In the run up to the new super changes kicking in on July 1 the investment property market looks a likely candidate for some tax-driven dislocation pain. Feedback from investors across various forums so far this year raises a consistent question - how do I get my investment property into my super fund?
Because this is a once in a generation change to the super rules it is understandable that people want to seize the opportunity before the contribution window is nailed shut permanently on June 30. The Federal Government's transition measures are designed to help people nearing retirement who have built up substantial assets outside the super system - be it investment property, share portfolios or business interests - who had intended to contribute significant sums into super just prior to retiring. The rule changes effectively give people a fixed timeframe to make quite major and far-reaching decisions. Those of us who do not have their minds cluttered with the arcane science of tax law understandably may struggle with the logic of what they can and cannot do. Let's take the example of a person with a self-managed super fund who also owns direct shares and investment properties outside the super fund. The basic question is why would you want to get those assets into super? That's straightforward - the new super rules mean you want to maximise the assets in super to take advantage of the tax-free status after you retire. Consider a simple example of a property held within a self-managed super fund versus holding it outside the super regime. After you retire you want to sell the property to free up funds to fund your lifestyle. The property within the super fund is sold and the sale proceeds paid out via pension payments. There is no capital gains payable on the property. Contrast that with the property outside super - we are talking here about investment properties not your primary place of residence - it is still subject to normal capital gains tax. So it is no wonder people are working out how to get as much into super as they can so that when they retire and begin drawing down a pension they enjoy the tax-free status of the pension payments. The second question then is why does transferring the property I own into my super fund trigger a capitals gains bill? Transferring the title of the property into the super fund changes the legal ownership of the property. The trustees of the self-managed super fund own the assets on behalf of the members - as a member of a SMSF you don't own anything. There have been some calls for the government to make these type of transfers exempt from capital gains tax but that seems fanciful as it would undermine the whole basis of our capital gains tax system. So accepting that it will be difficult to avoid the capital gains tax bill if you either sell or transfer the property into a super fund what are the options? The simplest way is to sell the property and contribute the cash into the super fund and invest it into a new portfolio of investments. But of course that comes with real estate agent fees and legal fees built into the process. Another option is to do a simple title transfer of the property into the super fund. That saves on things like estate agent and marketing costs as you are not selling the property. But it will trigger a capital gains "event" and the tax office will be looking for its share of the capital gains. The issue here is that because you haven't sold the property you will have to find the cash to pay the tax bill from somewhere. With a share portfolio this is much easier as you can sell part of the portfolio to realise enough cash to pay the tax bill. With a property you have the age-old liquidity problem - you can't sell off the garage or bathroom to raise cash. Like it or not if you want to take advantage of the super contribution window that is open now but closing soon there is no way of avoiding the tax bill on assets like property or shares held outside super. Also be aware that you cannot transfer the house you or relatives line in into your SMSF - even if you pay commercial rent - because there are restrictions under super law. This is where the property market in particular is likely to feel some (hopefully) short-term dislocation pain. Property owners who otherwise would not be selling at this stage will act - and reports from super funds and financial advisers certainly suggest this is happening - because the superannuation tax break makes it worthwhile. The key decision rests on whether you will be better off selling the property, taking the tax hit but getting the money into super and letting it grow in a tax-sheltered environment with no more tax to be paid once you are retired and are drawing down a pension.
That is a complex financial modelling exercise because there are so many variables. Your age, the property type - whether it is commercial or residential - not to mention assumptions around future growth rates can all change the outcome significantly.
So getting good financial and accounting advice will be essential particularly for people with more complex affairs. And all the time the clock is running down to June 30. Smart Investing
By Robin Bowerman
9th February 2007
Principal & Head of Retail, Vanguard Investments Australia
23rd-February-2007 | 
