A key issue for SMSF trustees considering the purchase of a second hand residential property via a self managed superannuation fund using borrowed money (gearing) is the distinction between what constitutes maintenance vs repairs / improvements to the property. This is important because SMSF trustees are currently allowed to use borrowed money to maintain or repair the property but not improve it. The new draft ATO ruling SMFSR 2011/D1 clarifies the difference between maintenance and repairs / improvements and outlines the ATO’s interpretation of the legislation.
The draft ruling by the ATO establishes that improvements can be made if funded from existing self managed superannuation fund cash holdings or from a related party to the self managed super fund. Improvements examples given in the draft ruling include the construction of a house on a vacant block of land, adding a pool, a garage or a second storey to an existing house and substantial renovations of a property, including adding a bathroom during that process.
SMSF trustees need to exercise caution and ensure that the asset is not improved to such a degree that it becomes a different asset. If an asset is improved to the point that it is no longer the original single acquirable asset, the limited recourse borrowing provisions could well be breached, which would lead to the self managed super fund being declared non complying, potentially resulting in heavy penalties.