SMSF loans, or self-managed super fund loans, are becoming increasingly popular for Australians to borrow money.Â
This is likely because SMSF loans offer several benefits that other types of loans don’t, such as tax breaks and the ability to borrow large amounts of money.Â
If you’re thinking about taking out an SMSF loan or are just curious about what they are, this guide is for you. We’ll explain everything you need to know about SMSF loans, including how to get one and what to watch out for. So keep reading for all the information you need on SMSF lending!
Accessing finance for your self-managed super fund (SMSF) can be a complicated process. But don’t worry, we’re here to help!Â
In this article, we’ll provide an overview of SMSF loans and lending, including the different types of finance available and how to go about securing funds for your SMSF.Â
We’ll also, as a reliable tax agent and a provider of trusted accounting services, help you determine which type of loan is right for your needs. So whether you’re looking to borrow money for investment purposes or want to know more about borrowing against your SMSF assets, keep reading!
Let’s get started!
What Is A Self-Managed Super Fund?
A self-managed super fund (SMSF) is a type of private super fund that is managed by its owners. Investors are able to store a wider variety of assets, including shares, term deposits, bonds, investment properties, cash, and unlisted assets, while using SMSFs because they offer greater flexibility and allow for this.
A successful self-managed super fund (SMSF) can result in substantial financial rewards, but it also carries the potential for greater risk than a licenced super fund does.
The management of an SMSF also needs some effort, and it is essential to obtain the advice of a reliable financial consultant when making decisions.
SMSFs are allowed to have a maximum of four members and are required to have their very own unique Tax File Number (TFN), Australian Business Number (ABN), and transactional bank account.
Because SMSFs are a form of trust, you are required to appoint a trustee who will be responsible for the investment strategy, administrative responsibilities, and financial statements of the SMSF.
What Is A Self-Managed Super Fund Loan?
SMSF loans, also known as Limited Recourse Borrowing Arrangements (LRBAs), provide trustees of SMSFs with the opportunity to borrow money in order to purchase an investment property that they may not be able to afford to buy outright using their SMSF.
After the property has been acquired, the title will remain in the possession of a custodian trust until the debt has been returned. At that point, the SMSF will become the owner of the property.
The members of the SMSF continue to own a beneficial interest in the property even after the loan has been paid off.
Additionally, any money that is earned is invested back into the SMSF in order to assist in the repayment of the loan or to grow the value of the fund.
Although SMSF loans can be used to buy either commercial or residential property, they are still subject to the single purpose test that is administered by the tax office.
This means that the trustee needs to be able to demonstrate that the purchase of the property was made solely for the purpose of providing income for retirement.
What Is A Self-Managed Super Fund Loan Application?
In order for your loan request to be considered, you will need to fill out a form known as an SMSF loan application.
It is possible that extra documentation will be needed from each lender as part of the application process; nevertheless, the majority of lenders will request copies of the trust deed for the SMSF, the trust deed for the custodian, and the contract of sale.
You will also be required to provide evidence that your personal income is sufficient, and it is possible that you will need to gather bank records, tax returns, audit certifications, and rental projections related to your SMSF.
The lender can more easily verify that everything is in order and that you will be able to afford to make the necessary loan repayments with the assistance of this information.
How Do SMSF Loans Operate?
In order to finance the acquisition of real estate or other assets, an SMSF may borrow money from the following sources:
- The majority of banks in Australia, including Commonwealth Bank, NAB, Westpac, ANZ, St. George Bank, Bankwest, and others, have discontinued their provision of SMSF loan products. There are only four or five banks, and a few of smaller lenders are actively involved in SMSF borrowing on a premise of limited recourse. As a mortgage broker for SMSFs, we will do research and comparisons of various rates and fees, as well as identify many SMSF property loans that are tailored to your SMSF’s specific requirements.
- Lending money to the SMSF is open to any associated parties, including the members of the SMSF themselves as well as any relatives of the member. Interest is distributed to persons that are connected to the SMSF. As a result, you are allowed to lend money to your SMSF by drawing on the equity in your home loan or any other funds that are available.
- Lending money to the SMSF is open to anyone who is not affiliated to the fund.
When May An SMSF Take Out a Loan?
Because of amendments made to the law a little more than ten years ago, a self-managed superannuation fund (SMSF) now has the ability to borrow money for the purpose of making investments. However, the transaction must be carried out by means of what is known as a Limited Recourse Borrowing Arrangement (LRBA).
