SMSF trustees should be cautious about investing in residential property in the current market, particularly those in pension mode or where the members are likely to be drawing a pension from their fund within the next few years.
Residential property investment, especially when the market is close to a peak, generally has to be a long term strategy in order to obtain capital gains.
For most Australians in, or approaching retirement, there are many reasons why holding residential property in a SMSF may not be appropriate. Even younger trustees should consider very carefully whether holding residential property in a SMSF, rather than in their own name, is best for them.
One of the attractions of property investments is the negative gearing tax provisions which are most beneficial to people on a high rate of tax. SMSFs provide either a low tax or “no tax” environment. So property, particularly if it is negatively geared, can be much more tax effective when owned personally.
Anyone intent on investing in residential property as a way of accumulating wealth through capital gain (generally the main benefit from property investments) should consider their own circumstances and seek impartial advice. It is best not to rely on those interested in making a sale.
Some reasons why buying residential property in a SMSF may not be a good idea include:
Cashflow
Property is an illiquid asset, which should be a key consideration for retirees who are relying on their SMSF pension for living and leisure expenses.
If retirees need a significant amount of money, for instance to pay for a holiday, or buy a new car, they may need cash from their super fund. If they don’t have a mix of investments that includes fairly liquid assets, they may need to sell a property, even though they only need a small percentage of its value. It can take months to sell property and this might not fit with the trustee’s needs, and it may not be the right market to be selling in.
Carrying debt
Ideally retirees should be debt-free as carrying debt adds additional risk. Property investors who do their sums on today’s interest rates could be in for a rocky ride in three or four years’ time if they need to rollover debt.
Capital gains
Investors in residential property are usually seeking capital gains over time rather than immediate yield, which is not necessarily a sensible scenario for retirees.
Risk and balance
Holding a major asset like a single property in a SMSF will increase risk and upset the balance of a portfolio. It might also mean the fund’s investment strategy will need rewriting to prevent the trustees being in breach of the super laws.
Demands on owners
While trustees can appoint an agent to manage their property, there are always decisions to be made, placing demands on trustees.
Furthermore, property investors need to factor into their budgets that there may be times when the property is untenanted and therefore not generating income for them, which again impacts on cashflow.
Wind up of fund
A SMSF must be wound up upon the death of the last member and paid as a lump sum to beneficiaries or the estate. Real estate held within an SMSF can be particularly problematical if it is difficult to sell.
If the family wants to keep a property by transferring it out of the SMSF, it will trigger stamp duty costs.
So while it may make sense for younger SMSF members to hold (for example) business premises in a fund, it may not be so sensible for them to still be invested in real estate through their SMSF later in life.
