A Guide to SMSF In-House Asset Rules 

A Guide to SMSF In-House Asset Rules 

In-House Asset Rules PuzzleIn-house assets (INHA) continue to puzzle many SMSF trustees.  An auditor contravention resulting from breaching the in-house asset rules continues to be one of the most common contraventions reported to the ATO. It can be a very costly mistake which is better avoided. This article will guide you through the murky waters to help you better understand and avoid the in-house asset trap.

The mischief the Australian Taxation Office (ATO) is concerned about are transactions with related parties which are not transparent, can provide financial advantages to SMSF members before their retirement and potentially considered to be an in-house asset. 

In this article we are not covering the grandfathered in-house assets.  Generally, transitional rules were put in place to protect existing related trusts and companies colloquially know as pre-1999 trusts & companies. From 1 July 2009 no new units/shares could be purchased in pre-1999 unit trusts/companies.  However, the transitional rules did allow reinvestment of existing unpaid earnings at 11 August 1999 and loans to a related trust/company could be retained up to the level of debt at 11 August 1999.  The rules are very complex, and advice should be sought from your SMSF specialist if you have a pre-1999-unit trust or company.

What is an In-House Asset?

Definition of an in-house asset includes loans made to related parties, investments in related parties, and assets leased to related parties.

Exceeding 5 % Limit on In-House Assets 

Assets of an SMSF may consist of up to 5% of their total assets as in-house assets.

It is important to note the threshold is based on the total fund assets held by the SMSF and not the net assets of the fund.  This is especially important if a SMSF includes a large borrowing as the net assets will be significantly less than the total value of the fund’s assets. 

There are two crucial measuring points in relation to the 5% threshold test:

  • when the new in-house asset is acquired
  • at the 30 June each financial year

Ensuring the assets are at market value at the time of measurement is crucial.  At 30 June fluctuations in market values can cause issues with in-house asset exceeding the 5% threshold.

Let’s look at some examples of a SMSF exceeding the 5% threshold.

Example – Paul’s SMSF includes an investment of $20,000 in a related unit trust which owns property. Whilst the property is used 100% in a business the trust borrowed to purchase the property and used the property as security. The unit trust does not come under the exception of an ungeared unit trust and is an INHA.

✓    At the time of purchase the investment of $20,000 was only 2% of the SMSF’s total assets and did not breach the 5% INHA threshold.

A couple of years later Paul’s SMSF wants to invest another $50,000 in the same related unit trust. The investment Is only 4% of the total assets of the fund’s total assets.

✓    at the time of acquisition the purchase of the additional units is ok BUT

×     the market value (not the original cost) of the original investment plus the new investment exceeds the 5% INHA threshold

The additional units cannot be acquired as they would breach the in-house assets test at the time of purchase.

Example – Alia’s SMSF loaned money to a related company 3 years ago. The loan was an INHA but was only 3.8% of the fund’s assets at the time the loan was established which was allowable. At 30 June 2024 the market value of the assets owned by the SMSF declined significantly which tipped the percentage of INHA to 6%.

The value of in-house assets as at 30 June 2024 exceed the 5% threshold.

Unlike the example above where a breach occurred at the time of purchase which is a reportable contravention. the INHA level, in this example, exceeded the threshold but does not breach the INHA rules at 30 June 2024. However, the trustee must prepare and implement a written plan to reduce the INHA below the 5% level before 30 June 2025.

SMSF and Related Parties

We now explore what a related party of the fund is. 

A related party includes:

  • a member of the fund
  • a part 8 associate of a fund’s members
  • a standard employer sponsor of the fund

A part 8 associate is very complex. Understanding part 8 Associates comes down to direct and indirect control by various individuals and entities connected to a member of the fund. Part 8 associates can include:

  • members and their relatives
  •  business partner of a member and the partner’s spouse and child
  • the SMSF trustees and the directors of the trustee. if it is a corporate trustee
  • a company in which a member and the member’s Part 8 associates, control the company or influence it
  • the member together with their Part 8 associates control the trust

Example From the Self Managed Superannuation Funds Ruling 2009/4

Example 10 – Company a related party of an SMSF

  1. Ashley is a member of an SMSF. The SMSF has a lease arrangement with a company in which Ashley holds a 30% voting interest.
  2. Ashley is also a member of a partnership with Mike and Leonie. Therefore Mike and Leonie are Part 8 associates of Ashley.
  3. Mike and Leonie both hold a 15% voting interest in the company. Consequently, although Ashley only holds 30% of the voting interests in the company, together with his Part 8 associates, Mike and Leonie, they hold a voting interest of 60% in the company. As a result, the company is a related party of the SMSF.