An LRBA, as its name suggests, restricts the recourse available to a lender in the event of a default to just the asset that is involved in the transaction rather than the value of any other assets held by the fund.
This limitation on the lender’s ability to seek compensation is what gives the LRBA its name.
As a component of this, the real estate is held in the name of a separate trustee known as the bare trustee. This trustee is independent of the SMSF structure.
The bank account of the super fund is used to manage all of the revenue and expenses associated with the investment. This includes the process of making loan repayments.
The majority of the time, mortgage lenders who work with SMSFs will impose stringent requirements on borrowers. Because both of these and the potential tax implications of an SMSF mortgage can be difficult to understand, it is highly recommended that you seek the assistance of a financial advisor.
Who is Qualified to Apply for a House Loan Through an SMSF?
There are a few prerequisites that need to be satisfied before an SMSF can apply for a mortgage.
One of these is the “sole purpose test,” which requires a fund to demonstrate that its investments are being made for the sole purpose of delivering retirement payments to its members or the members’ dependents in the event that a member dies before reaching retirement age.
It is not possible to acquire property from a party that is related to a member of the organisation.
A member of the fund or any party associated with a member of the fund is not permitted to reside on the property at any time.
A party that is connected to a member of the fund or the fund itself is not permitted to rent the property.
If an SMSF decides to buy a commercial property, a member of the fund may be able to rent space there for their own company. Nevertheless, it needs to be rented at the going market rate and adhere to certain regulations.
Conditions for Compliance with the SMSF Loan
The restrictions imposed by ASIC must be followed by every self-managed super fund that takes out a loan. In addition to this, the trustees of the SMSF need to guarantee that the borrowing structure is compliant by taking into account SISA and many other tax rules:
- The loan between the lender and the SMSF must be a limited recourse loan between the two parties.
- Setting up a custodian/bare trust with a corporate trustee in the appropriate manner is required. A naked trust requires that the corporate trustee be the registered owner of the property or other assets held in the trust.
- If the borrowing from the SMSF is coming from a related party, then a commercial loan arrangement needs to be properly executed.
What is the Maximum Amount that I Can Borrow from My SMSF?
Your current financial standing, as well as the lending practises of the lender you choose for your SMSF loan, will determine the maximum amount of money you are eligible to borrow.
There are certain speciality lenders that provide loans to SMSFs beginning at $100,000 and increasing up to $4,000,000.
After the sale of the home, it’s possible that your SMSF will need you to keep a certain minimum amount there. This number will change based on the specifics of your situation.
It’s possible that certain SMSF lenders will insist that you maintain a particular amount of liquid cash in your account.
If the initial deposit, however, is substantial enough or if the rental income is sufficient to support the loan repayments, your lender may agree to waive this requirement. This, however, is contingent on the lender that you choose.
Advantages And Drawbacks Of Borrowing Through Your SMSF
At one point in time, an SMSF was not permitted to borrow money in order to purchase assets. However, in 2007, the rules were loosened, and in subsequent years, they have been improved.
As a direct consequence of this, it is now feasible for an SMSF to acquire assets via borrowing, provided that particular guidelines and constraints are adhered to.
It is heartening to see that the federal administration has honoured the commitment it made prior to the election by avoiding making significant changes to superannuation.
Although some pre-budget commentary suggested that the government might use the Budget to address the Financial System Inquiry’s recommendation to ban borrowing in SMSFs, the Treasurer did not mention limited recourse borrowing arrangements (LRBAs) in his Budget speech on May 12. This occurred despite the fact that the government might use the Budget to do so.
1. Several justifications for SMSF borrowing
The SMSF may be able to invest in assets that it otherwise might not have enough funds to buy thanks to the fund’s ability to borrow money.
By taking out loans, the fund is able to increase both its revenue and its rate of growth, as well as diversify its portfolio of investments. In addition to this, there is the potential for tax deductions to be taken on franking credits and interest payments made by the fund.
The fund is able to borrow money for a diverse range of assets, including residential or commercial property, land, shares, machinery, industries, and even farms. These types of investments can be financed through the fund. The guidelines that must be followed are very rigid; yet, there is considerable room for flexibility in certain circumstances.
It is not required that the lender be a financial institution such as a bank or finance firm; rather, the lender could be a member of the borrower’s family or business, an associate, or a business partner.
It is necessary to make repayments out of contributions to retirement savings plans and revenues from investments.
