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Setting related-party loan interest rates difficult

While the Australian Taxation Office (ATO) is revising its treatment of zero interest related-party loans, determining an appropriate rate of interest for these types of borrowings is not going to be a simple process, according to an SMSF technical expert.

“If you’ve got clients with limited recourse borrowing arrangements (LRBA) involving related parties, one of the questions is what is the interest rate that is appropriate and can we benchmark an interest rate?” Multiport technical services director Philip La Greca said.

“We’ve always had this issue because one of the problems is if these borrowing arrangements have been financed using back-to-back loans, which is not unusual where a client borrows from a bank using other assets as a security and then on lends to the fund, should that rate match?

“Well the question has to be are the terms and condition of those two loans the same? So what is the appropriate rate?”

La Greca said a recent piece of correspondence issued by the Australian Prudential Regulation Authority (APRA) highlighted the complexity of the issue.

“APRA sent out a letter to all approved deposit-taking institutions and it basically said because of the nature of these limited recourse borrowing arrangements for self-managed super funds, you cannot as lenders treat them for capital purposes the same as home loan rates.

“So that’s one of the reasons why the terms [for LRBAs] are not the same as home loans. While they might charge the same interest, this is why they don’t have the same conditions.

“There is no simple answer for the appropriate interest rate to charge on related-party lending, but it is definitely an issue you should be talking to your clients about.”

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