Commuting your super — are you ready?

As a result of the superannuation reforms commencing 1 July 2017, trustees and members of superannuation funds should be working together to ensure that a member does not exceed their transfer balance cap. This article explains what SMSF members and trustees can do to commute pensions, and the consequences of not doing so.

 

Overview

The transfer balance cap, is a concept introduced as at 1 July 2017 with respect to superannuation interests in pension phase. It imposes a limit on the asset value of all superannuation accounts held in pension phase (across all a person's superannuation funds). Currently, this limit is $1.6 million.

How much do I need to commute?

As the transfer balance cap takes effect on 1 July 2017, the balance of pension accounts will in many cases not be known to the required level of certainty before 30 June 2017. As such, members and trustees with sizeable pension accounts:

  • will not be certain whether their pension balances will exceed the $1.6 million cap; and
  • will therefore be unable to determine the exact dollar figure of the amount being commuted.

The ATO has recognised this issue in its publication 'Practical Compliance Guideline 2017/5 Superannuation Reform: commutation requests made before 1 July 2017 to avoid exceeding the $1.6 million transfer balance cap' (PCG). Pensions which, if left as is, would possibly result in a breach of the cap will need to be commuted in accordance with the relief in the PCG. The commutation will need to be for such amount as ensures the member's transfer balance is in line with the transfer balance cap — that is, a partial commutation.

How to effect a partial commutation

Members will need to formally instruct the trustee of the fund to make the required partial commutation. This can be done by the member completing the necessary documents in order to record and effect the commutation in compliance with superannuation law together with the trustee giving the member the necessary Notification of Significant Event.[1]

Cleardocs' Pension Commutation Kit has been prepared in order to comply with the PCG, enabling members to comply with the transfer balance cap requirements as at 1 July 2017.

Importantly, only one pension in respect of a person can be commuted using the relief under the PCG: this is because the amount to be commuted — which when the commutation occurs is unknown - must be able to be calculated under the terms of the commutation documents. The commutation documents must therefore have a formula for calculating that amount — which produces a number without the trustee being required to exercise a discretion.

CGT consequences of commuting and applying for relief

By commuting pension phase assets back into your accumulation account, a CGT event occurs, these assets will become concessionally taxed in the accumulation account, and will later be subject to CGT when eventually sold (as opposed to being tax free if they were sold from the pension account). As such, certain CGT relief is available.

The trustee can elect to apply for CGT relief — to the effect that the cost base of the assets which support the pension are reset — if the following conditions are met:

  • the fund must be in pension phase;
  • the asset must be owned by fund prior to 9 November 2016 (assets purchased after this date do not qualify for relief);
  • the asset must still be owned by the fund after 30 June 2017; and
  • the asset must be commuted into the accumulation account before 30 June 2017.

Trustees will need to work with their advisors in order to apply for any CGT relief. Provided the asset meets the above requirements, in order to gain access to CGT relief, the trustee must take certain actions.

The trustee can choose to apply the relief to some or all of its assets. Where the asset is commuted on 30 June 2017, if the conditions for relief are satisfied, then:

  • the fund is deemed to have sold and reacquired the asset on 30 June 2017;
  • this will reset the cost base of the asset to its market value as at the commutation date being 30 June 2017;
  • the 12 month eligibility period for the CGT discount on that asset will be re-set; and
  • the fund will incur a capital gain.

If the fund is applying the proportionate method, a proportion of any net capital gain that arises from this CGT event (the deemed sale and acquisition) is generally taxable in the current year — however the fund may make an additional choice to defer the capital gain.

Consequences of exceeding the cap after 1 July

If the member fails to commute before 1 July and as such the member will exceed the transfer balance cap — the amount of earnings attributable to assets exceeding the transfer balance cap will be charged with an excess transfer balance tax.

For breaches occurring between 1 July 2017 and 30 June 2018 — the excess transfer balance tax is 15%. For breaches occurring after 1 July 2018 — there will be a 15% tax for first breaches occurring on and after FY18/19 and a 30% tax for subsequent breaches.[2]

Commutations after 1 July

After 1 July, it is expected that commutations will be effected when:

  • the trustee receives an excess transfer balance determination, followed by a commutation authority from the ATO (that is, when they are notified that they have exceeded their transfer balance cap and must commute their pension);
  • where the relevant compliance action was not taken by 30 June (but is nevertheless required);
  • in the usual circumstances which concerns consolidating pensions for administrative efficiency; or
  • where a pensioner is due to receive a reversionary pension (that is, a pension received as a death benefit) which will put them over the transfer balance cap, so they instead commute their existing pension in anticipation of receiving the reversionary pension.

If on or before 30 June 2017, the value of a member's transfer balance account is between $1,600,000 and $1,700,000, then the trustee will have until 31 December 2017 to transfer the excess capital out of the relevant pension accounts. No penalty will apply within this period.

If on or before 30 June 2017, the value of a member's transfer balance account is above $1,700,000, then by 30 June 2017 the trustee will be required to remove the excess assets from pension phase.

After 1 July, members and trustees should ensure they are aware of their transfer balance and the various activities which can result in a credit to a member's transfer balance account. Some of these activities include the following:

  • a transfer credit when a transition to retirement income stream becomes a retirement phase income stream — when the member satisfies a condition of release; or
  • a transfer credit when loan repayments are made from assets in accumulation phase, in relation to a borrowing on an asset which supports an asset in pension phase (but the repayment is not funded from, or not proportionately funded from, the assets in pension phase).

More information from Maddocks

For more information, contact Maddocks on (03) 9258 3555 and ask to speak to a member of the Revenue Practice Group.

More Cleardocs information on related topics

You can read earlier ClearLaw articles on a range of superannuation topics.

Order Cleardocs superannuation packages



[1] Section 1017B of the Corporations Act 2001 (Cth).

[2]Section 5 of the Superannuation (Excess Transfer Balance Tax) Imposition Act 2016.