Planning for retirement and avoiding excess contributions can be very tricky.
Last week [1] I wrote about an Administrative Appeals Tribunal case, which involved husband and wife, John and Pamela Dowling, who avoided excess contributions tax because the tribunal decided it would be unfair to impose the tax.
The success story
One reason this Dowling case is worth reviewing is that most excess contribution tax cases brought before the AAT by taxpayers aren’t successful.
Another reason it’s worth having a look at is because it involved the common withdraw and re-contribution strategy.
In fact, the Dowlings used the withdraw and re-contribution strategy on two separate occasions. That is, they took money out of super and put it back in after a short delay.
Unfortunately it’s probably a bit early to know for sure as the Tax Office has appealed this case to the Federal Court and a judgement can be expected sometime in the second half of 2013.
The not so successful story
Not long after the Dowlings had their victory before the AAT, along came Kevin McLennan. McLennan also tried to use the withdraw and recontribution strategy and had excess contributions tax applied to his case. His appeal to the AAT was unsuccessful. In my view his case is quite similar to the Dowlings.
McLennan turned 65 in October 2007, just as the Global Financial Crisis began to heat-up.
By late 2008 his super account was down in value by $78,000. He decided, in early 2009, to take almost $370,000 out of his super fund and put it into term deposits that he personally owned. He contributed $218,000 of this money back into his super fund as non-concessional contributions during the 2009/10 year because he believed the worst of the financial crisis was over.
The three year bring forward rule can’t be used by people aged over 65. Consequently McLennan’s non-concessional cap for 2009/10 was only $150,000 and a work test has to be satisfied before these contributions can be made.
He didn’t ask any accountant or financial adviser for advice in relation to the tax implications for these transactions but he did confirm he satisfied the work test.
The Tax Office deemed the $68,000 ($218,000 minus $150,000) an excess contribution and asked for $31,600 in tax. McLennan said his contributions were just a transfer of old super monies. The ATO didn’t agree with this and McLennan initiated this AAT case.
He correctly told the Tribunal that if he had made some of the contributions slightly earlier or later then his tax liability would have been greatly reduced.
The ATO told the Tribunal that McLennan’s mistakes didn’t deserve special treatment. The AAT said that it isn’t “the degree of misfortune or the fact that a mistake or error or misunderstanding occurred which might render a transaction unjust” and McLennan lost the case and the tax penalties survived.
Take great care
So what are we to learn from McLennan and the Dowlings? I think it shows planning for retirement using withdraw and re-contribution strategies are still good approaches to take in appropriate circumstances.
But clearly, great care has to be taken to avoid facing off against the Tax Office in front of the Administrative Appeals Tribunal or the Federal Court.
In my view, McLennan panicked about his super balance – fair enough given how quickly he was seeing his lifetime savings disappear. However if he had been focused on earning an income from his assets, he may not have been singularly focused on the value of the assets. The financial services industry, government regulators and media really do a great disservice to investors in how they manage and report changes in investment values. It is people like McLennan who are the innocent victims in this sad reality, not only from an excess contribution tax perspective, but an investment perspective as well.
Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.
Also in the Switzer Super Report
- Peter Switzer: Time to go hunting [2]
- Paul Ricakrd: Vital actions to take before the end of the financial year [3]
- Rudi Filapek-Vandyck: Weekly broker wrap – ANZ, BOQ and BEN upgraded [4]
- Penny Pryor: Clearance rates recover from slow long weekend [5]