SMSF borrowing (LRBAs), related party loans and 1 July 2016 – there’s more involved than you think. Are you ready?

The ATO has been highlighting their concerns with related party loans in SMSF borrowing arrangements (LRBAs), and particularly whether they have been made on commercial terms. A new announcement by the ATO has highlighted the importance of acting quickly to ensure compliance.

The ATO’s current view is that all loans to SMSFs must be on arm’s length terms (see our previous alert).

Last year, the ATO announced it would not take action on existing LRBAs provided ‘commercial terms are in place by 1 July 2016’ (see our previous alert).

The ATO has now been reported in a recent SMSF Adviser as stating that LRBAs involving a related party must be on commercial terms for the whole of the 2015/16 year by 1 July 2016. This is very different to making sure everything is in place and effective from 1 July 2016.

Putting a loan on commercial terms involves more than charging the same interest rate as a bank. Other aspects of the arrangement must also align with what an arm’s length financier would require, including:

• a written document containing the same sort of terms;
• requirements for interest and principal repayments;
• a similar loan to value ratio to that required by banks for LBRAs; and
• adequate security (including registering a mortgage and taking guarantees).

And it is essential all agreed terms are actually complied with, and enforced if necessary.

The ATO is working with the industry on safe harbour standards so there is certainty around what must be in place. The best evidence is mirroring the terms of a formal written offer or proposal from an arm’s length financier.

Advisers must ensure they take action now to ensure LRBAs are documented with commercial terms, and have operated from at least 1 July 2015 on those terms.

This is one of the topics the CGW team will be discussing at our Annual SMSF Update in Brisbane on 10 March 2016. Follow this link for further details.