Example From the Self Managed Superannuation Funds Ruling 2009/4

Example 12 – Members and associates control a trust together

  1. Tracey and Charlie are members of an SMSF. The SMSF holds 100% of the units in the unit trust. The unit trust has a corporate trustee. Tracey and Charlie are the shareholders and directors of the corporate trustee.
  2. Tracey and Charlie are both Part 8 associates of each other and therefore can act together to form a group. This group forms 100% of the directors and shareholders of the corporate trustee which therefore might reasonably be expected to act in accordance with their directions. Consequently, the unit trust is controlled by both Tracey and Charlie and is a related trust of their SMSF.

It is important to note the presence of very old trust deeds, as they may contain a standard employer sponsor who is typically a party to the trust deed alongside the trustee. The standard employer sponsor contributes to the fund as part of an agreement with the trustee. An employer who only makes contributions to the fund for a member is not considered a standard employer sponsor. Standard employer sponsors are not commonly found in updated or new trust deeds. If a fund has a standard employer sponsor, it increases the potential for related parties, and as a result, the trustee of a self-managed superannuation fund could unknowingly invest in a related party.

If you are unsure if your fund has a standard employer sponsor check with your SMSF specialist as the fund’s trust deed may need to be updated to avoid this additional layer of complexity. 

In-House Assets and Related Party Transactions

Examples of related party transactions 

Example of INHAs

Business Real Property

Ken and Angel, a defacto couple, are the two members of Ken and Angel SMSF (K&A) and they are the two directors of AK Pty Ltd (AK) being the trustee of K&A.

K&A has assets of $950,000 and liabilities of $6,120 with net member benefits of $943,880. The fund has no existing in-house assets.

Ken and Angel run a business together and lease their business office from K&A. The office is valued at $600,000 and the members have a formal lease agreement in place with commercial terms and conditions.

A lease to a related party is caught under the in-house asset rules. Except in this situation the office is used 100% in the business of the members and is classed as business real property which comes under one of the in-house asset exceptions.

The fund does not breach the in-house asset rules.

Residential Property

Andrew and Kate, a married couple, are the two members of Andrew’s Family SMSF (AFS) and they are the two directors of Kate Pty Ltd (Kate) being the trustee of AFS.

AFS has assets of $2.300,000 and liabilities of $12.125 with net member benefits of $2,287,875. The fund has no existing in-house assets.

Andrew and Kate lease a residential property from AFS. They have a formal lease in place with commercial terms and conditions and pay commercial rent. Andrew and Kate are related parties of AFS and therefore the property is an in-house asset of the fund. The market value of the property is $450,000.

The residential property does not fall under one of the exceptions as the residential property is not being used in a business. We now measure the 5% threshold which is the gross assets of $2,300,000 x 5% = $115,000. The value of the property exceeds the 5% threshold allowed.

The fund does breach the in-house asset rules.

Below in-house asset limit not exceeding 5 % 

Sam and Martha, a married couple, are the two members of SM SMSF (SM) and they are the directors of Smart Pty Ltd (Smart) being the trustee of SM.

SM has assets of $1,250,000 and Liabilities of $400,000 (includes a LRBA of $390,000) with net member benefits of $850.000. The fund has no in-house assets prior to the loan.

Smart lend $60,000 to Sam with a formal lending agreement which includes commercial terms and conditions. A charge over some of Sam’s assets was registered with the personal properties securities register (PPSR) to protect the fund.

The loan is an in-house asset as the money is being lent to a member of the fund and does not fall under one of the exceptions. We now measure the 5% threshold which is the gross assets of the fund $1,250,000 x 5% = $62,500. The loan of $60,000 is less than the threshold allowed.

The fund does not breach the in-house asset rules. However, whilst the fund doesn’t breach the INHA rules it does breach another rule being the prohibition of lending to a member or a relative of a member which comes under S65 of the SIS Act and there is no 5% threshold under this specific section. 

n.b S65 only applies to a member or relative which include but not limited to a parent, brother, sister, aunt, uncle, niece, nephew, spouse or a child of the member or spouse. It does not apply to a related entity such as a company or unit trust.

Another example of an in-house asset which might surprise you.

  • Just owning a rental property together or being a partner in a horse syndicate can potentially breach the in-house asset rules in relation to a SMSF asset.   

This could occur where a loan from the SMSF to Fred (not a member or a relative or in business with the members of the fund) who happens to own a racehorse in partnership with Bob (a member of the SMSF) and several other people. All the partners in a partnership, where Bob is one of the partners, are deemed to be related parties of the SMSF. Fred and Bob are related parties due to their joint investment as partners in a racehorse. Otherwise, the two would not be connected.

 If the loan is over the 5% threshold it could be caught as an in-house asset.

