SPAA borrowing guidelines for SMSFs

The SMSF Professionals' Association of Australia (SPAA) has released 2 best practice guidelines for SMSF limited recourse borrowing arrangements (LRBAs)^[i] :

• Advice guidelines: best practice standards for advice that should be provided to SMSF trustees considering the use of LRBAs if they elect to seek personal advice from a licensed adviser.
• Lenders' guidelines: seeks to establish banking industry standards to promote responsible lending to SMSFs and require lenders to make disclosures to SMSF trustees that are considering an LRBA.

SPAA CEO Andrea Slattery said that the National Australia Bank (NAB) is the first lender to sign up for both guidelines on lending and advice, while SPAA is continuing to work with other lenders in this space. Mrs Slattery said that SPAA has been "very conscious" of the LRBA concerns expressed in the interim report by the Financial Services Inquiry and the fact that a "tiny rogue minority" has been spruiking this borrowing facility. As such, SPAA believes that there is an urgent need to establish a set of industry guidelines that will ensure that a responsible approach is taken to all LRBAs. The Government and regulators can have a high degree of confidence that LRBAs are being used appropriately if best practice guidelines are in place, Mrs Slattery said.

Lenders' guidelines

SPAA's guidelines require lenders to make disclosures to SMSF trustees that are considering an LRBA, including a recommendation that the SMSF trustee seek specialist SMSF, financial and legal advice. The disclosures by a lender should also acknowledge that the ultimate responsibility remains with the SMSF trustee to determine the suitability of an LRBA within their SMSF's investment strategy and SIS rules, given the limited role and responsibilities of lenders in this process. That is, an SMSF trustee cannot rely on the lender to ensure that the borrowing arrangement and holding trust structure is SIS compliant or tax-effective over the life of the investment.

The guidelines also establish banking industry standards that can complement existing banking practices for individual credit policy and practices regarding LRBAs to promote responsible lending to SMSFs. Lenders should also provide SMSF trustees with factual information on what an LRBA involves, including:

• the advantages/risks of LRBAs;
• how an LBRA is established/maintained; and
• what happens on repayment of an LRBA or in the case of default.

Being a party to the lender guidelines does not impose any obligation on a lender in relation to SPAA's advice guidelines (see below). For example, a lender is not obliged to require an SMSF to obtain advice from an advisor who is a party to SPAA's advice guidelines (or to obtain any advice of the nature described in the advice guidelines), before entering into an LRBA with an SMSF.

Advice guidelines

SPAA's advice guidelines seek to ensure that when an SMSF trustee seeks appropriate advice regarding the suitability of an LRBA for their particular circumstances, they receive advice from a competent and appropriately licensed advisor that allows them to make the most appropriate decision for their SMSF. According to SPAA, obtaining such advice should help to ensure LRBAs are only being invested in by SMSF trustees after understanding the nature of the investment strategy and the risks associated with it.

The guidelines note that consideration should be given to whether an LRBA is an appropriate strategy for the SMSF in light of the members' needs and the fund's circumstances. For example, the fund's balance, diversification, cash flow (for example, expected contributions and other fund resources to repay debt) and insurance needs. The guidelines also note that SMSF trustees should be made aware of their ultimate responsibility in relation to the LRBA as distinct from the responsibilities of the lender and/or any advisor.

Numerous items are listed in SPAA's guidelines that advisors should provide information on and discuss with SMSF trustees. For example:

• the LRBA establishment processes and set-up costs;
• on-going costs;
• permitted use of LRBA assets under the SIS Act;
• single acquirable asset requirements;
• repair/maintain distinction;
• replacement assets;
• alternative strategies;
• investment strategy;
• risks with "lumpy" assets;
• investment time horizon;
• market price risks (that is, overpriced properties);
• rental income risks;
• interest rate risk;
• tax issues;
• stamp duty; and
• trust deed.

Where appropriate, the guidelines suggest that an advisor may need to recommend that the client seek specialist taxation and legal advice on their LRBA structure.

Thomson Reuters comment

The rules for LRBAs remain a complex and developing area of the law for superannuation funds, lenders and government regulators. In addition to satisfying the requirements of sections 67A and 67B of the SIS Act, it is crucial to ensure that the documentation surrounding an LRBA will not result in any adverse CGT, stamp duty or GST liabilities over the life of the investment. For example, the loan agreement, holding trust structure, contract for the sale of land, declaration of trust, mortgage, transfer of property, lease arrangements.

Upfront planning is also required to structure the various transactions in terms of SIS Act compliance beyond section 67A, for example, the in-house asset rules, sole purpose test, separation of fund assets, investment strategy, SMSF trust deed powers. Similar to the stamp duty issues, the documentation needs to be structured so that it will not result in any unintended CGT and GST consequences over the life of the investment.

A lender may also have its own specific requirements that are conditional for the loan approval. However, the lender is primarily concerned with protecting its own interests so the SMSF trustees must first ensure that the lender's requirements or preferences (for example, security) will not have any adverse implications in terms of SIS compliance or tax consequences.

Thomson Reuters Australian Superannuation Handbook 2014-15 (current to 1 July 2014) incorporates recent developments for LRBAs on these issues, including:

• holding trust structures and borrowing terms;
• who can be the custodian/trustee of the holding trust?
• required name of purchaser on contract for sale to comply with section 67A;
• land titles registration considerations;
• qualifying for the in-house asset exemption at the beginning and end of an LRBA;
• accessing stamp duty concessions; and
• reporting LRBAs in SMSF annual return.

Source:This article was first published in Thomson Reuters' Weekly Tax Bulletin. To subscribe to Weekly Tax Bulletin, or for more information, please:

• see http://www.thomsonreuters.com.au/catalogue/productdetails.asp?id=1429; or
• contact Thomson Reuters on 1300 304 195 or at LTA.Service@thomsonreuters.com

More Cleardocs information on related topics

You can read earlier articles on a wide range of SMSF topics.

Order Cleardocs related document packages

• Arrange SMSF borrowing documents
  • for when the lender is a bank
  • for when the lender is a related party
• Set up an SMSF
• Update an SMSF deed
• SMSF Investment Strategy
• Set up an SMSF pension
• Change your SMSF trustee
• SMSF set up + register corporate trustee
• SMSF Death Benefit Nomination — binding or non binding
• SMSF Death Benefit Agreement — binding and permanent
• Actuarial Certificate
• SMSF Minutes & Resolutions Package