Full compliance needed if buying an overseas property: legal expert

“SMSF trustees can purchase property either outright with SMSF funds or via a limited recourse borrowing arrangement (LRBA),” Butler said.

“In short, while an SMSF trustee may be legally entitled to purchase a property overseas, there are many practical issues that can arise with such a purchase.”

Butler said firstly an SMSF must be maintained solely for the prescribed purposes, such as to provide retirement benefits.

He said in the Swiss Chalet Case (Case 43/95 [1995] ATC 374) a super fund trustee invested in a unit trust, the assets of which included a Swiss chalet, and the question in this matter was whether the fund met the then-equivalent of the sole purpose test.

“The problem was not so much the investment itself, but that fund members and their friends stayed in the chalet without paying rent. The fund was held to have contravened the sole purpose test,” Butler said.

“Accordingly, it is important that an SMSF trustee only acquires real estate because it genuinely believes it is an appropriate way to achieve its core purpose of providing retirement benefits to members.”

He said some SMSF members also mistakenly believe the Australian Taxation Office will never know that they are using the property overseas, however, immigration, phone, credit card, GPS and other records can easily expose a person’s location.

He continued that in Australia and other countries, property ownership is limited to residents and in many overseas countries, a resident company – one that is located in that country – is established to purchase the property.

In this circumstance, the SMSF trustee acquires shares in that overseas company and the share capital is then used by the overseas company to purchase the property.

However, Butler warned that if the SMSF members and their associates control or can exert sufficient influence concerning the overseas company, the shares in the company can readily constitute in-house assets.

“If the company has, for instance, an overseas bank account that does not qualify as an Approved Deposit Institution in Australia, it places a charge in relation to the property or the company conducts a business, the shares will not satisfy the exception in division 13.3A of the Superannuation Industry (Supervision) Regulations 1994 (Cth),” he said.

“If the shares are in-house assets and exceed 5 per cent of the fund’s value, a contravention can occur. A failure to comply with the in-house asset rules can potentially result in significant administrative penalties, an SMSF being rendered non-complying with a significant tax liability, and the SMSF directors/trustees being rendered disqualified from ever being SMSF trustees/directors and members again.”

Another SMSF investment strategy is a plan for making, holding and realising assets consistent with the investment objectives adopted by the trustee he said, which requires the acquisition to be authorised by the SMSF deed and consistent with the fund’s investment strategy.

“Formulating, reviewing regularly, and giving effect to an investment strategy is an operating standard under regulation 4.09(1)(a) of the SISR,” he said.

“Accordingly, an SMSF trustee/director who intentionally or recklessly does not maintain an investment strategy is guilty of an offence punishable on conviction by a significant fine.”

Butler added that if the SMSF trustee were to borrow to acquire the property utilising an LRBA, additional risks also need to be considered including whether a bank would lend to an SMSF for overseas property.

“If a foreign company is intending to purchase the property, practically, the bank would be lending money to acquire a piece of paper being shares in the foreign company,” he said.

“Our experience is that banks are reluctant to lend on this basis where the security is shares in a company or units in a unit trust, rather than obtaining security on the property.”

Additionally, loans to an SMSF must be in LRBA, which could make borrowing to purchase an overseas property problematic as not many overseas banks provide documents that satisfy s67A requirements in the Superannuation Industry (Supervision) Act and could give rise to a contravention.

Borrowing from a related party could also pose problems, he said, as it may be difficult to ensure that the lending was on arm’s length terms as obtaining appropriate evidence of arm’s length practices may be difficult.

Finally, Butler said more complexity can result in dealing with overseas countries given different laws, tax systems and regulations, and there is a need to ensure that all legal matters satisfy the overseas and Australian rules as any contravention can prove very costly.