In-House Asset Exemptions 

There are a number of exemptions the most significant are:

  • a related party leases business real property from the SMSF
  • ungeared unit trust or company
  • widely held unit trusts
  • real property held by a SMSF as tenants in common with a related party

We discuss business real property and related party leases below as this is a very common In-house asset held by SMSFs which is exempted from being an INHA.

What does it mean when an SMSF owns an ungeared unit trust?

An ungeared unit trust is an investment in a related unit trust and is governed by a number of regulations. Key regulations include the prohibition on borrowing or placing a charge over assets owned by the trust. The trust is not allowed to hold shares or units in other companies or trusts or engage in business activities, However, it is allowed to hold business property which is leased to a member or related party. The legislation was created to facilitate pooling funds from related parties or business associates for a SMSF to invest in business premises of the fund members.

A widely held trust is one which has at least 20 unrelated entities who hold fixed entitlements to 75% or more of the income and capital of a trust. By definition a widely held trust cannot be controlled by the members of a SMSF and their related parties. Interestingly, a widely held unit trust can be acquired from a member of the fund. This is contrasted with a private unrelated trust which generally could not be acquired from a fund member.

Ownership of a property can be shared between a fund and a related party if they are tenants in common, even if the property is residential and not used for business purposes. However, the property cannot be used as security for a loan. A tenant in common has an entitlement to a specific percentage of the property and income and expenses are dealt with on the same basis. Each tenant can deal with their specific holding separate to the other. This is contrasted to joint tenants who own a property together and each joint tenant has equal rights and obligations which mean they cannot deal with the property separately to the other tenant.

Business Real Property

The definition of business real property is real property used wholly and exclusively in one or more businesses.

The property is not required to be zoned commercial or industrial.  The property can be a residential property which is used wholly in a business i.e. a hairdresser. doctor’s surgery or a professional office for an accountant or lawyer.  

What makes understanding the definition of business real property significant? Because:

  • it can be acquired directly from members or related parties
  • a SMSF is able to invest in an ungeared unit trust, which holds business real property,
  • a lease arrangement between a trustee of a SMSF and a related party in relation to business real property is not an INHA
  • a trustee of the fund can use a limited recourse borrowing arrangement to purchase business real property 

ATO example from Self-Managed Superannuation Funds Ruling SMSFR 2009/1

Example 21: Doctor’s surgery in residential premises

  1. Dr Mary owns a house used exclusively by her medical practice.
  2. Dr Mary is a member of the Yianni SMSF. Dr Mary, in her capacity as trustee of the SMSF, wants to acquire the house for market value and then lease it back so the medical practice can continue to operate from the house.
  3. Although the house was built to be residential premises, it is not used as such. The real property is used wholly and exclusively in Dr Mary’s medical practice business. For the purposes of the related party asset acquisition rule in section 66, the property is business real propertyof Dr Mary. Once acquired by the Yianni SMSF, it is also business real propertyof the fund and is therefore not an in-house asset of the SMSF.

Primary production business with a private residence is not considered an in-house asset even if the members live in the residence. 

ATO example from Self-Managed Superannuation Funds Ruling SMSFR 2009/1

Example 1: Primary production business with private residence – case 1

  1. The Harrison Vineyard is owned and managed by Peter and Denise Harrison who are members of the Harrison SMSF.[101]
  2. The property has 10 hectares planted out with vines and on half a hectare of the property they have built a private residence in which they live.
  3. The vineyard business has a grape supply agreement with a local winery for the next 5 years. This agreement forms the basis of a business of primary production that is being conducted on the property.
  4. The Harrison SMSF acquires the property (not including the grape supply agreement) from Peter and Denise at its market value. Peter and Denise then lease the property from the SMSF.
  5. The property is business real property of both the Harrison SMSF after it acquires the property and of Peter and Denise at all times. At all relevant times, the Harrison SMSF and Peter and Denise hold either a freehold interest in the land or a leasehold interest in the land. The use of the private residence is permitted under the specific application of the ‘wholly and exclusively’ test in subsection 66(6). Therefore, the property is used wholly and exclusively in Peter and Denise’s business at all times.

Related Party Lease Agreement

Business real property subject to a lease with a related party is allowed. To ensure continuing compliance with the superannuation laws it is important to have a formal lease in place with commercial terms and conditions and the terms and conditions are adhered to. A formal lease is not strictly required but the lease must be enforceable and often informal or verbal agreements are very difficult to prove. 

Furthermore, as the lease is with a related party it is crucial to ensure evidence is obtained to support the following:

  • the rent is set at market value at the time the lease is established
  • evidence to support the rent when the lease expires or an option is taken up to renew the lease

Evidence can include a formal rent valuation or a valuation from a real estate agent who can also provide the basis of the valuation which can include identifying rent paid for properties which are similar and in the same area.

