In the new world of calculating exempt current pension income, if your 100% pension fund receives a contribution, and a new pension is commenced with that amount immediately on receipt, do you need an actuarial certificate?

For the purpose of the following discussion, the term ‘pension’ is referring only to income streams in the retirement phase.

Fund not eligible to segregate

Where a fund is ineligible to segregate for tax purposes, for example due to a pensioner having a total superannuation balance (TSB) of greater than $1.6m at the previous 30 June, an actuarial certificate will always be required to claim any exempt current pension income (ECPI).

Any such certificate will cover the entire financial year, and the receipt of a contribution moved immediately into pension phase will have no impact on the exemption percentage.

Fund eligible to segregate

Where a fund is eligible to segregate for tax purposes (no member in receipt of a pension had a TSB =>$1.6m at the previous 30 June), it must do so.  For this type of fund, the receipt of a contribution will cause it to move from totally supporting pension accounts to supporting both pension and accumulation accounts, albeit only for part of a day.

That means, under the current legislation, if there was income generated on the day of the contribution, you would expect that an actuarial certificate should be obtained to exempt some of this income.  However, whilst this may be the technically correct answer, the SMSF specific software programs do not allocate income or losses on an hourly basis and they do not cater for a part-day segregated period.  Thus, the systems will treat the fund as being in pension phase for the entire year and no actuarial certificate is required.

Notwithstanding the above, if there was income earned on the day of the contribution, to avoid any doubt, we would recommend that the contribution is held in a sub-account, separate from all other assets during its period in accumulation phase.

In contrast, if no income is earned on the day of the contribution, both the practical and technical approaches would result in the same outcome.  There is no need to obtain an actuarial certificate as there is no income to apply the certificate to.

Well, in fact pension payments have always needed to be paid in cash.  Only lump sums can be taken in-specie (ie in the form of assets rather than cash).  Whilst it may have appeared in the past as though your clients were taking in-specie pension payments, the payments would have in fact been in-specie lump sums.  Let me explain.

The term “lump sum” is specifically defined in the superannuation legislation as “including an asset” [SIS Reg 6.01(2)].  This means lump sums can be paid in-specie.  However, there is no similar definition stating that the term “pension payment” includes an asset.  As a result, the Regulators take the view that a pension payment cannot be paid in-specie (ie only cash pension payments are permitted).

Anyone with an account-based pension (or a TRIS) that includes some unpreserved money can take a lump sum commutation from their pension, and the lump sum can be an in-specie payment.  Whilst this lump sum payment may feel like a pension payment, it’s actually a lump sum commutation and must be documented that way.  This is simply because only cash payments can be treated as pension payments.  This rule has not changed.

The superannuation legislation also requires that a minimum amount is paid each year from a pension account (eg 4% of the individual’s 1 July balance for those under age 65) [SIS Reg 1.06(9A)(a)].  This requirement is commonly referred to as the “minimum payment rules”.

Prior to 1 July 2017, almost all payments from a pension account could count towards satisfying the minimum payment rules, including both cash payments and lump sum commutations (including in-specie lump sums).

However, the rules about “what counts towards the minimum” changed effective 1 July 2017 and lump sum commutations no longer count towards satisfying the minimum payment rules.  That is, only pension payments can now satisfy the minimum payment rules and pension payments can only be taken as cash payments.  

In a nutshell, this means in-specie lump sum commutations from pension accounts are still permitted (providing the member has unpreserved money and the terms of the pension allow a lump sum commutation) but, to satisfy the pension rules, since 1 July 2017 a cash payment of the minimum required amount is also needed.

This is just one of the many concepts we’ll be exploring in our upcoming Pensions Masterclasses.  Held throughout the country from 11 to 22 March 2019, our Pensions Masterclasses will show you “why” the rules work in a particular way, helping you to successfully put in place strategies for your clients.  Click here for further details and to register.

Both the Productivity Commission and the Hayne Report identified the long running issue of multiple superannuation accounts as an issue.  Almost everyone has a story about discovering that they or a friend had multiple superannuation accounts as a result of having multiple jobs throughout their lives.

Hayne has supported the Productivity Commission’s recommendation that an individual should have a single “default” superannuation account that effectively follows them from job to job.  Should they start a new job and not nominate another superannuation account, their superannuation would be paid into that default rather than an account nominated by their new employer as the default for all employees.

This would not prevent people from exercising their right to choose a different account – or even from having superannuation from different employers paid into different superannuation funds.  It is simply changing the mechanics of how a fund is chosen when the individual makes no choice.

Some will support an alternative – continue to allow employers to choose the default fund but provide a means of compulsory “aggregation” when individuals end up with multiple accounts.

Hayne’s solution stops the problem in the beginning rather than waiting until it happens and then tidying up the mess.

It will be interesting to see how that very first default account is chosen.

See more on our Royal Commission commentary

There was presumably a collective sigh of relief from our largest financial institutions when Hayne decided not to recommend a ban on superannuation funds that make a profit (often called “retail” funds and offered by financial institutions as distinct from “industry funds” which were historically set up and backed by trade unions and are designed to return profits to members).

The Final Report does, however, spend considerable time highlighting the challenges some trustees face when it comes to acting in the best interests of members (a legal requirement) in the face of competing financial interests.

But that’s not what I find most interesting.

What is even more fascinating is this : why do we perpetuate the myth that it is ever possible for the trustee of a large fund to genuinely act in its members’ best interests?

People are different.  They have different needs and therefore different “best interests”.  Surely it follows, then, that acting in my best interests might not be acting in yours.  How does this play out if we are both members of the same superannuation fund?  How do superannuation funds with thousands or in some cases more than one million members balance their various interests in making any decision?

Let’s say our superannuation fund has thousands of members.  The trustee is considering adding a new investment option that a number of members would value and use.  However, other members are not interested in this new option and resent the fact that the fund is wasting money introducing it.  Whose “best interests” are being served if it is introduced?

The same dilemma faces both industry and retail funds – in fact it faces any fund where there are a great many members to consider and their interests diverge.  Which they will. People are different.

In practice, SMSFs are the only superannuation funds that genuinely have a hope of ensuring they routinely act in the members’ best interests.  This is not because SMSF trustees are inherently more noble than trustees of large superannuation funds, it’s because the job is simpler when there are very few members and their interests are aligned.

See more on our Royal Commission commentary

While the hearings sent shockwaves through Australia’s major financial institutions, I would describe the final report as being light on major structural reforms when it comes to advice and restoring trust for the thousands of individuals saving for retirement.

Kenneth Hayne devoted quite a few pages in his report to exploring the issues surrounding so called “vertical integration”.  This is where a single organisation offers financial structures and products such as bank accounts, platforms and managed funds as well as licencing or employing financial advisers.

