Why Should You Use Super to Buy an Office Building?

Purchasing an office building through your Self-Managed Super Fund remains one of the few ways to use borrowed funds within superannuation following changes that took effect in August. The transaction requires a Limited Recourse Borrowing Arrangement, which separates the asset into a holding trust until the loan is repaid, protecting your other fund assets if something goes wrong.

How Commercial Property LRBAs Continue After the August Changes

The legislative changes that commenced on 10 August restricted new residential property borrowings within SMSFs but did not affect commercial property acquisitions. LRBAs entered into to purchase real property can only be used to acquire business real property from that date, but business real property acquisitions remain unaffected. An office building used wholly and exclusively in a business satisfies this definition, regardless of whether your fund owns the business operating from that property or leases it to a tenant.

Consider a Cowes business owner with $450,000 in their SMSF who identifies a small professional office near the Cowes town centre listed at $650,000. The fund has sufficient equity to borrow the difference through an LRBA, with the office then leased back to the member's business at market rent. The rental income flows to the fund while the business maintains occupancy. At current variable rates, a $200,000 LRBA over 15 years would require monthly repayments from the fund's rental income and any additional contributions made by members.

Business Real Property and the Sole Purpose Test

Business real property means land and buildings used wholly and exclusively in one or more businesses. The definition is tied to actual use, not zoning or marketing descriptions. A property advertised as commercial does not automatically qualify if its actual use fails the wholly and exclusively test. Whether a property satisfies the definition depends on its actual use at the time of acquisition and is a question of fact.

The business conducted from the property does not need to be your business. An office leased to an unrelated tenant operating their accounting practice satisfies the test, provided the building is used wholly and exclusively for that business purpose. Any such lease must be made on arm's length terms at market value where the tenant is a related party of the fund, including a business controlled by a fund member.

Mixed-use buildings require closer scrutiny. A property comprising ground-floor retail with a residential apartment above may not qualify in its entirety, or may require apportionment between the commercial and residential components. Buildings with caretaker residences or farm dwellings occupy a specific exemption under primary production rules, but that concession does not extend to other property types. In practice, an office building on Phillip Island used entirely for professional services or business administration will meet the definition without complication.

What Deposit and Structure Your Fund Requires

The borrowed money must be used to acquire a single asset, or a collection of identical assets with the same market value that can be treated as a single asset. Where an office building sits on a single title, it constitutes a single acquirable asset under the legislation. Properties on multiple titles cannot be combined into one LRBA, even if they are adjacent or functionally related.

Most commercial loans for SMSF purposes require a deposit of between 30 and 40 percent, though this varies by lender and the fund's overall position. Borrowed funds may cover loan establishment costs and stamp duty, but cannot be used to improve an existing asset. If your fund already owns commercial property, you cannot transfer that property into an LRBA structure. The asset must be acquired from outside the fund using borrowed funds at the time of purchase.

The holding trust must give your SMSF trustee a beneficial interest in the asset and the right to acquire legal ownership after the loan is repaid. A discretionary trust or unit trust does not satisfy these requirements. In the event of default, the lender's recourse is limited to the asset held in the trust. Your other superannuation assets remain beyond the lender's reach, which is the fundamental protection an LRBA provides.

Rental Income, Tax Treatment, and Division 296 Implications

Rental income from an office building owned by your SMSF is taxed at 15 percent during accumulation phase, or may be exempt where the fund is entirely in pension phase and assets are segregated. A complying SMSF is taxed at a concessional rate of 15 percent on its assessable income, including net capital gains. Where the property is held for at least 12 months, a one-third CGT discount may apply on disposal, reducing the effective rate on the discounted gain to 10 percent.

From 1 July, Division 296 tax applies where a member's total superannuation balance exceeds $3 million at the end of the financial year. Division 296 tax of 15 percent applies to the proportion of earnings attributable to the amount above the threshold, with an additional 10 percent applying to amounts above $10 million. Importantly, LRBA amounts are disregarded when calculating a member's total superannuation balance for Division 296 tax purposes. The outstanding loan does not inflate the balance used to determine whether the threshold is exceeded.

Rental income and realised capital gains both contribute to the Division 296 earnings calculation where applicable. An unrealised increase in the office building's value does not trigger Division 296 tax unless a CGT event occurs. Funds were able to elect to adjust the cost base of CGT assets to market value as at 30 June to recognise accrued value prior to the commencement of Division 296 tax, though this election applied to all CGT assets held by the fund at that date and could not be revoked.

Refinancing an Existing Commercial LRBA

Refinancing of commercial LRBA arrangements is not affected by the August changes. The ATO considers refinancing an LRBA to mean entering into a new loan contract for the same asset, with the same or a new lender. The refinanced loan must relate to the same single acquirable asset, maintain the limited recourse character of the original arrangement, and meet arm's length terms.

The ATO publishes safe harbour interest rates for SMSF LRBAs under Practical Compliance Guideline PCG 2016/5, updated annually, applying to both real property and listed securities. Where your LRBA does not meet arm's length terms, income from the arrangement may be assessed as non-arm's length income and taxed at 45 percent rather than the concessional 15 percent rate. This applies regardless of whether the lender is a bank, non-bank institution, or related party.

A related party may provide a personal guarantee to support the loan, but their recourse must also be limited to the asset under the arrangement. If the guarantee extends to other SMSF assets, the limited recourse character is lost and the arrangement fails to meet the legislative requirements. Most commercial lenders familiar with SMSF loans structure documentation to preserve this distinction without requiring trustee guarantees that would breach the rules.

Sole Purpose and Related Party Leasing in Cowes

All SMSF investments must satisfy the sole purpose test, which requires the fund to be maintained solely to provide retirement benefits to members. Decisions that give members or related parties a present-day benefit may contravene section 62 of the SIS Act. Leasing an office building to your own business is permitted, but the lease must be at market rent and on arm's length terms.

In practice, this means obtaining a rental appraisal from a licensed property professional before entering the lease, setting rent at the appraised market rate, and documenting the arrangement as you would with an unrelated tenant. Charging below-market rent to provide a financial advantage to the business contravenes the sole purpose test. The same principle applies if the office is leased to a related party of a fund member, including family members or entities they control.

Cowes sits within a mixed commercial environment, with professional offices clustered near Thompson Avenue and the retail precinct, and smaller office spaces scattered through residential-zoned areas used for home-based business overflow. Market rents vary depending on proximity to the town centre, building age, and fit-out standard. Where your SMSF owns the building and your business occupies it, the rental arrangement must reflect the specific characteristics of that property, not an arbitrary figure that suits your business cash flow.

Call one of our team or book an appointment at a time that works for you to discuss whether an SMSF commercial property acquisition suits your circumstances and how the structure should be set up to meet both legislative requirements and your retirement planning objectives.

Frequently Asked Questions