Why property is such a compelling investment in an SMSF

There is sometimes confusion about the returns available on property in a self-managed super fund (SMSF) – especially as the mathematics starts to get confusing with relative rates of return, real vs nominal and opportunity cost vs risk, before tax and after tax returns. But I have a much easier way to explain why it is so compelling, and I’m going to break it down into simple maths that anyone can understand.

Let’s say you and your partner are both in your early fifties, have spent 30 years working in nurse/teacher/fireman/public servant type jobs and have managed to (between both of you) accrue $250,000 in super.

You are probably in an industry super fund, and paying less than 1% per annum in costs let’s say $2,000 to keep the maths easy. You also have a normal tax accountant who charges you $200 to do your taxes each year. Your “net worth” so to speak, to the finance industry is $2,200.

But, $2,200 is barely the fortnightly lease payment on a decent BMW. How can you increase that $2,200 to an amount that will actually make a dent in the private school fees of the hard working financial sector employees who are managing your money?

It would also be helpful if rather than paying your fees annually you could front load most of your fees and pay them up front so everyone can benefit now rather than having to wait for you to pay fees each year.

Enter property in an SMSF.

Let’s take you out of your $250,000 super fund and roll you into a brand new $700,000 apartment with a $500,000 loan (allowing $50,000 for stamp duty and expenses).

Upfront fees. $1,000 to $3,300 to your accountant. Legals? $1,000 to $3,000. Stamp Duty: $30,000 to $40,000 depending upon the state. Bank Valuation and other fees $500-1,500. Sales commissions are officially paid for by the vendor, not you. But all that means is that the sales commissions on your new apartment are embedded in the price. Add another $10,000 to $30,000.

Plus now you have an annual $2,000 to $3,000 in accountants fees. And at 4.5% investor interest rates you are in for $22,500 in interest payments. Maybe you are paying annual financial planning fees. At 1% that’s another $2,500.

With gross rental yields around 4%, you get income of $28,000 per year. Then you pay strata, insurance, rates, letting fees etc which means you are probably losing a few thousand each year.

Thankfully negative gearing gets you a discount. Oh. That’s right, an SMSF only pays 15% tax, which means there are almost no negative gearing benefits.

So let’s go through the maths:

If you leave your $250,000 in super:

Typical fees on an industry superannuation fund

If you create an SMSF to buy a $700,000 property:

Typical SMSF costs for property

Sure, you will wipe out close to 25% of your entire savings in upfront fees alone. And your annual fees are at least double what they were, probably triple.  But just look at the list of people who will benefit from your largesse: accountants, lawyers, governments, real estate agents and banks. That’s a lot of lobbying power – both to lobby you to put your super into property via an SMSF, and to lobby the government to keep the changes that allow you to borrow in your SMSF despite numerous warnings and objections from more independent observers.

Hopefully, you can see now why property is so compelling in an SMSF.

Maybe not for you, admittedly, but for almost everyone else in the game it makes perfect sense.

Damien Klassen is Chief Investment Officer at the Macrobusiness Fund, which is powered by Nucleus Wealth.

The information on this blog contains general information and does not take into account your personal objectives, financial situation or needs. Damien Klassen is an authorised representative of Nucleus Wealth Management, a Corporate Authorised Representative of Integrity Private Wealth Pty Ltd, AFSL 436298.

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Comments

  1. Also, your loses are segregated to a structure that really doesn’t effect your personal cashflow!.
    …..until you want to retire that is

  2. SchillersMEMBER

    Correct me if I’m wrong Damien, but are the capital gains made on RE bought and sold within a SMSF…tax exempt? As in, zero CGT liability.

    • joelmpalmerMEMBER

      Only if in pension mode (i.e. your old) … another disadvantage of SMSF is that carried-forward capital losses can become worthless when held inside an SMSF, as you cannot offset against non-super (i.e. personal) capital gains … they are trapped in the SMSF !

  3. At those LVRs, this chart largely applies to property investments outside of super as well.

  4. Or you give zero tenths of stuff about super and prepared to gamble it.

    You buy a parcel of land by combining with like minded gamblers by setting up a SMSF and sit and wait until zoning changes. Boom tish profit.

    If your liquid investments are betting against the ponzi it makes sense to put the super on the ponzi scheme. It’s called diversifying and risk management.

  5. The world needs more commentary like this.

    Matter of factly explaining who benefits from what and why. Stripping out the lies that people get told which cause them to accept suboptimal arrangements. Stripping out the moralising that accompanies such reporting.

    Great stuff.

  6. Oh, Mr Klassen, it’s the way you tell them. I have been you in this conversation several times, but I am so much less coherent. I will just print this out and take it with me next time. Actually I might put it on the wall. (BTW I have $2m in an industry super fund that seems to charge about $50 annually in management fees and lets me switch investment options weekly at no cost. I’ve always maintained I’m not going to get a better deal than that.)

    • The Traveling Wilbur

      QSuper. Now open to all. And you can swap allocations every third business day. For free.

      And I just saved you 10k in fees. Minimum. Per annum. (insurance cover being a separate cost of course)

      If that all stacks up when you check it out, and it will, you’re welcome. Be nice to get a thank you to match when it does.

  7. Nicely crystallised.
    I can sort of see the benefit of negative gearing when paying the highest marginal personal tax rate but have always struggled to see the advantage at a 15% rate (even at 30% with Division 293).
    I had forgotten about the other side of the equation, the horse named self interest, which convinces itself that its fiduciary duty to the client coincidentally increases its own revenue.

