With the crazy low prices of real estate in the US, many people are thinking about investing in US property. And – considering that self-Managed Superannuation funds can now borrow to invest in property, we’ve received many enquiries from clients asking about the best way to go about this.

Here are some tips and traps:

Asset protection is even more imperative when acquiring property in the United States of America. A US Attorney says on his website “Every three seconds another American is sued”. This litigation risk, coupled with Environmental problems “following the chain of title” if you own properties as an individual you are vulnerable.

Lessons From An Oil Tank

We always remember a story out of the US when a tenant was running low on oil for the furnace and tipped the tank slightly to encourage the oil to run down “hill”.

When the external oil tank was filled, the weight of the oil caused the tank to fall over spilling oil throughout the property grounds.

Unfortunately for the owner whose personal name was on title, there was also a stream of water on the property which took the oil much further a field.  The resulting clean up costs was far greater than what the property was worth.

Dealing with US Attorneys

Since 2005 we have been advising Australian investors how to structure for asset protection should they wish to invest directly into real estate in the United States (US). What we have found is the US attorneys are very good with dealing with the investor in the US but have no idea how to connect it Australia.  This is exacerbated with their lack of knowledge of Australian taxes and the interaction between the two.

In reviewing how long we have been advising in this area we looked back to the first US “master tax guide” that is in our office and it was 2005. (Naturally we are using the most up-to-date guide now!)  Seven years of research and working with the US attorneys we feel has provided us with a very grounded knowledge in this area and we see many errors being made by advisors who are not as familiar with the issues.

Which US Entities Can Acquire Property?

US entities which are suitable to acquire properties include Limited Liability Companies, C-Corporations, Limited Partnerships and Land Trusts.  Each has their respective idiosyncrasies which the investor needs to be aware of when determining which entity is most suited for their needs both in the US and in Australia.

As a summary an LLC is a disregarded entity with the member receiving the income and lodging US returns that are required.  However a member can go to the IRS and say,” well I know I’m an LLC but I’d prefer that you treat me as a C-Corp.”  The IRS will continue to treat the LLC as a C-Corp for five years or unless more than 50% of the membership of the LLC is changed.  The US although it treats the LLC as a “flow through” entity still regards it as a company.

A C-Corporation is very much like an Australian private company and has federal tax lodgment obligations.  Shares are issued to the owners of the company.  Once a C-Corp always a C-Corp, unlike the chameleon characteristic of the LLC.

Generally we incorporate in Wyoming or Nevada because those two states have no state taxes and enjoy the strongest company laws.  It can be more expensive doing it that way but the case law supporting the company laws is also more comprehensive.

The Structures That Protect Your US Asset

A normal Australian investor will usually set up a discretionary trust which will act as the member or shareholder of the LLC or C-Corp.  Depending on how many US properties the investor acquires will dictate how many LLC’s they will incorporate.  This is influenced by the particular investor’s risk profile.  Some people will use a separate LLC for each property so that the litigation risk is isolated from other properties.  You can end up with a tier of LLC’s wholly owned by a single LLC’s whose sole member is the Australian Trust.

Be Careful: Do This And You’ll Breach SIS Legislation

However for an Australian SMSF there is a potential trap here should the SMSF become the sole member of an LLC.  The problem is that the LLC will fall under the definition of a “related entity” because the key people in the LLC are the same as the members of the SMSF and will be regarded as an In-House Asset.  As the SMSF can only hold 5% of its total assets in In-House Assets unless the value held in the LLC is less than 5% the super fund will breach the SIS legislation.

There is an exception to the In-house asset rules under SIS reg 13.22C.  Trustees relying on this exception need to heed the requirements of the section to ensure they don’t fall foul of the rules hence making the fund non- complying.  We highly recommend you seek the advice of a SMSF specialist advisor before embarking on this path.

Will Aussie Lenders Lend on US Property?

Trustees have asked whether the SMSF can borrow to buy a US property.  Although a detailed description of the limited recourse borrowing rules is beyond the scope of this article, see Guide to Borrowing for SMSFS, suffice to say it is unlikely that an Australian lender would lend on a US property and the borrowing must be to acquire a single asset under trust.  These rules are strict and easy to get wrong.

Investing In Line With Your Investment Strategy

When investing in any asset class the trustees must invest according to their investment strategy.  Trustees should review their deed to ensure it allows them to buy foreign property and to buy it directly.  Also review the investment strategy to ensure the property will yield the required profits to meet the funds objectives.

Trustees are able to invest in property, shares, managed funds, cash, fixed interest deposits, precious gems, commodities to name just a few.  When deciding on the percentage of the fund balance will be allocated to any class they should determine how much will be allocated to particular jurisdictions i.e. Australia, USA, and Europe etc.  It should be stipulated in the investment strategy and minutes kept to illustrate how that investment is in accordance with their strategy.

Evaluation a real estate acquisition should be more stringently scrutinized with an offshore property than an Australian property.  Property Manager’s are different, trust or escrow accounts are treated differently and distance can be a mitigating factor.  Often we have received complaints from clients who have never seen any rent, they have sent over money for renovations which have never been carried out, county taxes have not been paid and properties have been foreclosed.

Here at AFA Wealth we have been advising clients on investing in US property since 2005. And – if you’re considering  using your Super Fund to buy US property, we are specialists in that as well. Just call us on 1800 WEALTH (932 584) for more details.