Can you? When it comes to investment property and the basic SMSF, it’s a question financial advisors hear all the time. Some ideas are great ways to grow the fund, while others fail miserably. Mostly, these fails are due to a total misunderstanding of the regulations around the use of SMSF property. Here’s some tips to stop you making the same mistakes
The ability to invest in property means you can, it doesn’t mean you always should. It will depend on your specific circumstances as to whether that’s worthwhile for you or not. Firstly, remember that whilst it is indeed legal to buy property by borrowing in the SMSF, it’s very strictly regulated and can only be done under a limited recourse borrowing arrangement. This requires a fairly complicated arrangement involving a bare trust, and stipulates that the property in question can be the only security for the loan, not other assets of the smsf. You will, in all likelihood, need assistance in getting this one right.
But it’s not so much the purchasing as the maintaining that provides dreadful sticky areas under the law. For starters, you can borrow money to make repairs of carry out maintenance, but not for improvements. It all boils down to the fact that, under law, the asset must remain the asset that was purchased. It’s the same reason that you cannot subdivide the property into two if the property is held by the smsf .
The natural result of this is some very strict definitions of what maintaining and repairing actually are. Repair is remedying damage and deterioration. It’s a safeguard enabling the continuance of the property. Maintaining is the preventative work anticipating defects and damage. Things like painting the property would fall in this category. Lastly, improvements go beyond keeping the assets as it is. They provide something new, usually in a way that will bring in more money. They change the character of the original item, and don’t merely restore the functioning of the property.
Think of it this way. If you were to have an electrical burnout in a room in the asset you’d bought for the SMSF, you would be able to borrow money to make the repairs. This means you could do everything necessary to return the asset to its original, useable condition. You would even get away with a minor change like adding a smoke detector to prevent future issues. If, however, you extended the kitchen, knocking through the wall that exists, doubling the square footage, then you would be improving it.
Taking it a step further, this ruling would mean that should the house burn down fully and the insurance money be put to building a comparable house of very similar plan with the same amenities, you’d still be fine. Using it to build a completely remodeled house substantially different to the original plans, however, would not be.
It’s simple on paper, but it can be a difficult piece of the legislation to use, so be absolutely sure you’re in compliance at all times.