Everything you need to know about SMSF residential loans

From August, the rules changed for SMSFs that want to borrow money to buy property.

Your Self-Managed Super Fund can still own residential property and can still borrow under a Limited Recourse Borrowing Arrangement, but those two things cannot be combined for new arrangements. If you exchange a contract or enter an LRBA after 10 August, the real property you borrow to purchase must meet the definition of business real property under the SIS Act. Existing residential LRBAs are protected, and you can refinance them without losing that protection.

For SA public sector employees who have been building their retirement strategy around super, this is not the end of property investment through an SMSF. It shifts the focus to commercial property, to purchasing residential property without borrowing, or to maintaining and refinancing arrangements already in place.

Why the change applies to new residential LRBAs only

The Treasury Laws Amendment (Tax Reform No. 1) Act 2026 inserted a new condition into the SIS Act that restricts LRBAs entered into from 10 August onward. The legislation does not ban LRBAs. It restricts real property LRBAs to business real property for arrangements entered into on or after 10 August 2026.

The restriction does not prohibit SMSFs from owning or acquiring residential property. Your fund can still buy a dwelling without borrowing, subject to the usual rules. You cannot acquire it from a related party, and it cannot be occupied by a fund member or a related party of a member.

Consider a public sector employee who exchanged contracts on a residential investment property on 5 August with settlement scheduled for September. The changes do not apply where an SMSF exchanges a binding contract to acquire real property before 10 August 2026. That transaction can proceed under an LRBA even though settlement and the formal loan arrangement occur after the commencement date. The contract date controls the outcome, not the settlement date.

What business real property means in practice

Business real property generally means land and buildings used wholly and exclusively in one or more businesses. The business does not need to be carried on by the entity holding the interest. It is determined by the actual use of the property at the time of acquisition.

A shopfront leased to a retail tenant, an office leased to a professional services firm, or a warehouse leased to a logistics business can all qualify. A property marketed or zoned as commercial does not automatically satisfy the definition. What matters is how the property is actually being used when your fund acquires it.

Mixed-use properties need careful assessment. A property with a ground-floor commercial tenancy and an upstairs residential flat may not qualify as business real property, or may only partially qualify, depending on the specific circumstances. The ATO guidance in SMSFR 2009/1 sets out detailed examples. A concession exists for certain primary production property where a dwelling occupying no more than 2 hectares does not disqualify the property, provided the main use of the whole property is not domestic or private. That concession is specific to primary production and does not extend to other mixed-use properties.

How refinancing works for existing residential LRBAs

The changes commencing 10 August 2026 do not impact the refinancing of arrangements existing prior to that date. If your SMSF holds a residential property under an LRBA that was in place before 10 August, you can refinance that loan to another lender without the refinanced arrangement being subject to the post-commencement rules.

Refinancing means entering into a new loan contract for the same asset, with the same or a new lender. The key is that the refinanced loan must relate to the same single acquirable asset and maintain the limited recourse character of the original arrangement.

A significant change to the terms or conditions of an LRBA can end the arrangement and cause a new one to begin. Refinancing that is inconsistent with the original arrangement, borrowing to acquire an asset not contemplated under the original arrangement, or changes to the ultimate beneficiaries of the arrangement may all trigger a new arrangement. If a new arrangement is triggered on or after 10 August involving residential property, it cannot proceed.

For public sector employees with existing SMSF loans, periodic reviews of loan structure and rate competitiveness remain relevant. The ability to refinance without losing transitional protection gives you the same flexibility you had before the legislative change, provided the refinancing does not fundamentally alter the arrangement.

What happens to rental income and capital gains tax

A complying SMSF is taxed at a concessional rate of 15 percent on its assessable income, including net capital gains. Where an eligible asset has been held for at least 12 months, a one-third CGT discount may apply, which can produce a maximum effective rate of 10 percent on the discounted gain.

The actual tax liability varies depending on the property's adjusted cost base, acquisition and selling costs, capital improvements, capital works deductions, capital losses, and the fund's overall tax position for that year. Capital losses cannot be claimed against income and can only be offset against capital gains.

A capital gain is not automatically tax-free because an SMSF has commenced a pension. SMSFs can receive a tax exemption on investment income from assets that support a retirement-phase income stream, called exempt current pension income. Where a fund's assets are fully segregated as current pension assets at all times during the income year, a capital gain on disposal of those assets is disregarded. Where the fund uses the proportionate method, the exemption applies only to the exempt proportion of the net capital gain, as determined by an actuarial certificate.

Rental income from a property held under an LRBA flows to the SMSF and is subject to the same tax treatment as other investment income. If the fund is in accumulation phase, rental income is taxed at 15 percent. If the fund is in pension phase and the property is a segregated current pension asset, the rental income may be exempt.

