Section 67 of the SIS Act prohibits the trustees of a SMSF from borrowing money, or maintaining an existing borrowing, unless the borrowing is covered under one of the limited exceptions. These exceptions include:
- Temporary borrowings to pay a beneficiary;
- Temporary borrowings to make payment of the surcharge (although this has limited application now); and
- Temporary borrowings to cover settlement of security transactions
- Limited recourse borrowing arrangements (s67A SISA)
SMSFR 2009/2 highlights the characteristics of what a borrowing must contain, to be considered a borrowing. The two elements that must be included are:
- A temporary transfer of an amount of money from one entity (the lender) to another (the borrower); and
- An obligation or an intention on the part of the borrower to repay that amount to the lender
Section 67A of the SIS Act was included to the SIS Act in July 2010 to provide a borrowing exception for limited recourse borrowing arrangements. Section 67B was also introduced to deal with replacement assets under LRBAs.
What can be Acquired?
Under section 67A, the legislation expressly allows LRBAs to include:
- A single acquirable asset
- A collection of identical assets with the same market value
Furthermore, where a LRBA is established over a collection of identical assets, the collection must be treated as a whole (i.e. disposed of as a whole and not sold down over time in stages). Essentially this means for any shares or units held under a LRBA, they are treated as a single asset provided they are acquired in a single parcel from the outset.
SMSFR 2012/1 provides clarity on what is considered a “single acquirable asset” with regards to property by stating that it is necessary to consider both the legal form and physical form of the asset acquired to determine if the trustees are in fact acquiring a single object of property. For example, where two or more blocks of land being acquired as a “single acquirable asset”, it would only be considered an “acquirable asset” if it is reasonable to conclude that the two blocks cannot be separate even though they have separate titles.
Step by Step Process on How to Acquire Asset
- Ensure the funds trust deed allows for a limited recourse borrowing arrangement to be commenced by the fund. Generally, if the deed is dated prior to 1 July 2011, the deed will need to be updated
- Identify the “Asset” being acquired by the SMSF under a LRBA. If you are unsure on whether the asset would be classified as a single acquirable asset, refer to SMSFR 2012/1.
- Confirm the purchase price of the asset (including stamp duty and GST if applicable), and determine how much will be required to be borrowed and who the lender will be (bank or related party)
- Establish the custodian trustee. The custodian trustee cannot be the same as the SMSF trustee. This means two separate companies or different individual trustees (i.e. John & Jane ATF SMSF and John & Fred ATF Bare Trust).
- You can now have the purchase contract signed.
QUESTION – What name do I put on the purchase contract?
Depending on what state the property is located will determine the name of the purchaser to be written on the purchase contract. Failure to write the correct name may result in double stamp duty being incurred.
VIC, NSW, TAS, ACT, SA & QLD – Needs to be “Custodian Trustee” (if company, then “Custodian Trustee Pty Ltd – ACN”)
Example – Smith Custodians Pty Ltd ACN 123 456 789
NT – Needs to be “Custodian Trustee Pty Ltd ACN as trustee for Name of Holding Trust as bare trustee for Fund Trustee Pty Ltd ACN as trustee for Name of Fund ABN”.
Example – Smith Custodians Pty Ltd ACN 123 456 789 as trustee for Smith Bare Trust as bare trustee for Smith Super Pty Ltd ACN 987 654 321 as trustee for Smith Superannuation Fund ABN 12 345 678 910
WA – Needs to be “Custodian Trustee Pty Ltd ACN for Super Fund Trustee Pty Ltd ACN”
Example – Smith Custodians Pty Ltd ACN 123 456 789 for Smith Super Pty Ltd ACN 987 654 321
QUESTION – Can I sign with ‘and/or Nominee’?
If wanting to sign ‘and/or nominee’ (i.e. Fred and Jane Smith and/or nominee) because you are undecided as to what entity will be acquiring the asset, you need to ensure you have checked off a few things prior to doing so:
VICTORIA is the ONLY State that allows “and/or nominee” for SMSF LRBA acquisitions. Unless the property is held in Victoria, you cannot sign “and/or nominee” without potentially incurring a double stamp duty (also known as ‘ad valorem duty’). This is because this is seen as a sub-sale, between the individual and the nominated entity. Currently Victoria is the only state that allows for you to sign “and/or nominee” without the potential to incur double stamp duty.
The entity that could potentially acquire the asset needs to have been established prior to the signing of the contract (i.e. SMSF and custodian trustee (If company) needs to be established prior to signing purchase contract).
- The bare trust can now be set up. As the client may not have been able to provide you with enough information in order to set up the bare trust, the bare trust is able to be established after the signing of the purchase contract. If you had enough information prior to the signing of the contract, the bare trust could be set up then. The earlier the better!
- When the deposit is required to be paid, ensure the deposit is paid from the SMSF bank account.
