Stocks Special Reports LICs Credit Technical Analysis Funds ETFs Tools SMSFs
Learn
Video Archive Article Archive
News Stocks Special Reports Funds ETFs Features Technical Analysis SMSFs Learn
About

News

How SMSFs should plan for $1.6m pension cap

Accurium  |  06 Jan 2017Text size  Decrease  Increase  |  

Page 1 of 1

For those likely to have super balances at or over $1.6 million by 1 July 2017, it's important to understand the rules and plan well before next financial year.

 

Much has been written about the government's superannuation changes, in particular the $1.6-million cap on the transfer into the tax-free retirement phase.

The legislation shows how the government wants the cap to work in practice and highlights what SMSF trustees should be aware of ahead of its introduction on 1 July 2017.

The transfer balance cap in brief

Under the legislation, if you don't already have a pension account, you can transfer a maximum of $1.6 million from your accumulation accounts into the pension phase once you choose to retire. This applies as a total across all your super accounts and not per fund.

There will continue to be no limit on the amount you can hold in an accumulation account that is taxed concessionally at 15 per cent, regardless of your age.

Everyone starts 1 July 2017 with a transfer balance cap of $1.6 million. As monies are transferred into the pension phase, those amounts will apply against this cap. Your transfer balance will be indexed proportionately each year in line with the overall transfer balance cap.

For the purposes of the cap, defined benefit pension interests will be valued based on special rules outlined in the draft legislation. For most defined benefit pensions, this is expected to be the annual payment multiplied by a factor of 16.

If you already have a pension account at the start date, you will need to determine the total value of your pension interests and assess this against the transfer balance cap.

If the balance is less than $1.6 million, you can use any remaining cap to transfer more capital into the pension phase in the future.

If the value of your pension interests is greater than $1.6 million at the start date you are required to withdraw the excess either by rolling back to accumulation phase or withdrawing the excess from superannuation, or a combination of both.

After 1 July 2017, pension balances in excess of the cap can be subject to an excess transfer balance tax. This will initially be the 15 per cent tax that should have been paid on earnings had the money been in the accumulation phase, but based on notional rather than actual earnings.

The penalties become more punitive if you do not rectify them in good time.

Transitional arrangements

The legislation recognises that commuting exactly the right amount to bring your pension balance under the cap immediately on 1 July 2017 may be difficult. As such, there is a grace period where amounts of up to $100,000 over the cap will not incur the excess transfer balance tax provided the breach is rectified within six months.

This doesn't give a lot of time for trustees to finalise their 2017 accounts to determine their 30 June 2017 pension balances.

Relatively generous transitional arrangements regarding capital gains tax means much of the panic over realising significant gains ahead of the new regime is likely to be unwarranted. In effect, the provisions allow SMSF trustees to reset their cost base on assets currently supporting pensions on 1 July 2017.

This means that funds will not have to pay capital gains tax on capital gains made on these assets prior to the start date should they have to roll them back to accumulation phase to meet the new cap.

Planning ahead

Where SMSF trustees have pension phase assets greater than $1.6 million, they will effectively have two choices:

• Commute the excess from pension back to accumulation phase, keeping the assets in the fund but now subject to a 15 per cent tax rate on earnings; or

• Withdraw the excess from superannuation and invest it outside of super where earnings will be taxed at the individual's marginal tax rate (or alternative tax arrangement).

The tricky aspect of this decision is that once you withdraw the money from super there may be very limited capacity, if any at all, to get the money back in. This will often be an irreversible decision.

From a tax perspective it looks relatively easy to assess whether you will be better off having these excess assets in super paying 15 per cent on earnings versus outside of super at your marginal tax rate. However, offsets available to pensioners can often make your effective tax rate lower than your marginal rate.

The gradual withdrawal of these offsets can also make your marginal tax rate significantly higher for certain income bands. To further complicate the decision, what is better today may not be better down the track depending on investment performance, spending decisions and legislative changes.

Trustees will need to weigh up their options and make a choice before the start date.

If the decision is to keep assets in superannuation, which for those on the highest marginal tax bands may be reasonable, then it will be useful to reassess this regularly and move assets outside super if non-superannuation assets decrease and there is capacity within the generous personal tax offsets to accommodate greater income without paying additional tax.

Placing assets in accumulation versus pension

Many SMSF trustees will be thinking about which assets to place in accumulation and which in pension to obtain the best tax outcome. However, it will make little or no difference.

Where an SMSF has a member with super assets in excess of the cap (in any super fund), the SMSF will not be able to segregate assets for tax purposes. This means that all the fund's assets are assumed to be held in one unsegregated pool.

An actuarial certificate will be needed to determine what proportion of all fund earnings is tax-exempt and what proportion is subject to 15 per cent tax.

The government has introduced this new measure to stop funds from cycling assets between segregated pools for each phase to avoid capital gains tax.

It's worth noting that trustees can still notionally allocate different assets to different members or accounts if they want to adopt different investment strategies.

Conclusion

For those likely to have super balances at or over $1.6 million by 1 July 2017, there is plenty to think about, and it's important to understand the rules and plan well before next financial year.

More from Morningstar

• Investors demand more transparency and efficiency

• Can your SMSF buy your business?

 

This article was provided by Accurium and was first published on cuffelinks.com.au. This is a financial news article to be used for non-commercial purposes and is not intended to provide financial advice of any kind. Opinions expressed herein are subject to change without notice and may differ or be contrary to the opinions or recommendations of Morningstar as a result of using different assumptions and criteria.

© 2016 Morningstar, Inc. All rights reserved. Neither Morningstar, its affiliates, nor the content providers guarantee the data or content contained herein to be accurate, complete or timely nor will they have any liability for its use or distribution. This information is to be used for personal, non-commercial purposes only. No reproduction is permitted without the prior written consent of Morningstar. Any general advice or 'class service' have been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), or its Authorised Representatives, and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. Please refer to our Financial Services Guide (FSG) for more information at www.morningstar.com.au/s/fsg.pdf. Our publications, ratings and products should be viewed as an additional investment resource, not as your sole source of information. Past performance does not necessarily indicate a financial product's future performance. To obtain advice tailored to your situation, contact a licensed financial adviser. Some material is copyright and published under licence from ASX Operations Pty Ltd ACN 004 523 782 ("ASXO"). The article is current as at date of publication.