Life Insurance
Because it has the potential to provide cash for the repayment of any outstanding loans in the case of an early death or a total and permanent disability, life insurance that is tailored to comply with the regulatory requirements for SMSFs can be especially significant.
It is also a good idea to search for a life insurance product that provides the flexibility of being able to move it outside the fund in the event that the circumstances alter.
Having life insurance in a self-managed super fund (SMSF) comes with a number of advantages, the most notable of which being a boost in one’s own cash flow as well as the effective tax deductibility of the insurance payments for the Trustee of the superfund.
Since your SMSF pays for your insurance premiums, you no longer need to find the additional money on your own because you no longer have to pay it. This is an excellent option for everyone who needs to keep their income flow after taxes steady and who is aware of the need of having personal risk insurance.
2. There are certain issues with borrowing on an SMSF
When it comes to borrowing money from inside of an SMSF, there are a few quite complicated procedures to follow.
An SMSF is only permitted to borrow money for assets through a process known as a Limited Resource Borrowing Arrangement, or LRBA.
Under the terms of an LRBA, a borrower may buy either a single asset or a collection of assets that are all the same (for instance, a parcel of shares that are all the same).
In every instance, the one asset is pledged as collateral for the loan, at which point it is transferred to a holding trust to be kept safe until the debt is paid back.
The value of an asset cannot be increased or replaced (except under exceptional circumstances).
Because of this, shares cannot be actively traded or sold in accordance with the regulations governing borrowing, and there is also no room for property growth.
It is conceivable for assets to go through maintenance or repairs, but the distinction between’repairs’ and ‘improvements’ is not always as black and white as it might seem at first glance.
Renovating an older property, for instance, or making repairs or performing maintenance on a building to forestall further deterioration may be permitted under certain circumstances.
Adding an extension, on the other hand, is not allowed in most cases, at least not when the money comes from borrowed sources. On the other hand, it is possible that the asset can be improved by employing funds that have not been borrowed.
In the event that a fire completely destroys a property, it would be permissible to rebuild a comparable or similar property; but, it would not be permissible to recreate a “improved” property.
On the other hand, the latter may be permissible if it is paid for with the profits from a property insurance claim.
Borrowing from an SMSF might not be as easy as it seems, which is why it’s essential to get expert advice on the rules and any tax implications that might be associated with the transaction.
What Conditions Apply to SMSF Loans?
Most SMSF loans must meet four major criteria:
- The asset can serve only one of two purposes: either it must provide retirement benefits or it must provide death benefits to SMSF beneficiaries.
- If it is a residential property, the SMSF is prohibited from purchasing it from any member of the SMSF or any related party of a member.
- In the case that the property in question is residential, a member of the SMSF or any related party of a member is not permitted to dwell in or rent out the property.
- It is not acceptable for the property to be a single acquirable asset.
When you buy a commercial property, the seller or landlord could be a member of a self-managed super fund (SMSF). This must be done at an amount equal to its value on the market, and the property may only be used for commercial activities.
Are There Any Risks Or Drawbacks To An SMSF Loan?
Under the terms of limited recourse property loans, the lender is not permitted to seek compensation for losses from any other assets that are held in the SMSF. They are only able to stake a claim on the portion of the property that is managed by a trustee.
Even while this affords borrowers a certain degree of safety, it is imperative that they do their homework before entering into any agreement.
A certified financial consultant can assist you in determining whether or not an SMSF loan is compatible with your long-term investment strategy and ensure that you have a clear understanding of your obligations.
Limited Recourse Borrowing Arrangements – Questions and Answers
1. What is limited recourse borrowing?
A restricted number of options In order to enter into an SMSF borrowing arrangement, an SMSF trustee is required to get a loan from a third-party lender.
The trustee will then utilise the borrowed cash to purchase an individual asset or a collection of assets that are identical and have the same market worth. These assets will be placed in a separate trust.
The trustee of the SMSF receives all investment returns that are generated by the asset.
In the event that the loan goes into default, the lender will only have rights to the asset that is held in the separate trust.
2. Is commercial interest required when borrowing money from a connected party?
Investments made by an SMSF or its investment manager must be made with the same terms as if the parties were dealing at arm’s length, or else the terms must be no more favourable to the other party than they would be if the parties were dealing at arm’s length.
3. Is it possible for a connected party to take out a full recourse loan and then on-lend the money to the SMSF under a limited recourse borrowing agreement at a higher interest rate?
