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As we all know the lenders rights are limited to the property in the Bare Trust under the LRBA. The lender has no recourse to the other assets held in the smsf. That a normal condition with a bank loan is that the members of the fund give personal guarantees should a shortfall take place. I have a situation where the property has been sold for less than the loan was outstanding. Loan was $340,000, property sold for $300,000 leaving a shortfall of $40,000 owed to lender / bank. Am I correct with my understanding of the following:
This shortfall of $40,000 represents a Capital Loss to the fund. That will effectively reduce the members balances.
That cash that exists in the smsf cannot be used pay off the shortfall as it breaches the condition of recourse to other assets held in the smsf.
That as the members have signed personal guarantees, they are responsible for paying out the shortfall of the $40,000 using their own private / individual money external to the smsf.
That the $40,000 payout be split amongst the individual members based on their member account balance %.
Is this $40,000 being paid privately by the members a capital loss to the individual member. I do not think so, it is just disregarded from a tax point of view.
In the event that the smsf actually withdrew the $40,000 from the smsf bank account and paid the lender out, has a contravention place ( lending to members), that requires correcting?
So as to take corrective action the smsf now record this $40,000 as a loan to the members and request that the members pay back the $40,000 to the smsf within 2 years at interest rate the same as what the lender / bank was charging on the LRBA.
Any guidance will be appreciated, as I think the members have done the wrong thing.
Hi Campbell
I have not been involved with an LRBA default and assume they are not common.
I agree that if there is a LRBA loan default the lender's rights re the Fund are limited to the asset held in the bare / custody trust being just the actual property.
Guidance can be found in ATO ID 2010/170- Self managed superannuation fund: limited recourse borrowing arrangement - third party guarantee and Section 67A of SIS.
Extract of section 67A of SIS:
(d) the rights of the lender or any other person against the RSF trustee for, in connection with, or as a result of, (whether directly or indirectly) default on:
(i) the borrowing; or
(ii) the sum of the borrowing and charges related to the borrowing;
are limited to rights relating to the acquirable asset; and
Example: Any right of a person to be indemnified by the RSF trustee because of a personal guarantee given by that person in favour of the lender is limited to rights relating to the acquirable asset.
That is the guarantor under Section 67A can only recover from the Fund in respect of the property that was purchased. As a result I would agree that money cannot be paid from the Fund to compensate the guarantors for their loss. As a result I agree that money paid from the Fund to the members / guarantors would be a loan to a member(s) and be in breach of the SIS rules and would need to be refunded to the Fund.
In relation to the loan being repaid to the Fund then yes this should be done on a commercial basis for an unsecured loan. Preferably it is repaid straight away so the ATO can be advised that the breach has been rectified when the audit contravention report (ACR) is lodged.
In relation to the tax impact re the loss to the guarantors I would expect there to be no impact as the guarantee did not relate to them earning any income.
If other member's have any comments where they have been involved in such a default re a LRBA that would be appreciated.
Thanks
SMSF AAA