An exciting part of owning property is being able to renovate it, but doing so becomes a little more complex inside your Self Managed Super Fund (SMSF).
If your fund owns a property outright, meaning your fund has not borrowed to buy the property, you can renovate or improve the property to your heart's content. However, if your fund has borrowed to buy the property, and the loan is still in place, you can only make improvements or renovations which do not change the character of the property.
Super rules state that if you want to renovate a property inside and SMSF using borrowed funds, then you have to be careful that you do not improve the property. For example, a residential house that is converted into a restaurant, or a vacant block of land that is subdivided, resulting in multiple titles, would be considered changing the character of the property.
It is also important to note that if the renovations or improvements are not financed by the SMSF, but rather by the members themselves then the value of the improvement or renovation will need to be recorded as a contribution made to the fund and will count against contribution caps.
It’s important to understand the distinction between three concepts of property alteration – maintaining, repairing and improving.
This is about preventing damage or deterioration of your property, so that it can continue to exist in its current state. Painting your house or replacing the guttering for example.
This is about making good any defects or damage to your property to reinstate it to its current state. It may be appropriate to consider borrowed funds for a significant repair, such as substantial structural or electrical issues, or damage from a natural disaster. Repairs might include restoring part of a kitchen or bathroom affected by fire or flood or even rebuilding the entire house if affected by fire, provided you build a comparable house.
This is about making your property significantly better than it was before, this could be through adding additional features, improving the quality of existing features like renovating the bathroom, adding an extension or changing the rights to the property.
Renovations can be a great way to grow the capital of your super fund's investment but if you take this approach you may have a period without tenants and rental income. Just make sure you keep within the rules and if you have lending in place, make sure you keep 10 percent of the fund's value in cash or other liquid assets to keep your lender happy.