By Domenic Festa (Accredited Tax Specialist and Chartered Tax Adviser)
The 2016 Federal Budget proposed the most significant reform to superannuation since 2007.
Much of the legislation for the implementation of that reform has been implemented with the passing of the Treasury Laws Amendment (Fair and Sustainable Superannuation) Act 2016.
Many of the changes included in the legislation will be obvious: pension exemption limit of $1.6 million, changes in contribution caps, removal of anti-detriment deductions, changes in thresholds, etc.
However, some of the changes included are not so obvious, which create traps for the unwary, but more importantly, provide opportunities to add value.
The not so obvious:
- Transfer Balance Cap:
- Where a member exceeds their transfer balance cap, the member or superannuation fund is not automatically required to reduce that balance, but the member is liable for excess transfer balance tax. Rather, the balance only needs to be reduced if the Commissioner gives a determination (Section 136-10).
- An excess transfer balance is subject to additional tax on excess transfer balance earnings at the rate of 15% if it is the first time an excess balance has arisen in the member’s account, and 30% for a later year commencing after 1 July 2019 when there is an excess balance (Section 294-230 (2) and Section 5 of the Superannuation (Excess Transfer Balance Tax) Imposition Act 2016).
- Excess transfer balance earnings are not actual earnings, but rather notional earnings based on the GIC rate (Section 294-235).
- A child receiving a pension as a result of the death of a person, has a separate transfer balance cap (Sections 294-180 and 294-185) in the following circumstances (including the relevant cap amount): the child pension is attributable to a pension being received by the deceased immediately prior to death (value of the transfer balance credit), the deceased did not have a transfer balance account at the time of death (share of the deceased’s transfer balance cap), or the child was in receipt of the pension prior to 1 July 2017 (general transfer cap) (Sections 294-190 to 294-200).
- Life insurance proceeds are not taken into account in determining the child’s separate cap (Section 294-200 (7)).
- The higher transitional cap of $1.7 million only applies if the excess balance is reduced before 1 January 2018.
- Lifetime pensions and pre-2017 life expectancy and market linked pensions (capped defined benefit income streams) with a special value in excess of the transfer balance cap will cause an increase in the transfer balance cap to the amount of that special value. This will have the effect that there is not an excess transfer balance if the only pensions held are capped defined benefit income streams (Sections 294-130, 294-135 and 294-140).
- Although capped defined benefit income streams that exceed the transfer balance cap can be maintained and the full amount eligible for the pension exemption, where the recipient is entitled to the over age 60 exemption or the death benefit dependent exemption, 50% of the excess amount is included in assessable income of the member and tax offsets for untaxed elements are reduced by 10% of the excess (Sections 303-2 and 303-3). The excess amount is the amount of benefits from capped defined benefit income streams (definition of defined benefit income in Section 303-2 (2)) that exceed 1/16 of the general transfer cap (Section 303-4).
- Cost Base Upgrade:
- Election is required to obtain the upgrade.
- For assets that were held as segregated pension assets on 9 November 2016 [date Bill was introduced], if the asset ceases to be a segregated current pension asset before 1 July 2017 and is not sold before 1 July 2017 (Section 294-110 of ITAA(TP) 1997). The asset may subsequently satisfy the pension exemption under the proportionate method.
- For assets using the proportionate method, there is a deemed sale and repurchase which will trigger a notional gain to the extent of the nonexempt portion (Section 294-115 of TP). The notional gain is calculated without regard to capital losses but may take into account the CGT discount if eligible. Tax on the notional gain is deferred until a subsequent realisation event (294-120 of TP).
- Non-concessional cap:
- The reduction in the transitional bring forward caps to $460,000 and $380,000 only applies if the total amount of contribution for the three-year bring forward is not made prior to 1 July 2017 (Section 292-85 (3) of TP).
- Non-concessional cap bring forward rule – If you do not make the full contribution for the bring forward rule in the first year, earnings may disqualify you from making additional contributions in the second or third years (Sections 292-85 (6)(a)(i) and 292-85 (7)(a)(i)).
- Non-concessional contributions cannot be made if your total superannuation balance equals or exceeds your transfer cap (commencing at $1.6 million). With proper planning this will allow an actual cap of just short of $1.7 million for non-concessional contributions.
- Pension Exemption: SMSF’s (and all funds with fewer than five members) are not able to segregate assets for the pension exemption where any member in the retirement phase has a total superannuation balance exceeding $1.6 million (Sections 295-385(7) and 295-387). The $1.6 million threshold is not subject to indexation.
- Superannuation death benefits, including lump sums that are paid to a person eligible to receive a death benefit pension, may be rolled over without being subject to contribution limits (amendment to Section 306-10 and draft regulation 306-10).
- The transfer balance cap depends on the concepts of retirement phase recipient and income streams in the retirement phase. Retirement phase recipient is simply a person in receipt of an income stream in the retirement phase (Sections 294-15 and 294-20).
- Income streams in the retirement phase are superannuation income streams other than transition to retirement, non-commutable allocated annuities, non-commutable allocated pensions, or a superannuation income stream nominated in a release authority by the Commissioner where the provider does not pay a lump sum within the required 60 day period (Section 307-80).
