With all of the super changes due to hit from 1 July 2017, capital gains tax (CGT) and its potential relief is one of the most front-of-mind issues for advisers and their clients.
When the federal government first announced it was introducing a limit on the amount in pension phase, a big issue for many members was what to do with the existing assets within their super fund. This issue arises if a member currently has more than $1.6 million in pension accounts or is running a transition-to-retirement income stream (TRIS), as the excess above $1.6 million or the entire TRIS needs to move back to accumulation phase from 1 July.
As a result, the government provided trustees (and therefore members) the potential to gain some CGT relief if action is taken as a result of these measures. The effect of this is to deem a sale and repurchase of the underlying assets within a fund, but without the need to actually sell. This allows the cost base of the asset to be lifted to its current market value, eliminate all (or some) of the capital gains up to that point in time, and avoid unnecessary transaction costs.
While this is all positive news, there is a fair amount of work to be done. In order to obtain this CGT relief, excessive pension amounts (that is, the amount above $1.6 million) and TRIS need to be restructured no later than 30 June.
While this relief is available to all affected super members, this is where SMSFs have a clear advantage. The operation of an SMSF is largely driven through its effective administration. The SMSF owns all the assets of the fund and they are then allocated to members and their respective pension or accumulation accounts.
When it comes to the application of this possible CGT relief by 30 June, the important requirement is to make a decision to move account balances in order to comply and to make this decision before 30 June. For SMSF trustees, the best evidence of intent is through a trustee resolution. It needs to be appropriately documented to show the trustees want their pensions restructured from 30 June so they are complying with the new rules.
The ATO recently released Practical Compliance Guideline (PCG) 2017/5, which has been heralded as one of the most important pieces of guidance released by the tax office. This PCG sets out what the ATO would expect to see documented for an SMSF by 30 June to allow the SMSF to take advantage of the available CGT relief.
The PCG provides a safe harbour guideline where, if followed, the ATO would not be expected to take compliance action against the fund on this measure. Effectively, it requires a resolution that has a method of calculation to determine the amount to be moved to accumulation phase.
The ability to claim the CGT relief does have a number of other requirements. The level of relief will depend on whether the SMSF operates on a segregated or proportionate basis. Segregation occurs where assets are physically allocated (or tagged) to particular accounts in the fund. As a result, all returns (capital and income) on those assets would go to those accounts. The proportionate approach (which is arguably simpler) applies where all assets are pooled and a percentage of each assets belongs to each account.
It’s important to note that from 1 July, many SMSFs will lose the ability to use a segregated approach for tax purposes due to a legislative change.
One impact to be aware of is that while an SMSF may have been segregated for tax purposes at the beginning of the year, any contributions made during the year could have impacted on whether it continues to be segregated. It’s important to identify what has happened with the contributions since they were made to the fund and to continue to identify where those contributions have been invested.
Finally, the ability to use the CGT relief is only available where a choice has been made by the time the SMSF is due to lodge its tax return for the year ended 30 June 2017. This choice is to be made on an asset-by-asset basis. We don’t yet know what form this election will take, but it may be a brief indication/disclosure on the tax return, with the underlying records maintained by the fund to evidence the actual choices made.
There is a lot for advisers to SMSF trustees to consider about the application of this relief. The good news is that it doesn’t all have to be done prior to 30 June, but you also can’t afford to wait. The decision to use it needs to be made and evidenced before 1 July. The paperwork will follow.
