What super rules changes mean - Part 2 of 3
Benefits and the $1.6-million cap – SMSFs must be careful.
This is the second in a three-part series on recent changes to superannuation rules and what they mean for investors.
Parliament’s approval of 2016 Federal Budget changes to superannuation means Self-Managed Superannuation Fund (SMSF) trustees can have certainty for the rest of this financial year and beyond in planning for the new limits on contributions and retirement benefits.
Before 30 June 2017
Accessing superannuation: To start accessing benefits in your SMSF you must meet what is called a condition of release allowing you to withdraw superannuation benefits as either a lump sum or pension (also referred to as a superannuation income stream).
The most common full condition of release that allows members to fully access their superannuation savings includes:
- Reaching 65 years of age.
- Reaching preservation age and retiring.
- Ceasing an employment arrangement on or after age 60
Preservation age is that at which you can start to access your super if you are retired. It can differ for each member. The preservation age depends on when you were born and is shown in the table below:
|Date of Birth||Preservation Age|
|Before 1 July 1960||4%|
|1 July 1960 – 30 June 1961||5%|
|1 July 1961 – 30 June 1962||6%|
|1 July 1962 – 30 June 1963||7%|
|1 July 1963 – 30 June 1964||9%|
|From 1 July 1964||11%|
However, if you reach your preservation age and are still working, you are permitted to access your superannuation on a limited basis, called a transition to retirement income stream (TRIS).
These have a maximum withdrawal of 10 per cent of your superannuation balance. Once you reach 65 or retire, the maximum cap ceases as you meet one of the full conditions of release mentioned above.
There are also very limited circumstances where you can access your super early, involving specific medical conditions or severe financial hardship.
Withdrawing superannuation benefits
Now you can access your superannuation benefits, it’s time to withdraw them. There are two main choices: withdraw money as a lump sum or begin a pension. Pensions have the added advantage of providing a tax-free environment for earnings on assets that support them.
Generally, pension accounts are begun at the start of the financial year and involve shifting assets from the accumulation phase to the retirement phase, although you do not actually have to move the assets anywhere – they remain part of your SMSF. This commencement must be documented, with the terms agreed between the SMSF member and trustees, and requires the valuation of assets supporting the pension.
The two main types of pensions are Account Based Pensions (ABPs) for full conditions of release and a TRIS for those who satisfy the limited conditions of release.
The superannuation laws also dictate certain conditions that must be adhered to when you withdraw superannuation balances. A breach of these can result in serious adverse taxation outcomes for your SMSF, so great care must be taken.
One of these requirements is the obligation for members to take the minimum prescribed pension payment based on their pension account balance and their age at either July 1 each year or the day their pension started. The minimum pension factors are shown below:
|Age||Percentage of account balance|
|65 - 74||5%|
|75 - 79||6%|
|80 - 84||7%|
|85 - 89||9%|
|90 - 94||11%|
|95 or more||14%|
Note: Remember that TRIS withdrawals are a maximum of 10 per cent.
In addition, legislation requires that the minimum pension must be paid in cash and in at least one payment each year. To be accepted as an income stream rather than a lump sum, there must be a series of periodic benefit payments to the member over the pension’s life.
If the minimum pension’s standards are not met, the pension must cease and the assets supporting the pension are deemed to not be in retirement phase for the whole of the financial year. Any benefits paid to the member are taken to be lump sum benefits and the earnings from assets supporting a pension will be taxed in your SMSF.
For minor breaches of these rules, the Commissioner of Taxation may exercise discretion to allow the pension to continue rather than be deemed to have ceased.
For taxation on payments, superannuation benefits are made up of two components, a tax-free one and a taxable one. These are allocated during the accumulation phase, where non-concessional contributions are allocated to the tax-free component and concessional contributions and earnings on superannuation assets are allocated to the taxable component.
Upon drawing a pension, the benefits are drawn proportionally and are taxed as follows:
- For under-60s: If you are 55 to 60 when you receive the taxable component of your pension, payments received will be included in your personal assessable income. You will receive a 15 per cent pension offset on the taxable component of these payments. The tax-free component of pensions will also continue to be tax free.
