Over the last couple of years, a draft ATO tax ruling about superannuation pensions has had a big impact on how all retirees use pensions.
This ruling has now been finalised and many of the nasties in the draft have been taken out.
For example, the ATO originally said that CGT is payable on super fund assets before funds paid any lump sum death benefits. To solve the potential claim that the government had surreptitiously introduced death duties, the tax laws were amended in May 2013 to remove this impost for death benefits paid as soon as possible after June 2012.
So what does the ATO’s finalised ruling actually say? It primarily deals with two main issues – when a pension commences and when it ceases or is deemed to have ceased. Both these issues impact when a super fund pays 0% tax on its pension income. Here are five key issues you need to know relating to the ruling (TR 2013/5).
1. A pension can’t commence until all capital is in the fund
You can’t commence a pension until a super fund has all the capital for that pension. Suppose you intend to contribute money into your SMSF and those contributions will be used to pay you a pension. The pension can’t start until you’ve actually made all the contributions you want to use in the pension and they are physically assets of the super fund. A similar issue applies with transfers into your super fund from other super funds.
2. Must have documentation
A pension can only commence if it has been specifically documented before it starts. A good way to solve this problem is to only commence a pension when you have completed application forms.
For several decades, it’s been quite common for this documentation to be completed long after the end of a financial year in which a pension commenced. SMSF trustees and administrators will face a big change because this will no longer be acceptable.
Your super fund won’t get an exemption from income tax for its pension assets, unless you can show a member was eligible to receive a specific pension and, if required, you can also show the member wanted the pension.
Let’s look at two examples. Firstly, after turning 65, you asked your SMSF trustee to pay you a pension. In these cases, you will have to submit a pension application form to the trustee, who will then check to see if you’re allowed to receive a benefit, and also that you’re allowed to take it as a pension. Once they have completed that work, they can put the pension in place.
Secondly, your spouse is recently deceased and they had completed a binding death benefit nomination that specified you would be paid a part lump sum and part pension. In this case, the trustee confirms you’re the former member’s spouse and pays you the lump sum and then puts the pension in place. As you’re a pensioner beneficiary, you would have to become a member and trustee of the super fund, if you don’t already hold those positions.
3. Commuting a pension
You’ll only be permitted to take a lump sum out of a super pension if the pension’s documentation allows you to ask that some, or all, of a pension’s account balance can be taken out as a lump sum and not as pension payments. (Thankfully this is a relaxation of the rules contained in the 2011 draft ruling.)
4. All super pension laws must be satisfied throughout the year
The ruling says that a super fund must satisfy all the super pension laws during an income year. A failure to follow these rules will mean that a pension hasn’t been paid throughout a financial year. In simple terms, this means the fund will pay 15% income tax on the pension’s earnings. The ATO says that if a pension is paid in subsequent years, it’ll be deemed to be a new pension.
The minimum income requirements are the rules that are most frequently broken. The minimum income is based on your age, and is worked out each 1 July using your pension’s account balance, where the assets are valued at prevailing market prices.
For example, in the 2013/14 financial year, the minimum payment for those aged at least 65 but under 75 with a pension in place on 1 July, 2013 is 5% of the account balance on that date.
In January 2013, the ATO announced a minor concession for breaches of this minimum income rule, however this concession can only be used once and only for small breaches of up to 8.3% of the required annual minimum.
5. Pension ceases on death, unless reversionary specified
The ruling says that a pension ceases immediately a pensioner member dies, unless income payments automatically continue to be made to a nominated beneficiary.
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:
- Charlie Aitken: The WOW factor – the market is underestimating Woolworths [1]
- Roger Montgomery: Credit Corp Group – a stock to consider [2]
- My SMSF: In control of my destiny [3]
- Penny Pryor: Buy, Sell, Hold – what the brokers say [4]
- Gavin Madson: Bond buyer beware in choppy markets [5]
- Question of the week: Melbourne CBD property [6]