3 traps to avoid when investing with SMSF loans

It’s no secret that Australians are fond of home ownership and all the benefits that come with it. Property investment in particular is leading from the front in terms of saving and retirement strategies. You’ve just got to take one look at housing finance figures to see just how strong the taste is for real estate: CoreLogic RP Data figures show lending to investors bloomed 105 per cent in less than 4 years between April 2011 and March 2015.

One option that has become a real option for many Australians is borrowing through their self managed super fund (SMSF) to invest in property. You can now take out an SMSF loan, which will allow you to purchase an investment property for the benefit of your retirement fund. However, there is plenty to keep in mind when using this strategy. Here are three traps to avoid falling into.

1. Borrowing through the wrong structure

While it’s entirely true that you can borrow through your SMSF to buy property, this needs to be done under certain arrangements called limited recourse borrowing. To make sure you get the most benefit from your SMSF loan and avoid falling into hot water with the law, it’s important that this structure is carefully adhered to.

There are some key elements to be aware of. First of all, you’ll need to establish a bare trust before signing the contract to the property. They are made the legal owner of the property while the fund pays back the loan, and once it has been settled, you can take the legal title from the bare trust if you wish, or leave it with them. Similarly, the loan needs to be secured only against the property that the fund has borrowed for – this means that if you default on repayments, the lender solely has recourse to the house and not your fund.

2. Using the property for development

The basic idea of borrowing through your SMSF for an investment property is relatively simple – it needs only to support members in saving for retirement. This is known as the sole purpose test, and you need to be careful that you don’t accidentally go against the criteria. This can happen if you do work or renovations on the property that are seen to add value. Basically, you are restricted to dealing with just general wear and tear, or doing maintenance and repairs as needed.

3. Buying the house from another member (or someone related to a member)

Another point to be aware of is that the property needed to be bought at ‘arm’s length’. It pays to be particularly careful about this stipulation, as it’s actually a very broad definition that prevents you from buying the home from anyone in the fund, as well as relatives or friends of any member. If you breach this arrangement, the property might be seen as personally benefiting another member, which breaks the sole purpose test.