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Self Managed Super Fund (SMSF) Article
Look before you leap into gearing
By Tony Negline.
This article may be out of date.
13th October 2010
Super gearing involves a super fund borrowing to acquire a specific asset. But there is a lot to understand before anyone should actually go about implementing it.
The asset has to be one which the super fund can actually own. This means that the fund's trust deed, investment strategy and the super laws permit the super fund to hold the asset.
Whilst the loan is outstanding, the asset has to be held in a trust. Thus far the market has thrown up many names for this trust. The Tax Office has started calling it a Holding Trust and many people seem to have begun using this name.
My travels throughout the SMSF marketplace tell me that St George is currently the easiest bank to deal with followed closely by its parent Westpac. Many people have told me that NAB is too difficult to deal with. Its requirements seem to change between States and sometimes differences emerge between NAB's various regions of a State.
Commonwealth Bank seems to have developed it's own in-house super gearing product which many describe as too restrictive and too expensive. Rumours persist that it is about to release a revised super gearing product. To date ANZ seems to have only not entered this market for a few select A-list clients.
Super gearing involves a mix of Commonwealth and State legislation. Additionally most super gearing transactions involve commercial and residential property. This means that to successfully engage with this transaction it is essential to meld super, Federal tax, State revenue and property laws together with trust law and the commercial interest of investors and bankers.
Super gearing is still a relatively new strategy so it's unsurprising lenders have different requirements.
Just before the recent Federal election the super gearing laws which specify the required structure were amended with effect from 7 July 2010. These recent changes have altered over what assets the strategy can be used and how it's implemented. All super gearing transactions finalised after 6 July have to comply with these revised rules.
The Holding Trust can now only hold a single asset or a collection of assets. The collection of assets must have the same market value as each other and be identical to each other. This means that a parcel of shares of the same class and of the same price in the same company is therefore a single acquirable asset.
One property which straddles several titles, such as a commercial building and carpark raises several questions about single assets which remain unanswered.
The asset placed into the Holding Trust cannot be an asset already owned by the super fund.
The revised super gearing laws allow for the repair and maintenance of the asset held in the Holding Trust. But what about improvements to the asset? The law doesn't specifically disallow it but the Explanatory Memorandum accompanying the legislation through Parliament said that improvements aren't allowed.
This means that the Holding Trust could only hold vacant land if there is no intention to ever develop the land.
In relation to the loan itself, a super fund can borrow all the costs associated with acquiring, maintaining and repairing the asset.
What about replacing the asset? In some cases it's possible to replace one asset with another one. For example, assume Company A is being taken over by Company B. If Company A shareholders are offered shares in Company B then it's possible to swap one type of shares with another type of shares for this type of corporate action.
In most other cases replacing one asset with another one is prohibited. The asset held in the Holding Trust can never be replaced partly or fully with cash. When this occurs the loan must be repaid and the Holding Trust dismantled.
If an asset cannot be replaced what about buying a property off the plan? In some cases buying off the plan will be okay because a super fund will merely have paid a deposit.
The revised super laws now permit the loan to be refinanced.
Some lenders demand that personal guarantees are given by members of the fund. The law permits such guarantees and also permits the lender taking some security. However the guarantee and the security can only extend to the asset held in the Holding Trust and not to any other asset owned by the super fund.
It's possible for the lender to be a related party of the super fund. Some people take a line-of-credit from their home loan and then on-lend it to their super fund. The Tax Office recently issued an Interpretative Decision that a related party could lend money to the super fund at an interest rate much lower than market rates. Many super lawyers are suggesting this is not a good idea because it may throw up other unintended tax obligations.
What type of trust can the Holding Trust be? It cannot be a unit trust or discretionary trust. It really needs to be a Bare Trust.
As can be seen the super gearing transaction involves some fairly complex issues. It demands fairly constant administration which means it would be too risky to only administer this only once per year.The above is just a summary of some of the issues to consider with this transaction.
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