Changes affecting

Limited Recourse

Borrowing Arrangements

Aaron DunnB.Bus (Acc), CPA, SSA

SMSF Specialist AdviserTM

20 July 2010

Today’s Session

• Where we’ve come from...

• Proposed changes to Corporations Law

• Limited Recourse Borrowing Arrangements

– Section 67A & 67B– Section 67A & 67B

– Comparison of changes

• Questions

History of Limited Recourse Borrowing

4 April 2008

ATO release taxpayer

alert, TA2008/5 and

Q&A document on

Instalment Warrants &

Super Funds.

Significant uncertainty

June 2009

Issuing of TR2009/D3 –

super contributions.

SMSF instalment

warrant examples

provided with use of

personal guarantees,

contradictory to

TA2008/5. Finalised as

TR2010/1 on

25/02/2010.

26 May 2010

Superannuation

Industry (Supervision)

Amendment Bill 2010

introduced into

Parliament to make

changes to limited

recourse borrowing

arrangements

(instalment warrants)

7 July 2010

Law takes

24 September 2007

Introduction of section

67(4A) to SIS Act, to

allow for instalment

warrants to operate

and not breach the

borrowing provisions.

still remained 25/02/2010.

10 March 2010

Assistant Treasurer, Senator Nick

Sherry announces changes to tax

law and consultation on

amendments to Instalment

Warrant arrangements

Minister Bowen also announced

changes to licensing

requirements

(instalment warrants)

6 July 2010

Received

Royal Assent

Law takes

effect

17 July 2010

Election

called,

proposed

reviews,

reforms and

Bills now on

hold (maybe

permanently)

9 June 2010

Exposure draft

of

Corporations

Amendment

Regulations

2010

Proposed changes to Corporations Law

• Exposure Draft – Corporations Amendment

Regulations 2010

• Proposed amendments intend to:

– Make limited recourse borrowing arrangements financial

products

– Ensure limited recourse borrowing arrangements are not a

credit facility when acquired by the Fund; and

– An AFSL covering derivatives is taken to also cover limited

recourse borrowing arrangements

Proposed changes to Corporations Law

• Draft Regulations released 9 June 2010. Submissions were able to be made up to 28 June 2010

• Issues/Concerns:– No distinction between ‘traditional’ instalment warrants and limited recourse

loans (e.g. Property transaction). Are property based arrangements really sophisticated?

– Issue on broad terminology of an ‘arrangement’ in accordance with section – Issue on broad terminology of an ‘arrangement’ in accordance with section 67(4A) (will now be s.67A).

• When is it a financial product? Could there be more than one product issued (i.e. When property is purchased b/w buyer & agent, then again when bank agrees to loan?)

• Who is responsible for issuing the PDS?

– What authorisation is required for those who do not hold a derivatives licence?

• Do you create a ‘carve-out’ for limited recourse borrowing arrangements?

• Many derivatives licence holders would have little or no understanding of superannuation law requirements

Superannuation law

changes to Limited

Recourse Borrowing

Arrangements

The new arrangements

• Royal Assent received 6 July 2010

• Effective 7 July 2010

• Repealed section 67(4A)

• Introduced section 67A & 67B• Introduced section 67A & 67B

• New terminology

– Limited Recourse Borrowing Arrangements• no longer defined as Instalment Warrants within the Act

The definition hasn’t changed

• The borrowings must be for the acquisition of an

asset

• The asset must be held on trust

• The acquired asset is the only asset that the lender

has recourse against in the event of default (limited has recourse against in the event of default (limited

recourse borrowing)

• When the borrowing is fully repaid, the asset must

transfer to the SMSF – Can become an IHA issue where no transferred

There is no revamp of the requirements from s.67(4A)

i.e. these preconditions must still all exist

How it works

Summary of changes

Section 67A & 67B (New Law) Section 67(4A) – (Old Law)

Explicitly defines the interpretation of acquirable asset

in the singular

While the Act refers to ‘asset’ in the singular, it is

possible to interpret asset in the plural

Ensures that the recourse of the lender or any other

person against the super fund trustee for default on

the borrowing is limited to rights relating to the

acquirable asset.

The SIS Act limits the rights over the original asset in

terms of the direct lender and associated borrowings.

acquirable asset.

Limits borrowing arrangements to a single asset or a

collection of identical assets treated together as a

single asset.

Allows borrowing arrangements over multiple assets

which may permit the lender to choose which assets

are sold in the event of a default on the loan.

Clearly defines circumstances under which assets can

be replaced

Allows arrangements where the asset subject to the

borrowing can be replaced at the discretion of the

trustee or the lender

‘Acquirable’ Asset

• Defined as a ‘single asset’ or a ‘collection of identical assets’– Replaces concept of “original asset” within s.67(4A)

• EM defines single acquirable asset to include:– A parcel of identical shares in a single company or units in

a unit trust that have the same market value. For example, – A parcel of identical shares in a single company or units in

a unit trust that have the same market value. For example, #10,000 BHP shares.

• Note - any collection of assets must be bought and sold as a collection; there can be no partial sell-down, DRP, etc.

– The land and house/building for any real property acquisition.

• Furnishings/Non-fixtures not included. Would require separate borrowing.

Personal Guarantees

• The use of personal guarantees are allowed, however

the rights of the lender and any other person against

the Fund Trustee are limited to the acquirable asset

– Protection against claim on other fund assets

• Unlikely for “shortfalls” to count as contributions

– Where trustee/member is guarantor in personal capacity –

appears shortfall paid personally does not count as a

contribution, as SMSF has right to ‘walk away’ under

limited recourse arrangement.

• This leaves the guarantor totally exposed!!

Refinancing

• Ability to now refinance existing loans

– Allows for a Fund with cash flow problems to minimise risk of default

• Associated expenses can be included as part of borrowingborrowing

– E.g. Stamp duty, conveyancing, brokerage, loan establishment costs

• A re-negotiation of a borrowing with the same lender with no changes in conditions can occur is not a refinance

Replacement Asset

• Section 67B, including comprehensive list of ‘what qualifies’

• Examples of what does not qualify:– sold BHP shares and buy CBA shares (as part of change to

investment strategy)

– Property improvements (development)– Property improvements (development)

– Property subdivision

• What is a repair versus what is a capital improvement?– Can use borrowings to maintain or repair to ensure it is

‘functional’ (but not improve)

– Get it wrong and it will risk the complying status of the fund

Important Dates

Pre 24/09/2007 Section 67(4A) – SIS Act

(to 6 July 2010)

Section 67A & 67B – SIS Act

(from 7 July 2010)(to 6 July 2010) (from 7 July 2010)

Three distinct dates for borrowing requirements

contained within section 67 of the SIS Act

Where to from here?

• Certainty that limited recourse borrowing is here to stay...– Cooper Review recommended review in 2 years time

• SMSF arrangements will become almost exclusively in property– Very costly to run equities and managed funds directly– Very costly to run equities and managed funds directly

– Use product provider

• Wait and see on details about financial product & derivative requirements

• ATO updated Q&A on limited recourse borrowing arrangements

Thank-you