What must be Considered in a SMSF Investment Strategy?

Your Investment Strategy needs to take into account almost every aspect of your SMSF and the following examples are just some of the considerations you need to take into account in preparing your Investment Strategy.

This may sound daunting or even intimidating and for many people it is, however, it doesn’t have to be that way.
At Investors Direct we have the tools and expertise necessary to help you prepare your personalised SMSF Investment Strategy. Our SMSF Qualified Financial Planners can assess your situation and help you meet all the requirements that you need to keep your SMSF compliant and your retirement funds safe.

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Do you have a SMSF Investment Strategy?

According to Superannuation laws all SMSFs must have an Investment Strategy but not everyone knows this is required. When an SMSF is setup it usually has a default or generic template Investment Strategy to tick the compliance box but, in reality, many of these would fail if scrutinised under an audit. It’s quite possible many SMSF setups are in breach of their Investment Strategy already.

For example, if your Self Managed Super Fund Investment Strategy doesn’t state you have allocated a portion of your SMSF Funds to property and you’ve bought one, you could very well be in breach already, putting your retirement funds at risk.

For this reason it’s important to consider all aspects of your SMSF strategy.

Quite often people “review” their Investment Strategy when they do their tax returns. Simply looking at your template and creating some minutes to say you’re still happy won’t necessarily make the cut either according to the relevant superannuation rules.
For example, you may have a dual member fund with the members being aged 35 and 50. This probably doesn’t sound like a problem but it could be. The investment approach or risk appetite of a 35 year old compared to the 50 year old would be quite different and this needs to be reflected within the Investment Strategy.

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Superannuation Industry (Supervision) Act (SIS)

Within the SIS Act are a number of key rules and regulations that govern how a Self Managed Superannuation Fund can operate as well as outlining the obligations on the Trustees.
One of the key rules is that the trustees of a SMSF must have an Investment Strategy that sets out the investment objectives of the fund as well as details of the investment methods the fund will adopt to achieve these objectives, including potential SMSF loans. Specifically, the SIS Act Regulation 4.09 states that:
The trustee of the entity must formulate, review regularly and give effect to an Investment Strategy that has regard to the whole of the circumstances of the entity including, but not limited to, the following:

As you can see, the Trustees must ensure that all investment decisions are made in accordance with the Investment Strategy. In addition, they must also ensure they take into account all the circumstances of the fund when formulating their Investment Strategy.

More importantly, without the help of a Financial Planner, it’s very easy to miss the mark when it comes to meeting your obligations as a Trustee and place your superannuation at risk.

Buying Property in SMSF

Using super to buy investment property is a very popular way to build your wealth. As with any investment, minimising risk and maximising return or capital growth is a high priority.

By following a few simple rules, buying property in a SMSF can provide similar long term benefits as a property purchase outside of super. Using super to buy property as an investment offers several benefits. It has a passive income from rent and it may have taxation benefits from possible depreciation on the rental property or even Negative Gearing. Obviously there is also capital growth to consider. Which of these factors is the most important depends entirely on your point of view. There is an old Real Estate adage that talks about location, location, location being the three most important aspects of property selection.

Apart from these usual good real estate investing principles such as being close to transportation, shops, schools, parks, etc; we have added a few extra selection criteria of our own.for the investment properties to make investments work better and remain safer for superannuation purchases.

SMSF Property Selection Criteria

Properties Not Be Considered As Suitable For SMSF Investment

The restrictive nature of SMSF borrowing means a cash buffer should always be in place to provide safety and confidence. We recommend that you have sufficient cash reserves inside of a SMSF to cover unforeseen loss of rental income or loss of Super contributions due to a change in your personal circumstances.

Naturally, the size of this buffer will be different from person to person and we encourage you to speak to our Financial Planners who are skilled at sorting through these challenges.

The Structure

Now that you have decided to set up a SMSF, the correct structure for buying property can be explored further.

SMSF property investment using leveraged funds is regulated under the SIS Act. These superannuation regulations only apply when borrowing is used for a purchase. You could buy a property outright in the name of the SMSF if you had enough money sitting in the fund and the SMSF regulations would not apply. However, leveraging is a core investment principle and borrowing will be the means by which most people will be able to buy property.

This flow chart demonstrates how an SMSF fund conducts a property purchase using borrowed funds. It shows the relationship between the Self Managed Super Fund (SMSF) who contributes the deposit monies, the entity that provides the security for the loan (Bare Trust) and the Lender during a property transaction….

You can see that the purchase is made in their name of the Security Custodian/Bare Trust which provides a beneficial interest to the SMSF. The SMSF applies for the loan and the Lender takes out a Mortgage over the Property to satisfy their security position.

The owner of the property provides a Guarantee to the Bank, agreeing to the use of the property as security for the loan.

