Self-Managed Super Funds (SMSFs) offer flexibility in investment choices, including the ability to purchase commercial property. However, when it comes to buying from a related party, there are strict conditions that must be met to ensure compliance with the Superannuation Industry (Supervision) Act 1993 (SIS Act).
How SMSFs Can Buy Commercial Property from Related Parties
Under the SIS Act, an SMSF can purchase commercial property from a related party, provided certain conditions are satisfied. The transaction must occur at market value, which is typically determined by an independent valuation. It must also comply with the sole purpose test, ensuring that the property is used to provide retirement benefits for its members. Importantly, commercial properties are exempt from the in-house asset rule, which prohibits SMSFs from acquiring more than 5% of their total assets in investments related to members or related parties.
A common misconception is that any property purchase from a related party is prohibited. However, this restriction primarily applies to residential properties. Commercial properties, such as offices or warehouses, are treated differently and can be acquired provided they meet the above requirements.
How This Works in Practice
Consider an SMSF looking to purchase a warehouse in Dandenong, Victoria, from a related party for $800,000. An independent valuer confirms this is the market value. The SMSF uses its cash reserves and a limited recourse borrowing arrangement (LRBA) to fund the purchase. The rental income generated is used to repay the loan and boost the fund's retirement savings. Assuming a 37% tax rate, the SMSF could save approximately $5,920 annually by deducting property-related expenses from its assessable income.
Professional Insight
In our experience, understanding the market value requirement is crucial. SMSFs often underestimate the importance of obtaining an independent valuation, which can lead to compliance issues. Another frequent oversight is failing to align the property investment with the fund's investment strategy. What most investors don't realise is that the ATO scrutinises transactions involving related parties more closely. Ensuring all documentation is thorough and accurate is vital to avoid penalties.
When Does the Answer Change?
- Pre-1 July 2007 Properties: If the property was acquired before this date, different rules may apply regarding related party transactions.
- Partial Ownership: If the SMSF only owns a portion of the property, the related party rules still apply to the entire property.
- Change in Property Use: If a commercial property is converted to residential use, it may then fall under different restrictions.
- Valuation Changes: If market conditions change significantly, a new valuation may be required to ensure compliance.
When Should You Seek Professional Advice?
Given the complexities involved, it’s advisable to consult both a Chartered Quantity Surveyor and an accountant. They can ensure that the transaction meets all compliance requirements and aligns with your SMSF’s investment strategy. Professional advice is especially critical when determining the market value and structuring the purchase correctly to avoid breaching the SIS Act.