How to set up your Self-Managed Super Fund to invest in property | Ask Dominique | Sept 2018

Dominique: Hi everyone. Welcome to our Ask Dominique on Facebook live. I hope you’re loving the new format. What I love most about it is as promised, I can bring on special guests. So I’m here with Chris Tsiolis. Hi Chris?

Chris Tsiolis: Hi Dom.

Dominique: Chris is a licensed financial planner and advisor and I’ve head haunted him. I hand picked him specially to head up DGI wealth management for me. So, welcome aboard Chris.

Chris Tsiolis: Thank you Dom. Thank you.

Dominique: Chris has only been here a little while but he’s hit the ground running in the last two months. The reason I hand picked Chris was because I’ve dealt with financial planners in the past before, but what I found was they had their own agenda and they weren’t really a fit for what I wanted for our community. So what I want for you guys, and as you know, congruent with our mission and our values is to be in control. And that means making your own empowered decisions. And what I hate to hear, it just grates on my ears like fingernails on a blackboard, is when people say oh well, I just gave all my money to my financial planner. And I gave it to a financial advisor because he’s a really smart guy. And he told me to put it here or there or whatever. And that’s not what wealth management is about is it Chris?

Chris Tsiolis: No. Not today. Obviously with the rise of self-managed superannuation, people want to be in control of their retirement savings and their wealth. And one of the main benefits of self-managed superannuation is that you’ve got that flexibility and control and you can exercise that control.

Dominique: So it’s all about having the right knowledge to take control and be in control. And that’s what I wanted. A place where people could come to get the knowledge. Because it’s horses for courses, we’re all different ages, different risk appetites, just different parts on our journey. So we have to make sure we can cherry pick the information that’s right for us and make informed decisions. And the reason I chose Chris was because Chris has a lot of knowledge around property. And there’s a lot of wealth that people hold in property in a lifetime. And if people want to use their superannuation to do that, I’d love them to have the best possible knowledge and to be informed and empowered.

So that’s why I contacted Chris. A lot of other financial advisors will say, Oh no, you can’t use your super for running a property business as such. So they’ll say that you can own property, but you have to hold it as an investment for the longer term. You can’t trade property or do development or renovate or whatever. And the answer is that if the circumstances are right for you and it’s structured correctly, then it can be done.

So Chris is a font of knowledge when it comes to that and has all the right industry context. So I wanted you to tap into that pool of knowledge. So definitely possible. Definitely can be done. Obviously this is not blanket advice, and we’re not saying, come one, come all, go out there and do it. But high level, just giving people an idea of what is possible and why you’d want to do it in super.

So, let’s kick off Chris with self-managed super the advantage is… well there’s a few advantages. Do you want to talk us through them?

Chris Tsiolis: Absolutely. In self-managed super you’re the trustee of your fund. You become the trustee of your fund and you’re in control basically of all investment decisions. And the immediate opportunity is that it’s an ideal vehicle for property investors because they can engage with their retirement savings to invest in an asset class that they’re familiar with. And particularly in a text advantage environment which is superannuation. Obviously there’s a range of considerations that need to be taken into account when deciding it’s the right thing for you. But definitely integrating property investments in superannuation can have numerous advantages.

Dominique: So people can, if it’s a fit and if it’s right and they want more control and they want to go up for it in property, they can roll themselves over into self-managed super?

Chris Tsiolis: Absolutely. I think that for someone who’s looking for that control and wants to maybe invest in an asset class they’re more familiar with which for example, residential property is an example of. Superannuation gives you that opportunity absolutely. You can borrow to do so or you can buy property with funds that are in the fund. We can look at the use of unrelated trusts and related trusts to JV for example for strategies that are a bit more active.

Dominique: And structure it via trust where your super fund can be more active and trade properties as a business with trust beneath them. That’s a legal setup, but it’s possible. I suppose for someone like me, people lost a lot of money in the global financial crisis and the essence of that was not being in control. So for me personally, companies went bust, a lot of things went wrong and it’s just a closer control of your finances as opposed to… and I’m not saying shares at good or bad. I think it’s all about risk appetite and maybe hedging your bets a little bit.

