Should your SMSF buy your rented business premises?
One of the most popular investments by self-managed superannuation fund (SMSF) trustees has long been commercial property.
Indeed it is one of the first questions we are often asked when clients set up an SMSF.
However the changes to superannuation from July 1, 2017, which reduce, or eliminate, the amount of contributions people can make to superannuation on an annual basis may mean that investing in commercial property is less attractive to SMSFs.
While the changes will certainly make it more difficult to finance the acquisition of such large lumpy assets, such investments shouldn't be dismissed entirely, especially if it meets the fund's overall investment objectives and the retirement aims of its members.
There is still scope for SMSFs to acquire and own a commercial property, as long as proper planning is put in place, or if they were able to utilise tax concessions such as the small business capital gains tax (CGT) concessions pertaining to superannuation which have not changed.
There are two main situations where SMSFs seek to invest in commercial property - firstly where the property is just another investment, and secondly where the property is used by the fund members or another related entity to carry on a business.
Both offer benefits to SMSF members.
In the latter scenario, there are particular issues to consider when the SMSF acquires the asset from a related party, rather than from an independent vendor.
It is vital that trustees avoid breaching the rules that require a superannuation fund to transact only for certain specified purposes relating to providing for the members' retirement (the 'sole purpose test') and rules restricting the acquisition of assets from related parties.
A key question that has come up in recent times is whether a family or their related entities might transfer a commercial property into their SMSF as an in-specie super contribution, using the small business CGT concessions to reduce the tax otherwise payable on the transfer.
While there is a general prohibition against a superannuation fund acquiring assets from related parties (such as members), one of the permitted exceptions is for business real property used wholly and exclusively in one or more businesses, whether carried on by the entity or not.
It is critical that all transactions between the parties are undertaken for market value.
The ATO has issued a ruling providing more detailed guidance on this subject.
As a further departure from the general rule it is worth noting that, for primary production land, it is permitted to have a house and up to two hectares of surrounding land used as a private residence, without causing a loss of the property's status as business real property.
There are also special rules addressing the limited situations in which a SMSF can use borrowings to partially fund investments.
Eddie and his wife Susannah jointly own a commercial building used as a factory and warehouse by Tower Pty Limited, in which they are each 50% shareholders.
They are also the only members of the Gilead Superannuation Fund, and would like to build up the level of their superannuation balances.
However as with many small business owners, they lack the available cash to make substantial non-concessional contributions on top of the concessional contributions already being made.
Eddie obtains an independent valuation of $1.25 million for the commercial building, which they had acquired in 1986 for just $50,000, i.e. a total capital gain of $1.2 million.
After deducting the 50% CGT discount, and applying the small business CGT concessions in the most tax-effective way, it is possible for Eddie and Susannah to transfer the building to the Gilead Superannuation Fund without paying any CGT and only $500 in NSW transfer stamp duty (note, other states may have similar stamp duty concessions).
By making the transfer in July 2017, and using the available 2017-18 contribution limits of $650,000 (i.e. $25,000 each as concessional contributions and $300,000 each as non-concessional contributions under the three year "bring-forward" rule), plus $300,000 each (up to a lifetime limit of $500,000 each) that can be contributed under the small business CGT retirement concession, Eddie and Susannah are able to transfer a substantial asset to their SMSF without cash changing hands, nil CGT and minimal stamp duty.
In this example, transferring the commercial building into the SMSF, and then renting it out to Tower Pty Limited for continued use in the business, is technically feasible; appears reasonably tax-effective; and should not breach any of the super fund regulations.
The only question left to consider is whether it is a good decision from an investment/superannuation planning perspective.