When to Choose Borrowing with SMSF over a Family Trust

Family trusts have traditionally been one of the most popular vehicles for purchasing investment property in Australia. With the introduction of limited recourse loans in September 2007, which allow self-funded superannuation funds (“SMSFs”) to purchase investments such as property, it has become increasingly common for individuals make use of their super to purchase property. While both the family trust and the SMSF come with inherent advantages and disadvantages, there are circumstances in which choosing one over the other is more beneficial. We take a look at these in more detail below.

Establishment Costs

Establishment costs tend to be lower for family trusts, with around $1,500 to $3,000 outlay required to establish a family trust, compared with $3,500 to $7,000 to set up a SMSF (including an instalment warrant/bare trust to enable borrowing).

Ongoing Costs

For ongoing costs associated with one investment property, the SMSF structure is not much more costly than the family trust at $1,500 to $3,000, and $500 to $1,200 per annum, respectively.

Negative Gearing Benefits

PAYG earners can take advantage of negative gearing through the SMSF structured purchase by salary sacrifice, while there are no negative gearing options available to those using a family trust.

Taxation on Income and Capital Gains

There are clear tax advantages under a SMSF structure, where income is taxed at 15% for accumulation members and 0% for pension members. For the family trust, the rate will depend on the beneficiary and can range from 0% to 45% plus 1.5% for the Medicare levy. The rates are the same for capital gains except there is no Medicare levy to be applied and accumulation members are taxed at 10%.

Capital Gains

For family trusts, the discount for capital gains is 50% if distributed to an individual beneficiary, compared with a general discount of 33% under a SMSF structure.

Ability to Borrow

There is no restriction on borrowing under a family trust structure while SMSFs can generally only borrow via a limited recourse plan.

Level of Gearing on Borrowing

Family trusts can borrow up to 80% where they have mortgage insurance. Through limited recourse plans, SMSFs can borrow up to 80% for residential properties and 65% for commercial properties, though this will depend on the lender, the property type, and the applicable postcode.

Redraws and Borrowing Against Built-up Equity

Family trusts can redraw and borrow against built-up equity as they choose so long as they find a willing lender, while SMSFs cannot redraw or borrow against built-up property and must sell the property for the gain to be realised.

Property Development

Family trusts are able to develop property freely, while SMSFs must do so while observing the sole purpose test with respect to superannuation funds. There are more restrictions on SMSFs when it comes to property development but SMSFs can engage in property development lawfully.

In summary, family trusts allow for a lot flexibility through the redraw of any invested money as required. SMSFs will require your investment dollars to be locked away for the short term. SMSFs can be particularly suitably for those over 40 who are planning their retirement funds, or those under 40 who can work with their parents to set up an investment through SMSF and have the option of withdrawing money tax free after the parents reach retirement age. Of course, investing property through a family trust doesn’t preclude you from also investing through an SMSF – the two options may be combined to create a great investment solution.

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