The opportunity was there to recommend that “product” and “advice” to be structurally separated in some way.

He could have proposed that product providers (such as banks) simply be prevented from owning advice businesses or licensees.  Alternatively, he could have recommended that there was a clear demarcation between those who sold products produced by their employers or licensee (who are not called advisers) versus those who are genuinely advising without any link to a particular product (the UK system operates something like this).

In the end, the Final Report did not recommend that “product” and “advice” were separated.  The only change is that those who are not classified as “independent” will have to explicitly remind their client of that fact.  But this is a blunt instrument.

While Hayne acknowledged that changes here were likely to reduce conflicts, he felt that the resulting disruption would outweigh the benefits.

I’m not convinced.

This doesn’t sit comfortably with some of the explosive revelations in the hearings themselves.  There are some conflicts that must surely be impossible to manage and disclosure will never be enough.

See more on our Royal Commission commentary

The Report made a number of recommendations about financial advice that will be well covered by others (for example, new annual renewal requirements for ongoing service fees, bans on grandfathered commissions, a review of other commissions for insurance, new disciplinary approaches for financial advisers, restrictions on the payment of advice fees from MySuper accounts etc).

But there were also some interesting comments and recommendations around “independence”.

Hayne recommended (Recommendation 2.2) that any adviser unable to describe themselves as “independent” should be required to explain “simply and concisely why the adviser is not independent, impartial and unbiased”.

Hayne has not recommended any change to the definition of "independent" in the Corporations Act 2001.  This means advisers who receive commissions that are not fully rebated to the client, volume bonuses (or similar) or are (say) licenced or owned by a product issuer are not considered independent.  Advisers are still free to charge asset based fees (often described as commission by another name) and refer to themselves as independent.

What Hayne is doing, however, is elevating the importance of independence (regardless of flaws in the definition) by:

• recognising that simply disclosing potential conflicts and inviting clients to read between the lines is not enough, and
• actually requiring advisers who are not independent to disclose how this is so.

Of course, independence alone does not guarantee good advice.  But I do see something positive about an environment that raises the profile of a very obvious source of potential conflicts of interest.

True independence can only happen when the client (not an intermediary on their behalf) is making an informed and conscious decision to pay for advice.  They know what they are paying, who they are paying, what they get for it and they choose to pay.

The irony of all of this is the classic “be careful what you wish for”.  If removing conflict means the product provider no longer subsidises the cost of advice, it may well be far more expensive than the consumer realises.  Truly good financial advice is incredibly valuable.  Let’s hope clients work that out.

See more on our Royal Commission commentary

The first thing I did when I opened the final report from the Hayne Royal Commission into Banking Misconduct and Superannuation was to search for “SMSF”.  Other than the definitions, it appeared twice – once to explain that SMSFs are administered by the ATO and the second time in the context of explaining choice in superannuation.

So is it surprising that none of the 76 recommendations specifically relate to SMSFs? And that none of the commentary that was so unflattering about our largest financial institutions, their management and their culture touched on SMSFs?

In a nutshell probably not.  For a start, the terms of reference largely related to the behaviour and regulation of financial services entities, not the superannuation system itself.  Perhaps even more relevant, though, SMSFs are in fact almost the thinking person’s response to all the terrible things that were revealed in the Royal Commission hearings.  The great thing about an SMSF is that it empowers individuals to take charge of their own retirement savings journey and make informed choices about the advisers, products and services they use.

Of course, SMSF trustees are not immune from poor advice and many SMSFs use products provided by the financial institutions criticised in the Royal Commission.  Some of the recommendations therefore do touch SMSFs and are worthy of further discussion.

But it was telling that – like the Productivity Commission’s recently completed review into superannuation – the Royal Commission found no need to raise specific concerns about SMSFs.  This might come as a surprise to those routinely concerned that limited recourse borrowing will cause the end of the world as we know it.

See more on our Royal Commission commentary

Before the Productivity Commission publicly released their final report into superannuation review this month, there was inevitably much discussion about whether or not a minimum balance for SMSFs would be recommended.

The draft report was interpreted by some as positioning the Productivity Commission to set the benchmark at $1m as it made the claim that while larger SMSF funds perform broadly in line with APRA funds, “smaller ones (with less than $1 million in assets) perform significantly worse than institutional funds, mainly due to the materially higher average costs they incur due to being small. It is not clear how many of these will perform better in future as they grow in size.” (page 14, Draft Report).

The data and methodology used to make this claim was widely discredited and the final report softened the commentary to refer to SMSFs of under $500,000.  I suspect even that figure could do with some scrutiny.

Importantly, however, the report did not recommend a minimum fund size.

Instead it made recommendations about SMSF advice.  Specifically (Recommendation 12 : Stronger Safeguards on SMSF Advice), the report recommended that anyone advising a client to set up an SMSF should require specialist training and they should provide a document written by ASIC about “red flags” (things to consider or issues to be aware of that might indicate an SMSF is not appropriate).

The decision not to impose a minimum fund size makes perfect sense.  In every aspect of financial advice our legislation, regulators and even the press emphasise the importance of “knowing your client” and providing advice that is specifically suitable for them.  There is widespread acceptance that even people who superficially look the same (eg same wealth or income) could be very different when it comes to their needs for the future, risk appetite and objectives.  For that reason, advisers are regularly criticized if there is even a hint that they are treating all their clients as if they are exactly the same.

How does a legislated minimum SMSF balance fit in this environment?  Is tailoring advice to suit the particular needs of a client important or not?  If clients are different then a minimum balance makes no sense.  An SMSF might be exactly the right choice for one person with $100,000 and totally wrong for someone else with $1 million.

What about the recommendations on specialist expertise for SMSF advice and appropriate warnings on the downsides?  To be honest decent advisers are already doing something like this.  Whenever a good adviser recommends a course of action they also highlight reasonable alternatives if there are any and flag the relevant positives, negatives and implications of both.  This makes perfect sense – their role is to equip the client to make a sensible decision that leans on all the expertise and experience of the adviser. 

So I wonder why SMSFs need to be singled out here?  Should there also be a requirement, for example, to highlight the red flags that come with choosing a public offer fund?  Perhaps advisers should be required to quote the average time taken to pay death benefits for the fund they recommend, or the number of times the fund has made unit pricing errors?  Perhaps ASIC could create a red flag document that talks about the lack of control you’ll have in a large fund, the fact that product design changes to adopt new strategies are often slow (and frequently only happen after the SMSFs have led the way) and the extra fees they need to charge to build or maintain their operational risk reserves.  Finally, perhaps advisers should be required to specifically quantify the fees relative to an SMSF and show that having a large balance in a fund that charges most of its fees on a percentage of assets basis can be terrifyingly expensive.  That would help the member make an informed choice about whether they want to manage their own super via an SMSF or pay a large fund to do it for them.

