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Dear Colleagues,
One SMSF purchased a piece of land with out any borrowings.
Now they want to do some construction
Can they do construction without any borrowing?
Can they construct with borrowing from an external lender?
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Thank you
Hi Noble
Yes a SMSF can purchase land without any borrowings and then do a construction on that land if there are no borrowings.
The SMSF cannot borrow money from a (external or internal) lender to improve an asset the Fund already owns.
The ATO has a ruling re Limited Recourse Borrowing Arrangements (LRBA's) at "SMSFR 2012/1 - LRBA's - application of key concepts" that provides guidance.
Refer example 8 to 10 below from the ruling. Example 8 supports what I have noted above.
Thanks
SMSF AAA
"Example 8 - house built in situ on land already owned by the SMSF
66. An SMSF owns a vacant block of land. The trustees of the SMSF want to enter into an LRBA to construct a house in situ on the block of land.
67. The house cannot be a single acquirable asset under section 67A. As the house is built in situ it does not exist as an asset separate from the land that can be held on separate trust. Money borrowed to build the house effectively results in the acquisition of services and building materials. These acquisitions would not satisfy the LRBA requirement that the arrangement involves the acquisition of a single acquirable asset.
Example 9 - purchase of land and construction of house using borrowings
68. The trustees of an SMSF want to enter into an LRBA where the single acquirable asset is a vacant block of land. The SMSF intends that the borrowing will provide sufficient funds for the construction of a house on that block. Assuming that title to the vacant land transfers to the holding trust prior to the house being built, it is the vacant land that is acquired and held on trust under the LRBA.
69. This arrangement will cease to satisfy the requirements of section 67A if money borrowed under the LRBA is subsequently used to construct the house and thus improve and fundamentally change the character of the asset held on trust (that is, from vacant land to residential premises).
70. This outcome is not altered even if the contracts entered into for the acquisition of the land and the construction of the house contain clauses linking the two contracts.
Example 10 - acquisition of a yet to be constructed house on land using borrowings
71. The trustees of an SMSF want to enter into a contract to acquire, as a 'package', land with a yet to be constructed house on it and to fund the acquisition using borrowings under an LRBA. As the contractual arrangement is for the acquisition of land with a completed house on it, and settlement occurs once construction of the house is finished, the deposit and the payment on settlement can be funded under a single LRBA.
72. In contrast to Example 9 (paragraphs 68 to 70), this arrangement is for the acquisition of a single acquirable asset, being the land with the house constructed on it."