Super instalment warrants under reviewFont Size: Decrease Increase Print Page: Print Tim Blue | April 05, 2008 TRUSTEES of self-managed super funds will need to think twice about the use of instalment warrants in their funds, after a warning from the Tax Office yesterday that "certain borrowings" by such funds are under review.
The ATO said it had issued a taxpayer alert warning trustees to be cautious about entering into certain limited recourse borrowings to acquire assets for their self-managed super funds (SMSF).
"Certain features of limited recourse borrowings from a related party to a trustee may not comply with borrowing requirements under superannuation laws," it says.
Recent changes to superannuation laws have relaxed previous bans on SMSFs borrowing money to purchase assets, especially for property assets.
There has been a mini-boom recently, as trustees sought to make use of what were taken to be easier guidelines on such borrowings.
But restrictions still apply -- particularly on in-house assets and acquiring certain assets from a party related to the SMSF.
Tax Commissioner Michael D'Ascenzo says the tax office is not concerned about all limited recourse borrowings by SMSFs.
"We are concerned where borrowings feature non-commercial interest rates, or where there is capitalisation of interest, or where members provide personal guarantees secured beyond charges over the asset purchased," D'Ascenzo says.
Trustees are also reminded that the limited recourse borrowing arrangement does not apply to existing SMSF assets. Instalment warrant investments by way of "shareholder application' or "cash extraction' arrangements are still not allowed.
If trustees are concerned about their limited recourse borrowing arrangements they should obtain their own independent advice or seek guidance on the superannuation regulatory issues from the tax office.
The tax office has also published instalment warrants and super funds -- questions and answers to assist trustees and members of SMSFs. It is available at www.ato.gov.au.
Taxpayer alerts are intended as an "early warning" to taxpayers, SMSF trustees and their advisers of significant tax planning arrangements and/or superannuation regulatory issues that the tax office has under risk assessment.
What is an instalment warrant?
Traditionally, an instalment warrant is a marketed investment product that enables the investor to acquire an asset, normally listed securities. This is achieved through the investor paying an initial instalment, together with borrowing money to fund the remaining amount required to acquire the asset. The borrowing is repaid by the investor making further instalment payments.
The investor obtains an interest in the underlying asset that provides an entitlement to the income from the asset (eg dividends, in the case of shares). The investor's interest in the asset is provided as security for the borrowing the investor has made. In the event that the investor defaults on the borrowing, the lender may only have recourse to the asset acquired. The lender has no recourse to any other asset of the investor.
Where the underlying asset is a listed security, the warrant itself is often tradable on a stock exchange. A tradable warrant derives its value from the value of the underlying asset.
Why has the law changed?
Previously, super funds had been allowed to invest in instalment warrants, consistent with longstanding administrative practice. More recently, the tax office and APRA concluded that instalment warrant products involve a borrowing and as such were not an allowable investment. The tax office also considered that an investment by a super fund in the security trust holding the acquired asset is an in-house asset. The Government subsequently announced it would legislate to allow the longstanding practice of super funds investing in instalment warrants. From September 24, 2007, changes to the law mean that super funds can, providing that certain requirements are strictly met, invest in some instalment warrants or enter into a similarly structured and complying arrangements involving borrowing money to acquire a permitted asset. Arrangements must meet the conditions stipulated by law.
Do the new rules apply only to Self-Managed Superannuation Funds (SMSFs)? No. The new laws apply to all regulated funds, not just SMSFs.
Is it only marketed instalment warrant products that are allowable under the new laws?
No. The new laws are not limited to only allowing traditional tradable instalment warrant products as a means of super fund borrowing money to acquire an asset.
Such a borrowing may be permitted under any "instalment-warrant-type arrangement" that is structured and carried out in a way such that it satisfies all of the requirements of the new law.
Is it only instalment warrant investments over listed securities that are allowable under the new laws?
No. The new laws are not limited to investments in instalment warrants traditionally offered by financial institutions where the underlying asset is listed securities. Other arrangements or products may also be allowed if they satisfy all of the requirements of the new law.
What conditions must be met for a borrowing to be allowable?
Under the new law a super fund is not prohibited from borrowing money, or maintaining a borrowing of money, providing the arrangement entered into satisfies certain conditions, including: the borrowed monies are used to acquire an asset which the fund is not otherwise prohibited from acquiring; and the asset acquired (or a replacement asset) is held on trust so that the fund receives a beneficial interest in the asset.