- There is a maximum cap of $1.6 million per taxpayer that is eligible for the pension exemption. It is not possible to avoid the cap by splitting the superannuation balance over several superannuation funds (Sections 294-30 and 294-35). There is a higher transitional cap of $1.7 million until 1 January 2018.
- On commencing a pension, each taxpayer is given a transfer balance account which is used to calculate whether the taxpayer exceeds the transfer balance cap. The account is administered through a system of debits and credits (Section 294-15).
- Once you commence a pension, you continue to have a transfer balance account even if that pension ceases (which may result in your transfer balance reducing back to nil). You only cease to have a transfer balance account when you die (Section 294-45).
- Credits arise when there is an amount in pension phase on or after 1 July 2017, and for excess transfer balance earnings before the Commissioner issues an excess transfer balance determination (Section 294-25).
- Debits arise for commutations, structured settlement contributions, a reduction in value of the superannuation interest resulting from the provider suffering a loss due to fraud or dishonesty, clawback of contributions under the Bankruptcy Act, pensions that are subject to a Family Law payments split, a pension that stops being in retirement phase, and if the Commissioner gives a notice under section 136-70 in relation to a non-commutable excess transfer balance (Sections 294-80, 294-85 and 294-90).
- The transfer balance cap is indexed with inflation. After you commence a pension and start to have a transfer balance account, the indexation is limited to your unused portion (Section 294-40).
- The unused portion is based on the balance in the prior year, ignoring any reductions that occurred in that prior year (that is, it uses your highest transfer balance and lowest unused percentage in the prior year) (Section 294-40 (2)).
- GIC is payable where excess transfer balance tax is not paid by the due date (Section 294-250; due date – Sections 294-240 and 294-245).
- If the ATO gives an excess transfer balance determination, the member may reduce their balance or nominate the particular income stream that is to be reduced within 60 days of the notice (Sections 136-20 and 136-25). If the member fails to do so, the ATO can issue a commutation authority to any superannuation income stream provider which is then subject to an obligation to commute the income stream in an amount calculated by the ATO to remove the excess balance (Section 136-10 and Subdivision 136-B).
- A provider must comply with a commutation authority within 60 days (Section 136-80). A provider need not comply with a commutation authority if the income stream is a capped defined benefit income stream (for SMSF’s pre-2017 lifetime pensions and market linked pensions) (Section 136-80).
- Thresholds for additional tax on contributions for high income earners are reduced to $250,000 (Section 293-10).
- Amendments to the superannuation guarantee legislation so that super guarantee contributions cannot cause excess concessional contributions (Section 15 of the Guarantee Act).
- Non-concessional contributions cap is reduced to $100,000 per annum (Section 292-85(2)).
- The three-year bring forward is not available if your total superannuation balance at the end of the prior year, plus the non-concessional cap (starting at $100,000- subject to indexation), equals or exceeds the general transfer cap (Section 292-85 (3)). In addition, the bring forward is limited to 2 years if the difference is less than double the non-concessional cap (Section 292-85 (4)).
- Section 292-465(10) introduces objection rights in respect of a decision of the Commissioner to disregard or reallocate excess non-concessional contributions.
- Government co-contributions are not available if non-concessional contributions exceed the cap or the members total superannuation balance exceeds the general transfer cap (Section 6 of the Co-contribution Act).
- Low income superannuation tax offset reintroduced for taxpayers with adjustable taxable income that does not exceed $37,000 (Section 12C of Co-Contribution Act). The offset is 15% of concessional contributions up to a maximum of $500.
- The 10% rule for deductions of personal superannuation contributions does not apply from the 2017/18 income year (Section 290-160).
- Five-year catch up of concessional contributions from 1 July 2019 (Section 291-20 (4)), provided your total superannuation balance at the end of the prior year is less than $500,000.
- Income threshold for spouse contributions increases to $40,000 (Section 290-230 (2) (c)), but is removed if the spouse exceeds the non-concessional contributions cap for the year or the spouse’s total superannuation balance is not less than the general transfer cap.
- The pension exemption is removed for transition to retirement pensions, non-commutable allocated pensions, and the segregation of assets is not permitted for SMSF’s where a member in the retirement phase has a total superannuation balance (whether or not in the SMSF) exceeding $1.6 million (not subject to indexation) (Sections 295-385 and 295-387).
- The ability to treat a pension payment as subject to the low rate cap for lump sums will be removed but commutations of pensions will be eligible for the low rate cap (Section 307-65 (2)).
- Repeal of anti-detriment provisions (Schedule 9) in respect of people that die after 1 July 2017, or payments made after 1 July 2019 as a result of a person dying prior to 1 July 2017.
- Some harmonisation of the rules applying to release authorities.
The changes included in this phase of superannuation reform are quite extensive. Expert advice will be required to negotiate the changes and its impact upon clients.
A number of aspects will require decisions to be made prior to 1 July 2017 and through the transitional phase of these reforms which may extend until 1 July 2019. Our superannuation specialist is well abreast of the changes and keen to assist you in negotiating its impact on your clients.
NOTE: This article is for general information only and should not be relied upon without first seeking advice from one of our specialist solicitors.