Trustees looking to purchase property for their fund using a limited recourse borrowing arrangement are not giving full consideration to the liquidity implications of the strategy, documentation specialist Topdocs has found.
Topdocs made the claim after compiling the data from over 600 self-managed superannuation fund (SMSF) advisory firms.
According to Topdocs training and advice national manager Michael Harkin, real problems resulting from this strategy could manifest when a member of the SMSF died.
The death of a member could mean the property ended up being sold well below its market value or the beneficiaries of the fund incurred significant capital gains tax liabilities or death benefit liabilities, Harkin said.
"According to the feedback we're receiving from the industry, trustees purchasing real estate with borrowings are quick to calculate what their potential investment gains will be and how to manage loan repayments, but they give scant regard to what will happen to the asset should a fund member die," he said.
"The fire sale of the asset generally occurs when rental from the property is unable to meet minimum pension requirements or if benefits must be paid immediately. There is also the risk that the property will be transferred in portions between beneficiaries who, for example, have a poor relationship, which could make future investment decisions enormously difficult."
He suggested several courses of action to avoid these potentially disastrous outcomes for SMSFs.
These include the use of reserves in the fund, taking out life cover in the fund, having adult beneficiaries to become members of the fund, and reducing the possible death benefits tax through cash holdings.
Trustees could look to implement a combination of these strategies with a view towards improving the overall liquidity of the SMSF and in turn avoiding a forced sale of the property, Harkin said.
"The property could then be sold later, ideally when the SMSF is paying a pension. At this time capital gains tax would be reduced because income and capital gains from assets supporting a pension are no longer taxed," he said.