It’s interesting to note that the Lender only has recourse against the security property under Limited Resource Borrowing Arrangements in the case of default. This goes some way to explain why the credit policies for SMSF are so restrictive. Selling up a security property under an LRBA and being left with a potential shortfall would present a problem for any Lender. Their solution is to push the LVR down so any potential borrower has to contribute more with the added benefit of the property being almost self-servicing via the rent. The risk is reduced for both parties.

Taxation Considerations

There are many considerations from a tax perspective when using Super to invest in property. Obviously you must be well informed of your taxation obligations to comply with the relevant ATO rules. Knowing these obligations will minimise any risk of breach.

As a SMSF trustee, you have a responsibility to make sure that the fund does not underpay tax or make any mistakes in it’s income tax return. We recommend speaking to a suitably qualified tax professional to make sure that you get your tax right, first time, every time.

Income tax

The ATO is the official regulator for Self-Managed Superannuation Funds. They supervise SMSF compliance and contribute to superannuation and taxation laws. Given that a SMSF is essentially a trust taxation structure; the ATO is obviously best placed to handle all parts of SMSF compliance.

We should also recognize that the sole purpose of a fund is to provide retirement benefits, not save tax, so the current low tax rate is designed to encourage people to save for retirement. Without this encouragement people may decide to forgo superannuation and just rely on any applicable Government benefits.

Before retirement, members are usually working and their fund receives contributions from their employer. They accumulate funds until their retirement and in general, they can’t withdraw any money from the fund before then.

Currently, a SMSF pays 15% tax on its Normal Income, which includes:

  • Interest.
  • Dividends.
  • Managed fund distributions.
  • Capital gains less than one year
  • Concessional contributions from an employer.
  • Deductible member contributions.

Long term Capital Gains, Special Income, Franking Credits and Foreign Tax Credits are all treated differently than Normal Income. Think of this as another reason why you should talk to a qualified tax professional about your Fund.

Avoiding double stamp duty

The last thing an adviser wants for a client entering into a SMSF loan, is for them to be slugged with a bill for double stamp duty. This is a real possibility if the process of acquiring the property and then transferring it into an SMSF is not conducted properly.

Avoiding double stamp duty depends on the way the property is put into the bare trust, also known as a Holding Trust, before it is ultimately transferred into the self-managed superannuation fund.

However, stamp duty law varies from state to state so there isn’t one single way to get a property into that Bare Trust.

What is essential is that the asset transfer process is strictly adhered to, making sure there is no question as to whether the Trustee really purchased the property for their SMSF. There should be no suggestion that they bought it on their own behalf and decided to put it into their SMSF later. Though the timing of the process varies from state to state, clients enter into the contract for sale in the name of the Trustee of the Bare Trust, making it very clear it is entered into at the super funds direction. This is an issue Financial Advisers work out for their clients in conjunction with a legal specialist in the SMSF area. Don’t think the Lender will bring this issue to your attention either. As far as they are concerned, Stamp duty is not their problem.

Capital Gains Tax (CGT)

Capital Gains Tax is a reasonable concern for property investors and the method of calculation can be confusing when the property is held inside a SMSF structure. Let’s create some clarity about CGT and an SMSF.

Your SMSF’s assessable income includes any net capital gains. Complying SMSFs are entitled to a CGT discount of one-third if the relevant asset had been owned for at least 12 months depending on whether the super account is in pension phase, or in accumulation phase.

Accumulation Phase

Another way of describing ‘accumulation phase’ is simply to say when a super account is not in pension phase (that is, not paying an income stream/pension).

While a super account is in accumulation phase, any earnings on the assets representing that super account are subject to 15% earnings tax, although capital gains may be taxed at a discounted rate. Naturally, any capital gains that your superannuation fund makes from the sale of fund assets are subject to earnings tax. The tax implications when selling a SMSF asset, such as a property investment, will depend on the length of time a SMSF owns the asset before sale.

Therefore, during accumulation phase, if an asset is sold within 12 months of purchase, then any capital gains is subject to 15% earnings tax. More importantly, if the SMSF asset sold has been held for more than 12 months by the fund, then the fund can take advantage of the CGT discount. The discount means the SMSF only pays 15% earnings tax on two-thirds of the capital gain, which is basically, a capital gains tax rate of 10%.

Pension Phase

If an individual is drawing a pension from a SMSF account, then no tax is payable on any earnings from assets financing the superannuation pension. This pension is known as an income stream.

In short, your super fund does not pay tax on investment income, including capital gains, from assets that finance a super pension.

This can potentially save you thousands of dollars in capital gains tax when compared to holding an asset outside super.

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Who borrows the money?

The Trustee for the Self Managed super fund applies for the loan and enters into the loan Contract while the Trustee for the Bare Trust.

The Trustee for the Self Managed super fund applies for the loan and enters into the loan Contract while the Trustee for the Bare Trust, also known as the Security Custodian, provides a Guarantee to the Bank. The Guarantee is required because ownership of the security is not in the name of the SMSF and the Bank needs to link the two together to protect its Mortgagee status.

