How to Take Advantage of Non-Recourse Loans and Trusts
Australians who want to invest in commercial real estate properties can take out non-recourse loans. Most people aren’t aware that they can take out such a loan in the country. Perhaps it’s because mortgages in Australia are all recourse. Since commercial lenders don’t have to comply with the same regulations as residential lenders, they are free to offer non-recourse loans to whomever they see fit. If one knows how to take advantage of their non-recourse loans, the investment will be worthwhile.
What Is a Non-Recourse Loan?
Non-recourse loans tend to be more advantageous to borrowers than to lenders. That’s because this type of loan enables them to borrow the necessary funds for business reasons without making them liable to pay back the mortgage if they ever choose to default the loan later on.
In a regular commercial loan, lenders have the capacity to liquidate the assets if it defaults. The same applies when the commercial assets don’t generate enough funds and the borrower can’t repay the debt. Lenders will be able to turn to seize the borrower’s residential property and sell it to mitigate the losses.
Let’s say a borrower purchased a property for $500,000. Due to changes in the market, the asset got revalued at $400,000. That means the loan defaults, and the borrower owes the lender $100,000. This gives the lender the power to go after other assets to cover the dues.
However, lenders won’t be able to do any of that in a non-recourse loan. In other words, the borrower’s personal assets won’t be at risk if they can’t pay their debt.
Limited Recourse Borrowing Arrangements
LRBAs are non-recourse loans. A self-managed super funds trustee (SMSF) can take out such a loan to purchase an asset, which is going to be held in a trust. The trustee receives any investment returns generated by the asset. If the loan defaults, the lender can only seize the assets held in that separate trust. They won’t be able to go after the SMSF’s other assets.
Prior to 2007, SMSF trustees weren’t allowed to borrow money to purchase property. Thanks to recent legislation, they are now permitted to invest in property as long as the loans are written as LRBAs. Limiting the lender’s recourse gives more protection to the SMSF assets.
Take note that any asset held in the same trust will be at risk. If borrowers want to purchase multiple properties, the smart thing to do would be to set up different trusts for each asset. This protects the rest of the SMSF trustee’s assets in the superannuation fund like shares and cash. The lender won’t be able to go after those if the loan defaults.
The best thing about this strategy is that it can be applied to other assets outside of superannuation.
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