Property Instalment Warrants
Superannuation funds can borrow to invest in property. Trustees are now seriously considering this strategy to help boost investment returns and maximize retirement benefits. The main reasons to consider this strategy include:
- To diversify their super assets away from shares and managed funds;
- Seek the perceived safety of bricks and mortar;
- Take advantage of falling property prices; and
- Purchase business premises through the fund.
With share prices falling across the globe, this strategy is gaining in popularity. The main benefits may include:
- Boosting retirement savings;
- Reducing super taxes; and
- The super fund becoming the businesses land lord.
For more information on how you may be able to benefit from this strategy:
- Read through the property instalment warrant article;
- Check out our property instalement warrant calculator; and
- Call Aspley Jandera Super Specialists to arrange an appointment with one of their strategy specialists.
Information for Super Fund Members
Superannuation funds are now able to borrow money to invest via a structure called an instalment warrant. With few investment restrictions most interest has centered around the ability of a self managed super fund to buy property using an instalment warrant.
In order for a fund to be able to purchase a property in this way, the fund will initially need to ensure that its trust deed and investment strategy allow for the transaction. Only then can it set about establishing another Trust through which the property will be held.
Finance for the transaction can be arranged through a commercial lending organisation or a related party as long as the latter is done at arm's length. The fund will need to contribute at least 30% of the purchase price plus any other expenses involved in completing the transaction. The trustees will therefore need to be sure that the strategy is appropriate for its members as the upfront costs will be quite high.
To get an idea of some of the benefits and risks involved with this strategy please click on the links below. You may also want to try the property instalment warrant calculator to get a better feel for how much you need to put into the transaction and how this may affect the outcomes.
- Property instalment warrant benefits
There are a number of benefits associated with this strategy, ranging from those associated with the strategy itself to those associated with the underlying investment, property.
Some of the benefits associated with this strategy include the following:
- Utilization of gearing to boost superannuation retirement benefits;
- Reduction in contribution and other superannuation taxes;
- Possibility to fully benefit from all future capital gains at time of sale;
- Boosting the level of super contributions where business premises purchased;
- Potential to increase super contribution beyond concessional contribution limits; and
- Provide business premises stability.
Some of the benefits associated with property investments:
- Many individuals more comfortable with property over shares and managed funds;
- Property values seen to be less volatile; and
- Property investments may provide benefits to the member's business
- Property instalment warrant risks
There are a number of risks associated with this strategy, ranging from those associated with the strategy itself to those associated with the underlying investment, property.
Some of the risks associated with this strategy include the following:
- Compliance risks if strategy not structured and implemented correctly;
- Gearing only offsetting a 15% tax rate;
- Generally higher interest rates than for normal residential loan;
- Cash flow in super fund may be limited; and
- Need for professional advice raises cost of strategy.
Some of the risks associated with property investments:
- High transaction costs i.e. stamp duty;
- Property may be difficult to sell quickly; and
- Ongoing maintenance of asset may be more involved than shares/managed funds
- Property instalment warrant practical considerations
Before committing to this strategy you should think through some of the issues associated with this strategy to ensure that it is appropriate for your fund and its members. You should also review the steps to implementation and use these as a guide to implement the strategy.
Some practical issues to consider:
- Is a self managed super fund appropriate for my retirement needs?
- Is a property investment a suitable investment for my fund?
- How does holding the property in super compare to holding it in my own name?
- Is the cash flow of my fund sufficient to meet the mortgage repayments?
- Is there a better way to structure the purchase of this property in my fund?
- Is the property expected to perform in such a way to make it worthwhile?
This strategy would generally suite:
- A fund purchasing the member's business premises;
- A fund with significant other assets;
- A fund whose members have a genuine interest and comfort with property invests; and
- A fund comfortable with sophisticated superannuation and investment strategies.
Steps to implementation:
- Review super fund's Trust Deed and Investment Strategy;
- Confirm appropriateness of strategy;
- Establish the bare trust;
- Consider the finance options; and
- Find and purchase property
Information for Professional Advisors
Yes, Property Instalment Warrants can significantly boost retirement savings and provide annual tax savings but beware of the risks, which could do the exact opposite. Â
The property instalment warrant strategy for self managed superannuation funds is a complex strategy and one which can quite easily attract unwitting clients. We have received numerous calls from accountants and trustees of self managed super funds enquiring about the viability of the strategy with balances as small as $200,000.
Whilst there are many clients keen to invest their superannuation savings into direct property investments, taking advantage of this strategy, there are numerous considerations that must be made before this strategy is pursued.
You will see from the article that the strategy holds numerous risks, including compliance risks for the Trustees of the self managed super fund, which may in themselves lead to monetary penalties. The Trustees will also face other costs in addition to those normally associated with a property purchase in order to establish the strategy.
Whilst trustees will need to accept the costs required to implement this strategy they must also be aware that there are other requirements relating to the property investment itself that need to be considered to ensure that the strategy is a viable one.
After reading through the article and reviewing the case study you will see the true power behind this strategy and it should be of no surprise that these benefits are not those marketed by certain property promoters and mortgage brokers. You should also be better equipped to deal with your client’s questions and respond to many of the issues raised by those looking to promote their own self interest in selling this strategy to your clients.
