohibition on their borrowing, provided:

.The asset being purchased is held in trust for the fund until the final payment is paid (the fund holds a beneficial interest)

.The fund gains legal ownership upon the final payment

.The lender cannot make a claim against any of the assets of the fund - other than the one related to the borrowing - in the event of a loan default. This is the position even if the asset falls in value and interest remains outstanding

.The fund is legally allowed to acquire the asset under superannuation law

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If an SMSF will be allowed to borrow for property, I know of at least one SMSF which will be doing so

Dammit! Why couldnt this have happened a few months ago.....

I'd still avoid it, personally. I still don't like that minimum age limit.
Alex

alexlee said:

I'd still avoid it, personally. I still don't like that minimum age limit.

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Sorry Alex, I can't see anything about an age limit in the article I've mentioned.

I know that my point was not clear.

Here's where I'm coming from.

I have an SMSF with a certain $$.

It's earning me a minimum return. In the last few years, it's done OK, but that's negated a few years before that.

But now, it seems (after years of everyody telling me the opposite) that I may actually be able to borrow, using my SMSF, to buy a property for investment.

That prospect (previously completely closed) may be opening up.

I have to play the old "wait and see" game.

geoffw said:

Sorry Alex, I can't see anything about an age limit in the article I've mentioned.

But now, it seems (after years of everyody telling me the opposite) that I may actually be able to borrow, using my SMSF, to buy a property for investment.

That prospect (previously completely closed) may be opening up.

I have to play the old "wait and see" game.

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I was referring to the super rule that you have to be 65 or over before you can draw out income tax free. I doubt they'll change that together with the borrowing constraint.

Based on my own age, super just isn't a very attractive vehicle. I agree it would be extremely useful for some people, though. Another property boom!!! Though the people who sold their IPs to make that $1m untaxed contribution would be mightily ticked off. Do you think they're using this as an oblique solution to the affordability thing?
Alex

Hi Geoff,

Maybe he means the retirement age limit. If this goes through, property investing will change forever.

Mark

geoffw said:

If an SMSF will be allowed to borrow for property, I know of at least one SMSF which will be doing so

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I know another one too!

But my mind being the suspicious thing that it is, is looking for the "catch". I'm now wondering if this bill gets passed:
1. Whether this might be the beginning of the end for negative gearing? (there aren't too many countries left that still have it), given the already tax-advantaged status of Superfunds.
2. More resi property available for rent might? drop rental rates as tight vacancy rates come off
3. As Geoff mentioned - who knows what effect this might have on the RE cycle
4. If lenders are disadvantaged in what they can "get their paws on" in the event of a default by a SMSF then maybe this opens up a whole new shared equity range of options to lessen the likelihood that the situation should ever arise.

Very interesting...

Cheers,
Aimy

That raises an interesting point. Even if a super fund is allowed to borrow, will it be able to negatively gear? How do you control this? This is a much more complex issue than it seems.
Alex

The Tax free age for super is 60, not 65. My super fund has been going very well for the last few years due to exposure to shares, particularly the miners (I bought in several 000' Paladdin at 11c and sold out at around $9 a couple of years later) and the lower costs associated with selling shares are certainly more favourable than property. But just recently we completed an IP purchase that only yesterday I was saying I would have preferred to have bought with the SMSF. Oh well, maybe there is a reason!

Very interesting article!!! Has the proposed legislation actually come before Parliament yet? (I haven't noticed it so far).

Yes, and I know of another SMSF that will be borrowing for property, too!!!

Cheers
LynnH

The lender cannot make a claim against any of the assets of the fund - other than the one related to the borrowing - in the event of a loan default. This is the position even if the asset falls in value and interest remains outstanding

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Assuming the bill gets passed, I guess the lenders will be offering only fairly conservative loans at first with LVR's of perhaps 70-80% max if they can't grab the other assets to make up shortfalls.

Would be interesting to see the effects on property prices, would have to put upward pressure on them, for the first year or two at least?

If this happens, and resi property is indeed allowable, then I think this is hugely significant. Maybe this is where the next boom is going to come from.

Twitch said:

Maybe this is where the next boom is going to come from.

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Let's all bow our heads and take 3 minutes to pray in our own way
Aimy

Two Business properties in our super fund

alexlee said:

That raises an interesting point. Even if a super fund is allowed to borrow, will it be able to negatively gear? How do you control this? This is a much more complex issue than it seems.
Alex

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Years ago I was a member of the taxpayers association and an offshoot of that group was DIY super that produced a manual by a lady by the name of Phillipa Smith. The manual was 700 pages of Super regulations. This was back around 1994. I read the manual and after three month they sent me updates totaling another 700 pages

When sifting through all the regulations I remember reading about super funds being able to invest in property trusts on the share market..... So a bit of lateral thinking made me enquire about setting up my own Property Unit Trust and then have my super fund purchase units in the Property Unit Trust.

My accountant at the time hated my idea and only came around when I had specialist legal and tax advice that yes indeed at that time it was legal. Like a one armed bandit from bagdad I was into two commercial buildings that I ran my two practices from. It was perfect. I was the tenant, I sublet some of the area in both buildings. I set up proper leases with my business and the other tenants. Both buildings were negatively geared initially big time.

Around 1998 the rules were changed to stop what I feel was a legitimate loop hole. D.I.Y. funds like mine that were already invested were grandfathered and give untill June 2009 to pay down their mortgages.

Everyone else was told you can no longer do this. In fact that information is factually incorrect. You can still buy commercial real estate using at unit trust and a tenants in common agreement where by you the individual take out the mortgage using other property as security and the super fund contributes unborrowed funds.Particularly when you are the tenant and you can improve your rental yield by subletting its money for Jam. Over time as the mortgage is paid down you could contribute your share as the tenant in common as an undeducted super contribution? Not sure of the stamp duty and capital gain consequences of this sligh of hand

This is the worst idea I've ever heard.

If you win, you keep the winnings almost tax free, if you lose, the taxpayer pays for your retirement.

Can you run that by me again

HiredGoon said:

This is the worst idea I've ever heard.

If you win, you keep the winnings almost tax free, if you lose, the taxpayer pays for your retirement.

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How is that GOON please explain

alexlee said:

That raises an interesting point. Even if a super fund is allowed to borrow, will it be able to negatively gear? How do you control this? This is a much more complex issue than it seems.
Alex

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If you couldn't negative gear, but rather positive gear only, then commercial property would probably offer comparatively higher leverage, and may benefit more from this.

GSJ

nonrecourse said:

How is that GOON please explain

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Leverage = increased risk.

If someone uses leverage and loses their superannuation money, then the taxpayer will pay them the pension. The whole point of super is for people to pay their own retirement and reduce burden on the taxpayer.

Havent super funds been up and down over the years and I'm sure I've read of super funds losing money before

How is this different

Dave

Super funds certainly lost ground in around about 2002 I think? Based on share market fluctuations. Is property any different? Probably not; but the costs of buying and selling are certainly higher. The Trust deed should specifiy the amount of risk; certainly in ours we are allowed a certain percentage of our share portfolio to be for speccy stocks (and which is where I have had the best returns from); I guess the issue with property will be the allowable mix of loan v's Super Funds - can't imagine they will allow say a loan for anything over maybe 1/3 of the value?