Given the Coalition’s raid on larger super balances – especially the $1.6 million account-based limit for pensions – a hot topic of conversation is how best to manage super assets going forward.
What is the $1.6 million limit?
This will be the maximum that can be used to commence one or more pensions over a person’s life. If you have more than $1.6 million in pensions right now, then action must be taken by July ’17 to reduce the total account balances back to the $1.6 million limit.
Earnings on the money in the pension will continue to be taxed at 0% while the non-pension income will be taxed at 15% if it remains in super.
As I said a major question is how to manage the money in super.
One option being discussed is the choice between segregating or unsegregating assets.
What does segregating and unsegregating assets mean?
Segregation means more or less what you might expect it to mean when it comes to managing super assets. It means splitting specific fund assets to serve a specific purpose.
Segregation can be done in a number of different ways. You can split assets to particular members (many large retail super funds do this) or segregation can be done under different member benefits or it can be done between different tax rates in the fund.
In this article, we will look at the third way – segregating assets based on the fund’s tax rate.
As assets backing pension face a 0% tax rate, they will be split and tagged as supporting pensions. Assets that face the 15% tax rate will be tagged as non-pension assets.
Now with segregating assets and meeting the $1.6 million limit, you will need to be careful. Imagine if you selected the assets that were to be used for pensions and their market value is currently just under $1.6m but just before July ’17 their market value increased dramatically. Then you have a problem, especially if the asset in question is lumpy like real estate.
Unsegregated assets simply means that all your super fund assets aren’t segregated. This is the most common approach. When this option is selected, your fund needs to employ an actuary so they can determine what income, realised gains and expenses will belong to the pensions your fund pays.
How is segregation achieved?
In the main, segregation is found inside your fund’s financial accounts and, in particular, in its general ledger and sometimes its asset register. The ownership of your fund’s assets remains unchanged – that is, your fund’s trustee or its nominated custodian.
Benefits of segregation
If you have to fix up your pension because its account balance is greater than $1.6 million, then you might find it easier to administer your fund’s investments by having some assets specifically in a 0% tax part and others in the 15% tax area.
My own view is that I think most retirees who find themselves having to restructure their pensions will not bother with segregating their fund assets because it will seem an unnecessary complication. Those who do embark on the segregation route will probably do so because they have an asset that they wish to specifically use for their pension.
In any event, before embarking on segregating your fund assets, I would recommend that you seek advice because it can be a tricky exercise, especially if your fund owns one asset that makes up the majority of your fund – please refer to my comment above about a sharp increase in market values just before July 2017.
Capital Gains Tax Issues
Now an advantage of pension assets is the 0% tax rate, which means that net capital gains are tax-free.
An obvious strategy involves moving assets sitting in the 15% tax area that have increased in value, which you want to sell, into the pension phase, so you can save on CGT. In the past, it was generally thought that could only be done in extreme cases. However, a different view has been emerging, which suggests it can be done with great care and planning. Sometimes it might be appropriate to seek advice from the ATO. In other words, before embarking on this strategy, it would be a good idea to seek advice.
Some planning steps for your pensions post June 2017
Before we get to July 2017, I think there are a number of points that need to be considered:
- Will a pension with an account balance of $1.6 million provide you with sufficient income? If yes, for how long?
- For the balance above $1.6 million, could you take that out of the super system and contribute on behalf of your spouse? Remember that from July 2017, the Government has said they will make it easier for those aged at least 65 but under 75 to contribute to super. You will obviously also need to think carefully about the new $500,000 non-concessional contribution cap.
- Compare the current market value of all your pension’s assets with their purchase price.
- For those assets that have a gain, can you sell the asset now and purchase a similar one at the current market price? Why do this? Because you’re resetting the cost base of the asset, which means lower CGT if it’s payable when the asset is finally sold.
- For those assets that have a loss, which you wish to retain – there is probably nothing to do but keep the asset. With pension assets, you need to be careful about capital losses but that is a topic for another day.
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.