Limited Recourse Borrowing Arrangement (LRBA)

SMSF real estate investment advice needs regulation

SMSF & Superannuation NewsThe Bank of Queensland, in its submission to the Senate committee investigating proposed changes to the FoFA reforms, has raised the issue of increased regulation to protect consumers, including SMSF real estate investors, from property promoters. Calling the different regulatory approaches between real estate and other investments an “anomaly” BOQ recommends that “advice on the purchase of real estate, other than for owner occupiers, be included in the definition of financial advice”. This would provide a “consistent framework” and there is no “valid reason for the financial services licensing system not to apply to advice with respect to real estate investments”. Part of this concern comes from BOQ seeing unregulated real estate investment advice driving consumers into SMSFs which are inappropriate for them, including because the “fund too small to be economic” or the “consumer is not equipped to be a trustee”.

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ATO exemption – LRBAs and In-House Assets

SMSF borrowing property - limited recourse borrowing arrangement LRBAThe ATO recently issued a Determination so resolve an issue where the In-House Asset rules could apply to an Limited Recourse Borrowing Arrangement (LRBA) which was otherwise complying with both the SIS Act/Regulations and ordinary practice.

The Determination, the Legislative Instrument Self Managed Superannuation Funds (Limited Recourse Borrowing Arrangements – In-house Asset Exclusion) Determination 2014 (2014/SPR/0008), is issued under s71(f) of the SIS Act, which empowers the regulator to make determinations that an asset is not an In-House Asset.

At issue is the exemption provided by s71(8) of the SIS Act. This sub-section provides an exemption from the In-House Asset rules where an SMSF has an investment in a Custodian Trust (or Holding Trust as it is referred to by the ATO) as part of an LRBA. However, as set out in the Explanatory Statement, this exemption does not cover certain circumstances:

  • Where a contract has been entered into but the borrowing has yet to commence (Paragraph 19)
  • Where a borrowing has been entered into, but the custodian trust does not yet hold the asset – such as where a deposit it made for an off-the-plan unit (Paragraph 21)

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SMSF LRBA: 0% Interest can equal 45% Tax

PercentThe ATO has recently issued a Private Binding Ruling which casts some doubt on 0% interest-rate limited-recourse borrowing arrangements (LRBAs). Should this interpretation be correct SMSFs with LRBAs at 0%, or indeed below-market rates of interest, could owe 45% tax on income relating to the LRBA Investment. Since 2010, based on a number of binding and non-binding ATO sources, there has been increasing comfort with the SIS compliance of related-party LRBAs, including at below-market rates of interest. This broader interest came as a result of minutes of the National Tax Liaison Group (NTLG) Superannuation Technical Sub-group meeting in June 2012, where the ATO said that such an arrangement could be consistent with s67A and s109:

“Yes. A lower than market interest rate or the absence of a requirement to pay interest on money loaned to the trustee by a related party will not prevent the arrangement from being a borrowing for the purposes of section 67A of the SISA”

“a fact that the borrowing is interest free does not cause a contravention of paragraph 109(1)(b) of the SISA as that fact does not make the terms and conditions of the borrowing more favorable to the related party lender than would be reasonably expected if the parties were dealing with each other at arm’s length in the same circumstances.”

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FSI Submissions – SMSF Borrowing and LRBAs

The Financial System Inquiry (the Murray Inquiry) has begun to release the submissions received, many of them make recommendations about SMSF borrowing and Limited-Recourse Borrowing Arrangements (LRBAs). The Financial Planning Association (FPA), noting that SMSF borrowing has been a ‘controversial issue’ with implications for the residential property market, recommends ‘the Government follows… Read More »FSI Submissions – SMSF Borrowing and LRBAs