Borrowing to invest under a LRBA is becoming an increasingly popular way of maximising retirement savings because it allows you to increase the amount available to invest within your SMSF.
There are, a number of rules to follow and this is a transaction where we would recommend specialist advice.
With an LRBA, the lender’s recourse is limited to the asset being bought under the arrangement.
For example, if a bank lends money to your SMSF to buy a property and the fund defaults on the loan, the bank cannot take other assets of the fund. To protect themselves from this outcome, most banks require you to provide a personal guarantee for the loan (so in the event of a default, the bank would seize your personal assets given that they can’t touch your fund).
Where an SMSF borrows to invest:
- the borrowed money can only be used to buy one asset (e.g. one property). If you wish to buy several assets, you will need several LRBAs.
- an exception to this requirement is that you can buy a collection of identical assets (e.g. shares in a single company) under a single LRBA but only if you always deal with them as a block. For instance, you couldn’t sell just some of them, you would have to keep them all or sell them all (and pay off the loan).
- legally, the assets under a LRBA are actually bought on trust for the SMSF by a custodian. The SMSF still receives any income (e.g. rent) from the asset and pays the expenses relating to the asset (e.g. rates), but does not hold legal title until the loan is paid off and the title is transferred from the custodian to the SMSF trustees.
- the loan can generally only be used to buy new assets, it can’t be used to improve a property already owned by the SMSF.
- there are rules about what you can do to the asset while a LRBA is in place. For example, you can’t change it so radically so that it effectively becomes a completely different asset (e.g. knocking down a house and replacing it with flats or building a house on a vacant block of land).
All these rules cease to apply once the borrowing has been repaid and the LRBA has been wound up.
The loan under a LRBA doesn’t have to come from a bank. It may be structured with a related party (including an SMSF member) as lender to the SMSF.