SMSFs and business real property: a general overview

Some business owners look at the premises they rent, then at their superannuation, and wonder whether their super could own the building. In certain circumstances, a self-managed super fund (SMSF) can hold "business real property", including property leased to the members' own business. It is a well-known strategy, and also one where mistakes are costly and hard to undo.

This article explains the general concept only. Whether an SMSF is appropriate for you, and whether it should hold any particular asset, is a matter for personal advice from a licensed financial adviser, together with legal and tax advice.

What an SMSF is

An SMSF is a private superannuation fund with a small number of members, all of whom are generally trustees or directors of the corporate trustee. The trustees, not a fund manager, are responsible for running the fund, making its investment decisions and complying with superannuation law. An SMSF must be audited every year by an approved auditor and is regulated by the ATO.

That responsibility is real. Trustees can face penalties, and a fund that breaches the rules can be made non-complying, with severe tax consequences.

The sole purpose test

Every SMSF must be maintained for the sole purpose of providing retirement benefits to its members, or to their dependants if a member dies. Every investment decision is measured against that test. An asset bought mainly to help the business, rather than to provide for members' retirement, is a problem even if it is otherwise permitted.

What "business real property" means

Business real property is, broadly, land and buildings used wholly and exclusively in one or more businesses. Typical examples are an office, a warehouse, a factory, a shop or a medical suite. Some farming land can also qualify. A residential property generally does not, even if it is rented out as a business.

The distinction matters because business real property is treated differently from most other assets under two important rules.

The related party rules

As a general rule, an SMSF cannot acquire assets from a related party of the fund, such as a member, a relative or a business they control. Business real property is a key exception: an SMSF can acquire it from a related party, provided it is bought at market value.

Separately, the "in-house asset" rules limit how much of a fund can be invested in, or leased to, related parties. Business real property leased to a related party is generally excluded from those limits.

Together, these exceptions are what make the strategy possible: a business owner can, in principle, transfer their business premises into their SMSF and have their business lease the premises from the fund.

The lease must be commercial

If the SMSF leases the property to a related business, the arrangement must be on arm's-length, commercial terms. In practice that generally means:

• a written lease;
• rent set at market rates, ideally supported by independent evidence;
• rent actually paid on time, every time;
• rent reviews and other terms that an unrelated landlord would accept.

Rent holidays, discounts or informal arrangements because "it is our own fund" can breach the rules and may also lead to income being taxed at the highest rate under the non-arm's-length income provisions.

Borrowing inside an SMSF

SMSFs are generally prohibited from borrowing. A limited recourse borrowing arrangement is an exception that allows a fund to borrow to buy a single asset, held on trust until the loan is repaid, with the lender's rights limited to that asset.

These arrangements are complex. They involve specific trust structures, strict rules on what can and cannot be done to the property while the loan is in place, and lending conditions that are often tighter than ordinary commercial loans. Related-party loans to the fund are possible but must be on terms consistent with ATO guidance. This is an area where specialist advice is essential.

Other points to weigh

• Concentration. A single commercial property can make up most of a fund's assets. Trustees must have and regularly review an investment strategy that considers diversification, liquidity and members' needs.
• Liquidity. Property cannot be partly sold to pay a pension or a death benefit. The fund needs cash, or a plan for how it will meet those obligations.
• Vacancy risk. If the business struggles or moves, the fund may be left with an empty building and no rent.
• Transfer costs. Stamp duty, legal fees and valuations can be significant when moving a property into a fund. Stamp duty treatment varies between states and territories.
• Running costs. SMSFs have accounting, audit and administration costs regardless of their size.
• Capital gains tax. Transferring a property you own personally to your SMSF is generally a disposal for capital gains tax purposes. The small business CGT concessions may be relevant, but only if the conditions are met.
• Asset protection and estate planning. Assets in super are generally treated differently from personal and business assets, and super death benefits pass under their own rules, not automatically under your will. Binding death benefit nominations and the fund's trust deed need attention.

An SMSF can own your business premises, but it must be run for your retirement, not for your business. Every decision has to stand up on that basis.

A simple illustration

Imagine two directors whose company rents a warehouse they own personally. They are considering moving it into an SMSF. Before going further, they would need to consider: whether an SMSF suits them at all, whether the warehouse is business real property, the market value, stamp duty and CGT on transfer, whether the fund can pay any costs and still meet its obligations, the commercial lease terms, and what happens if one director leaves the business. Each of those questions needs an answer from the right professional.

Where we fit, and where we do not

We help business owners understand the business, tax and cash flow side of decisions like this: what the business can afford in rent, how a transfer affects the business's balance sheet and how it interacts with succession plans. Advice on whether to set up an SMSF, how it should invest, or whether it should hold a particular property is financial product advice. It must come from a licensed financial adviser, and legal advice will be needed on the documents.

For the wider picture on super, see superannuation basics for business owners.

How we can help

If you are thinking about your business premises as part of a longer-term plan, we can help you understand the numbers and work alongside your licensed adviser and lawyer. Contact us or read about our investment and financial advisory work for business owners.

This article is general information only and does not take into account your circumstances. It is not financial product advice. Speak to a qualified, licensed adviser before acting on it.