Yes, however for this form of borrowing from a self-managed super fund, adequate documentation and an interest rate based on market conditions are requirements.
4. Does a contract that allows interest or other borrowing costs to be capitalised comply with the super laws?
Yes. The section of the super law (specifically, subparagraph 67A(1)(a)(i) of the SISA) that applies to these arrangements expressly states that, in the case of a limited recourse borrowing arrangement, the SMSF trustee is permitted to use borrowed money to pay for expenses that were incurred in connection with the borrowing.
5. In the case of a limited recourse borrowing arrangement, is it possible for a member of an SMSF to provide a personal guarantee to the lender?
Yes. In the event that the SMSF defaults on the borrowing agreement, the lender’s recourse against the SMSF trustees must be restricted to the asset that is being acquired in accordance with the arrangement.
A property loan taken out by an SMSF can have an additional layer of security provided by a third party in the form of a guarantee placed on the borrower’s assets.
6. Is it possible for an SMSF trustee to obtain multiple real estate titles under a single limited recourse borrowing agreement?
In most cases, the purchase of several real estate titles cannot be accomplished through the use of a single limited recourse financing arrangement.
7. Can an SMSF trustee obtain limited recourse financing to erect a home on undeveloped land owned by the fund?
It is not possible to use a limited recourse borrowing agreement for a self-managed super fund (SMSF) asset that already exists.
Therefore, placing a charge on an existing asset of the fund, in this case the undeveloped land, would be in violation of the super law, as is generally the case when such arrangements are put into place.
What Is A Related Party Loan?
When members of an SMSF choose to lend money to the SMSF in their individual or corporate capacities rather than obtaining a loan from a bank, this type of loan is known as a related party loan.
In most cases, a member of an SMSF will obtain a line of credit in their own name and then lend that money to the SMSF in order to cover the cost of the mortgage.
Because they eliminate the need to establish a corporate trustee or a caretaker trustee, loans from related parties are frequently more cost-effective than other types of loans.
It is essential to be aware that the Australian Tax Office necessitates that all loans between related parties adhere to commercial terms and operate on a basis that is independent of one another.
This essentially means that the member is required to charge interest, as well as provide transparent conditions and a repayment plan, in the same manner that a lender would.
What Does LVR Mean?
The ratio of the amount of money you are borrowing to the value of the property is referred to as the loan-to-value ratio (LVR). If you make a greater deposit, your loan-to-value ratio (LVR) will be lower, and a lower LVR means the lender will be exposed to less risk.
Your lender may set a different maximum loan-to-value ratio for SMSF loans than the industry standard.
Some lenders offer loans with a loan-to-value ratio (LVR) of up to 80% for certain types of properties. This indicates that the lender is willing to loan up to 80% of the value of the investment property, with the remaining 20% being paid through your SMSF.
With An SMSF Loan, Am I Able To Refinance?
Even though it is feasible to refinance an existing SMSF loan, very few lenders actually offer SMSF loans for this particular purpose.
Liberty, in its status as a specialised lender, possesses the authority and resources necessary to offer the kinds of loans that are inconceivable to conventional financial institutions, such as refinancing existing SMSF debts.
When interest rates were higher or when their personal financial situations were different, many borrowers took out loans from SMSFs.
In situations like these, it is worthwhile to investigate the possibility of refinancing your SMSF loan in order to discover financial solutions that are more suited to your specific requirements.
Should I Work with an SMSF Loan Broker?
If you have a Self-Managed Superannuation Fund (SMSF) and are thinking of getting a mortgage in order to purchase an investment property, the first thing you should do is consult with your financial advisor or accountant.
If you make the decision to move forwards, a mortgage broker can assist you in locating the SMSF loan that is most suitable for your requirements and assist you in exploring what other lending choices may be open to you.
Furthermore, if you are unfamiliar with SMSF loans, a broker can assist in simplifying the process for you and answer any issues that may arise along the road.
Worries from ATO
It is important to take note of the ATO‘s concerns over the borrowing by the self-managed super fund:
- If all of the members are in the pension phase, the sole purpose test can be considered invalid.
- Under the terms of this SMSF borrowing arrangement, it is not permissible for the fund to take out loans in order to build, develop, or renovate the property.
- When borrowing money from linked parties, the interest rate can’t be on line with market rates.
- It is necessary for the legislation to permit the acquisition of the asset in question.