But if markets go up and down and we’re all sitting on the boats in the water that rise and fall with the tide, then you’re depending on someone else who’s managing your money and placing bets in funds and whatever… I call it placing bets. But obviously deciding where to invest your money, then you’re really just in their slipstream going along for the ride. Whereas with self-managed super, you can pick and choose your own investments. And one of those could be property if that’s right for you. There’s also massive tax benefits.

Chris Tsiolis: Absolutely. I think that the first benefit from a taxation perspective is contributing to superannuation. It can be very beneficial to contribute to super because you get a tax deduction by contributing money to-

Dominique: At the time.

Chris Tsiolis: That’s a huge benefit within itself. The second major advantage is that earnings attach a tax very concessionally. So for someone who’s in accumulation phase, earnings are taxed at 15% capital gains with a discount taxed at 10%. Now for someone who’s approaching retirement or is already there, the tax rate potentially can be zero. So, a very concessionally taxed environment to house investments. And as you say Dom I think owning a property in a fund can be a really smart diversification strategy.

Dominique: So, it’s obviously more tax effective than the next step up the ladder, which is potentially doing it through a company. And you’re taxed at the 27.5% Percent company rate. And the capital gains is a whole other story there. But let’s talk then about borrowing in our super funds because we can. Since 2007 the government has allowed superannuation funds to borrow money.

Chris Tsiolis: That’s exactly right Dom. So, when obviously you can buy a property outright with money that’s in the fund. But I think for people who are still looking to grow their wealth and grow their fund there’s an opportunity there to use the limited recourse borrowing arrangement to basically buy property.

Dominique: Okay. So that’s to leverage the money in your fund, couple it with bank money or other borrowings and invest in property. Now, as Chris said, it’s a limited recourse borrowing arrangement. So what that means is that it is only what is lost in that property that the bank can take. In other words, if Chris has say, half a million in a super fund, and he puts 400,000 of that into buy a property, and then he ends up owing the bank say 800,000, the bank can’t chase Chris’s super for the shortfall. So the loss is only limited to what they can get from the sale of the property.

Does that make sense? Have I said that right? I probably picked the wrong numbers but you get the idea. If Chris puts X dollars into the pool and the thing goes horribly belly up and the bank come to chase and there’s some sort of shortfall, they only get what they can take from the sale of the property. They can’t go back to the fund and say well, pay us the rest you owe us.

Chris Tsiolis: That’s exactly right Dom.

Dominique: And the government wants it that way because they don’t want banks getting rich from people’s super. The idea with super is that you’re empowered to get as much of it as you can to plan for your own retirement. So the government don’t have to support you with pension and Medicare and all sorts of other stuff. They want you to be self-sufficient. And part of that is to give you the maximum benefit that they can when it comes to tax and the maximum benefit when it comes to being in debt or losing out so that the losses are really limited. And that your fund is preserved as much as possible.

So when they did open the gates in 2007 and allow funds to borrow, they really put a lot of rules around it. The idea was to help you with the upside so that you could leverage and invest better. Leverage obviously magnifies gains. And the benefit of the limited recourse that leverage can’t come back to bite you and magnify your losses. So it’s a good thing, good vehicle there. And there’s a lot of lenders in the marketplace who are still willing to lend.

Chris Tsiolis: Absolutely. We’ve probably noticed that CBA most recently pulled out of the market.

Dominique: The four big banks have said no more lending to super funds, too much compliance.

Chris Tsiolis: Correct. I think you know that the banks want to distance themselves from all that compliance and the non-core of their lending businesses and that’s their decision, that’s fine. But there’s a panel of around 20 other lenders who do lend in this space. And the loan to value ratios Dom are quite generous. They vary from about 70 to 80%. So you probably need a minimum of a 20% deposit which is reasonable. Some may require 30.

The rates vary from between sort of five to 6%. They’re a bit higher than maybe a standard investment loan-

Dominique: Because of the non-recourse issue.

Chris Tsiolis: Because of the non-recourse aspect, that’s right. Which is a double edged sword. It’s good to know that the lender has limited recourse, but on the flip side the interest rate is just a bit higher as well.

Dominique: And also you pick up more on the tax savings as well.

Chris Tsiolis: Yeah there’s obviously the gearing benefits. The fund will will claim a tax deduction for the borrowing costs so that they are completely tax deductible within the fund.

Dominique: Yep. And the benefit too of your capital gains and your profits and whatever in your fund being taxed at a much slower rate.

