By Andrew Zbik
Do you own a business? How much is the lease for your business premises? Often it will be thousands of dollars you are paying each month to the landlord.
What if your business were to pay its lease to a property owned by your SMSF? This is a smart way to use cash flow from your business to build wealth outside of your business.
Surprisingly, as of March 2017, there is just over $78 billion of commercial and industrial property owned by SMSFs compared to only $28 billion of residential property.
What do you need to do to take advantage of this strategy?
1) Have an SMSF
To be able to choose your own commercial or industrial property you will need to have established your own SMSF. In superannuation terms, we call such a property as “business real property”.
There is a special exemption that permits business real property to be leased to a business that is owned by the members of the fund. The members of the superannuation fund and owners of the business are considered a “related party” to the SMSF.
If you are going to be borrowing money from a financial institution to help fund the purchase of the property your trust deeds (the rule book of what the fund can do) must permit that the fund can borrow money.
2) Have enough cash to pay for the deposit
The cash deposit required to purchase a commercial or industrial property is substantially larger than what is required for a residential investment property. In most cases, the SMSF will need a cash deposit of around 35 per cent to 40 per cent of the purchase price.
This contrasts to 20 per cent to 30 per cent if the fund were purchasing a residential investment property.
3) Your business must pay a “market” lease for the property
Because your SMSF may now own the premise that your business operates from, it does not mean the fund can give a “lease holiday” to your business.
The superannuation rules clearly require that when business real property (that is, a commercial or industrial property) is leased to a related party (that is, a business owned by one of the members of the SMSF) that the lease paid by the business must be on commercial terms.
A good rule of thumb is to pay for a property appraisal from a professional commercial/industrial real estate agent or valuer as to what the “market” rate of a lease is, to avoid any confusion. The penalty for not complying with this is that your fund may be deemed by the ATO as a non-complying fund.
The consequence of being declared a non-compliant fund is that 47 per cent of your fund’s assets need to be paid as a penalty to the ATO. Not 47 per cent of the fund’s earnings–47 per cent of the value of the funds gross assets. Ouch! Best to play by the rules on this one.
In summary, having your SMSF own commercial or industrial property that is leased to your business is a smart way to get the lease money that your business needs to pay anyway, to build wealth for you outside of the business.
Given that many commercial/industrial properties have an income yield of between 6 percent to 8 percent, plus, the relatively large cash deposit between 35 per cent to 40 per cent, the lease payments often cover all of the loan repayments. Thus, the SMSF still has a positive cash flow position.
This article by Andrew Zbik originally appeared in Morningstar on the 27th July 2017. References to Andrew Zbik have been amended to mention CreationWealth.