SMSF limited recourse borrowing arrangements: how the LRBA structure works
A 2-minute whiteboard explainer of how a self-managed super fund can borrow to buy an asset, such as property, using a limited recourse borrowing arrangement (LRBA).
Read the full articleSMSF accountants
Transcript
Intro
Let’s look at how a self managed super fund can borrow to buy an asset, like property, using a limited recourse borrowing arrangement, or LRBA.
The SMSF
At the centre is the SMSF. Members contribute to the fund, and the trustee, ideally a corporate trustee, makes the investment decisions.
The lender
The fund borrows from a lender. That can be a bank, or a related party such as a member, provided the loan is on arm’s length terms.
The bare trust
While the loan is in place, the asset is held in a separate bare trust, also called a holding trust. A bare trustee holds legal title, on trust for the SMSF, which holds the beneficial interest.
The purchase
The fund pays the deposit and purchase costs from its own cash, the loan covers the rest, and the property is bought from the vendor, with title registered in the bare trustee’s name.
Limited recourse
Here’s the key feature. If the fund defaults, the lender’s rights are limited to that one asset. The fund’s other assets, like shares and cash, are protected. Banks will often ask members for personal guarantees as well.
Cash flows
Rent from the property is paid to the fund, and the fund uses that income, together with contributions, to make the loan repayments.
When the loan is repaid
Once the loan is fully repaid, the property can be transferred out of the bare trust and into the name of the SMSF trustee. The bare trust has done its job.
Key rules
A few key rules. The loan must fund a single acquirable asset, for example one property on one title. Borrowed money can be used for repairs and maintenance, but not improvements. And the asset can’t be changed into a different asset while the loan is in place.
Key rules, continued
Related party loans must be on arm’s length terms, such as the ATO’s safe harbour terms. The fund can’t buy residential property from a related party, though business real property is allowed. And everything must satisfy the sole purpose test and the fund’s investment strategy.
Close
That’s the LRBA structure in a nutshell. This is general information only, and not financial advice. Speak with a licensed adviser and your accountant before setting one up.
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