Business in an SMSF

Generally, you’re not allowed to use your SMSF to run a business, borrow money, or acquire a holiday house. These “grey area” investments are referred to as in-house assets. In-house assets can make up only 5% of the total asset value of a Fund. So be careful not to breach the SMSF sole purpose test. The most important consideration with an SMSF is that all investments are for retirement purposes only.

Running a business in an SMSF is generally considered a strong indicator that the Fund has breached the sole-purpose test. In a limited number of circumstances, you can run a business in an SMSF, but anyone thinking of doing so is strongly advised to have a thorough read of the ATO fact sheet entitled ‘Carrying on a business in a SMSF’ released 25 May 2010.

Holiday house

If your SMSF buys a rental property, whether it’s residential or commercial, it is legal and in order, provided the SMSF Trust Deed and SMSF Investment Strategy allows for this. The SMSF can even buy a holiday house as long as it is rented out through an agent on the holiday market.

Deriving personal benefit from this asset is a big NO-NO. If the Trustees stay in the holiday house, even off-season, the ATO will classify the total asset as in-house. And if the value of the holiday house is greater than 5% of the total assets in the SMSF (which it usually is), and is also considered an in-house asset, the SMSF will lose the concessional tax treatment of 15% and be taxed at the marginal tax rate of 46.5%.

Carrying on a business of share trading

To the question: Is it acceptable to trade shares in an SMSF? The short and simple answer is YES.

All the big retail superannuation funds trade shares. When investing in Superannuation, buying and selling shares and related investments is an activity Funds will enter into.

The question of the acceptable level of share trading is a little more difficult to answer. There’s no real guidance in this area apart from the fact that trading should be supported by your SMSF’s Investment Strategy. When Superannuation Warehouse sets up a new SMSF, we provide Trustees with an Investment Strategy template. As Trustees of the Self-managed Superannuation Fund, it’s up to you in your capacity as a Trustee to make sure that what you plan to do or trade is noted down in the Investment Strategy.

Whether an SMSF is an active share trader or a long term investor is determined case by case and depends on the intention of the trades, i.e. why the buys and sells are made. Factors that can be taken into account to establish the trading status of an SMSF are as follows:

  1. the nature of the fund’s activities, particularly whether they have are aimed at making profit
  2. the repetition, volume and regularity of the activities, and their similarity to the activities of other businesses  in your industry
  3. the keeping of books of accounts and records of trading stock, business premises, licenses or qualifications, a registered business name and an Australian business number
  4. the volume of the operations, and
  5. the amount of capital employed.

Why is this important?

Because, as Trustees, you don’t want to breach the sole purpose test (providing retirement benefits to members). If you do,  you run the risk of losing the concessional tax treatment given to SMSFs.

Is share trading etc. “carrying on a business”?

The ATO is also concerned that the investment activities of some SMSF Trustees – such as share trading and making certain ‘tax effective’ investments – may amount to carrying on a business. If those activities do constitute a business, then – again – the SMSF may lose its complying status and the Trustee or SMSF may face penalties.

The ATO’s concerns outlined above reflect its regulatory imperatives in ensuring SMSF trustees comply with:

  • the sole purpose test: and
  • investment rules in general.

It is important that Trustees are aware of, and comply with, the investment rules set out in the SISA. The key things to remember are:

  • develop an investment strategy and stick to it; and
  • make and maintain investments on a commercial, arm’s length basis. This can be determined by asking whether a prudent person acting with due regard to his or her own commercial interests would have made such an investment.

Trustees must NOT:

  • acquire assets from related parties (although there are certain exceptions); or
  • lend to, or provide financial assistance to, other members of the SMSF or to their relatives.

Extreme example

A Trustee might decide that playing roulette would make a good investment strategy, and “invest” in red or black. As long as it’s an investment strategy, the Trustee can go with it. It is legal. Now, although we would never condone anything as extreme as this, it does illustrate just how much freedom and responsibility the Trustee is given when it comes to acting in the best interest of the SMSF.

Can a SMSF invest in a private company

Your SMSF can invest in a private or public company, even if you work there. The criterion is that you don’t have a controlling voting right. If you do, your investment will be regarded as an in-house asset, which can’t be more than 5% of your total SMSF assets.

See the ATO Tax Ruling 2009/4 on investments in companies that are considered related parties. Paragraph 157 of the ruling states that when you control 50% of a company, an investment in the company is regarded as an in-house asset.

Conclusion

Yes, SMSFs can trade shares, providing they follow the SMSF’s investment strategies. As yet, the ATO hasn’t made any pronouncements as to whether the buying and selling of shares constitutes part of a normal investment strategy, or something more aligned to running a business as a trader.

