The other week I began to explain the steps you need to follow to start a pension and we got through steps one to four. Today, let’s take a look at the remaining five steps.
If you missed it, you can read the first part on our website [1]. To quickly recap:
Step one: Start the process at an arm’s length basis.
Step two: Examine your Trust Deed.
Step three: Identify why the pension is being paid.
Step four: Prepare a Product Disclosure Statement.
And now, let’s continue …
Step Five
In your role as a member, you need to formally accept the trustee’s offer, which is contained in the Product Disclosure Statement. You also need to detail what dollar value of assets you would like to use to begin the pension.
If this purchase price has to be rolled into your super fund, then you’ve got to make sure your trustee knows this. Are the proceeds coming from new contributions? Will these contributions be subject to tax when received by the trustee? Will tax be payable on any unfunded super funds when received or from an employment termination payment?
Who is initiating the rollover or transfer? If it’s your trustee, then they’ll need authority from you to request the rollover or transfer of funds from the other super vehicles. The fund making the transfer will demand to see proof from your SMSF that it’s a complying super fund and the trustees want the fund to retain this status. Special procedures are in place so large funds can transfer money to SMSFs with confidence.
Any special preservation rules that apply to the transferring payments also need to be taken into account. Sometimes it can take the transferring fund a while before they get around to sending the money through. This will mean your purchase price might not be accurately known until the fund receives the money.
You should also tell the trustee if the amount being deposited in the fund is coming from an existing pension.
When you tell the trustee what type of pension you want, you may have to specify the level of income and any relevant characteristics. For example, with an account-based pension, the trustee should tell you what minimum income is required from their income stream in the Product Disclosure Statement. For Transition to Retirement pensions, the trustee will also have to nominate the maximum income. If you have the ability to nominate your income then make sure you tell the trustee what you want.
If you want your pension to continue after your death to a specific person (called a reversionary pensioner) then you must clearly specify who this is, their date of birth and their relationship to you.
You must also tell the trustee what will happen to any remaining account balance if you die. Will the trustee be bound by a binding nomination? If so, what type? What does the trust deed permit?
If you’re under 60 when the pension commences then you must complete a PAYG Declaration so that the trustee can withhold the right income tax from each pension payment. (If you don’t provide this declaration then a trustee would need to withhold 46.5% income tax from each pension payment.)
Step Six
The trustee must check with you that they have precise details of the pension.
Step Seven
The trustee should fully document the pension for its own records.
The trustee should have complete documentation of the pension’s characteristics such as the commencement date, date of first pension payment, how often pension payments will be paid and how.
Step Eight
The trustee must make sure pension payments are made on time.
A good way to ensure this is a direct debit facility that transfers the net of income tax payments from their bank account to the member’s nominated bank account.
Obviously trustees will need to make sure that they always have sufficient cash to make the income payments. Cash flow management becomes more important once a pension commences.
Step Nine
The pension commences.
On this day the trustee should ensure that all relevant changes are made to the fund’s financial accounts. As this is the day that all earnings on the assets backing a pension are tax-free, it’s important that you’re able to clearly identify income or capital gains received by the fund from this commencement date onwards.
Important information: 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. Anyone should, before acting, consider the appropriateness of the information in regards to their objectives, financial situation and needs and, if necessary, seek professional advice.
Also in the Switzer Super Report:
- Peter Switzer: The testing times have arrived [2]
- Paul Rickard: Gearing to buy shares with a protected equity loan [3]
- Jo Heighway: The dos and don’ts of SMSF tax deductions [4]
- Rudi Filapek-Vandyck: The broker wrap: a week of massive change [3]