What you need to think about – and organise – before you retire and enjoy your golden years.
Ever wondered why so many small business owners have self-managed super funds (SMSFs)? A natural tendency to want to do it yourself is one reason; another is the ability to use your super to invest in property that can also be used in your business.
What is business real property?
Business real property generally means land and buildings used wholly and exclusively in a business, such as an office or medical practice. It can’t include a home or other residential building.
Can SMSFs engage in transactions with related parties?
Generally speaking, SMSFs are prohibited from engaging in transactions with ‘related parties’ of the fund, which includes members of the fund, their family members and business associates.
There are some exemptions to this, however; one of these is the ‘business real property’ exemption. This exemption allows an SMSF to acquire a property from a related party of the fund (such as a medical practice you currently own in your own name), and lease it to a related party of the fund, such as your own company.
Business real property is also excluded from the in-house assets rules (which generally prohibit transactions with related parties).
Are there any restrictions on this exemption?
Yes, there are restrictions. Holding the property must align with the fund’s investment strategy, and all transactions that occur must be on an arms’ length basis. This means that if your SMSF buys business real property from you or a related party of the fund, it must pay market value for the property, and if your SMSF leases the property to your business, your business must pay market rates of rent.
Your SMSF also needs to ensure it meets all its other obligations, such as separating the assets of the fund from those of the members, and paying relevant ongoing expenses relating to the property. This ensures that your SMSF continues to meet the sole purpose test of providing benefits for your retirement; it also means that you are making the most of your retirement savings.
SMSFs hold approximately 11% of their total assets in non-residential real property. (ATO - Self Managed super fund overview 2013-2014)
If you are sure a particular property is right for you and your business, buying it through your SMSF can have several advantages.
- It can ensure that you have continuity of tenure for your business, without needing to worry about a landlord and adverse terms or rental arrangements.
- The rent you pay to your SMSF is generally tax deductible to your business, while income to the fund is taxed at a maximum of 15%.
- Superannuation is also generally protected from creditors if you or your business goes bankrupt.
As with any strategy, there are several important risks to understand and consider.
- If the property you have chosen is not the right property for your business, you may have trouble renting it to another tenant or selling it, which can impact your retirement savings.
- If your business is short on cash flow, it can be tempting to stop paying rent for a while; this is strictly prohibited and could result in significant fines or even having your fund taxed at the highest marginal rate (which means losing half your retirement savings). You need to be confident your business can afford to rent the property, or that you can vacate it and find another suitable tenant if necessary.
- Your SMSF will need to take care of insurance and maintenance which can be expensive over time. As with any other investment, you want to be sure that you are getting a good rate of return on your funds.
One of the most important considerations when investing in business real property is what you will do with the property when you retire.
The purpose of superannuation is to provide benefits when you retire; this can be difficult when your super owns a single large asset as the net rental income may not be enough to provide a pension for you and any other members in your fund. Generally it is advisable to have a succession strategy in place prior to retirement; alternatively you should consider diversifying your SMSF assets several years before you intend to retire, so you can start a pension and have time to dispose of the property.
Investing in business real property through your SMSF is a significant decision; it is advised that you seek professional advice from an SMSF specialist before entering into any transaction.
To find out more about investing in property through your SMSF speak to a NAB Business Banker – Request a call back.
If you’re looking to set up your SMSF our Establishment Service can help you get started.