If you’re one of the thousands of SMSF investors who owns some sort of real estate in your fund, and you want to develop the property or maintain it yourself, then you need to understand what that work means for your super fund.
Here are some common questions and answers around what you can and can’t do to your property.
A key issue for you will be how will the development or maintenance work you personally perform be valued by your super fund. This is important because the value of the work will be deemed to be a contribution.
Why a contribution?
In Tax Ruling 2010/1, the ATO says that anything done to increase the value of a super fund, with the purpose to benefit one or more members of the fund, will be deemed to be a contribution. The only exception to this rule will be when the super fund invests its existing money, and makes a capital or income return (i.e. as is the case with most SMSF investments in equities, bonds etc.).
Recently the following scenario was proposed to the Tax Office. A related party of a super fund, for example, a fund member, renovates the kitchen of a residential property owned by a superannuation fund, including supplying all materials and labour for no cost. The cost of the materials is $12,000, the cost of the labour is assessed to be $13,000 and the market value of the property, after completion of the construction of the kitchen, is assessed to have appreciated by $40,000.
The initial point to note about this question is the materials. As the fund’s related party has supplied the materials, the super fund would be deemed to be acquiring an asset from the related party. The problem here is that building supplies aren’t items that can be sold, or given, to a super fund by any of the fund’s related parties.
The exemptions that are allowed for this acquisition rule, such as listed shares and business real property, don’t cover building materials.
So the only way around this initial hurdle is for the super fund to buy the materials.
In its response to this question, the ATO notes that in this scenario, the improvement to the fund’s asset has occurred for little or no cost to the fund, or at best, for less than market value of those costs. Moreover, once the work is complete, the capital value of the fund will have increased.
In the ATO’s view, the key action is the improvement to the fund’s assets and overall capital value and therefore the “contribution” would be deemed to be the $40,000.
Are these kinds of contributions included in the contribution caps?
The short answer is, yes. In most of these cases where you work on your fund’s property, it would be defined as a non-concessional contribution. However, if you perform the work through your business entity, then it might be deemed to be a concessional contribution.
What is the difference between maintaining an asset and improving it?
In very general terms, improving an asset involves adding new or substantial features or rights to an asset, which substantially increases the asset’s value or functional efficiency.
On the other hand, repairing an asset means the act of making good defects, damage or deterioration including the renewal of parts. It doesn’t imply a total reconstruction. It may involve improvement to an asset but only to a minor and incidental extent.
As you can probably gather, the difference between maintaining and improving assets can become a remarkably complex issue at a tax and legal level.
What if the property is owned via a holding trust?
Finally, if your super fund owns property that sits inside a holding trust because your fund took out a non-recourse loan to buy the asset, then there are further restrictions on what you can and can’t do with borrowed money – you can’t improve it, for example (see an earlier story on that here [1]). You can maintain and repair it however, or improve it with other monies.
Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.
Also in Switzer Super Report:
- James Dunn: Three must-haves in the consumer discretionary jungle [2]
- Fundie’s favourite: REA Group – a good little earner for your fund [3]
- Ron Bewley: Orora the one to watch in a mediocre bunch [4]
- Penny Pryor: Short ‘n’ sweet – going global [5]
- Penny Pryor: Buy, Sell, Hold – what the brokers say [6]
- Question of the week: Warren Buffett, insurance and new holdings [7]