(03) 9020 2905PORTFOLIO POINT: Shares are out and property’s dominance is entrenched in the NEW super gearing laws, quietly announced in recent days.
It was bound to happen. Assistant editor James Frost and I hold a webinar on the gearing laws inside SMSFs and … a week later, the government goes and changes the law. It was like they were listening to our conversation.
Late last week, with no fanfare, the government introduced legislation to the parliament to radically alter the rules that have only been in place since September 2007.
On the whole, they are significant. In a nutshell, a big tick has been given to property as an acceptable asset to leverage inside super. However, the changes suggest the government and the ATO has serious issues with gearing for shares. Leveraging into shares are going to be expensive, unless you are buying shares in very, very large parcels.
Why? Well, we’ll come back to that.
Those who were tuned in to last week’s webinar might remember me talking about section 67 (4A) of the Superannuation Industry Supervision Act. Well, unless you’re in and using it before the bill gets royal assent – which could happen as early as June 15 – you can forget about that. It’s going.
The Government has decided to scrap the September 2007 laws and start again. They are, literally, chucking section 67 (4A) out the window and introducing two new sections – Sections 67 (1A) and 67 (1B).
A brief history … prior to 24 September, 2007, SMSFs were largely banned from borrowing. A limited number of circumstances had arisen where the ATO had decided to tolerate borrowing. These included self-funded instalment warrants, internally geared managed funds and partly paid shares, such as the Telstra instalment receipts.
Then the ATO changed the rules. It opened up borrowing to super funds for any asset that they could legally invest in. The new rules were fairly broad. You could gear into any regular SMSF asset such as property and shares, but you could, potentially, gear into art, gold or collectibles.
Even the terminology has now been discarded. Previously, assets that were bought inside the SMSF with leverage were referred to as “instalment warrants”, which mirrored the wording for “self-funding instalment warrants” that were previously accepted, but had caused plenty of confusion in the industry. The arrangements will now be referred to as “limited recourse borrowing” arrangements. It’s still clunky, but far more accurate.
So, what’s changed? The below is not exhaustive, but a round up of the major changes. We may return to some of the other changes in the coming weeks.
Borrowing for “single” assets
“The borrowing is permitted only over a single asset or a collection of identical assets that have the same market value and are treated together as a whole.”
A property is a single asset, even if it is made up of land and buildings, says the ATO. So the real intent of this portion of the legislation is in regards to shares.
A parcel of BHP, or bank shares, for instance. If you are going to invest in a parcel of shares, then there will need to be multiple loans – one for each company being invested in. A collection of the top 20 shares on the ASX would, therefore, require 20 different loan agreements to be in place, with each loan limited in recourse to a particular parcel of shares.
It appears that managed funds might be the obvious way around the law, as units are equal and have the same market value.
Limited recourse lending to be … limited recourse
The rights of any lender in regards to retrieving a loan will be limited to the asset purchased. I have mentioned in previous columns that there has been some concern, particularly when it came to commercial banks lending to super funds, that they have been trying to get around the “limited recourse” nature of the rules by getting personal guarantees from trustees.
The commissioner said that getting personal guarantees until the September 2007 laws has been allowable. However, they will no longer be. The lender will be limited to recourse over the asset itself.
Super funds can’t borrow to improve real property
You can, apparently, capitalise your interest, you can borrow to make general maintenance to a property, but you can’t borrow to “improve” or “renovate” real property.
Refinancing loans
There were concerns that the simple act of refinancing a loan – from, say, a trustee as an individual to a bank, or vice versa – would run foul of the super gearing laws. A simple refinancing, including for existing lending agreements, will be allowable.
As mentioned, it is also the case that super funds will be allowed to use borrowed funds to pay for interest costs (that is, capitalising interest costs), or for other purchase costs, such as stamp duty, conveyancing costs or other legitimate purchasing legal fees.
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The fact is that the trustees who were using the super gearing laws were predominantly doing so for property in any case. That’s the way that most trustees were looking at it and trying to use it.
But the ATO had clearly seen some arrangements in regards to equities that it believed were beyond the scope of the current laws, which is partially why they have changed the laws.
As an aside, if the ATO was trying to inflict maximum damage on an industry gearing up for the end of the financial year, then it could hardly have chosen a better time.
June is “grand final” time for the industry – financial advisers, accountants and product manufacturers. Given the bill is expected to receive royal assent this month, many products offered in the lead up to June 30 aimed at SMSFs might have to be shelved. It hasn’t left much time for product manufacturers to seek legal advice and potentially pull their products.
Bruce Brammall is director of Castellan Financial Consulting and author of Debt Man Walking.