On 5 April 2013, the Government announced the following major superannuation reforms:
- tax-free pension earnings capped at $100,000 - the tax exemption for earnings on superannuation fund assets supporting income streams will be capped at $100,000 per annum per person from 1 July 2014. A tax rate of 15% will apply for fund earnings above $100,000 (to be indexed in $10,000 increments). Special arrangements will apply for capital gains on CGT assets purchased before 1 July 2014.
- taxation of withdrawals unchanged - the tax-free status of withdrawals from superannuation for those aged 60 and over will remain unchanged.
- concessional contributions cap - a $35,000 concessional cap (not indexed) will apply for people aged 60 and over from 1 July 2013 (or 1 July 2014 for people aged 50-59) instead of the general concessional cap of $25,000. The Government has also scrapped plans to limit the higher cap to balances below $500,000.
- refund of excess concessional contributions - all individuals will be able to withdraw from their superannuation fund any excess concessional contributions made from 1 July 2013. The withdrawn excess contributions will instead be taxed at the individual's marginal tax rate (plus an interest charge).
- deeming rules for account-based pensions - to be extended to ensure that superannuation account-based pension payments are assessed from 1 January 2015 for the purposes of the social security pension income test under the same rules that apply for other financial investments. Products held by pensioners before 1 January 2015 will be grandfathered indefinitely and continue to be assessed under the existing rules.
- deferred lifetime annuities - will be granted the same concessional tax treatment that superannuation assets supporting income streams receive from 1 July 2014.
- lost superannuation transfers to ATO - the account balance threshold above which inactive accounts must be transferred to the Tax Office will be increased from $2,000 to $2,500 from 31 December 2015 (and to $3,000 from 31 December 2016).
- Council of Superannuation Custodians - will be established to ensure that any future superannuation changes are consistent with an agreed Charter of Superannuation Adequacy and Sustainability.
Thomson Reuters comment
The major announcements were certainly made in the face of mounting daily speculation of superannuation changes in the May Budget. Of course, more superannuation changes in the Budget are not out of the question. In perhaps a forerunner to the changes, in a press conference in Canberra on 3 April 2013, the Treasurer said the superannuation concessions "at the top are very, very generous and they ... need to be made sustainable over time". The Treasurer said the Government was not approaching the task "of making superannuation sustainable as a savings task in itself for the Budget". He said the Government had made "a substantial savings task in this Budget and whatever changes are made in super will not be making a significant contribution to that savings task".
Mr Swan claimed that "everybody understands that the system must be sustainable for the long-term, that tax concessions for those at the very top are excessively generous and to make it sustainable over time the concessions need to be sustainable over time". So he said the Government would "build the system up, we want to see more Australians having access to a decent retirement with a decent level of support from their superannuation, that's the spirit that we bring to this discussion".
Is the $300,000 threshold measure locked in?
As announced in the 2012-13 Federal Budget on 8 May 2012, the Government proposes that, from 1 July 2012, individuals with income greater than $300,000 will have the tax concession on their concessional contributions reduced from 30% to 15% (excluding the Medicare levy). This means that the tax rate on concessional contributions will effectively double from 15% to 30% for these income earners from 1 July 2012. The announcement has not yet been legislated, although pre-Budget speculation suggested the Government might lower that threshold to $180,000. The Government's 5 April 2013 announcement merely reiterated the $300,000 change, but did not make any mention of that threshold being reduced.
In a doorstop interview on 3 April 2013 , Superannuation Minister Bill Shorten seemed to allude to that $300,000 threshold when he said it was important that people earning "average weekly wages of $72,000 or even 2, 3 or 4 times that … are encouraged to save for their future retirement". He said the Government believes fundamentally "that superannuation policies shouldn't be driven by short-term budgetary issues, but by long-term issues, greater life expectancy and the goal of all Australians to get towards a comfortable retirement".
Currently, the 15% flat tax on concessional contributions (paid by the receiving superannuation fund) provides high income earners with a significantly larger tax concession than those on lower marginal tax rates. In the Budget announcement, Mr Shorten said a small number of people on high incomes were getting a better tax deal out of super than millions on average incomes. The proposed reduction in the higher tax concession that is currently available for very high income earners on their concessional contributions will align it more closely with the concession received by average income earners, Mr Shorten said. However, there will still be an effective tax concession of 15% (up to the concessional contributions cap of $25,000, and presumably the new proposed higher $35,000 cap) for these high income earners.
