The changes to the superannuation system in this year’s federal budget have cast uncertainty over many existing retirement savings strategies. Liz Westover works through the major changes and has a look at immediate steps individuals can take to deal with the new rules.
The recent budget announcements have sent waves of anxiety through the superannuation and broader financial services industry. The proposed changes are so fundamental and have such far-reaching effects that no superannuation strategy currently in place can be assumed to be compliant or appropriate.
Australians and their advisers will need to reconsider financial circumstances to review existing strategies, look at opportunities that are now available and rethink concepts that are not.
The real difficulty arises, however, not just because such a great number of changes were announced, but because the government almost immediately went into caretaker mode with an election called for 2 July. As a result, the changes have not been legislated, so many Australians are having to deal with a level of uncertainty over the end of the 2016 financial year.
So what are the opportunities and how should we proceed? Before we consider these actions it is important to note the considerations are general in nature and cannot be considered specific advice.
Contributions
With the concessional contributions cap set to drop to $25,000 a year for everyone from 1 July 2017, where possible people should be making the most of the existing caps for both the 2016 and 2017 financial years ($30,000 for those aged up to 50 and $35,000 for those aged 50 and over).
New provisions were also announced to allow unused caps from 1 July 2017 to be carried forward over rolling five-year periods. Therefore, consider the cash-flow consequences of the introduction of these provisions. Larger contributions leading up to the end of the 2017 financial year rather than the following year will enable the unused cap to be carried forward.
The introduction of a $500,000 lifetime cap for non-concessional contributions may pose problems for some people who were planning to make these after-tax contributions. Anyone whose non-concessional contributions since 1 July 2007 exceed this cap can make no further contributions (of this type). It is expected some ‘carveouts’ may become available for those who have contractual or other obligations that would otherwise be breached without further non-concessional contributions. However, for others, making additional contributions after budget night (7.30pm on 3 May 2016) that cause them to breach the lifetime cap will subject them to existing excess non-concessional tax provisions.
Those who have not exceeded the lifetime cap could consider making up to a $180,000 contribution before 30 June 2016. If the lifetime cap does not come to fruition, the bring-forward provisions will not have been triggered and a further contribution up to $540,000 (where available) could be made the following financial year. If the lifetime cap is introduced, further non-concessional contributions can be made accordingly.
Deductible personal super contributions
The ability for everyone to claim a tax deduction for personal super contributions from 1 July 2017 will largely negate the need for employers to offer salary sacrificing arrangements to employees. However, while it will enable employees to top up super guarantee contributions with greater certainty in the lead-up to the end of the financial year, the ability to make smaller, regular contributions over the payroll cycle may still be desirable. Importantly, where employers use salary sacrificed amounts to satisfy their own super guarantee obligations or pay the super guarantee on the reduced wages after salary sacrificing, employees will be able to make concessional contributions away from their employer.
Anyone claiming a deduction for personal super contributions needs to notify their fund of their intention to do so and the fund needs to acknowledge such notice. This applies to members of both Australian Prudential Regulation Authority-regulated funds and SMSFs. Failure to do so can result in the denial of the tax deduction and a concessional contribution being treated as a non-concessional contribution, which may cause issues where the lifetime cap has already been reached.
Division 293 tax threshold
The threshold at which higher-income earners will pay an additional 15 per cent tax on their concessional contributions will be lowered from $300,000 to $250,000. Newly affected income earners should look to maximise contributions during 2015/16 and 2016/17, while division 293 does not affect them and while contribution caps are higher.
Work test
The ability of those over the age of 65 (up to 75) to make super contributions will need to be reviewed. While previously having to satisfy a work test (40 hours worked over a consecutive 30-day period during the year) in order to contribute, the work test has effectively been removed. Although the announcements stated the work test age had been raised to 74, the reality is super funds are still only able to receive mandatory employer contributions for those aged 75 and over (super guarantee or award payments).
$1.6 million transfer cap to a pension account
This measure places a cap on the amount a person can transfer to a pension account for the purposes of paying an income stream and which will remain eligible for zero tax on earnings. It is a cap applied per person across all super funds of which they are a member.