Division 296 tax and how it affects property held in super

From 1 July 2026, where a member's total superannuation balance at the end of the financial year exceeds the large super balance threshold of $3 million, Division 296 tax of 15 percent applies to the proportion of earnings attributable to the amount above the threshold. Where the balance exceeds $10 million, an additional 10 percent applies to the proportion above that threshold.

For SMSF purposes, Division 296 fund earnings are an adjusted amount of the fund's taxable income. A capital gain must be realised through a CGT event for it to form part of the fund's assessable income and therefore the Division 296 earnings base. An unrealised increase in property value does not constitute a CGT event and does not by itself produce assessable income or Division 296 fund earnings. Rental income and realised capital gains may contribute to the Division 296 calculation.

LRBA amounts are disregarded when calculating a member's total superannuation balance for Division 296 tax purposes. If your SMSF holds a property with an outstanding loan under an LRBA, only the net value of the asset is counted toward your balance. This reduces the likelihood that the property alone will push you over the threshold.

An SMSF may elect to adjust the cost base of its CGT assets to market value as at 30 June for Division 296 fund earnings purposes. This election recognises accrued value prior to the commencement of Division 296 tax and applies to all CGT assets held directly by the SMSF at that date. The election cannot be revoked and must be made by the due date of the annual return.

Loan structure and limited recourse requirements

The borrowed money must be used to acquire a single asset, or a collection of identical assets with the same market value that can be treated as a single asset. Expenses such as loan establishment costs and stamp duty may also be covered. Borrowed funds cannot be used to improve an existing asset. The asset cannot be subject to any charge other than under the LRBA.

Multiple real property titles cannot be acquired under a single LRBA. An exception applies where the properties are distinctly identifiable as a single asset, meaning they are identifiable, have equal market value, and are bought and sold together. Properties on separate titles do not qualify even if substantially similar.

The asset is held in a separate holding trust. The SMSF acquires a beneficial interest in the asset and obtains legal ownership after the loan is repaid. If the loan defaults, only the asset held in trust is at risk. In the event of a default, recourse of the lender against the SMSF trustees must be limited to the asset being acquired under the arrangement. A related party may provide a personal guarantee to the lender, but their recourse must also be limited to the asset under the arrangement and not any other SMSF assets.

For public sector employees looking at investment property more broadly, the LRBA structure is more restrictive than a standard investment loan. You cannot draw down additional funds for renovations or improvements after acquisition, and the property must remain the single asset contemplated under the original arrangement.

Arm's length terms and safe harbour interest rates

The ATO publishes safe harbour interest rates for SMSF LRBAs under Practical Compliance Guideline PCG 2016/5, updated annually. These apply to both real property and listed securities. Income from an arrangement that does not meet arm's length terms may be assessed as non-arm's length income and taxed at the highest marginal rate of 45 percent.

This applies regardless of whether the lender is a bank, non-bank lender, or related party. If the SMSF borrows from a related party, the loan must be documented, interest must be charged at a rate consistent with PCG 2016/5, and repayments must be made on schedule. A loan that sits on paper without being serviced will not meet the arm's length test.

Consider a scenario where an SMSF borrows from a member to purchase commercial property. The loan agreement must specify the interest rate, repayment schedule, and security. If the rate is below the safe harbour range, the ATO may treat rental income or other returns from the property as non-arm's length income. The entire income stream from the asset, not just the interest shortfall, can be taxed at 45 percent if the arrangement fails the test.

For public sector employees who are considering related party lending, the documentation and ongoing compliance requirements are not optional. The safe harbour rates are published each year and should be reviewed at the time the loan is established and whenever the loan is refinanced or varied.

When an SMSF specialist should be involved

Readers should seek advice from a licensed SMSF specialist before acting on this information. The legislative changes are recent, and the ATO was still updating certain guidance pages as at 10 August. The interaction between the new LRBA rules, Division 296 tax, and existing compliance obligations is not something you can assess in isolation.

An SMSF specialist can confirm whether a property satisfies the definition of business real property, whether a proposed transaction is structured correctly under the SIS Act, and whether the fund's overall investment strategy remains consistent with the sole purpose test. For SA public sector employees who are managing their own fund, this is not an area where assumptions are sufficient. The penalties for non-compliance include the loss of concessional tax treatment and, in some cases, disqualification of the fund.

If you are considering a commercial property acquisition under an LRBA, or if you have an existing residential LRBA and want to understand your refinancing options, the conversation should start with your SMSF adviser and accountant before it reaches a mortgage broker. Once the structure is confirmed as compliant, we can assist with comparing SMSF lenders, assessing loan terms, and arranging finance that meets the arm's length and limited recourse requirements.

Call one of our team or book an appointment at a time that works for you. We work with public sector employees across South Australia who are using super as part of a broader investment strategy, and we understand the compliance requirements that apply to SMSF lending.

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