  8. Damien, you rightly point out the near absence of NG benefits in SMSF accumulation phase. With current low rental yields, property investing becomes a gamble on capital gains. Should a prudent trustee do this? It might be argued NOT, particularly in the retirement phase.

    • Each SMSF property purchase should come with a complementary frontal lobotomy. They will sorely need it to dull the pain of financial ruin that is well on its way as we speak.

    • Those “morons” are probably very hard working people, unlike you sniping from the side lines mate.

      • Those “hard working” people are also speculators borrowed to the eyeballs that will end up on the banksters foreclosure lists and thus create a lot of jobs in the legal profession.

      • Trofim Lysenko

        ‘…probably very hard working…’
        To the extent that is even relevant, what are you basing that on?

    • So they are speculators now. Have you seen their bank balance? Thought not. They more likely own a house around west Parramatta which they have paid off having caught the boom of the past 5 years, which they will sell to pay for their upgrade home. They will likely negative hear the 2nd place; let’s call them investors rather than speculators. People like the Kaur’s are grabbing their new life in Sydney with both hands; others prefer to mock people from the sidelines. Each to their own.

    • I love how even though there is a massive decline they talk up property and next boom areas lol. No bias.

  9. How is the home buyer being slugged $10-20k in fees by the real estate agent?

    Running a quick check on buying ‘new’ in a stamp duty calculator I found it could be as low as $20k, so your range appears off?

    Yield of 4% could probably be surpassed if you shop around. I recently bought an IP with a 6%+ yield (though not brand new).

    You mention all the extra costs, but no mention of depreciation benefits (buying brand new).

    All seems very cherry picked in an attempt to discourage an asset class. Doesn’t seem very objective.

    • “How is the home buyer being slugged $10-20k in fees by the real estate agent?”

      Good point.

    • I think it’s a snapshot of who’s benefiting across the board from the financial industry, not specifically direct to buyer costs.

      • You could buy direct from the developer instead of going through a flashy real estate sales funnel and skip the commission. My point is simply that near the worst possible property situation has been dreamt up for the comparison.

    • innocent bystanderMEMBER

      The post is just click bait.
      Most of the costs apply to buying property outside of super too.
      Is someone really going to put 100% of their super into property, and leverage it, and rely on the rent to pay it off since the smsf won’t have any other income?
      Sure, their might be some fool somewhere who does it, but honestly…

    • Damien KlassenMEMBER

      Most states are almost $30k in stamp duty, SA and Vic are almost $40k. The ACT is $22,772 – but has higher land taxes. http://www.infochoice.com.au/calculators/stamp-duty-calculator/ Do you see the irony in asking me to cherry pick the ACT, cherry pick a 6% yield (rather than using national averages), cherry pick a decision not to use a real estate agent but then complaining about me cherry picking data?

      Where does the real estate agents money come from? I have clearly stated that its not paid directly by you, and I’ve broken out the commission separately in the table. But the Real Estate agent gets paid from the transaction and will be one more voice suggesting that the SMSF investor is making a good decision.

      You are right that there are depreciation benefits that I didn’t list. Namely you get to increase your loss. If you had any income you could get a whopping 15% back. But you don’t because you are making a loss. So you will get 15% back of what you are losing at an indeterminant time in the future if you end up making a profit. Do you really think that changes the equation?

      • Can’t be bothered looking it up again today (time poor), but calc I looked at showed QLD stamp duty @ ~$20k also. My point was, add the entire range if you include one. Using half the actual range is disingenuous.

        The benefit of direct property is that you can cherry pick your purchase and numbers.

  10. As someone who has witnessed countless ‘practices’ and hundred of things things rolled out, you are bang on the money. I’m aware of of spruiker -> accountant -> broker -> planner relationships that generate $25k to $45k in total upfront fees and commissions to the accountant/planner from a single SMSF property sale!

    Also a great strategy to keep a small accounting practice alive, individual tax returns are a commodity and likely to disappear in the future….. here is your accountants estate plan, the the potential to make 5x from you than any tax return ever will!

    You did neglect one key detail though, will all this new debt you will need to review your life, TPD, trauma and income protection insurances. Expect that to add another $3-$8,000 pa to your expenses, which also = ~$3,500 to ~$9,000 in insurance commissions to the above tally.

  11. SoMPLSBoyMEMBER

    Noice DK!
    And unlike the MER’s of the funds under management with the ‘industry’ the ongoing fees are flat dollar.
    At an annual cost of $25k, it’s 3.6% of the $700k. At $40k, it’s a 5.7%

    Adds to GDP, too!

  12. DominicMEMBER

    You can just see it …. property market tanks and all those mugs with leveraged property in their SMSFs demand the government (i.e. tax cows) compensate them for retirement account losses.

    Someone just needs to invoke the spirit of Darwin across the board and say: You made a bad call, you live with the consequences.

    Instead we live in an era where profits are privatised and losses are socialised.

  13. MB readerMEMBER

    I do not understand the application of negative gearing here. In the given example, how would negative gearing be applied, as there would be no other income against which the losses relating to the $700,000 apartment, would be applied. So, once the expenses are equal to the income, it would simply be that there would be no tax liability. It would have helped in this example if approximate income were also included. Even so, and ignoring the issue concerning the real estate agent’s fee, this post is useful.

    • Damien KlassenMEMBER

      Correct on the negative gearing – in the example it would be a future benefit (if the SMSF investor makes a profit) rather than an immediate benefit. . The point with the real estate agent is that they get paid from the transaction – they are one voice suggesting to make the transaction.

      • RubiconMEMBER

        May be able to offset against tax payable on annual concessionally contributions. But still marginal…as pointed out at best a 15% ‘benefit’