Like every other commentator I will happily say that an SMSF is not for everyone.  Nor is an investment property, a Ferrari or running a small business.  But SMSFS ARE the perfect answer for a great many people.  I hope to see the day when we stop treating these people like they have been hoodwinked into something slightly stupid rather than making informed and carefully considered decisions about how they take personal responsibility for their retirement.  Instead, let’s congratulate them for that and help them make the best possible fist of doing it.

This article was written for The Australian and featured January 29

All SMSFs trustees are required to appoint an approved auditor to audit the operations of their fund each year.  This annual audit must include both a financial audit and compliance audit.

The auditor is required to report their findings to the trustees in the form of an audit report.  The audit report consists of two parts, Part A and Part B.  The consequences of receiving a qualified audit report are quite different, depending on whether it is a Part A or Part B qualification.

Part A

Part A of the audit report covers the financial audit and requires the auditor to form an opinion whether, in all material respects, the fund’s financial statements present fairly the financial position of the fund and the results of its operations for the year.

In conducting the financial audit, the auditor will seek to obtain sufficient and appropriate evidence that the assets and liabilities of the fund:

• exist and are clearly owned by the fund (or are obligations of the fund in the case of liabilities),
• are appropriately valued in the financial statements according to relevant accounting standards and Australian Taxation Office (ATO) requirements,
• are appropriately classified in the financial statements according to relevant accounting standards, and
• no material assets or liabilities have been excluded.

Where an auditor does not feel that the fund’s financial statements fairly represent the financial position of the fund (in all material respects), he/she will issue a Part A audit qualification.  Part A qualifications are often issued in situations where the auditor is unable to accurately determine:

• the existence of a fund asset without physically inspecting the asset (eg gold and silver bullion), and/or
• the value and recoverability of a fund asset without formally valuing the asset or auditing the entity in which the fund has invested (eg shares in unlisted companies, units in private unit trusts, unsecured loans).

In a number of recent court decisions auditors have been found liable for investment losses suffered by SMSF trustees because the non-recoverability of those investments had not been brought to the attention of the trustees.  As a result of these decisions, we expect it will be more common for auditors to qualify Part A of their audit report where the fund’s assets extend beyond the typical cash at bank, term deposits, listed shares, managed funds and real property, in the hope of protecting themselves from future litigation.

If you receive a Part A qualification for your fund, there is no need to panic.  It is not reportable to the ATO and generally no immediate action is required.  However, it is important that you:

• make sure you understand the reason for the qualification, and
• make your own assessment of the continued appropriateness of the fund’s investments.

Part B

Part B of the audit report covers the compliance audit and requires the auditor to form an opinion whether, in all material respects, the trustee has complied with particular provisions of the Superannuation Industry (Supervision) Act and Regulations.  Where an auditor believes the trustees have materially breached one of these reportable provisions, he/she will issue a Part B audit qualification. 

The existence of a Part B audit qualification must be reported to the ATO on the fund’s SMSF Annual Return and the auditor may also have lodged an Auditor Contravention Report with the ATO.

Failing to comply with the Superannuation Industry (Supervision) Act and Regulations can result in the fund being found non-complying and losing its concessional tax treatment.  Trustees can also be fined or even imprisoned.  However, the Commissioner is able to exercise its discretion and overlook breaches where trustees have inadvertently broken the rules, the breaches have been rectified and steps have been put in place to make sure they do not happen again.

For this reason, if you receive a Part B qualification for your fund, it is important that you:

• make sure you understand the reason for the qualification (eg what provision did you breach),
• if not already remedied, immediately take action to remedy that breach, and

make sure you understand the rules so that breaches of this nature do not reoccur in the future.

SMSFs can claim deductions for certain expenditure incurred by the fund provided the residential investment property is rented or available for rent.  The types of expenditure which can and can’t be claimed and your record keeping requirements are summarised below.

Expenditure which can generally be claimed

The sorts of expenditure for which a deduction can generally be claimed includes:

• advertising for tenants
• body corporate fees
• cleaning
• council rates
• decline in the value of any depreciating assets held in connection with the property (eg furniture & fittings)
• electricity and gas
• gardening and lawn mowing
• insurance (building, contents, public liability)
• land tax
• lease document expenses (preparation, registration, stamp duty)
• pest control
• property agent fees and commissions
• repairs and maintenance
• water charges

However, this list is subject to the following qualifications:

• Where a property is untenanted for a period, deductions are only available where the property was genuinely and publicly advertised for rent and the condition of the property meant it was suitable for rent. 
• SMSFs are only able to claim deductions for costs which are actually incurred by the fund (ie not those reimbursed by the tenant).
• Where a property is only used partially for producing assessable income (eg a portion of the fund’s income is exempt from tax because the fund is paying retirement phase pensions), only a portion of these costs are deductible.

• Since 1 July 2017, the decline in value of second hand depreciable assets acquired since 9 May 2017 is not deductible.  This means existing plant & equipment acquired as part of a property purchase post 9 May 2017 is generally not depreciable and SMSF trustees are generally no longer able to use a quantity surveyors’ report to increase depreciation deductions.

Expenditure which generally can’t be claimed

Expenditure for which you generally can’t claim a deduction includes:

• acquisition and disposal costs for the property
• costs to attend seminars about helping you find a rental property to invest in
• travel expenses to inspect a property before you buy it
• since 1 July 2017, travel expenses relating to inspecting, maintaining or collecting rent on the property (these costs are also not included in the cost base of the property)

• as noted above, since 1 July 2017, the decline in value of second hand depreciable assets acquired since 9 May 2017 and held in connection with the property

Record keeping requirements

To substantiate the fund’s tax calculations, as trustee, you should keep records of both the income and expenses relating to the rental property.  In relation to expenses, your records should include:

• the name of the supplier
• the amount of the expense
• the nature of the goods or services, and
• the date the expense was incurred (or a fund bank statement covering that period)

These records should be kept for five years from the end of the year to which the expense relates.

In the final week of Parliament, there were a number of superannuation related measures still to be passed into law.  We provide a status update below on each of these measures together with the Government’s other May 2018 Federal Budget superannuation related proposals.

Reversionary Transition to Retirement Income Streams (TRISs)

Legislation which amends the Income Tax Assessment Act (with effect from 1 July 2017) so that a TRIS which automatically reverts to a reversionary pensioner is also automatically a retirement phase pension has now passed the Senate [Treasury Laws Amendment (2018 Measures No. 4) Bill 2018].  Unfortunately the Senate proposed a number of changes  to other measures in the Bill (non-superannuation related) so it now returns to the House of Representatives for approval.  We expect Royal Assent will be given in the new year.

