This article is about you or your business loaning money to your super fund. Some people have already done this and a few have even wanted to loan this money for very low – even zero – interest rates.
As I will explain, you can do this but you will likely face paying high tax rates inside your super fund.
Two weeks ago, the Australian Taxation Office (ATO) released a document about what it thinks are the terms for an arm’s length loan for real estate and listed shares. At the bottom of this article, I have reproduced what they expect for a property loan.
You might have seen these ATO terms and conditions called “safe harbour” rules.
This term signifies that certain behaviour will be deemed not to have breached the relevant laws.
In this case, it means that if your loan to your super fund mirrors the ATO’s terms and conditions, then your super fund will be deemed not to be earning non-arm’s length income and hence not subject to tax penalties.
Do you have to follow these new ATO rules?
The short answer is no. It may be that you can find an arm’s length lender who will offer better terms than ATO basic rules. If that is the case, then as long as you can keep documentation of those terms and conditions – on the lender’s letterhead – then that is acceptable. For example, the ATO’s guideline doesn’t contain terms for an interest only loan.
You might find someone in the market place willing to offer your super fund this type of loan on favourable terms. If so, you could simulate their loan terms and keep their documentation on file when loaning the money to yourself. Similarly, you could use the terms and conditions of a principal and interest loan provided by a third party lender.
What’s the purpose of the ATO material? By releasing this material, the ATO has saved everyone the hassle of trying to work out what an arm’s length arrangement may be.
The benefits of borrowing
Borrowing by super funds has certainly become a hot topic.
There are many reasons why you would want your business to loan money to your super fund. These include:
- Asset restructuring – this is best explained by an example. Suppose your business owns its business premises. It seems that the tax rates in the super fund are lower than what your business pays, so you would like to somehow transfer the asset into super. One problem you have is that your super fund doesn’t have enough money to buy it outright. Depending on your circumstances, there are a number of ways around this issue but one way around it may be for your fund to pay a deposit and your business to provide vendor finance to fund the rest. With this transaction, it’s important to consider all the possible transaction costs such as legal fees, stamp duty and CGT on disposal.
- Tax and retirement planning – you would like to move money into super for your retirement but you also know that it doesn’t make sense to lock money away in super before it’s necessary, given you can’t get access to it for many years.
- You would like to contribute to super but are concerned about the government changing the rules and want to leave your options open.
- You want to contribute more into super but can’t do so because of the contribution caps.
To put any of the above, or similar, ideas into play you would need to put in place what is called a Limited Recourse Borrowing Arrangement or LRBA. Given the new ATO rules, understanding the main features of a LRBA and the terms of your loan will ensure you comply with the new rules.
The main features of a LRBA
- A lender, in this case you or your business, loans money to your super fund which then uses that money to buy an asset.
- The purpose of the loan must be that your super fund wants to buy an asset. That is, you loan money to your fund, which it then uses for any purpose, such as paying its expenses.
- The asset itself, once purchased, needs to sit in a trust – called either a bare or holding trust. There are restrictions on how this asset can change while it is held in this trust. For example, if the asset is real estate, then it can be repaired and maintained but, in general terms, it cannot be improved. If the asset is listed ASX shares, then you cannot participate in many corporate restructures or dividend share purchase plans, which would see a change in the number or type of shares held by the holding trust.
- The asset your fund buys can be anything that it is allowed to own. If the asset is residential real estate, then you or your family can’t use that asset. There are restrictions on what your fund can purchase from you or entities related to you, such as your business or family trust. Similar restrictions apply to your relatives and entities that they own or control.
The terms of your loan to your super fund
The terms of your loan must always be structured properly. By this I mean it must be based on what you can obtain in the market.
That is the interest rate, the term of the loan, the security required, the loan-to-value ratio and other terms and conditions have to be similar to that offered in the normal market. If you don’t follow this rule, then the income of your super fund from this investment can be taxed at 47%.
What the ATO expects from a property loan – the terms of a safe harbour
[1]Source: ATO
Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.