The depth of the government’s proposed super changes has left some aspiring and current retirees reeling. Egan Associates summarises some of the expert opinions and questions raised this month.
$25,000 Annual Cap for Concessional Contributions
- Combined with the $500,000 lifetime non-concessional cap, the new rules will drive individuals to start contributing early if they want to reach the $1.6 million tax free cap.
- With the reduced annual concessional cap, those at the maximum contribution base will have limited scope to make additional concessional contributions.
- Some employees may decide that paying insurance premiums in superannuation is no longer worth it given the new limits to contributions.
- It may be advisable to even out balances between spouses’ super accounts to properly make use of the $1.6 million cap by splitting concessional contributions.
- High income earners who became members of defined benefit funds after 2009 will face higher tax burdens on their contributions now that a larger number will be including notional contributions to defined benefit funds in their concessional cap. The change will also limit their ability to salary sacrifice contributions to an accumulation fund.
$500,000 Lifetime Cap to Non-Concessional Contributions
- The new legislation makes it even more important to build a superannuation balance as early as possible. A $500,000 non-concessional contribution will be more beneficial made earlier than later due to compounding and reduced taxation rates.
- Employees must be aware of their non-concessional situation before making new contributions as employers may not know how much has been contributed since 2007.
- It is unclear what will happen to individuals who have already triggered the bring-forward rule but not fully utilised their cap.
- It is possible that small business rollover relief will not be affected by the changes. The relief allows capital proceeds from the sale of an active business asset to be contributed to super without counting to concessional or non-concessional caps (to a cap of $1.395 million.)
- Where most of a couple’s superannuation savings are in one spouse’s name the $500,000 lifetime non-concessional cap will restrict a couple’s ability to equalise their benefits to take full advantage of the transfer balance cap.
- Those seeking to use recontribution strategies for estate planning purposes will have to reconsider given recontributions will count towards the $500,000 non-concessional cap.
- It is unclear how a death benefit from insurance will be treated under the operation of the new $500,000 non concessional cap.
- Kelly O’Dwyer, the Minister for Small Business, has reportedly stated that SMSF trustees who have entered limited recourse borrowing arrangements or loans for property and were relying on non concessional contributions to eliminate a loan balance prior to retirement will receive special consideration under the pending legislation that would allow them to settle the debt despite breaches of the cap.
- The cap may be another disincentive for older Australians to downsize, as they will not be able to put the proceeds into superannuation after they have exhausted their $500,000 cap.
- Non-concessional contributions to defined benefit schemes will count towards the $500,000 lifetime cap. To deal with the fact that federal public service super schemes involve the employee making post tax contributions of between 5% and 10% without choice, these members will be able to remove the same amount from any external accumulation scheme to make up for it. Defined benefit fund members with second private super funds may face a problem if they wish to contribute additional after-tax money to their second fund.
$1.6 million cap
There are two perspectives on the cap. Firstly, that a 15% tax rate is still a low tax rate for many retirees and the best action is to keep money in super. The second perspective is that 15% tax is 15% more than 0% — therefore other tax reduction methods (such as negative gearing) will be preferable to reduce tax as far as possible.
- Exactly when and how the value of assets in the retirement account will be assessed is unclear. Given market movements, it will be difficult to place an exact value on assets. KPMG reportedly believes the government should allow a “trueing up” of the amount after valuation date to ensure the $1.6 million has actually been achieved.
- If only a portion of the $1.6 million cap is used, the amount of the cap that is still available will be calculated using apportionment. Rice Warner uses this example to explain: “If a member has $800,000 in their pension account at 1 July 2016, this is 50% of the pension cap. If the cap is increased by indexation to $1.7m through indexation, they will be entitled to transfer 50% of this amount, namely $850,000 from future accumulation benefits.”
- Retirees should think carefully about which assets they place into the $1.6 million untaxed portion and which are moved to the accumulation account. Growth assets, such as shares and high-yield property could be placed inside the $1.6 million portion, while cash can be placed in the accumulation account in an attempt to minimise tax. (Although in volatile markets this could lead to the $1.6 million pool reducing if investment errors are made.) Alternatively, shares with franking credits could be moved to the accumulation account to reduce the tax paid. Assets with unrealised capital losses could be valuable to reduce tax in the accumulation mode, although it is currently unclear how capital gains and losses will be treated when assets are split into retirement and accumulation portions.
- Some retirees may decide to dispose of assets before they transfer assets into an accumulation fund to allow any capital gains to enjoy the current 0% tax rate on all assets.
- It appears that it will not be necessary to withdraw minimum amounts from the fund that is in accumulation mode. It is unclear whether a pension can be paid from the accumulation account rather than the pension account.
- It may be prudent to use a trust to divide income between members of a super fund to maximise the effect of the tax free threshold.
- Given that each individual has a $1.6 million cap, the new rules may lead to more couples conducting joint planning for retirement, which could have positive effects on the quantum of women’s superannuation.
- Taxation treatment on death is unclear. The changes could result in considerably more taxation at death where the remaining spouse has already reached their cap of $1.6 million.
- The effect of gradual contributions into deferred annuity products on the $1.6 million is unclear.
- The removal of the work test will enable individuals to continue to top up their superannuation even after retirement in the case of, for example, downsizing the family home.
Transition to retirement income streams
Again, there are two perspectives on the transition to retirement income stream changes. First, that the existing rule often wasn’t being used for its original purpose – allowing individuals to reduce their workload yet maintain their standard of living. Those who were using it for this purpose would still use it despite the extra 15% in tax and therefore tightening was justified. Second, that however it was being used, it was enabling a large number of employees on average incomes to increase their superannuation balances and it should therefore remain unchanged.
- The logistics of how super accounts transition from transition to retirement to full retirement are unclear at this point. It was not important previously, because the scheme had the same tax rate for transition to retirement as in pension mode.
- It is also uncertain what occurs if an individual decides to go back to work.
Note: If the Coalition loses the election, the proposals will not be enacted. If they do win the election, legislation has not yet been published and the Coalition government have promised consultation and tweaks, so there may be changes on how elements in the plan announced will operate.