By Mark Ellem
When a member commences a pension, payments received by the member are taxed as superannuation income stream payments under the Tax Act. For those aged at least 60 at the time of the pension payment, there will be no tax applicable to the payment. However, for those under age 60 (at the time of receiving the pension payment) the taxable portion of the pension payment will be assessable income and taxed at their marginal tax rate (MTR), plus applicable levies, e.g. 2% medicare levy, less a 15% tax offset.
However, the payment made from the pension can be treated as a lump sum for income tax purposes. Under the Tax Act (and associated regulations) pensions are referred to as ‘superannuation income streams’ and under regulation 995-1.03 a pension payment can be taxed as a lump sum where the taxpayer, who receives the payment, elects the payment not to be treated as a ‘superannuation income stream’ payment. As a consequence of this election the payment will be a lump sum benefit payment and taxed as such. An important requirement of this election is that it must be made prior to the receipt of the payment. An election dated after the taxpayer receives the payment will have no effect on the tax treatment.
From the superannuation fund’s perspective, the payment is still a payment from the member’s pension account, however, it will be treated as a partial commutation of the pension. We will see what effect this has for the fund later in this article.
So let’s have a look at the effect of this strategy on Oscar, who at age 57 (attained in June 2014) retired from the workforce in June 2014 and commenced an account based pension from his fund on 1 July 2014. His account balance at the time was $950,000, split 70% taxable component and 30% tax free component.
Oscar’s minimum pension for 2014/15 is $38,000, being 4% of his account balance as at 1 July 2014, which was also the commencement date for his pension. If Oscar had commenced his pension part way through the income year then the minimum pension would need to be pro-rated (except if commenced on or after 1 June, then the minimum pension is zero (0)). Oscar elects to take the minimum pension for 2014/15 as he also receives a $50,000 fully franked dividend from shares he holds in a private company.
Where the payment from the fund is treated as a superannuation income stream payment (pension), Oscar’s personal tax situation would be as follows:
The tax on Oscar’s taxable income is calculated as follows:
However, if prior to receiving the $38,000 from the superannuation fund, Oscar elected for it not to be treated as a ‘superannuation income stream’ payment, that is, it would be treated as a lump sum benefit payment (Oscar has not previously taken any lump sum benefit payments), then his income and tax position would be as follows:
* below 2014/15 low rate cap of $185,000
By Oscar electing to have payments from his account based pension treated as a lumpsum for income tax purposes, rather than a superannuation income stream benefit (pension) he has improved is net cash position by $5,999. If this is typical of his assessable income each year, then he can repeat this strategy for each income year until he turns 60, a total potential saving, using current tax rates, of $17,997 (being three income years of pension payments whilst under 60 – assuming he receives all pension payments in 2016/17 before his 60th birthday in June 2017). At June 2017, Oscar would have used less than $100,000 of his lifetime low rate lump sum cap, assuming minimum pension payments, consequently this provides scope to increase payments made to him from his account based pension prior to attaining age 60.
But what about the requirement to ensure that the fund pays the minimum pension each income year? Whilst the payments from Oscar’s account based pension are treated by the fund as partial commutations (lump sums), as they are in fact paid from his account based pension they count towards the minimum pension payment requirement. This has been confirmed by the ATO in their SMSF Determination SMSFD 2013/2. Consequently, as the fund has satisfied the requirement to pay a minimum pension, it can claim exempt current pension income (ECPI) in the fund’s annual tax return.
It is the view of the ATO and APRA that a pension payment must be a cash payment and cannot be made in kind. This has, in the past, ruled out making in-specie pension payments. However, with the above strategy of taking lump sum benefit payments as partial commutations and that the partial commutation counts towards the minimum pension payment requirement, an in-specie transfer of fund assets to a member can effectively be recorded as a payment from a pension account. This can also be used for a pension member aged 60 and over, with still no personal tax levied on the amount of the lump sum benefit payment.
Of course a transfer of a fund asset is a CGT event and the question is whether any capital gain from the disposal is assessable to the fund. Previously there were concerns that the ATO may deem the pension as ceased just prior to the disposal resulting in any capital gain being fully assessable to the fund, particularly where the fund asset was a segregated pension asset. However, this has now been clarified with the ATO confirming on their website, as part of a Q&A session, that any capital gain derived, after an in-specie transfer of a fund asset as part of a partial commutation of a pension, is eligible to be claimed as exempt current pension income. The reasoning for this is that a pension does not cease when a partial commutation is made, which aligns with the ruling TR 2015/3. However, the extent of the exemption will depend upon whether the fund is using the segregated or unsegregated method for claiming ECPI.
