Advice request re new PPoR purchase

[lazzaman]

We are currently considering purchasing acres on fringe of town on which to build a new PPoR.

We currently live in a home, unencumbered by mortgage, on which we are in process of developing frreestanding garage which currently has 2 bedrooms, bathroom etc upstairs into a 2 bedroom townhouse and having separate title after subdivision which is in process(we are on 2 frontages).

The "current" (will take 12 months to be marketable separately) market values of the 2 are 800K and 400K.

We have been working on the basis of having to sell these to fund the new home on acres which is going to cost about 1.6 mill total, but it has suddenly dawned on us that we are probably better to keep them, put in tennants, release equity etc.
We are able to kick in about 700K on top of what we do release.

Realising I need to get formal advice, just to give me a bit of a handle on things, would someone please be able to advise firstly if this all sounds like a good idea and, if so, the best structure and mechanism to get the current two properties into my smsf, with reference to CGT and anything else I may not be considering. (If indeed my smsf is the best way to go as I suspect it is)

Will a bank loan me against equity in smsf to fund new place?

Is the outlay for improvements/subdivision costs (about 100K) deductible and if so, do I need to set up the new ownership structure in advance of expenditure?


Any advice would be much appreciated.

Thanks

lazza

 

[asdf]

I'll have a go mate. IPL doesn't start for another halfer.

Lost of issues to consider here:
* Banks tightening credit standards or rather serviceability hurdles have markedly increased due to higher rates and financing costs
* Low docs are being wound back so you need a good stable job to support any loans
* Acreage larger than 2 hectares I think will require greater LVRs and higher rates
* Banks won't lend direcly into SMSFs. Even the recent explosion of warrant products over resi property hitting the market may be an issue, especially in light of recent ATO's tax payer alert. When there is ultimate certainty (could be years away), the trust structures and running costs are not cheap to set up.
* Your negative cash flow will be significant from rentals. Can you sustain?
* As for structure, every entity has pros and cons. Never underestimate simple personal ownership. Do you have access to a team at relatively affordable prices to give you constant advice and help you run them?

 

[lazzaman]

Thanks, asdf, though I think I have now lost you to the cricket. Doesn't sound like you agree but this 20/20 stuff is wearing thin with me already. Just not cricket.

How negative do you reckon my cash flow is going to be. Would you be able to quantify it approximately as I was figuring on it not being too bad.

 

[Kristine..]

Hi lazzaman

Congratulations on being in such a strong financial postion.

Put simply, there are six parts to lending:

Capital - what is your contribution
Collateral - what is the loan going to be secured against
Cash Flow - how are you going to service the loan
Character - the history of the applicants
Culture - the culture of the application
Common Sense - does it make sense to do the deal

You have capital of $700,000
You have property collateral of $800,000, $400,000 and the undeveloped $1.6 million property
You will have cash flow from rent, and other ordinary earned income
You have established financial characters ie have already paid off any previous debts
Your culture is progressive, with a good financial history
And you are planning ahead to create future prosperity


Altogether, you appear to be in a strong position to hold the current assets while developing further property holdings

If you think it makes 'sense' to do this, then structuring the loans will be straightforward. Obviously, the existing properties, without debt, will be producing taxable rental income but hey! what a nice position to be in.

The only suggestion you may care to consider is to not use any of your savings for any further improvements to these properties, but to use borrowings as these will be the only tax relevant funds for the whole deal. Any borrowings for the new property and it's development will be personal borrowings and therefore not tax relevant from a cash flow perspective.

Of course, should you sell the current PPOR or the new PPOR you get the significant tax benefit at time of sale in that you benefit from the tax excempt status of the 'home'.

Cheers
Kristine

 

[lazzaman]

Thanks for all that, Kristine, I appreciate your help and encouragement.

I am no spring chicken though only having 15 years or so working life left in me.
The proposed move is really a bit of a lifestyle indulgence, but I am thinking it can be positive step toward retireability too if we can achieve it while hanging on to what we already have.

I can't quite get my head around all this but, is it possible to structure loans so that they are held against the existing properties so as to manufacture a negatively geared scenario wrt them?

lazza

 

[Kristine..]

Hi lazza

Unfortunately, no.

The tax relevance of borrowings is for the original purpose.

You borrowed to buy the existing properties and have paid off these loans.

The next time you borrow against these properties will be for the purchase of owner occupied property, which is tax relevant but not for gearing purposes.

So the only tax relevance for cash flow / gearing that you can squeeze out of the existing properties is if you borrow against them for the purpose of their redevelopment - the costs of the subdivision and the construction of the new townhouse. You can't divert these funds towards the purchase & construction of the acreage & the new PPOR.

But all is not lost!

The income generated from the new investments will be more than required to service the borrowings. This means that the surplus rent income will be subject to tax, but if you have only fifteen years of earning remaining, then you will be eventually reducing your income and thus your top marginal tax rate, so the rent income will eventually be your only income (simplistically) and will thus be subject to a lower tax rate.

Better to earn income from rent than to have no passive income at all, and you have done remarkably well to have paid off the current PPOR so don't beat yourself up about it.

If we knew then what we know now etc, but just because our circumstances change for the better doesn't mean that we have done things badly.

Eventually, when you sell the spiffy new PPOR the gains will be tax free, so it's all swings and roundabouts and the benefit to you, later in life, will be when you can really enjoy them.

So press ahead, borrow for the development and conserve your cash, and enjoy the fruits of your labour.

Cheers
Kristine

 

[lazzaman]

OK, Kristine, will do.

Thanks again for your advice, it is very much appreciated.

all the best

lazza

 

[peterjohnson64]

One other thing, your SMSF cannot buy residential property of any of its members. That may put a dampner on the plans. Maybe if you want to use yoru SMSF you accept the intial tax whack and place the gains into super and buy a new property. Remember the old $450k limit.

Alternatively, sell your properties to a trust (you still get the tax whack and also stamp duty and land tax)

Also get advice (even a ruling) as to your GST position with regards to the development if you intend to sell the new property.

 

[lazzaman]

Thanks for that, Peter, there is obviously much more for me to consider and to learn before acting.
I don't quite remember the old 450K limit; if you are still there, would you mind reminding me about it.

thanks

lazza

 

[lazzaman]

As you were, Peter. I understand what 450K limit you are referring to.

The tax whack though I am not so sure about, as I was hoping this propery, soon to be properties, being hitherto my PPoR, would be CGT exempt?

Thanks again,
lazza