January 4, 2011

5 common questions about buying property with super

By Kris Kitto

Over the last month I have received numerous emails from people asking questions relating to buying property with a SMSF utilising the super borrowing opportunity.

This article reviews the five most common questions I am asked.

1. What name needs to go on the contract?

This seemingly simple question is probably the most important when utilising your super to purchase property. Unfortunately this is the area that property investors (and their advisers!) seem to get wrong.

The name on the contract for the purchase of a property when a SMSF loan is used needs to be the trustee of the custodian trust (holding trust / bare trust). The trustee should be a company, for example:

Smith Custodian Pty Ltd [A.C.N. 123 456 789]

Although individual trustees can be used, for example John Smith and Jane Smith, a separate company has the following advantages:

  • The majority of banks and lenders who have SMSF loan products require a company as trustee of your custodian trust
  • Property registered in the name of the company will be legally separate from those held in the personal names of the members of the SMSF
  • A separate “two-dollar” trustee company adds another layer of legal protection (which is important as shown by this article)
  • The same company can be used as trustee of multiple custodian trusts

The following names should NOT be put on the contract when your SMSF purchases property utilising borrowings:

  • The name of the SMSF
  • The trustee(s) of the SMSF
  • The members of the SMSF
  • Any of the above with “or nominee”*

*Although it may still be legally binding in some states where “or nominee” is used on a contract to purchase property, it is not in others (such as Queensland).  In addition I have experienced the problems it can create when the banks legal department / solicitors review the documentation.

If you sign a purchase contract for a property with the intention of it being held by your SMSF using borrowings, and you don’t have the correct name on the contract, you will need to go back to the vendor and arrange for an entirely NEW CONTRACT to be completed with the correct name.  This of course is not ideal and you may lose any leverage you have gained in the negotiation of the price and terms of the original contract.

Please refer to page 13 of my SMSF Borrowing 101 ebook which you can download by filling out the form at the top right of this page.

2. Can I buy a block of land and build a house or develop an existing property?

A significant limitation built into the laws that enable your SMSF to borrow to purchase property is that any monies borrowed must be used to purchase a ‘single acquirable asset’.

This means you cannot do the following*:

  • Buy a block of land and engage a builder to construct a dwelling or commercial premises
  • Buy an existing property and develop it
  • Enter into a borrowing arrangement and use borrowed funds to enter into a contractual arrangement which gives the right to a completed property – such as an off-the-plan development
  • Sub-divide

*The above only applies to borrowing arrangements entered into after 7 July 2010.  For borrowing arrangements entered into between September 2007 and July 2010 the above restrictions do not apply.

If you are looking to purchase an off the plan development property, you need to ensure that when the SMSF enters into the borrowing arrangement, the asset is acquiring is actually the completed property – not just a contractual right.  It may simply come down to timing as often with strata-titled developments the separate strata titles do not come into existence until completion.

If you do want to utilise your superannuation monies with gearing to undertake some form of property development, you have a couple of options:

Commercial property (i.e. business real property):

Develop the property in a different name (such as a family trust) and on completion have the SMSF purchase it.  There will obviously be additional costs to be considered if using this strategy, however most state governments (except Queensland) offer stamp duty exemptions or reduced stamp duty on the transfers.

This strategy cannot be used for residential property as residential property typically cannot be acquired from a related party.

Development of commercial property can also use the next strategy.

Residential property:

A private unit trust can be established which the SMSF can invest into via the purchase of units, and those monies can be combined with borrowed funds to undertake the development – provided the SMSF and related parties do not own more than 50% of the total units.

So to utilise this strategy you need to get another party involved – which could be friends, however cannot be family or business partners.

This strategy can work very effectively if done correct with the correct people and the correct advice and I believe it is a very under utilised strategy when using super to develop property.  However if it goes wrong it can be an absolute nightmare – not just from an investment perspective, but also a superannuation law compliance perspective.

For further information on the related unit trust structure, please refer to my previous article: 6 ways to buy property with super.

3. How long does it take?

The process of buying property with you super always takes longer than buying property in your personal names.  This is due to the extra steps you and the lender have to go through.

I suggest the following time frames as a n approximate guide:

  • Obtain SMSF ABN (Australian Business Number ~ required for transfers of super) – up to 28 days
  • SMSF receives rollover of monies from existing retail / industry super fund(s) – another 28 days
  • Contract date to finance approval – approximately 3 weeks
  • Contract date to settlement – at least 6 weeks, stretch it to 8 weeks if possible

A lot of time can be saved by having your SMSF established and flush with cash from your rollovers before you are ready to purchase a property.  Then it is simply a matter of setting up the trustee company for the custodian trust (the name for the contract) – which should be able to be done within 24 hours.

In regards to obtaining finance (the SMSF loan) if you are self employed you will need to have two years worth of financial statements and income tax returns (business and personal) and also two years worth of superannuation statements and/or SMSF accounts to enable the bank to verify your income and super contributions.

You need to ensure your accounts and tax returns are up to date (and lodged) before signing any contracts otherwise you may find it difficult to obtain loan approval.

Similarly,  if you are a wage / salary earner, you will also need two years of lodged income tax returns and superannuation statements and/or SMSF accounts.

4. How much can my SMSF borrow?

Depending on the lender, you can borrow up to 80% for residential property or 65% to 70% for commercial property.  The above LVRs are subject to postcode restrictions and other lending criteria specific to the individuals banks / lenders.

Some lenders also have SMSF loans available for rural / farm properties, however the LVR is significantly lower at 50%.

Just because you can borrow up to 80% doesn’t mean you should.  My rule of thumb is no more than 2/3rds (67%) should be borrowed, otherwise your property will likely end up being cash flow negative – which is not idea.

Please click here to visit my resources page where you can find a SMSF limited recourse loan comparison (PDF) for further information.

5. How much does it cost?

This is the $64,000 question – however it doesn’t cost that much!

If you have read my other articles, you know that I firmly believe that you get what you pay for. When it comes to using your super to buy property trying to be cheap now can make you a lot poorer in the long run.

The following is a general guide if you came to me and sought my assistance to buy property with your super*:

  • New SMSF establishment with new trustee company – $1540
  • Custodian trust documentation with new custodian trustee company – $1430 (subject to change)
  • Specialist SMSF advice and guidance through the entire process (including liaison with banks and solicitors) – $1000 to $2000 depending on time required
  • Legal conveyancing – $1000 to $2500 depending on your chosen solicitor
  • Banks legal fees – up to $2420 – varies by lender
  • SMSF loan establishment fees – up to 1% of loan

*This above quoted prices are subject to change and include ASIC company registration fees where applicable.

Discounts are available for accountants, financial planners and property industry professionals.

All the above amounts are either paid for by your SMSF, or paid by yourself personally and then reimbursed once you SMSF has cash available from your rollovers.

The SMSF trust deeds and custodian trust documentation are all of the highest quality and have been accepted by all the major SMSF lenders.

Summary:

The above list is not exclusive – I have received many more in regards to buying property with super, however the above five questions probably cover 80% of what I am asked.