On 6 April 2016 the ATO issued guidelines on limited recourse borrowing arrangements (LRBAs) between self-managed superannuation funds (SMSFs) and related parties. PCG 2016/5 sets out the ATO’s views about when a loan from a related party to an SMSF will be treated as an arm’s length dealing. If the LRBA is treated as a non-arm’s length dealing, the income from the investment may be treated as “non-arm’s length income” of the SMSF and be taxed at 47%. The Guidelines identify the steps that you should take before 30 June 2016 to avoid ATO scrutiny.
On 30 May 2016, the ATO announced that you will now have until 31 January 2017 to take action. Nevertheless, we recommend taking action sooner to properly plan for any required restructure, especially if the fund has arrangements similar to the ones described below.
Many LRBAs have been established where a person has borrowed money from a bank using the person’s home as security and then on-lent the borrowed money to the person’s SMSF on a “back-to-back basis”, so the loan from the individual to the SMSF mirrors the loan from the bank to the individual.
Although the loan from the bank to the individual is on commercial terms, the ATO guidelines mean that the loan from the individual to the SMSF may not be treated in the same way. This is because:
- Although in practice arrangements operate on a “back-to-back” basis, there may be nothing in the loan agreement that compels this to occur.
- Although the LRBAs usually provide that the SMSF may be required to provide security, this often does not occur.
- The commercial lender’s loan to the individual generally will have a lower interest rate than would be payable if the bank had made the loan directly to the SMSF. This is because the loan to the individual is full recourse and is usually based on the “owner-occupier” interest rate whereas the loan to the SMSF is limited recourse and should be on the higher investment interest rate.
SMSFs that have LRBAs with related parties should review the arrangements now and restructure the arrangements before 31 January 2017 to:
- Amend the loan agreement
- Make additional “catch-up” payments, and
- Register a mortgage over the SMSF’s property.
If you require help with reviewing and or potentially updating the terms of a loan agreement in a LRBA so that it comes within the scope of the Guidelines, please contact Thalia Dardamanis or Patrick Cussen on 1300 267 529.