A recent letter to the banks from the regulator, APRA, saw the financial media light up with doom and gloom about borrowing by self-managed super funds (SMSFs). ‘APRA warns banks on loans to SMSFs’ was a typical example.
Except that APRA didn’t. It was a classic media beat up. APRA’s letter, a clarification of how SMSF loans should be treated for regulatory capital purposes, simply advised they wouldn’t get the more generous treatment applied to normal home loans.
Despite APRA stating that SMSF loans may have a ‘potentially higher loss profile’ I doubt the letter was a shock to the banks and it wasn’t much of a warning. APRA themselves pointed out that it was the banks’ job to assess the risk of their lending.
If you’re borrowing in your SMSF you don’t need to stress about APRA raining on your parade. But there are a few issues you should consider.
Firstly, there’s the Cooper Review into superannuation, which suggested that SMSF borrowing be reviewed. If the practice was to be banned or limited going forward, the banks might seek to exit the business, pushing interest rates upwards and making refinancing virtually impossible.
Relying on the banks to keep your investment makes you a captive client. As Australian car dealers discovered during the GFC, being captive to lenders who decide to leave the market is a very ugly place to be.
If you are going to borrow in your SMSF make sure you have a way to refinance the loan if your bank wants out. You don’t want to become a forced seller in a buyers’ market.
Next up, there’s the ATO. They recently warned (Taxpayer Alert TA 2012/7) about lax implementation of property borrowing arrangements and the potential penalties to SMSFs.
When a SMSF borrows to buy property it’s a lot more complicated than a standard home purchase. For instance, the trustee of the holding trust (a requirement of these arrangements) needs to enter into the sale contract. It’s not as simple as bidding at a weekend auction in your own name and doing the formalities down the track.
If you’re undertaking a property borrowing arrangement you must follow the rules to the letter. Otherwise the ATO has said you will get whacked.
Finally, there’s the property market generally. Buying assets at all-time high prices and historically low interest rates hasn’t tended to be the best investment strategy. There will always be individual opportunities in such an opaque and inefficient market, but the average investor should question whether they want to punt their retirement on property.
I’m not in the ‘impending house price crash’ camp but, over the medium term, significant price falls are a possibility. Everything hinges on the level of unemployment, which the average Australian is already exposed to.
If losing your job would leave you struggling to pay your mortgage, think twice before exposing your super to the same risks. For most investors it’s not worth it.
Of course, if you don’t want to worry about future rules and regulations, ATO crackdowns or lack of diversification, there’s an easy solution. Keep your SMSF debt free.
Richard Livingston is the managing director of Intelligent Investor Super Advisor, an online service providing SMSF and investing advice. This article contains general investment advice only (under AFSL 282288).