Ben Rossi discusses the benefits and risks of borrowing to buy property through super and explains how First Financial helped one young couple secure the future of their family business using this strategy.
How does it work?
Borrowing to buy property with your super is a popular strategy for people in the wealth building stage of their lives.
If you are earning an income and focused on saving for retirement, it can be a highly effective investment strategy that receives special tax treatment.
Essentially, it is using your existing superannuation as the deposit to take out a loan and buy an investment property.
You can then use the rent on that property, and potentially your future super contributions, to pay back the loan over time.
There are strict rules that must be met when borrowing to buy through super. It’s not quite as simple as taking out a home loan and it must be done through a SMSF, a self-managed super fund. The structure of this type of investment is also quite complex. It really is a good idea to speak with a financial adviser to make sure your investment is compliant and in tune with your investment goals.
What’s my end goal?
When you buy through superannuation, the loan structure is technically called a Limited Recourse Borrowing Arrangement or LRBA.
When you buy a property through your SMSF, the end goal is typically to own an investment property that is paying you an income (rent) and is structured to receive special tax treatment.
What are the tax benefits?
Structured effectively, your investment property will receive special tax treatment.
These tax benefits depend on your stage of life.
While you are still employed, building your wealth and contributing to your superannuation, the maximum tax rate you will be charged on both the rent earned from the property and any capital gains is 15% – but often, it can be quite a bit less.
If you are retired and are drawing down on your superannuation, any rent earned or capital gains incurred can be completely tax free.
Are there other advantages?
It might sound obvious, but one of the big advantages of buying property through your SMSF is that you’re buying good old bricks and mortar. And for some people, that’s a lot more familiar than other types of investments. Property is tangible – we can see it, touch it, and that’s comforting to a lot of people. Understanding and being comfortable with your investment is key to making smart decisions for your future.
By using your current superannuation as a deposit and then funnelling the rent and future superannuation contributions to pay back the loan, you may end up owning an investment property that has not only increased in value but is also an excellent source of income.
What are the rules?
Buying a property through your superannuation is not as simple as taking out a normal home loan.
There are several rules you must follow when buying residential property in particular. If the property does not meet these criteria you will not be able to claim special tax treatment for your investment.
- Can’t be purchased from a related party.
- Can’t be lived in or rented by you or a related party.
- The borrowed money can’t be used to “improve” (or substantially change) the property, but can be used for repairs or maintenance.
However, the rules are a little more flexible if you are a business owner. You may be able to purchase your business premises through your superannuation and pay rent directly into your super fund.
What are the risks?
Like all investments, there are always risks involved. It’s important you’re aware of them, so you can make an informed decision.
Firstly, there are the normal risks involved with any borrowing. You must make sure your investment is structured correctly so there is enough liquidity in your SMSF to meet the loan repayments and weather possible interest rate increases.
Secondly, the LRBA structure around buying an investment property through your SMSF is quite complex. Getting expert advice from a trusted financial adviser with experience in this area is a smart choice.
This is also why it’s important to consider personal insurance such as income protection, life insurance and trauma cover. Choosing the right insurance can make all the difference in protecting your investment. If you’re unable to work due to injury or illness, your insurance payout could ensure you can still make your loan repayments.
Who does it work for?
Borrowing to buy an investment property through your superannuation is an excellent option for people who are in the wealth building phase of life, where they are still earning an income and saving for retirement.
At First Financial we find it’s becoming increasing popular with our clients in their mid-thirties and forties who have saved enough superannuation for a deposit on a property.
As an investment strategy, it can be particularly effective for business owners who may be able to buy their own premises. This allows you to focus on growing your business, secure in the knowledge that you are your own landlord.
Watch Ben’s video at the top of the blog, where he explains how one young couple achieved fantastic results for their family business when borrowing to buy through superannuation.
Trust in experience
Because borrowing to buy through superannuation is tightly regulated and relies on a complex LRBA structure to be successful, it is best to seek advice from a financial adviser who has a wealth of experience in this area.
First Financial advisers have been working with SMSFs for over 15 years and we have completed over 50 LRBAs for clients. We help our clients ensure their funds are legally compliant and assist them in making smart decisions with their money.