Publication: Australian Financial Review
Author: John Wasiliev
Date: 11 April 2017

SMSFs with loans targeted for $1.6m cap

The government claims SMSFs are using borrowing arrangements to get around new contribution rules.

Anyone who thought the government’s $1.6 million transfer balance cap was the last word on restrictions to tax-free investment earnings for superannuation pensions as well as contributions to super should think again. New proposals on the drawing board could add hundred of thousands of dollars to the pension balances of what has become a major target group — self-managed super funds with investment loans for either property or shares.

In a radical measure that could take effect from July 1, the government proposes to to add any outstanding loan amounts to the superannuation balances of SMSFs that have borrowing arrangements as part of their investment strategy.

Revenue and financial services minister Kelly O’Dwyer, in foreshadowing the proposal, described the proposals as measures that have arisen from concerns about SMSFs using borrowing arrangements to get around new contribution rules. But super specialists reckon they haven’t come across anyone employing strategies along the lines she outlined. They also reckon the measures will have much wider implications than the government suggests.

According to the government, the strategies involve SMSFs making lump sum payments to members who then lend the money back to the fund to buy investments through a limited recourse borrowing arrangement (LRBA).

One strategy purportedly allows members to continue to make contributions by keeping their member balance below the $1.6 million superannuation balance threshold.

The strategy will be targeted by amending the total super balance provisions so that they will each year include the outstanding balance of an LRBA.
Another alleged strategy being targeted is described as SMSFs using LRBAs to pay retirement phase liabilities from accumulation phase income. It involves a “purported transfer of accumulation growth to retirement phase that would not be captured by the transfer balance cap [TBC]”.

This will be targeted by amending the TBC credit provisions – a technical measure – to ensure that repayments of principal and interest to LRBAs are treated as a credit in a member’s transfer balance account.

While these are the bare bones of the proposed amendments, adding outstanding loans to pension balances could have much wider implications than reduced super savings being eligible for tax-exempt investment earnings.

SMSF specialist adviser Lyn Formica of McPhersons Super Consulting says from July 1, the new super legislation already states that a member’s total super balance must be used as an eligibility threshold for a number of super concessions.

From the total balance the transfer balance cap is derived. At $1.6 million from July 1 the TBC is the maximum amount of any super savings that can be held in a retirement account entitled to tax-free investment earnings.

One of the prongs of the TBC limit is a rule that anyone with a total balance in excess of $1.6 million won’t be allowed to make any more contributions to their super.

Depending on a member’s total balance, there are various other contribution entitlements that may be affected. They include non-concessional (after-tax) contributions under the new $100,000 a year and $300,000 bring-forward over three years entitlement.

The measure could also prevent a member using the remainder of a contribution bring-forward amount under the current more generous non-concessional rules.

Also under threat would be the scope to boost tax-concessional (pre-tax) contributions under a proposed right to unused contributions from prior years. Also denied could be receiving a tax offset for a spouse contribution or a government co-contribution.

While experts like Formica say they haven’t seen anyone attempting to manipulate the super rules along the lines suggested by the government, they acknowledge that the proposal will have widespread implications for SMSFs with geared investments.

Also acknowledged is that strategies do exist to make withdrawals both before and after July 1 that will allow extra contributions to be made to super.

Because the outstanding balance of an LRBA is currently not counted as a super asset, any strategy that allows members to continue making contributions by keeping their net account balance below the total super balance threshold is certain to attract the attention of government and regulators.

Formica says the government’s proposal to extend the amounts counted towards a member’s total superannuation balance to include the outstanding balance of the LRBA will also include  making the repayment of principal and interest on a LRBA count towards a member’s TBC.

While the first measure is aimed at limiting contributions, the second is to ensure that monies that have already gone to pension within the TBC will have to be removed from pension as interest and principal repayments are made.The proposed changes are potentially quite complicated, not helped by the fact that very little detail on them is available.

What complicates them, says Formica, is that LRBAs are part of fund assets and liabilities and the LRBA balance and the principal and interest payments do not belong to any particular member.

This will make the drafting of any changes very interesting.

For this reason, she says, McPhersons is advising its clients to take note of the government proposals but as yet take no action as it is possible they may not be introduced.

Chris Malkin, a senior consulting auditor with Baumgartner Super, agrees it will be a challenge for the government to introduce the LRBA measures.

That said, it will “rock a lot of boats” if it goes through. An aspect he struggles to come to grips with involves circumstances where there is a pre-existing contract for a loan arrangement that must be honoured and whether that prevails over any legislation that is introduced.

The issue with the proposals is that they are not very clear. For instance, a loan is not technically a fund asset but rather a future liability.

john.wasiliev@fairfaxmedia.com.au

 

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