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Commercial Property in SMSF using a SMSF Loan

On the 25th of September 2007 the Superannuation Laws changed to allow SMSF’s to invest in geared property. Here at GGA we saw this as a fantastic opportunity for or property investor clients to diversify their portfolios and we have been helping them do since the law changes in 2007. The gearing is required to be in a specific form known as a SMSF Loan and it creates some exciting opportunities for those people who own business real property or are thinking about purchasing business real property.

A SMSF is allowed to purchase business real property from a related party unlike residential property which can only be purchased from an arms length third party. For those running a small business out of commercial premises they own, that property could meet the small business Capital Gains Tax (CGT) relief tests. If those tests can be met the property can potentially be transferred to the SMSF Tax Free.

Here is an example:

David and Megan Miller run the local bakery and they are paying the freehold premises off with a Bank Loan. The premises are in their individual names. The market value of the property is $580,000 and the loan is $200,000. David and Megan’s net assets (apart from their principal place of residence) are $1.8 Million. This is well under the $6 million threshold for the small business CGT concessions. As the premises is being used in the business, it is an active asset for compliance with the small business CGT concessions, allowing further discounts.

David & Megan are advised that they can rollover their combined existing industry super of $130,000 into a SMSF, and then transfer the business premises into the fund. Taking advantage of the ability “bring forward” two years worth of non-concessional contributions, David & Megan can contribute up to $900,000 combined. Given their bakery premises is worth $580,000 they are well under this limit.

David and Megan carefully assess their situation, in consultations with their advisors, and decide to setup the SMSF and transfer the bakery into the new fund. The freehold was purchased for $280,000 10 years ago and is now worth $580,000, so they have a $300,000 nominal capital gain in their own names as a result of the transfer of the property into their SMSF. That capital gain receives a 50% discount because it has been held longer than twelve months and is in individual names. The gain has now been reduced to $150,000. The small business capital gains tax concessions give another 50% discount so the taxable capital gain is $75,000. The small business capital gains tax laws allow the final taxable amount of $75,000 to be rolled into superannuation tax free so this is what David and Megan do.

As part of this process, and at the same time as arranging the property transfer, David and Megan have set-up a SMSF loan to payout the original loan of $200,000 in their personal names.

The result is that they have a geared property in their SMSF that has a 15% income tax rate on the net rent of the property. The property is completely protected inside the SMSF from potential creditors or lawsuits. David and Megan also intend to pay down a significant amount of the loan principal over the next couple of years and they are advised that if the additional funds are coming from concessional contributions made from their business then they will have a further tax saving of up to 25% which is not possible outside of super.

Finally, if David and Megan originally used another property as security for the purchase of the bakery in their own names then this mortgage can be released freeing up equity for other financial investments that they may want to make. This is a tremendous result for David and Megan showing the power of business real property being transferred into a SMSF in the right circumstances.

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