- For over-60s: Once you are 60 or over, all pension payments or lump sums will remain tax free.
Exempt pension income
As well as being able to receive your superannuation benefits, placing your assets into retirement phase is one of the most beneficial taxation environments in the Australian taxation system. All earnings and capital gains on assets that support an income stream are tax free. This is called exempt pension income. In addition, SMSFs are still entitled to a full refund on their franking credits from Australian shares.
Note: On 1 July 2017, a TRIS will not satisfy the requirements as an income stream and will not garner the same taxation benefits as an account-based pension.
There are two methods to calculate your exempt pension income. One is on a segregated asset basis, which is common when all your assets support an income stream. In this case, all income earned is exempt from income tax.
The other method is on an unsegregated or pooled asset basis. This is common when assets support both an income stream and an accumulation account. This scenario occurs when one SMSF member may be in accumulation phase and the other in retirement phase, or when an SMSF member is still contributing while withdrawing a pension.
In these scenarios, the SMSF must acquire an actuarial certificate to determine what proportion of the fund’s earnings are tax-free. The rest of the earnings are taxed at 15 per cent in the accumulation account.
Planning for after 30 June 2017
From 1 July 2017, the Government will introduce a $1.6-million transfer balance cap that will limit how much super you can transfer from your accumulation accounts into tax-free retirement phase accounts to receive pension income.
Planning before this date becomes essential, especially if you currently have a superannuation balance of more than $1.6 million. If you currently have a pension account, it is that balance that will count towards your cap on 1 July 2017. If you start a pension after 1 July 2017, it is the commencement amount that will count towards your cap.
A system of debits and credits recorded by the ATO will track how much of your $1.6-million transfer balance cap you have utilised. The main credits that will increase your transfer balance usage will be the value of assets supporting a pension on 30 June 2017 and the value of any assets supporting a pension commenced on or after 1 July 2017.
Importantly, if your spouse has died and you are receiving a pension from their super as a consequence of their death, this will also count. The main debit that will reduce your transfer balance usage will be commuting, or stopping, your pension account.
Note: SMSF trustees/members should know that if their pension account(s) goes down over time they will not be able to top it up if they have already fully utilised their $1.6-million cap.
Members who have balances above $1.6 million must consider whether they transfer the excess balance back into an accumulation account or withdraw the excess from their superannuation entirely. Either option is open to members in this circumstance. Remember that earnings on income of assets held in an accumulation account are only taxed at 15 per cent.
SMSF trustees must be careful because excess amounts that breach the transfer balance cap will attract an excess tax. Importantly, if on 1 July 2017 you exceed the cap by less than $100,000 and you remove this by 31 December 2017, you will not attract any excess tax.
Approaching 1 July, members may wish to structure their asset holdings to be able to optimise the $1.6-million transfer balance cap, especially between spouses.
Another important consideration is that transition to retirement income streams (TRIS) will no longer count as being in retirement phase and therefore will no longer receive a tax exemption for earnings on assets that support these income streams. This means SMSF members must reconsider their purpose for having a TRIS, such as to supplement income rather than purely for tax purposes.
Finally, the Government has also introduced transitional capital gains tax relief for members that have to restructure their pension accounts due to the legislative changes. This gives members relief on any assets that were tax-free before 1 July 2017 but which have to be moved into a taxable accumulation account from that date.
The benefit of these changes is all-encompassing and trustees/members need essential planning to be undertaken to be ready for their pending introduction. Approaching 1 July, members may wish to structure their asset holdings to be able to optimise the $1.6-million transfer balance cap, especially between spouses. These are complex areas of law, so ensure you see an independent accredited superannuation specialist adviser.
For more information on the latest superannuation changes, along with many other important resources for your SMSF, visit the Trustee Knowledge Centre. Membership of the centre is $99 and is deductible from your SMSF, and provides full access to a library of resources, information, updates and education.
SMSF Calculators provide a range of tools to help determine how much retirement savings you will need and how different investment classes have performed over time.