Property Instalment Warrant Overview
From the article you will see that in order for a self managed super fund to borrow funds to invest in property, the Trustees will need to set up a bare trust. The property must then be purchased and held in this trust. The Trustees of the super fund will need to ensure that the bare trust’s only activity is the holding of this asset. The super fund must engage itself in all other matters relating to the property investment such as making the mortgage repayments, receiving rent, maintaining the property etc.  Â
Having set up the bare trust the Trustees will then need to ensure that the property purchase contract is written up in the appropriate manner and the mortgage contracts do not contravene any of the superannuation laws whether the finance is sourced through a lending institution or from one or more of the members. Certain criteria must be met depending on how the finance is sourced. Rental contracts should also be reviewed to ensure that nothing within them places the fund at risk of non-compliance. Â
Compliance issues may arise from any part of the process establishing and maintaining a property instalment warrant. Such compliance breaches could lead to significant superannuation penalties. Any requirement to unwind the property instalment warrant could lead to further monetary losses particularly if the Trustees are forced to sell the property for any reason. Â Â
Debate also continues with regard to the application of stamp duty on the eventual transfer of the property from the bare trust to the super fund. Clients should be aware that this is a possibility and should seek their own independent opinions on these and other issues.
Given the risks and the initial costs of establishing the property instalment warrant strategy, the viability and success of the strategy will come down to the property itself. The investment should be seen as a long term one to ensure the super fund members are able to recoup the initial set up costs. Holding onto the property until a pension is commenced may also assist in maximising the returns of the strategy.
Subject to the instalment warrant strategy being set up and maintained in accordance with the appropriate regulations, the strategy itself may be a powerful one in boosting the retirement savings of the fund members.
Any clients considering this strategy should invest in ensuring they get the right advice, consider all the issues including any and all investment alternatives and thus ensure their decision to implement this strategy is an informed one.
The risks to advisers
Mortgage brokers and property agents face seemingly few risks than any other professional advisers dealing with clients interested in this strategy. A mortgage broker or property agent would generally be seen as simply providing an element to the strategy with few Trustees interpreting their role as providing advice on the appropriateness of the strategy.
Accountants, solicitors and financial advisers face greater risks as they can be seen to be advising on the appropriateness of the strategy for the fund and would certainly have a duty of care to the client to ensure this strategy was appropriate to them before assisting the Trustees in setting up a property instalment warrant. The inherent risks in the strategy weigh heavily on these advisers as clients will look to them should the strategy fail in any way.
It is for this reason that advisers need to be very thorough in assessing the viability of the strategy for each client and ensuring that they are fully aware of the risks and alternatives allowing clients to make an informed decision on whether or not this strategy is suitable for them.
Information for Mortgage Brokers
The ability of self managed super funds to borrow money to invest has certainly opened up a brand new opportunity for mortgage brokers. The question is though, just how viable is this new opportunity, few have thought through the issues and the professional dangers that the superannuation environment possesses.
Whilst many brokers would have arranged finance for companies and trusts, superannuation is not like any other entity. For a start, the environment exists for a specific purpose, the provision of benefits at retirement and death. No other entity has such a specific mandate, which is then backed up by complex rules and requirements. No other entity comes with penalty provisions that go beyond the transaction for which finance is sort. Mortgage brokers may quickly find themselves in trouble if they do not fully understand some of the intricacies of superannuation and the details behind this specific strategy.
One of the most obvious dangers that presently exists is the requirement by most lenders to obtain a personal guarantee from the directors of the Trustee company. Whilst this is simply a requirement of a number of the lenders, mortgage brokers need to understand that the ATO, which regulates self managed super funds and applies the penalties, does not presently like the idea of these directors giving a personal guarantee. Advising a super fund to use a mortgage product that has this requirement could place the fund at risk of being deemed to be non-compliant.
Non-compliance can have serious consequences to the fund, ranging from the trustees removal from the fund to monetary penalties which could see the fund lose up to half its value. Should the ATO disallow finance arrangements which include any form of personal guarantee being given, then it could see the fund having to reverse its property purchase which could also be quite costly.
A mortgage broker may also find themselves dealing with a fund which is not able to undertake this transaction given its restrictive Trust deed or investment strategy. If this becomes an issue at some point in the future questions may be asked of the mortgage broker.
In dealing with a self managed super fund mortgage brokers will need to assess the professional risks they face and develop strategies to ensure these risks are minimised. It will be important to ensure that they are not seen to be giving any advice and that they fulfil their duty of care to the Trustees of the fund. This may include alerting the Trustees to the personal guarantee issue and suggesting that the Trustees seek professional advice.
Mortgage brokers should read through the issues faced by professional advisers to see just how complex this strategy is. Purchasing property is a costly exercise in itself and therefore clients should be encouraged to invest in ensuring the transaction is appropriate for them and that they are aware of all the risks this strategy poses.
Superannuation is a complex environment with many traps for advisers and clients alike. Mortgage brokers should very carefully assess their role in offering these mortgages to self managed super funds and ensure they do everything possible to minimise their professional exposure to this strategy. |