Running a business in an SMSF is generally considered a strong indicator that the Fund has breached the sole-purpose test. In a limited number of circumstances, you can run a business in an SMSF, but anyone thinking of doing so is strongly advised to have a thorough read of this page on the ATO website. An SMSF must be administered for the sole purpose of providing retirement benefits for Fund Members. Any investment decisions taken must be for the sole purpose of deriving a future retirement benefit and not a current benefit.

  • solomonsmines

    Dear Hein,

    If you already run a Share / Derivative trading business “outside” of your SMSF, can you then run another within it? (The two processes would run concurrently)

    The idea would be to leverage IP garnered in day-to-day activities and then exploit those opportunities with a SMSF, for the benefit of the members in retirement. Obviously it would also be a day-to-day operation and would run in parallel to the main business running outside of the SMSF.

    All of this assumes a complying SMSF Investment Strategy which would include a spread of investments and asset classes eg; Cash, Top 200 ASX Shares, Real Property, EFT’s and Derivatives. The Derivative side would be an area where the most activity would be. Other classes would be longer term holds.

    Great site btw,

    Solomon

    • superannuationwarehouse

      Solomon,

      The first thing to keep in mind is to ensure all transactions in the SMSF is kept separate from your personal affairs. Make sure the SMSF has legal title to the assets it owns.

      Apart from the sole purpose test, keep in mind what a big retail super fund will do. If they run these type of transactions, so can you in your own Fund.

      As this is a grey area, make sure you read through the ATO guidance to ensure compliance.

      Trust this gives you some guidance.

      Hein

  • Yasuaki Chan

    Dear Hein,

    I’m interest in setting SMSF. If short I want to invest in company run by my wife. As my wife is a related party could I buy a 45% stake in her company so that it isn’t considered an in-house asset? I do not own shares or work for the company, just purely investment. As for strategy, the company will pay dividends per share.

    • superannuationwarehouse

      Yasuaki,

      When looking at control, you need to look at the share ownership of you and your related parties. So if your wife, family trust or a related company hold some shares as well, you will breach the 50% and that is control.

      Trust this helps.

  • Gina

    Hi,
    If we have a separate private business, are we allowed to borrow money from our SMSF so as to help that business with a purpose of repaying it with interest?

    • superannuationwarehouse

      Gina,
      The most important rule in an SMSF is the sole purpose test.
      This means an SMSF cannot enter into any transactions other than for the sole purpose of providing for your retirement benefit.
      Loans to related parties are therefore not allowed.

      • Gina

        Even if that business is the extension or the same as what we normally do as a job? Which will surely benefit for our retirement where we can put extra on the repayment of the loan (interest) rather than putting into shares and stocks that we often looses money.
        Based on what had happened to our super when it was still in those big companies. They invest our money with no guarantee, then at the end of the quarter you’re getting this report showing that the fund you had before was a lot less than what you had. Only stating that the stocks had dropped and you still have to pay the fees and all. Loss on the fees, loss on the stocks and they don’t get penalised?
        Looks like they can legally use and gamble our own retirement money, yet we can’t use it for our own investment with definite/sure earning for our own retirement benefit.
        Sorry just a bit confusing to me.

        • superannuationwarehouse

          Gina,
          I understand your frustration and from your comment you seem to be genuine in trying to save for your retirement benefit.
          However, remember to be compliant with ATO rules and legislation. My understanding is the ATO implemented this rule so you do not put all your eggs in one basket. If you invest in your own business and the business goes under, it would mean you loose your super as well – so there’s maybe some method in the madness.
          Remember you can invest in a company you work, as long as you and your related parties (bloodline family) do not control the entity. A possible strategy can be for 4 SMSF’s to pool together, each owning 25% of a company. As long as the SMSF and related parties do not control it, all is good.
          Keep well,

  • Andrea

    Hi,

    My partner as a small business, i have no voting rights in the business nor am i a shareholder. Am i able to invest in it? Just to be clear i am not looking at investing all of my super say just $20K.

    • Hein Preller

      Andrea,
      The rules are that you and your related parties are not allowed to control a company.
      A related party is generally your spouse and bloodline family. So you and your spouse can’t control the business, so unfortunately, the answer to your question is no.
      If the investment was in an unrelated business, i.e. no family involvement, your SMSF can purchase a minority shareholding, meaning it should be less than 50% and not be considered a controlling stake.
      Sorry to be the bearer of bad news.
      Hein

      • Andrea

        Hi Hein,

        So even though we are not married he is considered my spouse?
        is that correct.

        Cheers

        Andrea

        • Hein Preller

          Andrea,

          If its a friend only – no problem.
          If its a de-facto relationship, its regarded a related party.

          Keep well,
          Hein

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