Chris Tsiolis: Absolutely. So hopefully ideally, you’d buy the property for argument’s sake in your mid forties or even younger, maybe a bit older. And maybe you’d look to sell it at 60 or 65 if you don’t have a short term timeframe. And you’ll sell it hopefully when you’re retired at a zero tax rate. Which would mean that you’ll pay no tax at all in the capital gain.

Dominique: Unless you’re actively buying and selling properties and doing it as a business. And we’ve structured you by the correct legal processes to be able to do that with your superannuation. But either way, there are lenders still in the marketplace. It’s actually quite a small portion of the lending pool, but what you need to be aware of right now, even though loans to superannuation funds to buy a property is really small portion of the market. I read Chris 0.18%. So not even a quarter of a percent, but what the government said back in 2014, they had the Murray report that looked at our property market and housing affordability.

And they said we’ve got to stop super funds. And we’ve got to stop investors, and we’ve got to stop foreign investors. And they have all these plans to stop investment and stop people getting benefits through property. And one of them, which the labor government policy is, and we have to be aware that if there is a change of government at the next election next year, which may be on the cards, it seems, well who knows? I don’t have a crystal ball. I want to weigh in on politics. But if that happened and they stopped the lending to super funds that was brought in 2007, it means that your super fund won’t be able to transact property the way we’ve been talking about.

So, good news is there’s a small window of opportunity to get that happening now because their policy is that any new law will be grandfathered. So that means it will only apply to anything going forward. It won’t be retrospective. So whatever you do now is based on the current laws as they are now, which does allow that whole setup we’ve been talking about. My point is do it now.

Chris Tsiolis: Absolutely.

Dominique: So we’ve talked about the big four banks have withdrawn and borrowing costs are increasing. So it’s important to get in now and lock that in. The reason being that the compliance is so much. And as Chris said, the big banks have gone you know what, for 0.18% of market share the work we have to do to dot our i’s and cross our t’s and facilitate that style of lending is not a viable market for us. We’d rather concentrate where the demand is in the market.

So it means fewer and fewer lenders. So important to get it happening now if that’s something you’re considering. As Chris said 70 to 80%. The bank would still expects you to have 20 to 30% deposit from your super fund. A lot of lenders will require at least 250,000 in the fund.

Chris Tsiolis: That’s right. Some can be more flexible than others. I’m not that black and white with what’s appropriate to set up a fund, in an ideal world we would have around 200K to set up a fund. But, I think the main determinant is what people want to do within the fund. What a trustee wants to do in the fund. And buying a property obviously you’re not paying fees to investment managers so it could make it feasible to set up a fund with less than 200K if that was the case. But we take it on a case by case basis.

Dominique: So what Chris is saying, and what Chris’s job is, is to inform you. So what he’d be saying is, okay, rule of thumb in the marketplace, they say, look, it’s not worth it to have your own self-managed super if you’re under 200,000 because of filing returns and whatever. The costs involved, paying advisors and commissions and management if it’s being managed by someone. There’s a lot of costs and invisibles. There are properties pretty simple though and depending on the deal that you can get and there’s some good property deals out there at the moment that don’t require much superannuation.

Chris Tsiolis: Keep an open mind. We try and keep an open mind. There’s lots of reasons why you’d set up a fund with less than $200,000. There are reasons why you wouldn’t set up a fund with $400,000.

Dominique: And there’s properties that you can buy at the moment in this market where your 20, 30% deposit would be less than the $200,000. So, just some lenders… and this is why I set up DGI finance as well. My mission was to have one stop shop where you could get all your property needs met. And my missing ingredient, my missing link was Chris. And that’s why I’ve got him on board because we needed someone with the right licensing, the right understanding and knowledge bank to give you that information, to help you make informed decisions around your super and investing that in property and how it’s done.

And I’ve got DGI finance who are expert with superannuation loan. So, one of the things that some lenders will say is that you need to have at least 250,000 in your fund before they’ll lend, not everybody. So we know the people who will lend to you with less. And the other thing is that some of them will ask for a personal guarantee but we know ones who don’t. Personal guarantee means they want to get round the non-recourse lending. So, if there is some sort of loss and it goes belly up, they want to come after you personally. So we want to make sure that you have the right lenders for the right sort of deal.