It should be noted, however, that the same treatment does not apply where there is a full commutation of the pension. The comments on the ATO’s website, which again align with TR 2013/5, are that where there is a full commutation of a pension, the pension ceases just prior to the CGT event, being the in-specie transfer. Consequently any capital gain on disposal is assessable to the fund. Again, the extent of gain assessable to the fund will depend on whether the unsegregated or segregated method has been used to claim ECPI.
The link below will take you to the ATO comments on their website:
Link to Pension Q&A on ATO website
In short yes, but to quote a lawyer colleague of mine, “it depends”.
When SMSFD 2013/2 was issued in relation to the partial commutation of an account based pension and whether a partial commutation would count towards the minimum pension, it was stated at item 11 of the determination that “This Determination does not apply to an account based pension that is a 'transition to retirement income stream' (as defined in paragraph (b) of the definition of transition to retirement income stream in subregulation 6.01(2) of the SISR 1994)”. My view was that this comment was made under the assumption that a Transition to Retirement Pension would only be commenced on benefits that were 100% preserved and as we know, preserved benefits can only be cashed as a lump sum when the member meets a condition of release with a nil cashing restriction.
However, the ATO issued in 2014 a further determination, SMSFD 2014/1, which looked at whether a partial commutation could be taken from a Transition to Retirement Pension or Transition to Retirement Income Stream (TRIS). The answer is yes, provided that the TRIS has unrestricted non-preserved (URNP) benefits as least equal to the amount of the partial commutation. The example provided in the determination is as follows:
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Sheldon, who is not and never was a temporary resident, has satisfied condition of release item 110 (attaining preservation age) in Schedule 1 to the SIS Regulations and is receiving an account based pension that is a transition to retirement income stream from an SMSF of which he is a member. The income stream commenced in the 2010-11 financial year. On 1 July 2013, the account balance of Sheldon's transition to retirement income stream was $300,000. The minimum annual amount required to be paid from the pension account under paragraph 1.06(9A)(a) of, and Schedule 7 to, the SIS Regulations to Sheldon (who is under 65 years) for the 2013-14 financial year was $12,000. On 1 May 2014 Sheldon requested, in accordance with the governing rules of the fund, to partially commute his account based pension to the extent of $20,000 and have paid to him the $20,000 as a result. Sheldon had not then satisfied another condition of release and had not then received any payments from the transition to retirement income stream in the 2013-14 financial year. The partial commutation was not for one of the purposes mentioned in subparagraph 6.01AB(1)(b)(iii) or paragraph 6.01AB(2)(b), (c) or (d) of the SIS Regulations, but the $20,000 was permitted to be paid to Sheldon as an unrestricted non-preserved benefit because the amount of Sheldon's unrestricted non-preserved benefits when the commutation took effect was $25,000. The $20,000 partial commutation payment was paid accordingly to Sheldon on 3 May 2014 as an unrestricted non-preserved benefit. The partial commutation payment counted towards the minimum annual amount required to be paid from the pension account under paragraph 1.06(9A)(a) of the SIS Regulations. As $20,000 exceeded the minimum annual amount for the income stream for the 2013-14 financial year, the trustee did not need to pay any further amount to Sheldon for the income stream in that year. Subsequently in the 2013-14 financial year, Sheldon advised the trustee that he still wished to be paid $15,000 as an income payment from the income stream before 30 June 2014. That payment was made on 3 June 2014. As the partial commutation payment occurred after 15 February 2008, the $20,000 payment does not count towards the maximum annual amount allowed to be paid from the pension account under subparagraph (b)(ii) of the definition of 'transition to retirement income stream' in subregulation 6.01(2) of the SIS Regulations. Even though a total of $35,000 was paid to Sheldon in the 2013-14 financial year, the trustee did not exceed the maximum annual amount for the income stream for that year of $30,000 (being 10% of $300,000). |
The take outs from this determination and example are:
SuperMate provides a commutation wizard that allows you to process a commutation from a member’s pension account. This wizard can be used for a partial or full commutation of a pension and also includes the option to transfer fund assets in-specie to the member as part of the commutation. It can also be used when commuting an account based pension or a TRIS. For a TRIS the wizard will restrict the amount of commutation (as a lump sum benefit payment to a member) to the amount of URNP benefits available.
Where the member is under age 60, SuperMate will make the applicable PAYG withholding calculations and generate the relevant PAYG forms.
Prior to processing a commutation, please ensure that:
Further, for a full commutation, please ensure that the required pro-rata minimum pension has been paid prior to the full commutation of the pension.
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