SMSF Borrowing - Mortgage Brokers
When looking at purchasing a property or borrow to invest within superannuation a client should initially meet with a professional adviser to discuss a broad range of factors that may impact their situation. These factors include, but are not limited to, the right asset structure and borrowing arrangements as well as the cash flow requirements that may impact the type and value of the potential purchase.
At Active Self Managed Super Funds we are not Mortgage Brokers so we work with other professionals like you to provide the right overall solution to clients.
Being SMSF and superannuation specialists we have the expertise to discuss the best approach and the right strategies for the client. You have the expertise to provide the right type of loan. Ultimately we work together with the client from the beginning until purchase completion (post settlement).
We believe the best approach is a unified front to provide a ‘one stop’ solution. We prefer to meet with you and the interested party to make sure we are all working together to achieve the common objective.
We find by combining our skills with experienced Mortgage Brokers not only leads to a more comprehensive solution but also very satisfied clients who continue to refer others.
SMSF borrowing – limited recourse loan
For an SMSF property investment, the SMSF takes out the loan and contributes cash to pay the deposit, meet the legal costs and stamp duty. The SMSF then manages the property in the same way as you would any other real estate investment. It is important to note that the borrowing is a limited recourse loan. This means that the acquired asset is the only asset that can be used as security. In the event of loan default, the lender and any other person’s rights are limited to that asset. No claim can be made on any other assets of the self managed super fund.
Assets such as property can be leased from the SMSF on commercial terms. Rental payments, superannuation contributions (e.g. SGC and salary sacrifice) and other income enables the SMSF to meet loan repayments and expenses associated with the property. All income and expenses are received and paid by the fund (not the Custodial Trustee holding the asset). For a commercial property, the tenant can be a related party such as your family business; or an unrelated party under lease. For a residential property the tenant must be an unrelated party.
When the loan is repaid, legal ownership of the property is transferred from the Bare Trust (or Custodial Trust or Holding Trust) to your SMSF.
SMSF borrowing arrangements
There are a number of possible arrangements, depending on the parties involved in the arrangement and the source of the finance; however, the arrangement will usually involve a holding trust arrangement.
Typically, the holding trust is a simple holding trust (bare trust) that is a fixed (not discretionary) trust. The trust should not undertake any other activities other than holding legal title to the relevant asset for the superannuation fund. A unit trust cannot be used to hold the asset in a limited recourse borrowing arrangement.
Given that the rights of the lender against the fund trustee for default on the borrowing or charges relating to the borrowing must be limited to rights relating to the underlying asset, the lender may incur costs if the sale of that asset results in a shortfall of funds. Therefore, some lenders may require a third party guarantee.
There is nothing in the legislation to prevent a lender from requiring that there is a personal guarantee provided by an unrelated or related third party, or even a member (in their personal capacity), as a condition of granting the loan.
Advantages of SMSF borrowing arrangements
Using a limited recourse borrowing arrangement allows a superannuation fund to leverage the acquisition of new assets, while limiting exposure to the fund’s existing assets. Gaining a leveraged exposure to the movement of the underlying asset may enhance the capital returns. Also, by paying for only a portion of the underlying asset upfront, a fund’s exposure to the asset may be higher than would otherwise be possible.
Other advantages of this type of arrangement may include:
no possibility of margin calls if the value of the underlying asset falls
diversifying through instalments gives an equivalent exposure to an underlying asset while leaving remaining funds available to invest into other assets
future growth on assets is in a concessionally-taxed environment, with capital gains tax limited to a maximum of 15 per cent and potentially zero
accumulation of assets in the superannuation environment may protect those assets in the event of bankruptcy.
Which entity can lend money to the SMSF
When it comes to SMSF property superannuation law allows for the lender to be any one who can ordinarily lend money. Many financial institutions now have SMSF loan products available. You can also lend money to your SMSF on an arms-length basis. SMSF borrowing has many traps so it is very important that one seeks professional advice in this area.
The following issues need to be considered when borrowing to acquire an SMSF property:
The law allows only for a ‘single acquirable asset’ or collection of identical assets only. Certain properties such as an apartment may have a car park on separate title which may require more than one bare trust arrangement.
As the rights of the lender are limited to the property, financial institutions will typically require a personal guarantee by the member (to protect against default on the loan).
You do have the ability to refinance loan arrangements and can include associated expenses within the borrowing (i.e. stamp duty, loan costs, brokerage, etc.)
You are unable to develop or subdivide a property held within a custodian trust that was acquired using a limited recourse borrowing.
The Trustees need to maintain sufficient liquidity to pay taxes of the fund (income, capital gains, GST, PAYG and contributions tax), and must ensure that other expenses such as administration expenses, brokers fees, stamp duty and legal fees are paid on time.
Trustees should consider the death and disability insurance needs of each member.
SMSF borrowing opportunities
There is a vast array of strategies available to use borrowing inside a self-managed super fund. Consider some of the following arrangements where this strategy might be beneficial:
Your business no longer wants to rent or wishes to upgrade their existing premises.
Commercial property held outside of super (you can transfer the property into a SMSF). When investing in commercial property with your SMSF, you can acquire a property and pay an arms-length rent amount from your business and claim a tax deduction towards funding your own retirement. Remember no personal use for residential properties in a SMSF
Residential or commercial property investors. A common mistake is not understanding related party acquisition and no personal use of a residential property in a SMSF.
People looking to buy a property for retirement in the years to come.
Property development & using a SMSF.
"As an independent mortgage provider, it’s important to myself and my business that my clients are treated in a competent, professional manner. When it comes to the complexities associated with borrowing and investing in a SMSF, Andrew and the Active Self Managed Super Funds team certainly know the ropes and will discuss the possible benefits and pitfalls based on your personal circumstances. A number of my clients have met with the Andrew and his team to discuss investing within an SMSF and the feedback has always been extremely positive. I have been so confident in Andrew’s service that I am now a personal client of Active Self Managed Super Funds. I highly recommend Andrew and the Active Self Managed Super Funds team to anyone with an interest in SMSF’s”.
Rhys Orchard, Swan River Finance