This is very important when the SMSF fully repays the borrowing and the property title transfers from the custodian trustee to the SMSF trustee.
Section 41 of the Duties Act (2000) allows the transfer from a custodian trustee to a complying superannuation fund, in which any stamp duty that would generally be payable on transfer is exempt. This is due to the fact that there is deemed to be no real change in beneficial ownership, as the original custodian was funded by the SMSF.
However, the stamp duty exemption may be lost where the deposit on the property is not paid from the SMSFs bank account.
The authority who determines whether or not to grant the stamp duty exception, might want to see bank statements in the name of the SMSF to prove the origin of the deposit. For example, the Victorian SRO Evidentiary Requirements Manual states that they want to see:
- Copies of relevant financial statements and other evidence showing the source of purchase money, including the deposit monies.
Without a bank statement showing the deposit leaving the bank account in the name of the SMSF, eligibility for the stamp duty exception may be jeopardised.
Improving an Asset
SMSFR 2012/1 is not only relevant in determining what a “single acquirable asset” is, but it also demonstrates the difference between “maintaining and repairing” from “improving” an asset. Under the legislation, an improvement can only be made if it meets specific criteria.
SMSFR 2012/1 provides clarity around this topic and confirms that certain improvements are acceptable as long as the SMSF does not use borrowed money to make the improvements. Additionally, the improvements are not to change the nature of the asset.
The ruling also provides the following definitions:
- The term ‘repairing’ ordinarily means remedying or making good defects in, damage to, or deterioration of an asset and contemplates the continued existence of the asset.
- The term ‘maintaining’ ordinarily means work done to prevent defects, damage or deterioration of an asset, or in anticipation of future defects, damage or deterioration, provided that the work merely ensures the continued functioning of the asset in its present state.
- In contrast to repair, an asset is improved if the state or function of the asset is significantly altered for the better, through substantial alterations, or the addition of further substantial features or rights, to the asset.
Paragraph 25 of the ruling provides a table with examples that distinguish between a repair or maintenance and an improvement.
A copy of the SMSFR 2012/1 can be found here.
Refinancing & New Legislative Provisions
The trustees are able to refinance their limited recourse borrowing arrangement. However, if the LRBA was established prior to 7 July 2010 and you refinance your loan, then your LRBA will now need to abide by the current rules, not the old rules.
The post July 2010 legislative provisions differ from the pre July 2010 provisions in a number of areas. Key differences are summarised below:
- ‘Acquirable asset’
- New legislation requires the acquired asset to be ‘singular’
- Initial legislation could be interpreted as allowing for ‘asset’ to be in the plural (pre)
- Borrowing Arrangements
- New legislation limits borrowing arrangements to a single asset or collection of identical assets, such as listed shares in one company
- Initial legislation borrowing arrangements were potentially permitted over multiple assets
- Recourse against the SMSF
- New legislation limits any potential recourse against the super fund trustee by a person other than the lender for default on the borrowing that is allowable by law
- Initial legislation extended limitations only to the direct lender
- Replacement Assets
- New legislation only allows an asset to be replaced in accordance with s67B of the SIS Act (i.e. takeover, merger, demerger or restructure of a listed security)
- Initial legislation had limited restrictions on replacement assets
- New Legislation allows trustees to expressly refinance an existing borrowing
- Initial legislation does not allow refinancing
New Rules – Related Party LRBA
The ATO released some very important information in relation to related party LRBAs. PGA (Practical Compliance Guideline) 2016/5 details interest rates, loan-to-value ratios and other terms that constitute safe harbours for SMSF LRBAs. Failure to comply with these guidelines by 31 January 2017 may result in the borrowing arrangement being considered a non-arm’s length arrangement, which will therefore give rise to non-arm’s length income (NALI).
Below is a diagram that illustrates what conditions must be met as at 31 January 2017:
Property as at 31 January 2017
Property Post 31 January 2017
Listed Securities/ Units as at 31 January 2017
Listed Securities/ Units Post 31 January 2017
|Interest rate||5.75%||Reserve Bank of Australia Indicator Lending Rates for banks providing standard variable housing loans for investors||5.75% + 2% = 7.75%||Reserve Bank of Australia Indicator Lending Rates for banks providing standard variable housing loans for investors plus 2%|
|Term of loan||15 years maximum from date of the original loan (any refinancing will be reduced by duration of the previous loan)||7 years maximum from date of the original loan (any refinancing will be reduced by the duration of the previous loan)|
|Maximum Loan-to-value ratio||70%||70%||50%||50%|
|Security||A registered mortgage||A registered charge/mortgage or similar security (that provides security for loans for such assets)|
|Personal guarantee||Not required||No required|
|Nature and frequency of repayments||Monthly repayments on a ‘principal and interest’ basis||Monthly repayments on a ‘principal and interest’ basis|
|Loan agreements||Written and executed||Written and executed|