This amount is a transfer amount only. There are no limitations on how much that account can subsequently hold. If a person was able to grow their $1.6 million pension account through increases in the value of their investments, all future earnings from the increased amount will be tax free. For example, if $1.6 million grew to $2 million (after investment growth and income stream withdrawals), future earnings from the $2 million account would all be tax free (income tax and capital gains tax). Conversely, if the balance were to decrease through investment losses, no further amounts could be transferred to the pension balance to top it back up to $1.6 million.
This cap does not restrict other balances that can be held within the super environment. Earnings from amounts above the $1.6 million cap will continue to be taxed at 15 per cent as per normal accumulation rates.
In the lead-up to the end of the 2017 financial year, it will be prudent for those currently receiving income streams and with balances above $1.6 million to consider the sale of assets with large capital gains. This would ensure the capital gain would be realised while the full super balance was subject to zero tax. As with all investments, consider future growth of the assets rather than just the immediate tax consequences. It may be better to pay some tax on future growth rather than no tax on current prices.
Some people may consider washing cost bases of assets during the next year as well. This would involve the sale of assets before 30 June 2017, realising any gains in a tax-free environment and then buying back the same assets and resetting the cost base so future capital gains are limited (when they may be subject to some tax). The commissioner of taxation has previously issued Taxation Ruling 2008/1 on this strategy, indicating that Part IVA tax avoidance provisions may apply. Caution will need to be exercised.
People with super balances above the transfer cap may consider segregation of assets after 1 July 2017 to isolate particular assets to either the pension or accumulation account. This will ensure assets with large capital growth are directed to the pension account where no capital gains tax will be payable. Where a portfolio is fairly consistent in terms of growth and asset type, it may be easier to use the actuarial method of apportioning earnings for tax purposes.
Contribution splitting between spouses will now likely become more important than in previous years to enable couples to save for two $1.6 million pension accounts between them. This may be a long-term strategy as the ability to make larger contributions is being greatly diminished as a result of some of the other budget announcements. Where one spouse has already reached $1.6 million, they should consider splitting future contributions to their spouse.
Transition-to-retirement income streams
The policy intent behind transition-to-retirement income streams (TRIS) was to enable people to wind back their working life without full retirement and to access their superannuation to supplement their salary and wages. The legislation as it currently stands has no real criteria for a change of working arrangements – only that the person has reached preservation age. What this means is that due to the tax arbitrage and tax concessions available by undertaking a TRIS, they are an attractive tax planning tool for anyone who has reached preservation age regardless of their working status.
From 1 July 2017, a TRIS will still be allowed, but it will no longer be eligible for the zero tax status that currently applies to earnings from assets supporting the TRIS. This will ensure the policy intent will be met, but the tax incentives will be removed that would otherwise make them attractive for tax minimisation purposes only.
An existing TRIS can continue beyond 30 June 2017 and will continue to be eligible for tax-free earnings up until that date. Therefore it may be prudent to have a TRIS if the sale of assets is being contemplated over the next 12 months. If the income is not needed from 1 July 2017, the TRIS should be stopped to ensure monies are retained in the super environment. This will require those receiving a TRIS to notify their fund. SMSF trustee/members should document this decision also.
A new TRIS can still be commenced once the member reaches preservation age, but their merit will need to be reviewed from 1 July 2017.
Anyone under the age of 60 receiving an income stream from their super account will likely be paying personal tax. Currently, they have the ability to elect for some of that income stream to be taxed as a lump sum, enabling them to access their lifetime low tax cap of $195,000, that is, a tax-free lump sum. This election will not be available from 1 July 2017, but could be considered for tax planning during the 2016 and 2017 financial years.
LISTO, spouse contributions and government co-contributions
A low-income superannuation tax offset (LISTO) will effectively replace the current low-income super contributions scheme. Those earning less than $37,000 will be reimbursed for the 15 per cent contributions tax they would otherwise pay on concessional super contributions.
The ability to claim a tax offset for spouse contributions will become more accessible with the threshold for the spouse’s income lifted from $10,800 to $37,000 from 1 July 2017. A tax offset of up to $540 is available for contributions up to $3000.
Government co-contributions will continue to be available also. For lower-income earners up to $51,021 (2017 financial year), the government will match non-concessional contributions by up to 50 per cent up to a maximum of $500.
Despite all the changes, super remains a tax-effective savings vehicle for retirement. The challenge is that with now limited capacity to get money into super, to achieve retirement goals, every opportunity to increase savings must be realised. This will mean planning, consistency and starting as early as possible.
