Financial institutions (FIs) who lend to SMSFs need to be aware of the new ATO guidance on Limited Recourse Borrowing Arrangements (LRBAs) made to SMSFs by related parties and other lenders who are not financial institutions (NFIs).
The ATO’s guidance on LRBAs for SMSFs was released on 6 April 2016, being Practical Compliance Guideline PCG 2016/5. The full document can be accessed here.
SMSFs are required to ensure that any NFI loans comply with the new guidance by 30 June 2016.
The guidance sets different parameters for NFI LRBAs secured by real property to those secured by stock exchange listed shares and units. This report focuses on real property secured loans.
What is the guidance for real estate secured NFI LRBs?
The guidance provides a ‘safe harbour’ for NFI LRBAs secured by real property. The safe harbour requires:
- a written loan agreement;
- the RBA’s indicator lending rate for current financial year (5.75% pa for fixed and variable rate loans for 2015/2016);
- a 15 year maximum loan term;
- a maximum 5 years fixed interest rate period;
- a maximum loan to variation ratio (LVR) of 70%;
- a registered mortgage on title; and
- monthly principal and interest repayments; but
- no requirement for personal guarantees.
NFI LRBAs structured in accordance with these guidelines will be considered an arm’s length dealing.
NFI LRBAs that do not meet all of these safe harbour terms could still be acceptable if the SMSF can demonstrate that the arrangement was on terms consistent with an arms’ length dealing, for example by showing that the terms replicate commercial loans available in the same circumstances. The mere fact that the NFI LRBA is not secured by a registered mortgage where there is an FI first mortgagee should not on its own mean that NFI LRBA is on non-commercial terms, especially if supported by personal guarantees.
What does this mean for financial institutions?
With 30 June 2016 fast approaching, FIs who lend to SMSFs will need to establish policies to deal with the following scenarios. In forming this policy, a threshold question is whether to insist that the NFI LRBA meets safe harbour.
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