Superannuation Guarantee (SG) integrity measures

Legislation aimed at strengthening employers’ compliance with their SG obligations has also passed the Senate and as above, has now returned to the House of Representatives [Treasury Laws Amendment (2018 Measures No. 4) Bill 2018].  Among other things, this legislation:

• allows the Commissioner to issue employers with education directions or directions to pay an SG charge, and
• strengthens the director penalty provisions.

SG & one-off 12 month amnesty

Legislation to encourage employers to voluntarily disclose historical SG non-compliance and pay an employee’s full entitlements passed the House of Representatives in June 2018 and is awaiting progress in the Senate [Treasury Laws Amendment (2018 Superannuation Measures No. 1) Bill 2018].

Salary sacrifice contributions & employer SG obligations

Legislation to ensure that amounts that an employee salary sacrifices to superannuation do not reduce an employer’s SG obligations and SG entitlements are calculated on a pre-salary sacrifice base is still awaiting progress in the Senate having passed the House of Representatives in November 2017 [Treasury Laws Amendment (Improving Accountability and Member Outcomes in Superannuation Measures No.2) Bill 2017].

SG “Opt Out” for employees with multiple employers

Legislation to enable individuals with multiple employers to elect to “opt out” of the SG system in respect of their wages from certain employers from 1 July 2018 has passed the House of representatives but is still awaiting progress in the Senate [Treasury Laws Amendment (2018 Superannuation Measures No. 1) Bill 2018].

Non-arm’s length expenditure

Legislation  to amend the non-arm’s length income (NALI) provisions to ensure expenditure is also taken into account has passed the House of Representatives but is awaiting progress in the Senate [Treasury Laws Amendment (2018 Superannuation Measures No. 1) Bill 2018].

Limited Recourse Borrowing Arrangements (LRBAs) and Total Super Balance

Legislation that aims to increase the amount of an individual’s Total Super Balance by “adding back” a proportion of any outstanding LRBA loan balance has passed the House of Representatives but is awaiting progress in the Senate [Treasury Laws Amendment (2018 Superannuation Measures No. 1) Bill 2018].

If enacted, this change would apply to any individual where the LRBA was entered into on or after 1 July 2018 and:

• whose superannuation interests are supported by an asset to which the LRBA relates if that individual has satisfied a “full” condition of release (ie a condition of release with a nil cashing restriction such as reaching age 65, retirement, permanent incapacity, or terminal medical condition), or
• where the lender is an “associate” of the SMSF.

Work Test Exemption for Recent Retirees

The Superannuation Industry (Supervision) Regulations have now been amended to give effect to the Government’s May 2018 Federal Budget proposal to allow voluntary contributions (called “work test exempt contributions”) to be accepted from 1 July 2019 where [Treasury Laws Amendment (Work Test Exemption) Regulations 2018]:

• the individual is generally aged 65 to 74 (or 65 to 69 for spouse contributions),
• the work test wasn’t met in the year the contribution was made, but
• the work test was met in the immediately preceding financial year,
• the member had a Total Super Balance of less than $300,000 on 30 June of the immediately preceding financial year, and
• no contribution has ever been accepted using this work test exemption in any previous financial year.

In a welcome move, the Government decided to not proceed with its proposed changes to the bring forward rules meaning a person turning 65 in a financial year will be able to use a “work test exempt contribution” to trigger bring forward mode. 

Increase in SMSF Membership from Four to Six

We are still awaiting the release of draft legislation on this proposal, which is due to commence 1 July 2019.

Three-Yearly SMSF Audits

We are also still awaiting the release of draft legislation on this proposal, which is due to commence 1 July 2019.

Parliament is scheduled to return in mid-February 2019.  We look forward to providing you with further updates on the progress of these measures in our next webinar to be held on 28 February 2019.  Costs and details on how to register can be found here https://www.heffron.com.au/heffron/training/webinars.

As part of the 2018/19 Federal Budget announcements, the Government confirmed that they intend to legislate to increase the maximum number of members that can belong to a single SMSF from four to six. This change is to apply from 1 July 2019 but has not yet been legislated.

This announcement has prompted many to think about whether it can be beneficial to add adult children as members of their parent’s SMSF or is this a strategy to be avoided.

What are the Advantages?

Having your adult children as a member of your SMSF can offer a number of advantages including:

• potential savings in overall cost (depending on the investments, transactions undertaken in the SMSF etc),
• allowing the SMSF to diversify its investments,
• allowing for the intergenerational transfer of fund assets.  For example, some parents who now have a mix of both retirement phase pension and accumulation balances are choosing to undertake a modified form of withdrawal and recontribution strategy whereby they withdraw money from their accumulation account, loan the monies to their children and their children then make concessional and non-concessional contributions to the SMSF. Depending on the time available and the quantum of the dollars involved, the need to sell fund assets on your death may be eliminated,
• helping meet any liquidity issues of the SMSF.  The cashflow generated from your children’s contributions or rollovers into the SMSF could be used to meet your minimum pension requirements, finance limited recourse borrowing arrangements etc, and
• acting as a way of mitigating some of the impact of the Australian Labor Party’s plans to limit refunds of excess franking credits for some taxpayers.  Having the children direct their concessional contributions to the SMSF would enable the franking credits to be used, thereby minimising or eliminating any excess franking credits. Our modelling suggests that concessional contributions have a much larger impact on excess franking credits than assessable investment income generated from accumulation balances. 

What are the Disadvantages?

There are potentially a number of perils in adding additional members such as adult children to your SMSF including:

• your children will be privy to information about your SMSF entitlements and any arrangements you have put in place (eg reversionary pensions, binding death benefit nominations),
• you risk being “out-voted” by your children in the running of the fund unless you introduce adequate controls,
• trustee decisions must be made in the best interests of all beneficiaries not just the beneficiaries with the majority balances,
• your adult children are likely to have different risk profiles to you, perhaps requiring different investment strategies.  While you can run separate investment portfolios and allocate earnings to the specific account balance(s) supported by a particular portfolio, this brings additional administrative complexities.  And, as a result of changes made with effect from 1 July 2017, it may be impossible to reflect these different investment strategies when it comes to calculating tax on the fund’s investment income, and
• there would be a greater need to develop a workable dispute resolution mechanism for the fund.

There is no definitely right or wrong choice here – every family is different and every child within a family is different.  However, given the number of cases where the inclusion of one or more adult children as members or trustees of an SMSF has caused untold angst for the remaining members/beneficiaries, it is not a decision to be made lightly.

