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SMSF Borrowing Hot Topics
Following
amendments to the SIS Act in September 2007, there has been great interest
in the instalment warrant-type borrowing arrangements which are now
permitted for regulated super funds. Our October 2007 edition outlined the
key features of these.
Since that time
a surprising number of technical issues have surfaced and the complexity
of correct implementation, particularly for do-it-yourself arrangements,
has now become apparent.
Superannuation compliance issues
Several issues
have been put to the ATO and we await clarification. Below are two key
concerns:
Related party loans
Section 66
prohibits the acquisition of assets from related parties (subject to some
limited exceptions).
While there are
sound legal arguments that section 66 does not apply to a borrowing of
money because this is not an 'acquisition' (ie, it is expressly provided
for in the legislation that 'acquire an asset' does not include 'accept
money), we are seeking confirmation from the ATO and other regulatory
authorities that this section does not apply to a mere borrowing of money
from a related party.
This issue is
of significance for those SMSFs who wish to borrow from related family
trusts which may in turn already have established loan facilities with
financial institutions. Related party loans must fulfil the requirement to
deal at arm's length, bearing in mind any premium interest rate and/or
restricted loan-to-value ratio ('LVR') which may typically be imposed by
commercial lenders for non-recourse
loans. .
Guarantees
It has been
suggested that the giving of a third party guarantee could overcome the
need for a higher interest rate and/or lower LVR.
The new
borrowing exception requires that the lender's rights against the super
fund trustee be restricted to the underlying asset, and on this basis
it appears that a third party could offer a guarantee because this does
not give the lender any further rights against the SMSF trustee.
We would also
like to obtain ATO confirmation that this is permitted, and whether a
related party such as a member may give the guarantee.
Watch out for the tax traps
In addition to
the above compliance concerns, these borrowings present a number of
complex tax issues which, if not properly planned for, could significantly
impact the transaction costs of these arrangements.
Stamp duty
The new laws
require that the asset being acquired be held on trust for the SMSF
trustee before the loan is repaid. Some models now permeating the market
place suggest that a 'security trustee' who performs this role should also
undertake operational activities, eg, by collecting rent or other income
from the asset and making repayments to the lender.
In some States
it is possible to obtain concessional stamp duty treatment for both a
declaration of trust by an 'apparent purchaser' who holds property on
trust for a 'real purchaser', and also for the eventual transfer of legal
title to the 'real purchaser' (here, on repayment of the loan). The
overall role and activities of the security trustee will affect whether
stamp duty and other tax concessions will be available; if a security
trustee is more than a mere 'apparent purchaser', stamp duty relief may be
denied, potentially exposing the transaction to two rounds of duty.
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GST
A trust
(whether bare or not) is a GST entity and the involvement of an
intermediate security trust therefore exposes the arrangement to
additional GST risk. However, the ATO are likely to accept that a true
bare trustee with no or minimal activities to perform will not carry on an
enterprise in its own capacity for GST purposes. Again, a security trust
with an operational role could be 'carrying on an enterprise" in its own
capacity and the transfers to and from that trust could therefore be
taxable supplies.
As evidenced by
the above, the tax implications of these borrowings can be significant,
Furthermore, CGT, income tax and land tax issues may arise. The nuances of
these tax laws may be overlooked and expert tax advice should therefore be
obtained before proceeding with any arrangement.
Investment
Reserving
Reserving may
offer advantages for SMSFs, provided trustees and their advisers have
effective strategies in place for the prudent establishment, maintenance
and allocation of reserves.
From 1 July
2007, new laws provide that allocations to members' accounts will
generally be counted towards the receiving member's concessional
contributions cap. This can result in excess concessional contributions
tax if the cap is exceeded and any excess will also count towards that
member's non-concessional cap (thereby risking a possible breach of that
cap as well, in some cases).
However,
allocations may not count towards a member's caps where certain criteria
are satisfied: broadly, an allocation which is 'fair and reasonable' and
less than 5% of the receiving member's interest, will not count towards
their caps. Therefore, provided reserve allocations are managed prudently,
reserves can form part of a sound planning strategy.
Estate planning advantages
SMSFs may claim
a deduction when paying a superannuation lump sum on the death of a member
to the member's estate or dependants if it increases the lump sum by an
extra amount. This amount is broadly equal to the contributions tax
payable on the contributions which funded the lump sum.
SMSFs with
reserves may finance this additional amount from a reserve account,
whereas funds without reserves may have difficulty meeting the extra
payment, especially for sole member SMSFs.
Other advantages
Reserves can
assist in funding temporary incapacity benefits or other unforeseen
expenses, eg, a loss on an investment which diminishes the member's
account just before they are paid their benefit.
Converting APs
into ABPs
The ATO has
recently confirmed that allocated pensions can be converted into the new
account-based pensions without the need to commute and start a new pension
(see the ATO's Super Update November 2007). The ATO do caution that the
fund's governing rules must allow for such a conversion.
DBA Butler Pty
Ltd Lawyers (Dec
2007)
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