Tax-free pension earnings capped at $100,000pa - tax planning considerations
The installation of a $100,000 threshold above which a 15% tax rate will apply to earnings on superannuation fund assets supporting current pensions will require trustees to review the fund's investment strategy ahead of the 1 July 2014 start date. Particular attention should be given as to whether it may be appropriate to trigger any unrealised CGT liabilities on fund assets (especially real property) ahead of the 1 July 2014. As usual, trustees should be mindful of the potential application of Part IVA of the Income Tax Assessment Act 1936 and ensure that the disposal of any CGT assets before 1 July 2014 is justified by the investment strategy and does not have the dominant purpose of obtaining a tax benefit.
The $100,000 threshold will also require SMSFs with "lumpy" assets (such as business real property, or other commercial and residential property) to undertake more careful planning for when substantial capital gains above $100,000 per member crystallise in one particular income year. When these significant investment assets are eventually sold and the net capital gain (often accrued over several decades) flows through to a particular income year for the fund, it will be important to defer as much other assessable income (and bring forward any deductions) for that income year.
The proposed transitional rules for CGT assets also suggest that a valuation will be required for all super fund assets at 1 July 2014. Trustees of SMSFs are already required to value their assets at "market value" when preparing financial statements from 2012-13 in any event. However, the valuation of such assets on 1 July 2014 will also have future implications under the transitional CGT rules for assets in the pension phase.
Trustees currently looking to undertake significant investments in real property may also need to consider appropriate investment structures (such as a unit trust) which could enable the asset to eventually be sold gradually over several income years to stay under the $100,000 annual threshold. This would also be a consideration when real property acquired under a limited recourse borrowing arrangement is ultimately transferred from the holding trust back to the SMSF when the loan is repaid. Planning is required for how that asset (hopefully with a large capital gain) will ultimately be disposed of in a tax-effective manner in the pension phase. Interestingly, the proposed changes could also encourage the gearing of certain investments in the pension phase, especially during those years when large capital gains will need to be realised.
Depending on the final rules, the $100,000 threshold may also provide some joy for trustees of SMSFs in the pension phase that are sitting on tax losses generated by poor investments during the GFC. Previously, these tax losses were of no real benefit once the SMSF had tax-free earning status in the pension phase. Under the changes from 1 July 2014, any tax losses may provide some tax benefit in offsetting future gains above the $100,000 threshold.
Withdrawal of excess concessional contributions
Under the current arrangements, concessional contributions that are in excess of the annual cap are subject to excess contributions tax (ECT) at the rate of 31.5% (plus the 15% contributions tax paid by the fund) and counted towards the taxpayer's non-concessional cap. Since 1 July 2011, a once-only option has been available under section 292-467 of the Income Tax Assessment Act 1997 so that individuals can elect to have excess concessional contributions up to $10,000 released to the Commissioner and instead assessed as income. Presumably, this $10,000 cap will be scrapped under the proposed reforms, but only from 1 July 2013.
Unfortunately, the proposed withdrawal option will not provide any relief for taxpayers who have inadvertently exceeded the concessional cap before 1 July 2013. Such taxpayers will still need to rely on the $10,000 refund option or apply to the Commissioner to disregard or reallocate the excess contributions on the grounds of "special circumstances" - an extremely narrow concession. Notably, the Government's announcement made no mention of any changes to the current Commissioner's discretion - this will disappoint many.
Initial reactions generally (but not universally) positive; complexity and cost a concernThe Government's package of superannuation changes has elicited immediate reactions, mostly positive, from a wide range of affected parties. The expectation was probably for significant tax increases on super, but the end result (so far at least) has been far less than that.
SMSF Professionals' Association of Australia (SPAA) CEO Andrea Slattery said the Government's superannuation announcement "was a step in the right direction to 'depoliticise' the superannuation system".
SPAA also welcomed the changes to the excess contributions tax regime that enable individuals to seek a refund of their excess concessional contributions. Mrs Slattery said that, unlike the current regime, this measure will not be limited to excesses of less than $10,000 and will not be limited to a once-off refund. But she added a note of caution saying that SPAA believed a similar refunding option should apply to excess non-concessional contributions "as it is the excess non-concessional contribution breaches that usually attract significant excess contributions tax and the current options available to members who breach their non-concessional cap are grossly inadequate".