The other thing is they’ll usually require some liquidity left in the fund. So, if we had $500,000 in the fund they wouldn’t want you to bet the whole fund so to speak. Their lender would say, okay, if you’ve got 500, you can take out 450 but leave 50 there. It’s usually about 10% they’d want, but there are also lenders who don’t mind you using your whole fund in one property deal. And that’s why it’s important to have the right context for that.

So let’s talk about the setup. Now, this is not for trading property or running it as a business that we were talking about earlier, that’s a different setup. But this is lending to super. So we’ve got your managed super fund and your then taking 400,000 out of that and your buying a property with it. So do you want to talk us through that Chris?

Chris Tsiolis: Absolutely Dom. So, just an example. So presuming you’ve got a balance of $400,000 in a Superfund, potentially you’re looking to buy a property that’s worth 500. You’ve come across maybe a bargain in this market. Let’s say for argument’s sake that… excuse me 600,000. We would put a 20% deposit down. That would be all that’s generally speaking required. It may be 30% but we’ll assume that all that’s required is 120. You could then borrow the remaining 480. If you wanted to use a 20% deposit.

As Dom already indicated we’ve got a whole panel of lenders. When this was written the banks were still lending, the banks no longer lend in this space. But there’s still a panel of about 20 other lenders that we can go to. We would borrow the rest and preferably find a lender that doesn’t ask for a personal guarantee.

Dominique: And then we buy the property. So from here, we’ve gone to buy the property for 600,000 with the bank loan plus a portion of your super. And joining those dots together we’ve now bought the property. But the benefit of that is you’ve still got 280,000 left in your super fund. So you can still hedge a bit. It doesn’t have to be full on property. And Chris might give you other options or ideas like you’ve said here in this example, diversified low cost portfolio.

Chris Tsiolis: Absolutely. So potentially you’ve got scope there. If you didn’t want to devote all the funds to property, you’ve got scope there to have two sort of assets. One being a property asset that will give you leverage and help you grow your wealth over the long term. And on the other hand, you’ll have a liquid portfolio of maybe exchange traded funds, invest in international shares and Australian shares and some bonds and corporate bonds. And the benefit is you’ve got another liquid pool there. And as a trustee running a fund, that helps you run the fund more efficiently as well and in a diversified way.

Dominique: So Chris is saying you’re the trustee. It’s your fund, it’s your money and you’re putting a little bit here a little bit there and you’re watching it. And then you could say, you know what? I don’t want that. And Chris you’d be able to help people. They don’t have to pick their own shares or anything like that?

Chris Tsiolis: No. We would advise you on the appropriate exchange traded funds and shares to buy. We choose those because the costs are very low. There are a lot less than what are associated with retail managed funds, and they give you a lot of transparency. And we can focus in on areas to try and outperform the market. And the benefit is as we’ve said it’s a diversified arrangement. And the property itself is also a really good source of diversification. Because often we find when the Australian share market underperforms, property historically also outperformed. So it can be a very beneficial strategy.

Dominique: Okay, great. And then you’ve said you can use another 80,000 to renovate the property.

Chris Tsiolis: Yeah, there’s no restriction. The ATO has given guidance on this. If you’re wanting to add value to the property and particularly if you’ve got cash available you’re more than free to do so, to add value-

Dominique: From your super.

Chris Tsiolis: Yeah. If it’s money that’s in superannuation. It can be borrowed money. You could certainly use borrowed money to maintain the property and possibly even replace the kitchen, but it wouldn’t have to… it’s a bit like getting a tax deduction for works to a property outside of super. You wouldn’t be able to enhance the kitchen you just have to replace it.

Dominique: For utilitarian purpose so that the property is habitable. And they don’t want you overcapitalizing obviously, which is why they’ve done it that way.

Chris Tsiolis: Absolutely.

Dominique: So that’s the whole thing. We’ve ended up with a diversified portfolio of shares or managed funds and property as well there. So there’s lots of ways we could do that. Now Chris, pros and cons. You’ve said interest is going up, we’ve got to look out for capital growth.

Chris Tsiolis: As our costs increase we’ve just got to be mindful that you’re buying a property at a really good price. Dom sort of already mentioned there’s lots of great opportunities out there. So if you think there’s a lot of capital growth prospects on the property, that makes it far more feasible.

