Investing in property for retirement

Investing in property – whether to make money in the short-term, or as a part of retirement planning – has been a popular wealth-building strategy for years. If your property investments (existing, or planned) fall into the latter category, it’s worth thinking about how you structure them to set you up well for retirement.

We recently had a client looking to buy an investment property they planned to hold on to long-term. There’s two ways to hold an investment property; either outside of your super fund, which means you own the property personally, giving you a little more flexibility in how you use it, or inside your super, which means it’s solely to provide retirement benefits to you.

We helped this client structure their investment by going through a range of factors to determine was going to work best, so here we have shared their situation as a case study, to give you an idea of how we can help when it comes to property investments for retirement.

Client case study
First, some basic details about this client, and their situation:

•   The client is in their mid-40s - so not ready to retire, but at a good stage for retirement planning.

•   They were looking to buy a property worth $500,000.

•   The property was predicted to make them about $20,000 annually (after costs).

•   The client planned to buy the property outright, with money they had from an inheritance, so there was no loan we needed to consider in this situation.

Factors to consider
With this information, we then went through the following factors, to help decide whether the client would be better off purchasing this investment property inside, or outside of their super.

1. How does tax on earnings work?
When you own and make money from an investment property (usually through rental income) there are varying tax implications, depending on how the property is owned.

If the client owned the property personally, they would pay tax on any income from that property at their personal tax rate (which for this client was 39%). This would make the annual tax payable on the property about $7,800. If owned through the client’s super fund, earnings would only be taxed at the superannuation tax rate of 15%, making the annual tax payable just $3,000.

Same property, same annual income, but a massive difference in tax. That’s a saving of around $5,000 a year - and given the client’s plan to hold this property long term, that equates to an extra $50,000 in their super over 10 years, or $100,000 over 20 years. Pretty significant!

2. What happens to the property at retirement?
Once the client decides to retire, if they still hold this investment property outside of super, they’ll still pay tax on any income made from it each year. Yes, their tax rate at this point will be less than what it is now, but they will still be paying between $4,000 and $8,000 in tax anually. 

If they held that same property within their super, once they reach the age of 60 and retire, or once they reach 65 (retired or not) the tax rate in their super fund drops from 15% to nothing. The client could continue to hold this investment property well into their retirement until they decide to do something with it and they’ll be paying nothing in tax on any earnings the property makes.

3. What about capital gains tax?
Another factor is ‘capital gains’ tax. When you own a property for a period of time, and then sell it, you’ll pay tax on the profit (or ‘gains’) you’ve made on the property, since you bought it. 

If our client invested in this $500,000 property outside of super and decided to sell it to help fund their retirement, but by then it was worth $1 million, they would pay tax on half of the total profit, at their personal tax rate. The profit would be $500,000, half of that is $250,000 and taxed at 39% that’s $97,500 from their pocket, straight to tax.

If they owned the same property through their super and decided to sell it while they were still working, capital gains would be taxed at their super fund rate of 10%, meaning they would only pay around $50,000. If however, they waited until retirement to sell the property? The capital gains tax on that property would be zero.

This isn’t something that can be arranged overnight. In order for this scenario to work, you need to set up your property investments through super from the start. It takes some planning, but the financial benefits are clear if you get it right!

4. Can I buy an investment property through super with a loan?
While this factor didn’t apply to these clients, let’s take a look at it. Say you’ve bought an investment property for your retirement, but you’ve taken out a loan to do so. You’re still working, so you plan to pay the loan off with your wages. You’re happy to put $10,000 towards your loan each year. Owning the property outside of super, you would pay tax on the $10,000 you’ve earned at work - $3,900 at a 39% tax rate - leaving $6,100 to put towards the loan annually.

If you owned that property through super, and you salary sacrificed that same $10,000 each year to help pay the loan off, you’ll be taxed at your super fund’s 15% rate, so $1,500. This leaves $8,500 to help you pay off the loan. That’s $5,000 more than if you owned the same property outside of super and a loan that will be paid off much quicker.

The downsides
The main con for making property investments through super is that you’re limited with what you can do with that property while you own it. You can’t live in it or use it for any other tax benefits. If you’ve got a loan on the property, there could be other tax implications to consider depending on your situation. In our client’s case, the property in question was only ever intended to be part of their retirement plan, so despite the downsides, this investment strategy made sense for them.

Though your situation may be different to this client’s, there’s often lots of options we can help you work through if you’re wanting to do something similar so get in touch for a chat today. Don’t forget to keep an eye on our Facebook and YouTube channel, and let us know if there’s any other case studies, or property investment questions you’d like to see covered.