The Tax Office has stepped up its monitoring of property development arrangements involving self-managed super funds, saying it is concerned that such arrangements may be inappropriate. And it is paying particularly close attention to arrangements that involve limited recourse borrowing arrangements.Its concerns relate to possible breaches of the in-house assets test, non-arm's length income provisions, borrowing rules and the sole purpose test.In its latest SMSF Bulletin, the ATO says it has seen an increase in the number of SMSFs entering into arrangements with other parties (both related and unrelated) for the purchase and development and property for subsequent disposal or leasing."In particular, we are seeing a number of arrangements in which investment activity is undertaken utilising joint venture arrangements, partnerships or investments through an ungeared related unit trust or company," it says.The ATO says property development can be a legitimate investment for SMSFs and there are no prohibitions preventing an SMSF from investing directly or indirectly in property development.However, it is concerned that such investments can cause problems where they are used to inappropriately divert income into superannuation.It also says SMSF assets may be used to fund property development ventures in a manner that is inappropriate for and sometimes detrimental to retirement purposes.Another issue is that property development ventures may involve complex structures, and the manner in which they are implemented can lead to inadvertent but serious contraventions of regulatory rules.When it comes to borrowing, the LRBA rules do not allow for borrowed amounts to be used to improve the "acquirable asset". An LRBA can be used to acquire the real property to be developed but no amount of the borrowed funds can be put towards development costs.This restriction does not prevent money from other sources being used to develop the property. "However, if the development fundamentally changes the character of the property, it may fail the LRBA rules by ceasing to be the same acquirable asset," the ATO says.An alternative approach is for the property development to be undertaken by a company or trust, with the SMSF using an LRBA to acquire shares or units in that entity. "In these circumstances, as the single acquirable asset is the shares or units, the SMSF trustee does not need to be concerned with either the use of borrowed funds to improve the asset or the asset fundamentally changing its character."The trick here is to make sure the property development entity is not a related party of the SMSF. If it is a related party, the acquisition must be at market value and must not exceed the 5 per cent in-house assets limit.If the investment is undertaken with related parties, SMSF trustees must ensure that no more than 5 per cent of the value of the fund's assets are invested in in-house assets. An in-house asset of a super fund is an asset that is a loan to a related party of the fund, an investment in a related party of the fund and an investment in a related trusts of the