From 1 July 2017 it became much harder to build up more superannuation thanks to a tightening of the limits on contributions.  The maximum “concessional contributions” (employer, salary sacrifice contributions or contributions made by someone who claims a tax deduction for them) reduced to $25,000 pa.  At the same time caps on “non-concessional contributions” (contributions made from someone’s own money for which they do not claim a tax deduction) reduced from $180,000 pa to $100,000 pa and even $nil for anyone with more than $1.6m in superannuation.

Quirkily, at the same time, legislation was underway to introduce a brand new type of contribution that provides far more freedom for older Australians to make contributions.  These new contributions are known as “downsizer contributions” and they started from 1 July 2018.

“Downsizer contributions” are really just like non-concessional contributions once they arrive in the superannuation fund.  For example, the fund doesn’t have to pay any tax on them and when they are eventually paid out either during the person’s lifetime or after they die, there is no tax to pay.  If they are used to start a pension they will count towards the new $1.6m limit on pensions. 

But they come with completely different eligibility rules and limits.

For a start, downsizer contributions can only be made by someone who is over 65. This is unusual for superannuation.  Most other rules are designed to stop people contributing after 65 unless they are still working and it’s virtually impossible to make contributions after 75.  Downsizer contributions are exactly the opposite, they only come into play after 65 and there are no work requirements or maximum ages.

They are only available to someone who has just sold an eligible “dwelling” after 1 July 2018 that has been owned by the person making the contribution or their spouse for at least 10 years.  There are a few rules about the nature of the dwelling but it essentially includes any family home located in Australia.  It can even include properties such as farms where the family home is only part of the overall property.  A good guide is: if someone sells a property and does not have to pay capital gains tax on at least some of that sale because it was their main residence, it’s worth checking if it triggers eligibility for the downsizer contributions.

The maximum amount of the downsizer contribution is $300,000 per person, so $600,000 combined for a couple regardless of how much they already have in their superannuation fund. But there’s an extra limit – the total amount contributed cannot exceed the sale price of the property.  So if a property is sold for $400,000, a couple could contribute $200,0000 each or $300,000 for one person and $100,000 for the other or some other combination.  They could not use their full limit of $300,000 each ($600,000 combined).

Only one property can trigger a downsizer contribution over a person’s lifetime.  But it can happen any time after 65 – even someone who is 90 and is selling their home to move into an aged care home could make one.

So why are they such a big deal?

One reason is that downsizer contributions can be made by people who already have very large superannuation accounts.  In the future it will be common for these people to find that they cannot make non-concessional contributions for many years before they turn 65 (once they cross the magic $1.6m threshold) but when they sell their house at (say) 80 they can make a downsizer contribution.  It is therefore a belated chance to add to superannuation.

While they are called “downsizer contributions” (implying that there is an expectation of selling a large house and buying something smaller) there is actually no requirement to be downsizing or even to be buying another home at all.   The rules are simply an opportunity for those over 65 to make superannuation contributions that is triggered by selling their home.

There is also no requirement that the contribution actually comes from the proceeds of the sale.  Some people might have no intention of adding more money to their superannuation fund but they are concerned that the super they already have would all be taxed very harshly if inherited by their adult, financially independent children (up to 15% plus medicare).  The new rules give people in this position the ability to withdraw some existing (taxable) superannuation and then put it back into the fund as a (tax free) downsizer contribution when they sell their home.

And there are some quirks about eligibility.  Just some aspects to think about:

• While the home must have been owned for 10 or more years, there’s no requirement that the couple have been together for all of that time – a late-in-life marriage could still allow downsizer contributions for both members of the couple if one of them sells their home,
• Even where the home is owned entirely by one member of a couple, both can potentially make a downsizer contribution,
• Only someone over 65 can make a downsizer contribution.  But if one member of the couple is under 65, that simply means only one of them can make one – it doesn’t rule them both out entirely.

One potential shortcoming is the impact on age pension entitlements - people making a downsizer contribution will potentially be moving money out of an exempt asset (their family home), into an environment where it will affect their age pension (superannuation).

For a new rule that’s not being talked about much, downsizer contributions have a lot to offer and a great many over 65s selling their homes should give them some serious consideration.

In the May 2018 Federal Budget, the Government announced plans to extend the ability for recent retires to make contributions to superannuation from 1 July 2019.  This change has now been legislated.

In a nutshell, the rules in the current year only allow superannuation contributions for someone over 65 if:

• the contributions are legally compulsory (eg required by an award or the Superannuation Guarantee rules), or
• the member has met a “work test”.  (The work test is, broadly speaking, completing 40 hours of paid work over no more than 30 consecutive days at any time in the financial year and before the contribution is made).

What’s the change?

From 1 July 2019 individuals will have one extra financial year in which contributions can be made after the year in which they last meet the work test.

The one condition they must meet is that their Total Superannuation Balance (ie the measure of all of the money they have in superannuation across all their funds) must be less than $300,000 at the relevant time.

More specifically, the process will be:

• identify the last year in which the individual met the work test (let’s say an individual retired, having recently turned 67, in May 2020), and
• confirm that their Total Superannuation Balance was under $300,000 at the end of that year (30 June 2020 in this case), and if so
• member and employer contributions will be allowed in the 2020/21 year even though the individual will be turning 68 and will not have worked at all during that year.

The exemption applies for the first time in 2019/20.  Note that this is the first year in which contributions will be possible under the new rules – those using it in that first year would need to meet the work test in 2018/19.

What is and isn’t allowed?

Those who cease work entirely well before age 65 will effectively receive no benefit from this change.  It is not a blanket exemption for one year after the last year in which contributions were possible.

It doesn’t allow contributions at times when they are not allowed regardless of whether the person has met the work test – eg voluntary contributions are illegal after 75 (or more technically, the 28th day of the month following their 75th birthday) and this remains the case.

The exemption is also only available in one financial year.  This means that it isn’t possible for someone to use the exemption in one year, then meet the work test in the next and use the exemption again the year after.

How does the exemption interact with the bring forward rules?

The “bring forward rules” are the special rules that allow people to contribute up to two or three years’ personal contributions in a single year (effectively “bringing forward” one or more subsequent years’ contribution limits).

Currently, the year in which an individual turns 65 is the last year in which they can initiate a bring forward period and this will not change as part of the exemption.

Conclusion

The feature that limits the value of this opportunity is the $300,000 cap on members’ Total Superannuation Balances.  However, it does present some new opportunities for those with small balances.

Article amended 10 December 2018 to reflect release of amending legislation

Under the scheme, the employee is able to take up the entitlement themselves or nominate an associate to take up the share entitlement.  If his SMSF were to take up the shares, what would be the consequences from a superannuation perspective?

