As the number of people with self-managed superannuation funds (SMSFs) continues to grow so does interest in using them to purchase commercial property. In an economic climate of low cash returns and share market volatility the relative stability of the asset class that generally delivers higher yields and lower risk is boosting its appeal among the 35,000 SMSFs now established annually.
Australian Tax Office figures from March 2017 show 11% of SMSFs held commercial assets compared to 4% in residential, while national auction house Burgess Rawson has seen the volume of SMSF buyers among its commercial asset customer base virtually double in three years from 32 per cent to around 60 per cent. (Listed shares and cash and term deposits remain the top asset types held by the country’s 598,000 SMSFs, latest ATO figures show.)
Commercial properties preferred by SMSF trustees are the more run-of-the-mill type – shops, offices, factories and warehouses.
Also on the rise is the number of SMSF trustees choosing to invest in and then lease a commercial property back to their own small business. The main drivers are tax concessions and the fact rent flows back into the trustee’s SMSF. While certainly workable, this strategy must be executed carefully and preferably with guidance from an accountant or property investment specialist, as trustees must strictly comply with a number of conditions under superannuation law.
Why invest in commercial real estate?
Several reasons: the asset class is viewed as more likely to deliver healthier yields than residential as well as involve long-term leases and therefore greater security. Net investment yields after fees are generally between 5 and 6.5 per cent in most CBD markets compared to the average 2 to 3 per cent with residential, one of the primary reasons major institutions have invested in commercial property for decades. Unlisted real estate asset values are less volatile than equities. Similarly, while company profits rise and fall, tenants pay fixed rents which increase each year. Commercial property values and income also tend to keep pace with inflation and costs of living over the long-term.
As with any property purchase location is key – commercial real estate in major hubs or city centres where quality tenants and long leases are commonplace presents lower risk than premises in regional or outlying areas where there can be higher chance of vacancies and other hiccups.
Buying business premises with SMSFs
Pros: Increasingly popular is purchasing a commercial property with an SMSF and then leasing it back to the business you or another SMSF member operates. The upside is that the investor pays rent to their SMSF rather than lining someone else’s pocket – and as commercial rental yields are generally higher than residential yields, this strategy will most likely see the SMSF grow faster.
Another upside is the attractive tax environment: tax on rental income paid to the SMSF in this scenario is only 15 per cent and capital gains tax just 10 per cent if the property is kept for more than one year.
Cons: Commercial real estate tends not to mirror the level of capital gains seen in residential property, especially not the heady sale prices of some homes seen during “hot” markets. But for most SMSF trustees, this is outweighed by the higher yields and long-term benefits to their funds.
There are also several superannuation laws around this scenario, mostly aimed at preventing people taking advantage of choosing this investment pathway – and the ATO is watching. “The commissioner will be looking more closely at investment strategies of SMSFs this year as there seems to be a rush to inappropriate asset purchases in newly set up SMSFs,” said accountant Rohan McCoy. “The ATO is particularly keen to see that the assets are of the nature that they will produce a superannuation benefit in the long run.”
Rules covering trustees leasing their SMSF’s commercial premises include paying rent at market rates, having the property valued independently and on a regular basis, and paying rent on time as a business would to a landlord. In other words, simply because trustees are leasing from their own SMSF, it is not an excuse to cut themselves some slack if they have a slow month.
Likewise, by law the investment’s sole purpose is to fund the trustee’s SMSF. Therefore subletting or any other tricky tactics to generate a bit of pocket money on the side with the commercial property in question is not permitted.
Other rules include being unable to use the SMSF for property development and setting a sale price (like the rent) at market rates.
The ATO is watching out keenly for breaches so forewarned is forearmed. The bottom line is to seek out the best advice possible before investing with an SMSF to optimise the strategies and concessions available.
For more information www.ato.gov.au/Super/Self-managed-super-funds/