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Are there any restrictions to borrowing money?

A SMSF can borrow money for acquisition purposes only. In simple terms that means a purchase only. Once the loan has been made no further borrowing on that security property by the SMSF is allowed.

A SMSF can borrow money for acquisition purposes only. In simple terms that means a purchase only. Once the loan has been made no further borrowing on that security property by the SMSF is allowed. So, if the property needs repairs or renovations the Self Managed Super Fund cannot borrow money for that purpose. It can use it’s own money to do the work of course, but borrowings are not permitted. The only exception to further borrowing is a refinance of an existing SMSF loan but no equity release is possible.

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Are these loans available from all lenders?

Each Lender determines their own place in the market based on the type of customer they want to attract. They manipulate their Pricing and Credit policies so they appeal to those customers. Self Managed Super Fund loans in themselves are a complex Lending product to offer to the public and not every Lender has the appetite to become involved in the sector. Given that, there are Lenders experienced in SMSF lending who are happy to have this type of loan on their books. Even so, each lender will still have policies designed to minimise risk to their business. For example they may stipulate what types of properties they will accept as security, or the LVR that will apply. The Credit policies for SMSF loans are quite complex and it’s highly recommended you talk to an experienced SMSF Mortgage Professional when considering borrowing under this structure.

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How are these loans different from other Mortgage Loans?

Loans to Self Managed Super Funds are known as Limited Recourse Borrowing Arrangements or LRBA. The loan for property is of a non-recourse nature, meaning that the Lender does not have recourse to other assets within the SMSF, other than the nominated security. It’s important to understand that the Lender will always ask for a Guarantee from the Director and Secretary of the Corporate Trustee for the Super Fund which is normal lending practice. In the case of individual Trustees, Guarantees will still be required. You will also be required to obtain Legal advice on the consequences of entering into such an arrangement, but again, this is standard lending practice. Some Lenders will also insist on Financial advice as well.

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How are Super Loans assessed?

Unlike loans outside of Superannuation, SMSF loans only use the contributions to the SMSF as the income along with any rent from the Proposed property purchase. Given how sensitive we all are to Superannuation its no wonder that the Banks are quite strict with the policies surrounding SMSF loans. Being able to service the debt is a high priority for any Lender so naturally they are more strict with SMSF lending than other types of finance. As a rule of thumb, you can count on getting an LVR of around 60% because of these restrictions even though Banks advertise up to 80%. Mortgage Insurance is not available so a strong balance in your SMSF is essential. There are also Asset tests, Liquidity tests and minimum balance requirements to navigate through before any loan amount or lender can be confirmed.

This complexity means a Mortgage Professional is the ideal person to guide you through the options available to you for borrowing. More than any other type of finance, SMSF loans demand an expert opinion.

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Buying property in SMSF

How are Super Loans assessed?

Who signs the contract of sale?

Ownership of the property rests with the bare trustee who becomes the legal owner of the property. The Trustee for the Bare Trust is the entity that signs the Contract of Sale for a property purchase where SMSF borrowing is required. Each state has somewhat different rules in relation to completion of a property contract; therefore we recommend that when a nominated purchase is made that you seek legal advice from someone qualified in property law in the state where the proposed purchase is located, to confirm the correct naming convention.

Tip: To ensure your purchase proceeds efficiently and that you are confident you have the ability to complete the purchase, Investors Direct manage the process for you where your property purchase is arranged through us.

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Summarising the process

How are Super Loans assessed?

The steps involved in purchasing a residential property in a SMSF can be summarised as follows:

 Stage 1
 1-2 hours  On interest in SMSF Property  Learning what a Self Managed Super Fund is, How it can be used and deciding if this is a valid investment for your circumstances.
 Stage 2
Property Hunting
 Indefinite  Indefinite  Finding a property that meets your preferred criteria
 Stage 3
Finance Eligibility Analysis
 1 hour  Within a week of Intention of Purchase  Establish if your super fund situation allows for you to borrow enough to safely secure the purchase
 Stage 4
Financial Plan Production
 1 – 2 hours reading  1 week  A Financial Planner arranges a written policy framework for your superannuation to invest into your chosen property.
 Stage 5
Authority to proceed on structure
 1 hour  1 week  Your Plan is discussed and authority is granted to begin the set-up/review of your SMSF structure.
 Stage 6
Property Hunting
 1-3 hours  1-2 months  Setting up your SMSF, TFN and ABN, writing your investment strategy, setting up bank accounts and finally the bare trust.
 Stage 7
 1 hour  1 month  Insurance is reviewed and the rollovers from old funds can be processed.
 Stage 8
Finance is then reviewed
 1 – 2 hours  2-3 months from settlement  Finance application is prepared. On approval loan documents are sent. A Solicitor will be required for advice. Settlement is booked when documents received by the Lender.


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