Pensions face indexation conflict

lifetime pensions indexation

SMSFs with lifetime pensions in place could face conflicting legislative instruments around indexation due to the current economic climate.

A technical specialist has identified a potential legislative conflict SMSFs with lifetime pensions in place might face in regards to indexation in light of the current economic environment, but has assured advisers and trustees a solution to the problem exists.

“For the first time since 1998 we’ve [experienced] deflation – the annual change in the consumer price index (CPI) was negative for the year ending 30 June 2020. This is relevant for defined benefit pensions because some of them are indexed in line with the CPI and that negative indexation throws up a few issues worth considering,” Accurium general manager Doug McBirnie said during the actuarial firm’s latest technical webinar.

To this end, McBirnie pointed out the Superannuation Industry Supervision (SIS) Regulations allow annual payments from lifetime pensions in line with the CPI, even if the index moves in a negative direction.

“So we may actually see some pensions being reduced this year,” he noted.

“However, it’s also worth pointing out the Social Security Act actually prevents a pension being reduced where the pension is asset test exempt,” he noted.

As such, there would appear to be a conflict between what is allowable under the SIS Regulations and the Social Security Act, according to McBirnie.

However, he revealed there is a solution advisers and their SMSF clients can employ that will allow any potential conflict arising from the two sets of regulations in deflationary times to be avoided.

“The SIS Regs provide the minimum framework for what can be defined as a pension, so in this case a lifetime pension,” he said.

“But it’s still perfectly possible to have a pension designed where the indexation is in line with the CPI, but with a 0 per cent floor. [It means] you can still meet the requirement of the SIS Regs and also the Social Security Act.”

In light of this resolution, he recommended advisers revisit the terms of any lifetime pensions their SMSF clients have in place, but said they should not worry if the 0 per cent floor is not specified or if the documentation cannot be found.

“If [the documents] aren’t that clear, maybe they’ve gone missing, which is not uncommon, if there is a clear intention for the pension to be asset test exempt, [for example] it’s been asset test exempt for the last 20 years, then I think it’s fairly safe to be assuming that the design of that pension was intended to meet those Social Security Act requirements and so it should’ve included a floor to stop the indexation going negative,” he said.

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