One of the fundamental rules for a self-managed superannuation fund (SMSF) is the general prohibition on borrowing. This restriction aims to reduce the risk to retirement income from funds gearing their assets. However, there is an exception that allows an SMSF to borrow under strict conditions outlined in the Limited Recourse Borrowing Arrangements (LRBA) laws.
How Do They Work?
Generally, when an entity or individual borrows money to purchase an asset, the lender may have recourse to other assets of the borrower to ensure the loan can be repaid in the event of a default. Borrowing within the LRBA rules requires the SMSF trustee(s) to set up a side trust (known as a ‘bare trust’) that purchases the asset on behalf of the fund. Thus, the bare trust owns the asset on behalf of the superannuation fund.
This structure allows the SMSF to comply with borrowing rules, as recourse by the lender in case of default is limited to the asset purchased by the bare trust. The remaining assets owned by the fund are protected against any claims by the lender.
Using an LRBA
Once the LRBA is set up, borrowings are used to purchase what is known as a single acquirable asset. This could be a parcel of shares all held in one company, or property held under a single property title (or possibly multiple titles if the property is distinctly identifiable as a single asset).
SMSF trustees seeking diversification and long-term capital growth in line with their investment strategy may use an LRBA to access the property market. This option has gained interest recently due to lower contribution limits, which potentially restrict member balances and the ability to make outright purchases.
Lenders for an LRBA have strict lending requirements, which may include a consistent flow of member contributions if the property income is insufficient to meet lending criteria. Once lending is approved, the steady stream of member contributions and income from the acquired asset provides the SMSF with a way to make loan repayments.
Risks and Limitations of an LRBA
LRBAs are a specialized area and not suitable for every fund. SMSF trustees should first obtain financial advice to ensure it suits the member objectives of the fund and meets the lender’s requirements. The legislation and technicalities with an LRBA are also complex. Challenges can arise regarding:
- Ensuring the fund’s trust deed allows for LRBA borrowing.
- Defining a ‘single acquirable asset’.
- Understanding the impacts of lending on superannuation thresholds and member balances.
- Investments in property, particularly distinguishing between making repairs, making improvements, and ensuring there is no change to the ‘character of the asset’.
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How can we help?
If you have any questions or would like further information, please feel free to give our office on 08 9221 5522 or via email – info@camdenprofessionals.com.au or arrange a time for a meeting so we can discuss your requirements in more detail.
How can we help?
If you have any questions or would like further information, please feel free to give our office on 08 9221 5522 or via email – info@camdenprofessionals.com.au or arrange a time for a meeting so we can discuss your requirements in more detail.
General Advice Warning
The material on this page and on this website has been prepared for general information purposes only and not as specific advice to any particular person. Any advice contained on this page and on this website is General Advice and does not take into account any person’s particular investment objectives, financial situation and particular needs.
Before making an investment decision based on this advice you should consider, with or without the assistance of a securities adviser, whether it is appropriate to your particular investment needs, objectives and financial circumstances. In addition, the examples provided on this page and on this website are for illustrative purposes only.
Although every effort has been made to verify the accuracy of the information contained on this page and on this website, Camden Professionals, its officers, representatives, employees, and agents disclaim all liability [except for any liability which by law cannot be excluded), for any error, inaccuracy in, or omission from the information contained in this website or any loss or damage suffered by any person directly or indirectly through relying on this information.
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