“While an LRBA can be used to acquire a property, the legislation doesn’t permit the use of any further borrowings for development purposes, which can also change the nature of that single acquirable asset,” she said.

“Even though there’s no restrictions on obtaining money from other sources to develop that property, where that development fundamentally changes the character of the property, which is typically the case with property development, the fund is going to fail the LRBA requirements by ceasing to be that same acquirable asset.”

She said an example is where there is a single property that is purchased through an LRBA on a large block of land, which gets knocked down to build a set of units.

“All of a sudden section 67 A and B are breached and it may also give rise to NALI provisions as well depending on the circumstances of how that property development was worked out,” she said.

She said it should be noted that this does not apply to an SMSF using an LRBA to acquire shares or units in a company or unit trust that has been used to develop that property.

“The reason for this is that the single acquirable asset is the shares or the units and there’s no concern that the use of those borrowed funds is going to improve or fundamentally change the nature of the assets, which is the shares,” she said.

The regulations state that the acquirable asset must be allowed under SIS, which means the trustee has to ensure that the property development entity isn’t a related party or trust.

“If it is, the investment has to be acquired at market value and it has to be covered by one of the in-house assets exceptions, or the acquisition of that asset is at market value and wouldn’t result in the fund exceeding that five per cent limit on in-house assets,” she said.

“Given the value of property in funds, that’s usually the exception rather than the rule, so where there’s an LRBA over shares or units and an event causes that five per cent in-house asset exemption to cease, such as not purchasing those units or shares at market value, the fund is also going to be in breach of section 67.

“The reason for that is while the nature of the asset won’t change, the shares weren’t purchased at market value and are no longer considered to be a single acquirable asset.”

Ms Banton said it is also important to think about where those units or shares are being funded by a related party LRBA because the trustees can’t rely on the safe harbour terms in PCG 2016/5 because that’s used as a benchmark for property and listed shares only - not unlisted shares or units.

“Therefore, the trustee needs to do some homework and demonstrate that LRBA terms are on arm’s length terms by showing that they’ve replicated the terms of a commercial loan, which is available under the same circumstances,” she said.

“It is going to be difficult for the trustee to find that kind of loan, mainly because the lenders go into wanting security over the property but they’re only going to be able to get personal security over the units.

“Trying to get evidence that the LRBA is on commercial terms may be difficult, and it’s also going to be hard to justify if you can’t do that to the ATO.”