An employee share scheme is a scheme under which shares or options in a company are provided to an employee or their associate in relation to the employee's employment.  We are often asked the question whether an employee could nominate their SMSF as the entity to acquire the shares/options under the employee share scheme.

Where an employee is granted rights to receive shares or options and the employee surrenders those rights to their SMSF, or exercises those rights but nominates their SMSF to receive the shares or options, the ATO generally considers the following transactions to have occurred:

Acquisition of Asset from Related Party

In the ATO’s view, shares or options transferred to an SMSF under an employee share scheme are generally considered to have been acquired from the employee (who would be a related party of the fund), even if the shares or options are transferred directly from the employer to the SMSF. 

If the shares or options are acquired from the employee, from the perspective of the Superannuation Industry (Supervision) Act (SIS), the SMSF will be in breach of section 66 unless the shares or options are listed securities at the time of acquisition by the fund (or the employer is a related party of the fund and the acquisition wouldn’t cause the fund’s in-house asset ratio to exceed 5%).

Determining whether or not the shares/options are in fact acquired from the employee or the employer will require a review of all of the facts & circumstances of the offer.  If trustees or their advisers are in any doubt, we recommend they request SMSF Specific Advice from the ATO.

Personal Contribution

If the SMSF acquires the shares or options, the employee will have made a personal contribution to their SMSF equal to the market value of the shares or options less any consideration actually paid by the fund.

For example, where the SMSF pays, say, $10,000 for the shares or options but they have a market value of $50,000, the employee is considered to have made a $40,000 personal contribution to their SMSF, and the cost base of the shares or options for capital gains tax purposes in the fund will be $50,000.

The trustee of the fund will need to ensure the employee is eligible to make contributions to superannuation (eg under age 65, aged between 65 & 74 and satisfies the “work test”).  This contribution would then generally be counted against the employee’s non-concessional contribution cap (which, depending on the employee’s circumstances, could be $nil).

In summary, where the shares/options are listed securities, the acquisition by the fund will not cause any SIS compliance concerns provided the employee is eligible to make contributions to superannuation.  However, the employee may need to consider the impact on their non-concessional contribution cap.

However, where the shares/options are not listed securities, SMSF trustees should exercise considerable caution before allowing the fund to be nominated to take up the entitlement.

When we use the term “segregation” or refer to an asset as being “segregated” in a superannuation fund, we are generally referring to a tax concept which relates to funds providing retirement phase pensions.

In a nutshell, if a fund has assets that are purely supporting one or more pension accounts and those assets are classified as “segregated” for tax purposes, the fund claims a tax exemption for all investment income earned on those assets (known as exempt current pension income or ECPI).  Providing the fund doesn’t provide any defined benefit pensions, it doesn’t even need an actuarial certificate to claim this tax exemption.  Other funds with pensions – where the assets supporting those pensions are not classified as segregated – claim their tax exemption using a different method often referred to as the “actuarial certificate method”.

But the Income Tax Assessment Act 1997 also allows trustees to set aside assets exclusively for precisely the opposite purpose – ie to support accumulation (non pension) benefits.  Providing the fund is allowed to have segregated assets (see below), assets set aside in this way can be treated as “segregated non-current assets”.

Not surprisingly, earnings on segregated non-current assets are subject to the usual tax rate of 15%.  So why would anyone bother – why would a fund choose to isolate some of its assets for the sole purpose of supporting an accumulation account?

Before answering this question, it is important to briefly re-cap which funds are allowed to treat their assets as segregated for tax purposes.

Re-cap – which funds can segregate?

In any given year, an SMSF is allowed to have segregated assets if, at the end of the previous year, no fund member had both:

• A total superannuation balance of more than $1.6m, and
• A retirement phase pension (in this fund or any other).

If a fund is allowed to segregate, the trustee is allowed to have either segregated pension assets or segregated accumulation assets or both.

And when might segregating accumulation assets prove attractive?

This is perhaps best explained using an example.

Consider a fund with two members, both of whom have $1m accumulation balances at the beginning of the year.  On 1 January, one of the members starts a retirement phase pension while the other remains in accumulation phase.

In the normal course of events, this fund would obtain an actuarial certificate for the whole year.  It is likely that this certificate would show a percentage of approximately 25%.  In other words, 25% of all of the investment income received throughout the whole year would be exempt from tax.  This would apply to:

• income before any pensions started (when the fund was actually 100% in accumulation phase),
• as well as all income after the pension started (when the fund was actually 50% in pension phase).

If the fund is making roughly the same amount of investment income every month, this will give a result that feels about right.

Where things get complicated is if (say) the fund sells a major property asset in June.  Because it occurred at a time when the fund had around 50% of its assets supporting pension accounts, the trustee could be forgiven for assuming that 50% of the capital gains (after discounts) will be exempt from tax.

This is where the ability to segregate an asset to support an accumulation account can be vital.

What if all the fund’s assets were treated as segregated accumulation assets until 1 January?

Since the fund is allowed to segregate its assets for tax purposes, the trustee can choose to elect (up front) that all its assets are segregated accumulation assets at 1 July until the pension starts on 1 January.

This helps because it means that:

• the account balances for the first half of the year are completely ignored in working out the actuarial percentage,
• the percentage is therefore higher – in this case, it is likely to be around 50%,
• the percentage is applied to all income after 1 January (all income before that time would be fully taxable).

In this case, it means that 50% of the capital gain (after discounts) would be exempt from tax rather than only 25%.

How are assets segregated for accumulation accounts?

The process is essentially the same as choosing to segregate specific assets for pension accounts (ie the trustee resolves to do so, records the assets that should be treated as segregated assets and ensures that they are kept separate from other assets).

There is one important difference in that funds segregating assets for accumulation accounts must obtain an actuarial certificate.  This is different to the situation for funds that are segregating assets for pension accounts – as mentioned earlier, this can be done without an actuarial certificate as long as the fund has no defined benefit pensions.

Conclusion

Since segregating assets is almost always talked about in the context of pensions, it is easy to overlook the fact that funds can also segregate assets to support accumulation accounts.  The concept can, however, be just as valuable.

The title to this blog is a common refrain these days and most of us don’t blink an eyelid when someone says data is an asset.

However, if it really is an asset why don’t more of us treat it like one?

How we treat assets

• We try and acquire data at low prices
• We protect them from damage and theft
• We repair and maintain them – well maintained data will increase in value
• We use them to generate revenue – if we keep our asset in good condition it usually generates stronger revenues
• We don’t give them away for free

In my experience, if we truly believe data is an asset, many of us don’t treat data as well as we should.