On the proposed changes to the taxation treatment of deferred lifetime annuities, SPAA said it was concerned about product and industry distortions if these income streams are not subject to the same earnings tax treatment as superannuation income streams.
National Seniors chief executive Michael O'Neill said older Australians have welcomed the Government "coming clean on its superannuation plans but say the concessional cap increase has fallen short of expectations". He said speculation that retirement savings would be raided to prop up the budget had "created nervousness amongst older Australians". He said National Seniors welcomed that the changes are not retrospective and that grandfathering applies to some of them.
Mr O'Neill said the $100,000 retirement phase tax-free earnings threshold which equates to a super balance of around $2m "appears fairly generous". However, he said the concessional cap increase to $35,000 had fallen short of expectations. Mr O'Neill said the $10,000 increase in the $25,000 superannuation concessional cap for people aged 60 and over was welcome, but is still $15,000 short of the $50,000 cap average earners had counted on last year and the Government had promised for 2014.
The Combined Pensioners and Superannuants Association (CPSA) said it would have preferred a more thorough and principled approach to superannuation reform, "which has now taken the form of a combination of increased tax revenue and improved social equity outcomes", said CPSA Policy Coordinator, Paul Versteege.
Mr Versteege said the "bad news" was that tax-free super for the over 60s is a thing of the past but the good news was that it "won't affect ordinary Australians". He said taxing super earnings above $100,000 in pension phase was an equitable measure, limiting the excessive tax break given to superannuants over 60. However, he said the Government's estimate of only 16,000 people being affected by this measure was "unrealistic, as the estimate is based on a 5% annual return, when annual returns of double or more are typical".
The Australian Council of Social Service says it supports the changes, but "expressed major disappointment that it does not go anywhere near making the system fair and sustainable into the future". ACOSS CEO Dr Cassandra Goldie said that while ACOSS welcomed the changes, "the reality is … [that] amount to a mere tinkering at the edges of a system that is grossly skewed in favour of people on the highest incomes".
John Brogden, CEO of the Financial Services Council said the higher earnings tax on those with balances that grow by over $100,000 a year in retirement "is complex and designed without industry consultation". He said it would require major changes to how super funds are managed to target only 16,000 individuals, so the Government "must consult on this measure".
While the changes were probably less draconian than many had been predicting, the Principal of a financial planning firm told Thomson Reuters it was nonetheless disappointing that the Government felt the need to keep moving the goalposts and in the process make superannuation more complex than it needs to be.
In responding to the announced changes, Grant Thornton considers that the reforms "will be a slap in the face for many who have been saving for their retirement under the current rules". While the firm said some of the reforms are welcomed, such as the increase in the concessional cap, "there is a strong view that this seems to be more about winning an election than long-term reform".
Unfortunately, the reforms do little more than add further complexity to the system, and increase the fear and uncertainty that most individuals have in respect of their retirement savings, said Grant Thornton Wealth Advisory Services Partner Dennis Eagles. He said the superannuation industry would be significantly impacted with the costs of substantial changes to their systems, when they are already confronting the substantial costs of transition to MySuper and other regulatory reforms - costs that are being borne by all members.
With the measure to cap tax-free pension earnings at $100,000 (with a 15% tax rate on earnings above that), Mr Eagles said the Government was "targeting retirees who have already accumulated significant wealth within superannuation for their retirement and, under the guise of fairness, are penalising them for self-funding their own retirement".
While Treasury estimates indicate that only 16,000 individuals are to be affected by the reform, Mr Eagles said it was "extremely naive to think that all fund members will not be impacted as trustees will seek to pass on the significant additional costs of implementing and administering these reforms". He said the superannuation industry will need to spend millions of dollars to be able to administer these rules. Systems that are designed to treat overall pension earnings as tax-free would need to examine each member separately and determine if the additional tax is applicable. "The moving parts to do this are many, which must lead to huge transitional costs. It is also unclear how these rules will apply where there are multiple account balances across different funds," he said.
Mr Eagles said any increase in the concessional cap was "certainly a welcome reform, but this seems to be more about winning an election than long term reform". He warned that "the devil is in the detail". The current cap is indexed by CPI and is expected, on Treasury estimates, to reach $35,000 by 2018. The reform is not indexed, and accordingly the benefit to those eligible is short term, Mr Eagles said.
More details on the announced changes would doubtless be welcomed by all.
Source: This article was first published in Thomson Reuters' Weekly Tax Bulletin. To subscribe to Weekly Tax Bulletin, or for more information, please:
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