Government / Limited Recourse Borrowing Arrangements / SMSF

The end of the road for leverage inside super?

Street sign

It appears abundantly clear from the FSI panel and a range of submissions including the Reserve Bank and Big 4 banks that the days are coming to a close for the use of leverage inside super.  You only need to look at the default position of the panel into the FSI interim report to understand that they believe superannuation is better without leverage:

Restore the general prohibition on direct leverage of superannuation funds on a prospective basis.

Whilst a range of submissions support leverage within superannuation, the only way I can see it surviving is through further reform.  What type of reform you say?  I believe leverage can only exist into the future where SMSF loans are provided by financial institutions that fall under the auspices of APRA.  If you look at many of the topical issues around LRBAs, it have been with related party arrangements – zero interest loans, use of SISR 13.22C related trusts and more.

In reality, the removal of related party arrangements make things clear-cut.  If a bank won’t lend on the arrangement, then it wouldn’t be arm’s-length.  This appears consistent with the ATO’s changed views around non-arm’s length income (NALI) through a range of recently issued private rulings on related party zero interest loan limited recourse borrowing arrangements.

It is important to note that this is a review and not a mandate for legislative change.  However, following similar concerns in the Super System Review (Cooper Review) in 2010, one must have some concern as to whether the writing is on the wall for LRBAs.

I’d be interested to hear your thoughts on the topic…

Comments

comments

7 thoughts on “The end of the road for leverage inside super?

  1. Something will have to change. With property at elevated prices, agents spruiking off-the-plan apartments, investors panicking that they have missed out and heavy marketing of SMSFs, it’s becoming too dangerous for retirement savings. People can speculate enough outside super but this money is supposed to cover their old age, when pensions may not be as generous. For fuller details of my arguments, see my Second Round Submission to the Murray Inquiry on their website.

    http://fsi.gov.au/files/2014/09/Hand_Graham.pdf

    Cheers, Graham Hand

    • Thanks for your comments Graham. Let’s see if we have a courageous government that will do something about negative gearing full stop? Rather than target one element, why not try and reconfigure the use of debt more broadly given this is reason for much of the overheating – SMSFs in reality are a ‘blip’ on this issue.

  2. From attending one of the FSI’s public forums it seemed that the panel was concerned with the implications leverage in superannuation has for the stability of the financial system, rather than the practices of some with SMSFs and LRBAs. Their concern seemed to be that if the superannuation sector was loaded up with debt, in addition to the banking sector, a financial shock would be worse.

    I would say this means the FSI is more likely to recommend a ban – returning to the very limited borrowing previously allowed, rather than further changes to LRBAs. However, how many of the Henry and Cooper review recommendations were actually implemented?

    • Thanks for your comments Luke – I suspect whatever decision the panel makes, it will not be the end of the conversation. Jockeying for position with politicians is always the ‘next step’ and subject to the sensitivity of the issue, it is interesting to see how a government responds. Pollies call this ‘listening’ in their community, I’d say its more vote catching 🙂

  3. ‘Let’s see if we have a courageous government that will do something about negative gearing full stop? Rather than target one element, why not try and reconfigure the use of debt more broadly given this is reason for much of the overheating – SMSFs in reality are a ‘blip’ on this issue’

    Well said Arron! I’m not sure of any other jurisdiction where one can offset interest against income at say 48%, and then claim a CGT concession of when selling the asset.

    I’m all for taking advantage of anything going, but if the budget is in trouble then this should be first on the block. It is a huge transfer of wealth from general taxation pool into higher tax payers pockets. And I include myself in this bracket.

    With an over heated property market now is the time to do this. For existing deals it can be phased out at 5/10% reduction per year, with minimal impact on existing deals.

  4. The underlying issue – IMHO – is the underlying issue of negative gearing that undermines an otherwise healthy property market.

    Negative gearing only serves to inflate the market values. There are other policies that do this too. Dare I suggest the capital that comes from inheritances. That is an area where few dare to tread but there in no doubt (again IMHO) that such capital distorts the property market. In other words it pushes prices up and up to an extent where the young – unless they are the beneficiaries of capital not of their own creation – are forced out of the market.

    Returning to SMSFs and LRBAs I would argue that if it involves negative gearing then it should be banned.
    As a side issue but none the less related surely there is argument for SMSFs to be restricted from LRBAs – ever if positive geared – where those who benefit from the fund are in the retirement phase. End

    • Hi Mark,

      Thanks for your comments. I don’t think the majority look at borrowing within super as a ‘negative gearing’ strategy, in particular because the stress testing done by the lender are more onerous and need greater support by the members through concessional contributions. That said, there will be people looking at property investing in identical terms to how people invest in property outside of super.

      It will be interesting to see what evolves from the budget. I think we will see an announcement on this issue bringing about change to LRBAs – we can then reset and think about any changes as a result of revised policy settings.

      Cheers,
      Aaron

Leave a Reply