This is a big subject and I will only scratch the surface in this blog. However, I want to stimulate the reader into asking themselves questions about their data assets and hopefully inspire action that extracts more value from those assets.

Protection & theft

This principle is quite well understood from a data point of view, but the data protection focus has been driven as much by legislation (for example, the Privacy Act) as commercial priorities. If the community hadn’t had this legislative burden imposed, I wonder how long it would have taken to reach our current level of data protection competence.

At any rate, it is generally understood that personal data must be protected in order to ensure client privacy and cyber-crime insurance is also becoming more common. Not backing up your data and storing that back up in a safe place (usually outsourced to the cloud and therefore off site) is now the exclusive domain of the fool.

Nevertheless, it still surprises me how much information is readily shared via email instead of using more secure electronic methods or how frequently applications like Dropbox (where data sovereignty might be an issue) is used for personal information. It would appear there is still plenty to learn in this space.

Given the ubiquity of cloud-based software solutions it is also vital that you understand how your suppliers protect your data. Make sure the contracts you have with these suppliers protects your data in a way that is necessary and satisfactory to you.

Maintenance

No asset will deliver on its potential if it isn’t well maintained. Data is no different to any other asset in this respect.

If we are to extract value from our data asset it must be accurate, relevant, easy to use and analyse.  This is the work of data asset management and requires focus and process. It’s important that we define whose job it is to do each part of this work. 

Without doing the maintenance work, we will struggle to generate a return from our asset. Given the size and importance of this topic, I will be dealing with it in more detail in my next blog.

Generate a return

Almost all data is valuable but how can we turn the asset into dollars.

Quality data generates its returns in four main ways:

• Improved efficiency
• Improved accuracy and quality
• Improved scalability
• Better decisions

Data has rich information locked up in it that has the potential to help us understand almost everything about our business more accurately and in real time. If extracted and analysed well it can transform the quality and scalability of our decision making and add huge value to the organisation.

Each component of this process (collection, storage, extraction, analysis, insights) can be scaled and improved using data management techniques but only a few organisations will have the resources and therefore capability to do it all at once. Digital natives (even if they are small) often have the jump on traditional business because their processes and systems have been built from the ground up to do this work.

However, as with most things data, data analytics and even the application of artificial intelligence (AI) to the results of that analysis is becoming cheaper and easier to use for smaller organisations. There are now several software packages available at modest cost, for example Tableau, ClearStory Data or even just good old Google Analytics

Those organisations that master the ability to collect, analyse and act on their data earlier than their competitors will undoubtedly have a key competitive advantage in their market places.

Gifting

We don’t generally give away our assets for nothing, yet many organisations do this all the time when they provide data to a third-party for free. 

On other occasions, you may be able to negotiate a better deal if the supplier realises you understand the value of your data asset.

If you are using a third-party provider and your data will be stored in their systems on a server out of your control, make sure you understand what that data can be used for and who (if anyone) is going to generate a return from that asset. Sometimes, the functionality of the provider plus the price you are paying for that functionality maybe be enough to offset the fact you are giving an asset away for nothing but make sure you do that with your eyes open.

Acquisition

If data has so much value, then we should be collecting as much of it as we can, ensuring its accuracy and storing it in a way that is easy to use, especially if we can do so at low cost.  Many of your third-party software providers are doing this with your data already. 

Data can come from two sources:

• Your own data
• Third-party data

At the very least we should be collecting all our own data in a way that enables us to extract value from it. It’s the data management processes that ensure the data is in a condition to add that value.  As alluded to above, given the importance of the data management process, I will be writing about that in my next blog.

Once again though, the means of doing this are getting cheaper as running your own scalable data base and controlling your own Application Programming Interfaces (APIs) becomes more common in the Small to Medium Enterprise  space.  

I don’t think it will be long before those capabilities become an essential component for any organisation with growth and sustainability ambitions.

In recent days the Government announced a handful of proposed technical changes to the taxation law to address a number of minor but important issues affecting some retirees.  We cover two of these proposed changes below.

Valuation of Defined Benefit Pensions

Since 1 July 2017, whenever an individual commences a retirement phase pension the “value” of that pension is counted towards their $1.6m Transfer Balance Cap.  For account based pensions, the “value” for this purpose is simply the starting value of the pension.

However, for some defined benefit pensions (eg lifetime, life expectancy pensions), the legislation provides a formula instead.  One of the components in this formula is the pension’s annual entitlement which, in simple terms, is worked out by annualising the first payment the individual receives from the income stream.

For some schemes, particularly say public sector schemes, the pension payments to  a reversionary pensioner may temporarily be paid at a higher rate for a period of time, after which there is a permanent reduction in the payments.  For example, the payments made to a surviving spouse for 4 weeks after the original pensioner’s death are equal to what the original pensioner was receiving and then payments reduce to say 70% of the original amount.

Under current law, the amount counted towards the surviving spouse’s Transfer Balance Cap will be based on the first (ie higher) payment the spouse receives.  This is the case even though shortly thereafter there will be a permanent reduction in the payments received.

The Government has proposed amending the rules for valuing these pensions so individuals are not disadvantaged when permanent reductions in the payments occur.

Stopping & Restarting Market Linked Pensions Post 1 July 2017

As mentioned in Meg Heffron’s June blog article (https://www.heffron.com.au/blog/article/market-linked-pension-update), up until recently there had been uncertainty around the Transfer Balance Cap treatment of the commutation of market linked pensions (eg where the proceeds are rolled over and used to commence a new market linked pension in another fund or even in the same fund).  In short, an unintended consequence of the 1 July 2017 changes meant that stopping and restarting the pension in this way could have caused the individual to exceed their cap.  This is because the commutation of the pension arguably didn’t result in a reduction in the amount counted against their transfer balance account but the commencement of the new pension was still counted.

The ATO addressed this in August by announcing that they would essentially administer the law as was originally intended [CRT Alert 066/2018] by agreeing to not take compliance action if the stop & restart of the pension is not reported at all or those events are reported but the values used are modified appropriately. 

The Government has now announced that they are committed to finding a more permanent legislative solution to this problem by amending the way in which the commutation of these pensions are valued for the purposes of the Transfer Balance Cap. 

Whilst irrelevant for many retirees, these changes will be welcome news for those who were inadvertently impacted by the drafting of the original reforms.

Potentially, but this will depend on why your client is receiving the lump sum, their age, the amount paid and the components of the lump sum. 

Individuals subject to Division 293 tax are levied with an effective tax rate of 30% on their concessional superannuation contributions, rather than the usual 15% rate. This additional 15% tax is colloquially known as “Div 293 tax”.