Dominique: So it’s just the risks with any property deal. If you’re buying and holding for the longer term rental yields, normal risks that we’re aware of as property investors and capital growth, just you do your due diligence and research around that. But you would probably advise this to people in their thirties and forties?

Chris Tsiolis: Generally speaking, I think this is a fantastic strategy for people in their thirties and forties because they can buy a property whilst they’re young and over a 20 to 25 year period they can get the capital growth on it if they want to hold it for a long time. There’s still a lot of scope for people in their fifties and sixties to do so. Particularly like with the example we went through earlier Dom where there’s a lot of cashflow to support various investment options. I think for someone in their fifties and sixties, I think it would be good to have diversification in the fund as a-

Dominique: So property and other stuff.

Chris Tsiolis: I think so.

Dominique: Okay. And also I love the hands-on control of being able to run your property and your business and use your super there as well. But that’s more of a niche area and you can take that offline with Chris and you’re gaining the benefits of leverage and the tax benefits of your superannuation.

Chris Tsiolis: Yeah. Just one final pull up to that Dom is, obviously we want to grow our retirement savings because by the time we get there we may not want to be dependent at all upon the age pension or it may not even be available to us by the time we get there. So this is a great opportunity to build wealth in your fund.

Dominique: Fantastic. The other thing I want to touch on, I don’t want to catastrophize, and I don’t want to be a drama queen about it and who knows what next year will bring. But forewarned is forearmed basically, and let’s just get prepared. If there are changes in government, there will be other consequences that will affect us in property with tax, that sort of thing. And the lending landscape that’s changing with the Royal Commission and Upper rules.

And we’re in a time of change so, the other thing to just be aware of is banks are shutting down certain segments of the market that we’ve seen. APRA is limiting loans to investors in the market and it’s just a more competitive place. Don’t panic though. We still have funding available and we still have contacts with many lenders. If you haven’t already asked that loan controller product, if you’ve got your own home plus an investment property, that is just gold for tax efficiency. And that should be something that you definitely have in place. That means maximum tax benefits on your investment property and as little as 2% on your home loan.

So paying off your personal home loan debt quicker and getting maximum tax deductions there. Principal and interest loans at the moment either fixed or variable are at the 3.79% with some lenders. So ask about that. And the other thing is fixed interest only loans 4.19% available. So, just compare with what you’re getting and can your position improve? One lender we’ve good relationship and that’s why I wanted to get the benefit of a community. We’ve got a good relationship with a lot of lenders. Big bank lenders as well. And because we put through volume and were one of their biggest loan writers, they do great deals for us. They roll out the red carpet. We tend to get it quickly.

And the other thing that they have said is that we get rebates. So if you’ve a lot of properties, banks are a little bit hungrier to attract what thereafter now. So they’re getting out of super, but it means that they’re saying, okay, we want to bring in new customers how can we do that? And one lender it’s $1,250 per property. And someone like with 80 properties or something, we’ve got clients with portfolios that big, that can make a difference and be attractive. Plus heaps of frequent flyer velocity points with good straight value. Like half a million velocity points.

So they’re really tripping over themselves to win your business which is always good. So for more information from Chris about using your super for far better advantage when it comes to tax, as well as leverage using other people’s money, lenders money to do more and play in the property space with your super, or using your super and running that. Trading property, developing property, renovating and flipping properties. As well as lending criteria and what’s available at the moment. You can email him info@dgiwealthmanagement.com.au, and Chris can then talk to your situation.

We can’t do that here. Disclaimer, disclaimer, disclaimer. Chris had a disclaimer slide, I took it out Chris because we all know that, we’re adults. But yeah, this is not financial advice. And what we’re really telling you is what’s possible to open your mind. But to really apply it to your situation and to tap into that knowledge source, you can email Chris info@dgiwealthmanagement.com.au and it’ll be a lot more crafted to your situation. And he’ll help you out taking that property journey to the next level further using your super.

Let’s catch up then next month on our next Ask Dominique. Guys, ask me questions. This is as a result of what people wanted to know. So the more questions you ask around changes of government, doors closing, the quicker that we can act to get you the information that you need. So thank you to those people who asked about super and changes coming up. That was what gave us the idea to get Chris.

So remember those changes are eminent, act now, and send in those questions and we’ll see you next month on Ask Dominique. Thanks so much Chris.

Chris Tsiolis: Thank you Dom. Thank you.

Dominique: Thanks guys.