Property development and SMSFs – Part 3: Borrowing to develop and documenting the development

In the second instalment of the four part series on self managed superannuation fund trustees developing property, we discussed fund trustees investing in related and unrelated trusts that undertake property development.

In this update, we consider the commercial and superannuation law issues associated with borrowing to develop property and the importance of properly documenting a property development arrangement.

Superannuation fund borrowing

Direct ownership

While on its face section 67A of the Superannuation Industry (Supervision) Act 1993 (SIS Act) permits the fund trustee to use its existing funds to improve an asset if the prudential and other requirements of the SIS Act are complied with, this view is contradicted by the Explanatory Memorandum to the superannuation fund borrowing provisions. The Explanatory Memorandum provides that an improvement to real property is in effect a ‘replacement’ asset so would breach section 67A of the SIS Act. The Commissioner of Taxation (Commissioner) has confirmed the view set out in the Explanatory Memorandum.

The underlying theme in Draft Ruling SMSFR 2011/D1 is that the Commissioner appears to be against property development being undertaken while a borrowing arrangement is on foot. The Commissioner has taken the view that while a trustee cannot use borrowed funds to improve an asset, the trustee could use the existing assets of the fund. However, any improvements must not change the asset such that it is a different asset.

The Commissioner gives the following examples of what is a single acquirable asset and what is a replacement asset:

Single acquirable asset ​ Replacement asset​ 
Vacant block of land on single title The vacant block of land is subsequently subdivided resulting in multiple titles. One asset has been replaced by several different assets as a result of the subdivision.​
Vacant block of land on single title A residential house is built on that vacant land (still single title). The character of the asset has fundamentally changed from vacant land to residential premises.​
 A house and land​ The house is demolished and is replaced by three strata titled units. The character of the asset has fundamentally changed along with the underlying proprietary rights. This has created three different assets.​
 A house and land​ Rezoning of the land is granted and the house is renovated and is now commercial premises. The character of the asset has fundamentally changed from residential premises to commercial premises. This is a different asset.​
 A four bedroom house and land​ A fire destroys the four bedroom house and a four bedroom house is constructed using insurance proceeds. Rebuilding a four bedroom house does not fundamentally change the character of the asset held under the Limited Recourse Borrowing Arrangement (LRBA). Rebuilding the house restores the asset to a house and land.


Draft Ruling SMSFR 2011/D1 does not provide any comfort for fund trustees looking to develop property in the fund that has been acquired under a borrowing arrangement. On the basis of the Draft Ruling, fund trustees should take care when:

  • subdividing land; or
  • rezoning land from residential to commercial.

In light of the Commissioner’s view, it would be prudent to take a conservative approach to improving or developing land purchased under a superannuation fund borrowing arrangement. Therefore, any development activity should not take place until the borrowing has been fully repaid and the trust arrangement wound up.

Unit trust structure

Where development land is held in a related unit trust structure, the trustee for the unit trust cannot borrow without the fund trustee breaching the in house asset rules of the SIS Act. However, the purchase of the units could be funded by way of a superannuation fund borrowing arrangement whereby the fund trustee borrows on arm’s length terms to buy units on a limited recourse basis, which are held on trust by a custodian pursuant to the requirements of section 67A of the SIS Act. It will be necessary to ensure the value of the units can be substantiated to ensure the transaction is on commercial terms.

While the assets of the unit trust cannot secure the borrowings, the security for the borrowing can be the units acquired and any other assets held outside the fund, for example personal guarantees given by the fund members. Importantly, the rights of a guarantor are limited to the asset acquired with the loan. Therefore, a guarantor exercising their right of subrogation can only claim against the asset acquired with the borrowing. In light of this, a guarantor may need to waive or limit their right of subrogation to ensure compliance with the limited recourse requirements of section 67A of the SIS Act.

The Commissioner has stated that the guarantor’s rights may be excluded or limited by the express terms of the guarantee (refer to ATO ID 2010A/170). The amount waived by the guarantor could be deemed to be a contribution to the fund (refer to Taxation Ruling TR 2010/1).

Documenting a property development arrangement

The contractual arrangements that should be put in place to govern the development of vacant land held by a fund trustee will depend on the structure of the transaction.

Co venture

Where the transaction is structured as a co venture arrangement, the parties should enter into an agreement that addresses key considerations such as:

  • development of the land including the purpose and method of implementation;
  • duration of the venture (including the commencement date and term);
  • how receipts will be shared and in what order;
  • dispute resolution procedures;
  • what happens on the completion of the project and how the arrangement will be terminated; and
  • how financial contributions, ongoing finance and the payment of the project costs will be met and when?

Further, it is important to ensure that the fund trustee does not inadvertently acquire non business real property from a related party, which could become an issue where a fund trustee engages a related party to undertake the development of the land.

The Commissioner takes the view that where the related party buys the building materials and is subsequently paid a fee or reimbursed for the materials, the fund trustee is acquiring an asset in breach of section 66 of the SIS Act (refer to National Tax Liaison Group Superannuation Technical Committee minutes from December 2011). A solution is to engage the related party as an agent, ensuring that the extent of the agency relationship is clearly documented in the co venture agreement, and have the materials paid for by the fund trustee.

Tenants in common

Where the fund trustee has acquired the development land with another party, it would be prudent for the parties to enter into an agreement as to how the development land will be dealt with if a party wants to liquidate their investment.

A fund trustee should also consider taking out appropriate insurance given that the fund will be holding real property as part of its investment strategy on the chance that an injured person may be entitled to a compensation payment from the fund that may exceed the value of the fund’s assets.

Unit trust

Where the transaction is structured by way of a unit trust arrangement, the following documents should be prepared:

  • unit trust deed and accompanying minutes of meeting; and
  • unit holders’ agreement.

The units in the unit trust should carry equal rights to income and capital. The units in the unit trust should also carry equal voting rights.

A quorum for a unit holders meeting should be unit holders with more than 50% of the units issued in the unit trust where there are only two unit holders. Where each unit holder has the right to appoint a director of the corporate trustee, the chair of the board of directors should not have a deciding vote where the chair is a representative of the fund trustee and/ or its associates.

Stay tuned for the fourth and final instalment where we will consider the tax consequences of self managed superannuation funds undertaking property development through various


Andrew O’Bryan

Andrew specialises in taxation law. He is a CPA Australia Fellow and Chairman of its Taxation Centre of Excellence.

Natalie Bannister

Natalie Bannister

Partner & Commercial National Practice Leader

Natalie leads the Hall & Wilcox's Commercial practice and has broad experience across many areas of commercial law.

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