What happens if the rent is paid late?  Is this a loan to a related party and caught as an INHA? Generally, a single late payment will comply with the rules and is not considered to be a loan but may do if rent is outstanding for a number of rent periods or not paid at all. 

Example From the Self Managed Superannuation Funds Ruling 2009/4

Example 1 – Late payment of rent not a loan

  1. Tom and Judy are the sole members and trustees of the Tom and Judy SMSF. The superannuation fund leases business real property to a large medical partnership, of which Tom is a partner. Rent is due on the last day of each month but in June 2008 the payment was overlooked due to a clerical error. This was not discovered until the next payment was due at the end of July 2008 and payment was then received for both months at that time. As the late payment was not part of an arrangement between the parties it is not a financial accommodation or provision of credit. Therefore the outstanding amount was not a ‘loan’ on 30 June 2008 and consequently is not required to be included in the in-house assets of the Tom and Judy SMSF.

Strategies for Managing In-House Asset Levels

INHA levels should be closely monitored near 30 June each year to manage existing levels of in-house assets to avoid exceeding the 5% threshold.

Consider the following actions:

  • make or bring forward contributions 
  • review the market valuation of assets, particularly when property values are recovering in the economy
  • dispose of part of the INHA to be less than 5 %
  • delay a benefit payment until the 1 July 

Increasing the total asset values may reduce the percentage level of INHA. Delaying a benefit payment can potentially provide more time to deal with an INHA issue.

Penalties and Consequences for Breaching the SMSF In-House Asset Rules

What are the consequences when an in-house asset held by the fund and a new INHA is purchased, and the combined percentage exceeds 5 % of the total assets of the fund at that time?

The SMSF cannot purchase the new in house asset. If a new fund asset is purchased which pushes the INHA over the threshold the auditor will contravene the fund and report the breach to the Australian Taxation Office. 

What are the consequences when a funds in house assets exceed 5 % at 30 June 2024?

This is not a breach at 30 June 2024.  However, the following actions are required:

  • the SMSF trustees need to enter into a formal written plan at the 30 June 2025 
  • the formal plan sets out the steps required to reduce the INHA to at least the 5% threshold
  • the trustee must ensure the steps are undertaken by 30 June 2025

The fund only breaches the super laws if the above actions are not completed by 30 June 2025.

The penalties for breaching the SMSF in house asset rules include:

  • Administrative penalties
  • Rectification directions or enforceable undertakings
  • Disqualifying a trustee
  • Education directions
  • Civil and criminal penalties
  • Non-compliance

Civil penalties can be imposed on each trustee.  Individual trustees each receive a civil penalty whereas a corporate trustee does not receive a civil penalty for each director but only a civil penalty for the corporate trustee.  A civil penalty is a maximum of 2,400 penalty units which translates to $751,200. Civil penalty orders or criminal penalties are used by the ATO as a final deterrent and not commonly used.

The ATO have a very broad range of penalties to inhibit bad behaviour.  As most breaches reported to the ATO are generally misunderstanding of the rules the ATO like to work with the trustees and their advisers to rectify the breach and put procedures in place to prevent any further issues.  Good outcomes are usually achieved the earlier the trustees report honest mistakes.  Clear violations of the Superannuation Industry (Supervision) Act 1993 and Regulations are dealt with heavily.  The ATO provide a lot of educational materials to trustees and access to guides on superannuation rules through their website.  However, they do intend to toughen their compliance approach in the future.

Key Takeaways

  • In-house asset rules are designed to ensure members and related parties do not benefit financially before retirement
  • SMSF investment rules allow 5% of the total assets to be in-house assets
  • Value of the in-house asset is measured when a new INHA is purchased and at the 30 June each year
  • Related party rules allow a SMSF to purchase business real property which is subject to a lease with a related party 
  •  A formal written plan to reduce INHA must be prepared if the fund’s in-house assets exceed 5% threshold at 30 June
  • The ATO focus on education of trustees and on compliance rather than harsh punitive measures

Do you need help with understand In-House Assest Rules and your SMSF?

Give us a call on 1300 392 544 or get in touch online 

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If you’re interested in learning more about In-House Asset Rules and your SMSF, Please reach out for a confidential quote. Simply submit your details and one of our friendly team will be in touch as soon as possible.

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Do you need help with understand In-House Assest Rules and your SMSF?

Give us a call on 1300 392 544 or fill in the form above

Contact Us

If you’re interested in learning more about In-House Asset Rules and your SMSF, please reach out for a confidential quote. Simply submit your details and one of our friendly team will be in touch as soon as possible.

Contact Us