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SMSFs can lend to some relatives

I have always found it odd that SMSF members can have their SMSF trustee provide financial assistance to the members’ cousins and former spouses, just not to other relatives. How is this possible?

Who is a relative?

It’s not clear if it was intended but there is a loophole in the superannuation law. The law prohibits SMSF members from providing financial assistance to members and relatives of the members of an SMSF. However, the definition of a ‘relative’ of a member of an SMSF is a parent, grandparent, brother, sister, uncle, aunt, nephew, niece, lineal descendant or adopted child of the individual or of his or her spouse; or, a spouse of the individual or of any other individual referred previously.

As examples, cousins and former spouses are not mentioned. Therefore, SMSF trustees can provide financial assistance to their cousins and former spouses as long as the terms of financial assistance are at arm’s length and in accordance with their SMSF’s investment strategy. This means the loan should be documented so that it is enforceable by the SMSF trustees should there be a problem and interest at the market rate must be charged on the loan.

You may think that cousins and former spouses are included in the definition of a related party somewhere under the superannuation law. In fact, they are. Cousins and former spouses are included in the section which outlines who an individual can establish an SMSF with. This area of the law states that you can establish an SMSF with a relative. Here, the definition of a ‘relative’ of an SMSF member is a parent, child, grandparent, grandchild, sibling, aunt, uncle, great-aunt, great-uncle, niece, nephew, first cousin or second cousin of the individual or of his or her spouse or former spouse; or, a spouse or former spouse of the individual, or of an individual referred to previously.

As long as none of the members of an SMSF is a child of a cousin or of a former spouse; and, none of the other members of the SMSF is directly related to the cousins such as being the spouse of the cousin or being a parent of the cousins, the SMSF would not be prohibited from providing financial assistance to these people. Otherwise they will fall within the parameters of being a ‘relative’ due to the parent relationship or spousal relationship existing between the two parties.

Always check the related party rules

I love working with the superannuation law, but when an important defining term can include one relationship under one area of the law and exclude it in another, I can understand why many people find it frustrating. These inconsistencies seem odd, and it does make understanding tricky for the average SMSF investor. The important thing to remember here is that it’s always best to talk to an SMSF specialist before proceeding with any related party transactions.

 

Monica Rule is an SMSF specialist and author, see www.monicarule.com.au.

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