The Five SMSF Property Borrowing Risks
It’s likely that some of your clients are looking to borrow through their SMSF in order to purchase an investment property. It’s a fantastic option for some people who simply don’t have the means to purchase an investment property any other way but there are also risks involved in doing so. Financial planners and accountants should always guide clients and help ensure the decision is right for them, based on their individual circumstances.
Generally speaking, SMSFsare prohibited from borrowing, except under ‘limited’ circumstances. One exception to the borrowing rules involves the use of a Limited Recourse Borrowing Arrangement (or an LRBA).
An LRBA, under Regulations Section 67A and 67B, can only be used to purchase a single asset, for example, a residential or commercial property. Before committing to a geared property investment, your client should weigh up all risks involved. Risks involved in borrowing for geared SMSF property purchases include:
- Higher costs
Loans for SMSF property are generally more costly than regular property loans. This is something your client must factor into their decision.
- Cash flow
Your client must pay their loan repayments from their SMSF and as such, their fund must always have sufficient cash flow to meet the loan repayments.
- Difficult to cancel
If your client's loan documentation and contract are not set up correctly, backing out of the arrangement may not be allowed and your client may be required to sell the property, potentially causing substantial losses to the fund.
- Tax losses
Any tax losses from the property cannot be offset against your client's taxable income outside the fund.
- No alterations to the property
Alterations to a property cannot be made until the SMSF property loan is paid off.
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