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Property Development

The Primary Rule of Property Development

Self-Managed Super Funds can invest into property, but the overriding principle is that the Fund cannot have any associated loans if property developments are undertaken.

Investing in land or subdivisions

An SMSF can invest in property with or without loans, provided the Investment Strategy allows for it. When a Fund is using a loan to purchase an investment property, it’s a legal requirement to set up a Limited Recourse Borrowing Arrangement (LRBA) to facilitate lending. The investment property will be described in detail in the Deed of this LRBA. It’s important to note that the nature of the property is not allowed to change while the loan – and therefore the LRBA – is in place.

Generally, property development is not permitted if a Fund has an LRBA in place. See the table below for some examples of property developments that are prohibited under the Tax Office rules while there are loans in the SMSF:

Type of Property Prohibition
Vacant block of land on a single title The land is subdivided into multiple titles
Vacant block of land on a single title Building a residential house on the land
Land with a house on it Changing the nature of the property, e.g. changing from a 3 bedroom to a 4 bedroom property

However, a Fund can purchase an off the plan property with settlement on the completion of the property.

If an SMSF intends to develop a property it owns or perform a subdivision, the Fund cannot do so while an LRBA is in place. If the Fund intends to develop the land or perform a subdivision on land currently in a LRBA, the loan needs to be settled before any development can take place or alteration in the nature of the property can be made.

The Australian Taxation Office have recently released a new Bulletin regarding Property Development with Self-Managed Super Funds. For the entire regulators bulletin, please see the link below:

Alternative approach

An SMSF can also invest in property development using a unit trust structure. A section 13.22C unit trust is a non-geared unit trust that allows SMSFs to invest in property with a related party. For more information on unit trusts, see here.

Q: Can an SMSF invest in a property with a related party

Answer: Yes, it is possible for an SMSF to invest in a property with a related party. Trustees can either set up a Section 13.22C unit trust or undertake the investment as co-investors under an agreement referred to as tenants in common. Both parties will incur costs and receive income in accordance with their proportionate ownership.

Q: Can an SMSF undertake a property development in a S13.22C unit trust arrangement with a related party

Answer: One of the limitations of a Section 13.22C unit trust is that the unit trust cannot have any loans. However, as per our understanding of the SMSF Legislation, the related party in the Section 13.22C unit trust can take out a loan in a personal capacity before entering into the Section 13.22C arrangement with the Fund. However, when doing so, the related party is not allowed to use the property as security for the loan as an SMSF is not allowed to invest in an asset with a charge over it. Therefore, if the Fund has set up a property trust with a related party that meets all of the requirements of a Section 13.22C unit trust, property development can take place on the basis that there are no loans in place.

Q: Can an SMSF undertake property developments as a tenant in common when investing with a related party

Answer: Once again, if the Fund is financing the property investments with loans, no property development can take place, even for tenants in common. However, if the Fund entered into a tenant in common agreement with a related party, the related party can take out a loan in a personal capacity before entering into the arrangement with the Fund, provided that the property is not used as security. Therefore, the ground rule is, if the property has a loan, there can be no property developments on the property until the loan has been paid off.

Q: Can an SMSF borrow to repair and maintain an existing property it already owns

Answer: Unfortunately, an SMSF is not allowed to borrow to repair and maintain an existing property it already owns. As per the Tax Office Ruling SMSFR 2012/1, borrowing to maintain an existing property does not satisfy the requirements of the LRBA provisions. However, if a property is already financed with an LRBA arrangement, the SMSF can use the borrowing to repair and maintain the property. Any improvements on the property under an LRBA arrangement are not permitted (maintenance and repairs are okay).

If an SMSF wants to use loans in purchasing a property, Trustees need to remember to set up a Bare Trust structure.

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