Commercial versus residential

Julian Fadini

Are self-managed super funds more suited to investing in commercial or residential properties?

Blogger: Julian Fadini, director, Bellevue Capital Financial Services

Julian Fadini

Are self-managed super funds more suited to investing in commercial or residential properties?

Borrowing to buy residential property with an SMSF may appear to be hugely popular, but the reality is that more money from self-managed super funds is going into commercial property.

If you consider the Australian Taxation Office's statistics for SMSFs, about $54 billion is invested in non-residential property compared with about $17 billion in direct residential properties.

Since 1998, SMSF trustees have been allowed to invest up to 100 per cent of their money into a commercial property. A fund member can then run their business from this property.

Prior to that, the maximum an SMSF could invest in such a property was 40 per cent of its savings. However, since 2008, funds have had the ability to borrow money to finance these properties.

A special concession allows SMSF trustee business owners to purchase and occupy the commercial property they operate from. It also allows trustees to lease a property from which a business is being run to a fund member or a related party.

On the flip side, trustees are not permitted to buy and occupy residential property owned by a fund member or anyone related to a fund member. This is one of the major differences when comparing commercial to residential property within an SMSF structure.

Most of the SMSF trustees who buy commercial property do so because their businesses are renting the property. By doing so, the rent being paid goes into their fund, rather than paying a landlord.

This strategy is especially appealing because when the time comes to retire, trustees can choose to sell the property with the business and receive a capital gains tax exemption if the fund has moved to the pension phase before the sale.

Alternatively, the trustees can continue to own the property and collect the rental income from the new tenant. However, there are some real risks in this part of the strategy and these should be carefully considered.

Whether or not trustees plan to occupy the property, the exit strategy is critically important. If a commercial property is vacant when the time comes to sell, the value of the property will be called into question. In these instances, it may not achieve the capital growth expected.

In addition, if the property is vacant it may not have the ability to fund its pension liabilities, which could cause problems for trustees wishing to retire.

When comparing commercial and residential properties, the rental yields on commercial properties tend to be higher. Some will argue that makes commercial property an attractive option. However, this generally comes with a trade-off involving lower capital growth.

Investors should be aware that commercial properties generally carry higher levels of risk, and vacancy and delinquency rates are far higher than in the case of residential property. This explains why banks generally only consider lending at a loan-to-value ratio of 70 per cent or less.

Commercial property can therefore be difficult to get right and can require a significantly higher degree of research and expertise. 

Julian Fadini

Julian Fadini

Julian Fadini is the director of Bellevue Capital Financial Services and a mortgage and finance adviser. 

Commercial versus residential
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