What are the steps that must be taken once a limited recourse borrowing arrangement has reached completion and the loan is paid off?
SMSF limited recourse borrowing arrangements are often referred to as bare trusts. As LRBAs reach completion and the loan is paid off, many are unsure how the arrangement should finish. There are a number of steps involved in weighing up options and strategy, as well as in documenting and carrying out the process.
This article deals with the situation of where a borrowing has been paid off and the asset is being kept in the SMSF. If the SMSF trustee is selling the asset to a third party, this is typically simpler as the trustee does not have to strive to achieve a duty exemption.
When is a limited recourse borrowing arrangement ready to be unwound?
A core feature of an LRBA is that the SMSF trustee borrows to acquire an asset that is held on trust. The SMSF trustee has a beneficial interest in the asset, and has the right acquire legal ownership after making one or more payments. An LRBA is therefore completed when the borrowing of money is extinguished (that is, when the loan is paid off). Once this happens, there is no borrowing being maintained. What is left is an asset being held on trust for the trustee.
At this stage, there is a choice as to whether or not to transfer the asset into the name of the SMSF trustee.
What costs are involved in transferring to the SMSF trustee?
There are likely to be transaction and administrative costs in transferring the asset to the SMSF trustee. If the asset is real estate, there will be a cost in conveyancing.
Then there is the question of whether stamp duty is payable on any transfer to the SMSF trustee. If the initial transaction was handled and documented properly (including the payment of the deposit), there is a stamp duty exemption in most jurisdictions. While some might think the stamp duty exemption should be a simple matter because the SMSF trustee has a ‘beneficial interest’ in the asset, the provisions in each jurisdiction are usually more complex. Most exemptions have substantial procedures associated with them (e.g, statutory declarations, documentary evidence, etc). It is recommended that SMSF trustees and advisers speak to a stamp duty expert in the jurisdiction in advance of any transfer.
Is it better to transfer to the SMSF trustee?
It is not always necessary to transfer the asset to the SMSF trustee. There is a special ATO-made law that allows the asset to be left in the bare trust without giving rise to an in-house asset (see Self Managed Superannuation Funds (Limited Recourse Borrowing Arrangements - In-house Asset Exclusion) Determination 2014)). Taking this path will probably mean a saving on costs and hassle in the short and medium term. However, if the end goal is to transfer the asset in-specie to the members (say, upon the death of a member), it is typically better to transfer to the SMSF trustee sooner rather than later. Given the documents needed for a stamp duty exemption, waiting many years to do the transfer could mean the crucial evidence is lost, forgotten or difficult to access.
Additionally, the conservative view of the current law is that if the SMSF trustee wants to change or improve the asset such that it becomes a fundamentally different asset (for example, by subdividing land or by converting residential land into commercial), the asset needs to first be transferred to the SMSF trustee.
How is the arrangement unwound?
If it is desired or necessary to transfer to the SMSF trustee, documentary evidence should be obtained from the lender to confirm that the loan is no longer outstanding. Any mortgage should also be removed (if not, the SMSF trustee will end up with a contravention due to the mortgage).
Typically, the bare trust document will broadly say that the bare trustee will act on the direction of the SMSF trustee. If this is the case, the relevant documents may be a resolution to wind up the arrangement and transfer the asset, a direction to the bare trustee to this effect and a resolution by the bare trustee to comply with the direction.
A lawyer will typically be needed to handle conveyancing (if the asset is real estate).
Additionally, once the asset is transferred, related documents such as leases may have to be updated to reflect the new legal owner of the property (the SMSF trustee).
By David Oon
11 May 2018
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