Ever considered investing in Self-Managed Super Funds? For this article, we consulted property and tax expert Jeremy Iannuzzelli for all things SMSF.
Is there equity to be extracted from SMSF purchases?
How is it different from investing on your own?
Can you do negative gearing for properties under SMSF?
These are some of the questions we typically get about Self-Managed Super Funds. To help us dig deep into these questions, we consulted with property and tax expert Jeremy Iannuzelli who helps a number of clients investing in SMSFs.
What’s a Self-Managed Super Fund?
An SMSF is a private super fund that’s managed by its members.
As a member, you’d put in the money you would otherwise put in a retail or industry super fund into your own fund where you’d choose your own investments and insurance. That means you’re the one who’d be making the financial decisions.
You’d be the one cherry-picking your investments rather than going into a pool of thousands of people. And you’ve got advisors on the other side, trying to allocate where they want to put that money.
It’s all about finding the best fit for the fund. After all, the members of the fund are its trustees, as well.
Jeremy said that people see SMSFs as another avenue to gain borrowing and buy property during times when there’s a lending crunch and people couldn’t borrow under their own names.
This is because SMSFs are allowed to borrow to invest in assets under a limited recourse borrowing arrangement (LRBA) As such, SMSFs have become a go-to investing strategy for many property investors, especially those who have no means of qualifying for a loan on their own.
Now, the question is:
If you have other options at hand, should you even consider investing in an SMSF?
Well, to help you make that decision, let’s first take a look at the most salient features of an SMSF.
5 SMSF Features to Keep in Mind
According to Jeremy, these are the five most important SMSF features to keep in mind if you’re interested in investing in one:
Feature #1 – It doesn’t let you extract equity
When you’re a property investor outside super, you can pretty much do anything you like.
However, being an investor and a trustee in an SMSF means you won’t be allowed to use assets inside the fund as security against any other investment. That means using any equity in the fund’s investments to finance another property is one of the prohibitions for SMSFs.
The only way to access the equity in those SMSF properties is by liquidating the asset or winding down the fund and distributing the standing equity to the trustees.
This might be a dealbreaker for some people… especially those who are looking to grow their borrowing capacity to finance more investments.
Feature #2 – It doesn’t work well with negative-gearing
One of the common misconceptions about SMSFs is that it doesn’t allow for negative gearing. That’s not entirely true. Your superfund can have a negatively geared asset because there’s no prohibition for such.
However, the tax rate on SMSFs is 15%.
So, to spend the dollar and reduce the tax of the super fund by 15%… it really means that there’s an 85% loss factored in from the contributions that need to make up the difference.
While it’s not prohibited to have a negative geared asset in an SMSF, it’s not an attractive strategy to have. The tax incentives aren’t there and there’s a big risk attached to just banking on one aspect, which is capital growth.
Feature #3 – It offers little room for creativity
Jeremy also shared that many people get carried away too quickly when investing in an SMSF.
That means they go off the plan and make lifestyle decisions… as if forgetting that it’s not their asset, but the super fund’s. And when all your decisions have to be for the benefit of the members’ retirement, there’s little room for creativity.
Jeremy’s advice, thus, is to detach yourself from the asset you’re buying if you’re doing it under an SMSF investment setup. You’ve got to really treat the fund as a business, which always needs to be profitable and doesn’t serve one’s personal lifestyle choices.
Feature #4 – It’s subject to the SIS Act
Under the SIS act, members of an SMSF have to abide by certain rules and limitations as a way to keep all members’ investments safe. The catch is that you’d also be the one who has to ensure compliance with the act.
Since it’s a self-managed fund, you can’t rely on anyone else but your co-members or co-trustees to ensure that your investments are always compliant with the regulations.
Feature #5 – It subjects the investor to distinct costs and borrowing limitations
And speaking of regulations… one final thing to keep in mind is that an SMSF is not allowed to borrow for construction.
You can’t buy land using SMSF funds and ask the bank for a construction loan. Sure, you could construct using the cash inside the superfund, but you can’t borrow specifically for construction.
So, if a huge part of your strategy is constructing granny flats or doing huge renovations, you’ve got to keep in mind that there are borrowing limitations to doing that inside an SMSF.
Investing in SMSFs: We Leave the Decision Up to You
Now that we’ve laid out all the cards on the table about SMSFs… we’ll leave the decision up to you whether this can be a part of your overall property investing strategy.
As with any other fund or portfolio management strategy, there are benefits and risks associated with a self-managed super fund. As long as you’re aware of those things, then you can make the right informed choice about getting started with an SMSF.
Just study your options well and do what makes the most sense for you as a property investor at the moment.