SMSF Loans: The Benefits, Rules & Limitations
Many Australians save up for retirement by maximising their self-managed superannuation funds or SMSFs. Unlike industry or public sector super, SMSFs have more control over where to invest and how to grow their funds. They can even take out an SMSF loan to acquire assets like investment properties, but only if they follow the rules & restrictions.
The advantages of borrowing money using your SMSF
In the past, if you wanted to acquire assets using your SMSF, you could only do so if you had sufficient funds in your super. But that rule started to relax in 2007. Now, you can take out a loan under limited recourse borrowing arrangements (LRBAs) and purchase residential or commercial properties in Australia. You can grow your SMSF quickly with a stable rental income without using up a large portion of your fund.
One of the benefits of borrowing money through your SMSF is diversification. You can use your fund to acquire different assets. Say you have $100,000 in your SMSF. You can spend a chunk of that to buy shares and another portion as a deposit on real estate. You can then borrow the balance to acquire a property from a lender.
Borrowing money through SMSFs to purchase properties comes with tax benefits, too. You can potentially save thousands of dollars if you hold the asset in your SMSF until you retire, as you can enjoy discounts on capital gains tax for years.
The rules and limitations of SMSF loans
Again, if you want to take out an SMSF loan, you can only do so under LRBAs and follow certain rules, including:
You can only acquire a single asset at a time
Your SMSF can only purchase a single acquirable asset using a loan. You can acquire one property or a block of identical shares in the same company at a time. Want to buy another asset after that? You have to take out a separate SMSF loan.
No improvements are allowed
When you acquire a property using an SMSF loan, you’re not allowed to improve it until the loan is repaid. It’s possible to repair the investment property to prevent deterioration, but you can’t renovate it to boost its resale value.
Say you acquire an older home that you wish to rent out. You can repair or restore some areas to make them more livable. However, adding a room or extending the kitchen would generally not be permitted under LRBAs, as it increases asset value.
The asset must be held in a trust
A property bought using borrowed money through SMSF must be held in a trust until the loan is repaid. It is for the protection of the other assets in the SMSF. For instance, if a commercial property loan defaults, the lender can only access the purchased investment property for recompense. They can’t access other assets within the SMSF.
You can’t live in a property acquired through SMSF
Living on a property acquired through an SMSF loan might compromise your fund’s compliance with the Australian Taxation Office or ATO’s sole purpose test. The sole purpose of SMSFS is to provide retirement benefits to the members (or dependents if the member dies before retirement). Therefore, all investment returns made through SMSF loans should go back to the fund for the benefit of all members upon retirement. Simply put, you (or another member or trustee) can’t directly obtain a financial benefit from an SMSF loan or any other SMSF-related investment decisions.
However, the rule about this isn’t always clear-cut. For instance, your SMSF can take out a loan and purchase a commercial property that your shop or small company can rent. Your business would then pay rent to your SMSF. In this arrangement, you don’t benefit directly from the SMSF loan as your company still pays rent to the SMSF.
Final thoughts on SMSF loans
Purchasing assets & investment properties through loans under LRBAs is a practical strategy to build wealth for your retirement. But like any investment decision, you need to make sure you adhere to the rules and maintain your SMSF’s compliance. Before you make any move, ask for guidance from SMSF loan experts in Australia.
Author: Canty Digital
I started my digital marketing career as a content writer for Canty Digital. This is something I am very passionate about and have a deep love for what I do. I write content that keeps people interested in whatever they are doing. From data-driven insights to personal stories, I create engaging content for online and offline consumption.