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A complex structure

reporter 7 minute read

For brokers aiming for success in the SMSF space, in-depth knowledge and understanding of the complex borrowing structure of these products is essential

A self-managed super fund (SMSF) loan is significantly different from a traditional residential loan.

Even if brokers are well-versed in dealing with investor clients, there are still many intricacies in an SMSF loan’s structure that need to be understood.

“It’s a very different type of loan,” says Gadens Lawyers’ partner Amber Warren. “Lenders’ requirements also vary.

“It’s important that brokers have some education and training around how to write SMSF loans and it’s also important that they understand the types of requirements that lenders have in this space – not only to make sure that the deal is legal, but also to manage the expectations of clients.”

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With so many requirements and considerations, how do brokers structure an SMSF loan? What’s involved in putting it all together?

Need for awareness

People are increasingly setting up SMSFs and purchasing property – using a combination of their super funds and borrowed funds – as a wealth creation strategy.

On the surface, SMSF lending seems simple. But you are combining three already complex areas in one transaction: property, superannuation and debt.

As such, an SMSF loan has multiple components and complexities.

“An SMSF borrows money, which is used to purchase a single property that is held on trust for the superannuation fund until the loan is extinguished,” explains Graeme Colley, director of education and professional standards at the SMSF Professionals’ Association of Australia (SPAA).

“Once the loan has been paid off, the property may be transferred to the SMSF so that it owns the asset outright.

“The SMSF is protected from defaulting on the loan as it is required to be held on a limited recourse basis.

“That is, if the fund is unable to pay the loan, then the lender can only use the proceeds obtained from the sale of the property. It is not able to access the other investments of the SMSF to obtain full value for the loan.”

Peter Burgess, AMP SMSF head of policy and technical, says that to properly structure an SMSF loan, brokers need to be aware of the various products available and the rules and features associated with them.

“For a mortgage broker, it’s a matter of being aware of the different types of loan products that are available in the marketplace – in the same way they would be when structuring a loan for any other purpose,” Mr Burgess says.

One of the most common mistakes that brokers make when putting together SMSF loans is not understanding the complex rules that govern these types of arrangement.

“It’s important for brokers to have at least a general understanding of how these rules work so they put the loan together properly and don’t recommend an unsuitable product,” he says.

Becoming an expert

Brokers can and should become experts in SMSF lending, according to SPAA’s CEO Andrea Slattery.

“They absolutely can, and I would encourage them to do that,” she advises, but adds that SMSF lending is nevertheless not for everyone.

“Don’t come into this space unless you are confident,” Ms Slattery says. “It’s a specialised area and you need to be educated in its complexities because there is no other way to do it.”

There are several ways in which brokers can position themselves as experts, she explains.

“SPAA has an accreditation program and has education services that can help people to become knowledgeable in this area.

“We also have an education arm where independent educators provide services to help brokers understand [SMSF lending].”

Various lenders now also offer promotional and education material to help brokers move into the space.

“Most banks do have material now on their limited recourse borrowing,” says Mr Burgess. “The market has come a long way since these rules [allowing SMSFs to borrow money to purchase property] were first introduced.

“Most of the major lenders have promotional material talking about how these products work and the various features attached to them.”

Ms Slattery adds that another essential component for becoming an expert in SMSF loans is the will and the drive to be perceived as an SMSF professional.

“Brokers should want to be recognised as a professional in this area,” she says.

“They need to have the ability to actually meet consumers’ needs and add value, rather than just provide a service so that it becomes a bottom line profit generator for them.”

Education and training

Gadens’ Ms Warren agrees that education and taking advantage of industry resources is essential to brokers’ understanding SMSF loans and finding success in this space.

“One of the important things is that the MFAA has just released some training, which is specific to brokers,” she says.

“I would certainly encourage any brokers who think they’re going to participate in the self-managed super fund area to take advantage of those sorts of training sessions to make sure that they’ve got the requisite background and understanding to properly help their customers.”

The MFAA has also recently detailed plans to start training credit advisers in this area.

The association has said that it is keen to help brokers understand and get more involved in the sector by providing a series of training workshops.

Training will involve two different programs catering to those who simply want an understanding of SMSF lending and limited recourse borrowing, and to those who want to both understand and project manage the SMSF lending process.

“The training programs represent a terrific opportunity for ambitious credit advisers to expand their range of expertise and scope of service for their clients, many of whom are weighing up the opportunities for investing their superannuation directly into property,” says MFAA chief executive Phil Naylor.

“More than 3,000 SMSFs are being established each month in Australia and, with the proper training, credit advisers have the opportunity to deepen their relationships with clients through broadening their product and service offering.”

The training program is expected to commence in early June and will involve a series of modules using a combination of audio and video sessions, assessments and learning checks, case studies, course notes and handouts, and ending with an optional workshop. Completing the program requires a significant investment of time with the average commitment expected to be 30 hours.

“At the end of the program, participants will have a thorough understanding of their role in setting up and managing SMSFs, understanding borrowers’ investment strategies and the risks involved, project management of the process, debt reduction strategies, continuity and liquidity reviews,” Mr Naylor says.

“This is a fast growing segment of the market where credit advisers can project manage the process, from establishing an SMSF to the ongoing management of the investment property, in consultation with the legal advisers and planners/accountants of the client.

“With the success of SMSF borrowing relying heavily on credit approval from lenders, it makes sense for credit advisers to play a key role in project managing SMSF lending to ensure all of the lender’s requirements are met from the outset.”

Step-by-step: organising an SMSF loan

Even though brokers will primarily deal with the SMSF loan rather than the fund itself, it is still important they have an understanding of how SMSFs work and how they are used to acquire property. This, according to AMP’s Peter Burgess will reduce the possibility of brokers breaching any legislation and ensure the loan they seek for their client is approved.

SPAA’s Graeme Colley explains the basic steps, from start to finish, of securing an SMSF loan.

Step 1. Select a suitable property to purchase. It is not possible to purchase a property under the limited recourse borrowing arrangements which is currently owned by the fund or domestic rental properties.

Step 2. It may be worthwhile seeking professional advice in relation to the property – not only regarding the purchase, but also regarding whether the SMSF is able to have the cash flow to make repayments should the property be vacant [unrented] for a period, or if interest rates were to increase.

Step 3. Establish a trust that would be suitable to hold the property under the limited recourse borrowing rules.

Step 4. Arrange the borrowing with the lender, which may be a bank, other financial institution or an entity related to the superannuation fund.

Step 5. Commence making the repayments.

Step 6. If the property is sold, the loan would be extinguished and the proceeds, if any, credited to the accounts of the SMSF.

Step 7. If the loan has been paid off, the property is able to be transferred to the superannuation fund once any mortgage has been extinguished on the title.

A complex structure
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