In our last article we talked about the possible tax benefits when investing in property through a self managed super fund (SMSF). While taxation is undoubtedly an issue, and holding your investments within the most appropriate tax environments is vital to ensuring you maintain your wealth, today’s article will focus on one of the most powerful methods of helping people create wealth in the first place: that is unlocking the power of leverage.
By borrowing funds, and gaining a greater exposure to an asset class that appreciates in value over time, you significantly improve your ability to create wealth by having a larger investment in that asset class. Vital to this strategy is one’s ability to find an asset class which can provide stable, low volatility and proven returns. History has proven that property can deliver on all accounts.
Superannuation is meant to be a low risk proposition and it is important to recognise that borrowing to invest does carry with it a greater degree of risk. However, if you are making a commitment to invest in property past a 10 year horizon, your risks are minimised substantially.
In addition to this, current superannuation legislation makes leveraging within a self managed super fund less risky. “If things somehow go bad, provided you have structured the arrangement correctly, you should never lose more than your investment in the property,” said Fortrend Securities adviser Joel Hewish “Legislation limits financial institutions recourse in the event of default to the property which you have borrowed to invest in. This provides the borrower with more safety and asset protection in the event of default than would have been afforded if the borrowing was conducted outside of super, where banks potentially have recourse to other assets and income should there be a short fall in the recoverable value of the loan.”
So if you have 10 years or more to go before you retire, leveraged direct property becomes a rather logical choice to incorporate into your superannuation portfolio. Combining leverage with the tax savings afforded to superannuation could mean you have an increased chance of retiring earlier than initially thought possible.
To demonstrate how leverage could help boost the value of your superannuation balance over time, I have looked at its impact using the average growth of two Melbourne suburbs, Albert Park and Bulleen, and compared that to investing in the ASX over the same period.
Let’s assume that you had $50,000 available in your super portfolio in 1980 and the ability to leverage was possible.
Here are some of your possible options:
Option 1 – you purchased $50,000 worth of property
Option 2 – you invested $50,000 in a balanced portfolio of shares (All Ordinaries Index)
Option 3 – you purchased $165,000 worth of property, having borrowed $115,000, which represents a loan to value ratio of 70%.
As you can see, the results over the long term of having borrowed to buy property are significant. Over a 10 year period from 1980 to 1990 the asset appreciation is more than double the non-leveraged investment. Over a 30 year period it has approximately tripled. That’s even after you repay the original loan of $115,000 (and remember this is paid out of your super contributions, which are taxed at just 15%, not your marginal tax rate).
Of course, much depends on the selection of the property. Some property types will perform better than others and some suburbs are more likely to show stronger growth over time than others – look at the difference of buying in Albert Park and Bulleen with the same initial investment of $165,000 – over a 30 year period the difference in end value is approximately $1,500,000. So getting a professional to select and acquire the right property is essential.
With your retirement nest-egg, time is of the essence and the opportunity cost of a false start on a poor property could be the difference between retiring at 55 or 65.
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