Div 293 tax is applied to certain concessional contributions where an individual’s combined “income” and “low tax contributions” for a year exceed $250,000 ($300,000 for financial years prior to 1 July 2017).

“Income” for this purpose is primarily based on your client’s taxable income with a few modifications. 

So which lump sums are included in “income” for Division 293 purposes?

Your client’s lump sum will be included for Div 293 purposes if your client is receiving the lump sum because they are drawing down on their own superannuation benefits and:

• they are at least age 60 – in which case the amount which is included is the amount (if any) of their untaxed element
• they are at least their preservation age but not yet 60 – in which case the amount which is included is the amount (if any) of the taxed element which exceeds the low rate cap ($205,000 in the 2018/19 year) plus the amount of any untaxed element
• they are under their preservation age – in which case all of the taxed and untaxed elements are included
• they have received the payment in breach of the payment rules (eg because they weren’t yet eligible to draw on their benefits in lump sum form) - in which case all of the payment is included including any tax free component

Your client’s lump sum will also be included for Div 293 purposes if the lump sum they receive is a death benefit paid directly from a superannuation fund and they are a non-dependant beneficiary – in which case all of the taxed and untaxed elements are included.

Interestingly, if your client had received the death benefit via the deceased’s estate, then it would not have been included in their taxable income (the estate will be liable for any tax) and therefore not included for Div 293 purposes. 

With the 1 July 2017 introduction of the $1.6m Transfer Balance Cap came a new obligation on superannuation fund trustees to report certain member “events” to the ATO. These events are reported using a “Transfer Balance Account Report” or TBAR.  For TBAR purposes, SMSFs are either annual or quarterly reporters with the first TBARs under the quarterly system due on 28 October 2018.

Does this mean every SMSF who is a quarterly reporter needs to lodge a TBAR before 28 October 2018?

Put simply, no.

TBAR reporting is an events based system.  A TBAR only needs to be lodged where an “event” has taken place.  In addition to reporting the 30 June 2017 value of retirement phase pensions in place just before 1 July 2017, reportable events include:

• the commencement of a retirement phase pension on/after 1 July 2017,
• the reclassification of a transition to retirement income stream (TRIS) as a retirement phase TRIS on/after 1 July 2017,
• a lump sum commutation (full or partial) from a retirement phase pension on/after 1 July 2017, and
• the reversion of a retirement phase pension on/after 1 July 2017.

There is no need to lodge a TBAR to report pension payments, lump sums from accumulation accounts, etc.  In addition, there is no need to lodge a “nil” TBAR for funds which have not had any reportable events in the relevant period.

For many funds, it is quite possible that post 1 July 2017 no further TBARs will need to be lodged until say:

• a member dies and his or her pension is transferred to the surviving spouse, or
• the trustee decides to wind up the fund and transfer the remaining member balances to a public fund.

Of course, those quarterly reporters who have had a reportable event in the relevant period need to take appropriate action to identify these events, collect the necessary information and lodge a TBAR for the affected members.  This can be a time consuming process for those accountants not processing their funds’ transactions regularly, but it won’t be an issue for every SMSF.

What if you won’t be able to meet the 28 October 2018 due date?

A TBAR is an approved form and trustees can be penalised $210 for each period of 28 days that the form is late up to a maximum of $1,050.  However the ATO have indicated that they are currently taking an “educative and supportive approach” where TBARs are lodged late.  Specifically they have stated “Where agents will not meet the 28 October deadline, but are working towards lodging a TBAR due on 28 October 2018 as soon as possible, there is no need to contact us to seek a formal extension of time.  Whether or not an extension of time is granted, any late lodgement of a TBAR may result in the member’s transfer balance account being adversely affected, the member being adversely affected and possible reverse workflow for the trustee. We therefore strongly recommend agents discuss with members potential consequences of late lodgement.”

My previous blog on data flagged that the digital revolution enables great masses of data to be generated, collected, stored and analysed relatively quickly and cheaply.

At the start of this process of digitization, data was stored on-site on tapes, discs and then hard drives sitting inside specialised computers called servers. In the dim and distant past (1994) I remember buying a new server for my employer with (wait for it) 1 whole gigabyte of storage.  At the time this seemed excessive and I never expected the space to be used. However, twenty-four years later, our family of four have hand held devices with around 12,800% more storage space than that – most of it already used.

The use of on-site digital data storage proved to be transient phase.  The creation of very fast, reliable internet connections enabled data to be cheaply stored off-site in “the cloud” by specialist, scaled providers without impacting the almost instant availability of the data to the user.

In addition, the fast, reliable internet enables software suppliers, who used to deliver their software to customers on discs so that customers could load the code onto their own desktops or local servers, to store the code on their own servers in the cloud. The fast internet enabled customers to easily access that software on-line and providers could update their software without the cost of mailing out thousands of new release discs to customers.  This business model became known as Software as a Service (SaaS).

There are clear benefits to both customers and suppliers in using this model. But there is a side effect – it has created ambiguity around the question of data ownership. When the data was stored locally on the user’s equipment there was little doubt about data ownership or the ability of the data owner to exclusively access and analyse their own data. In the SaaS model, data is stored on the supplier’s equipment (or equipment rented by the supplier) and data ownership, access and the ability to analyse that data becomes subject to the law and the contract between supplier and customer.

We already know that data has great value (just look at Facebook) so when a business uses a SaaS provider it is potentially giving them away a business asset for free whilst paying that provider for the privilege.

Leveraging digital data commercially is often described as a “data play”. They are easier to pull off when one party understands the value of data and the other party does not. Acquiring a valuable asset for free is an excellent trade and the ability to arbitrage the knowledge gap around the value of data has already created more wealth than any other transaction type in history.

Like any business that wants to thrive and remain relevant to its clients, Heffron is always looking for ways to improve how we do our work.

Naturally we look for ways to get more efficient (clients love things to be done more quickly or at a lower cost) but we also have to calibrate that against the fact that most changes we make affect two very different client groups – the trustees of the SMSFs we look after and the advisers who referred them to us and who manage the delivery of our service to their client. 

That can be tricky – what’s great for the adviser may not be great for the trustee, and vice versa.

So we started using an electronic signing platform (Docusign) with some trepidation.

One of the main reasons we started down this path was to remove the long delays that inevitably occur when a large pack of documents is posted and needs to be returned.  We have the uncertainties and vagaries of Australia Post (and the documents never arrive with the client anything close to the pristine state in which they left our office) but perhaps the most significant delay is what a friend of mine once described as the “kitchen bench effect”.

The Kitchen Bench Effect

We’ve all done this.  A document arrives at home or at our office. It’s not simple to deal with it immediately – we need to read it, sign in a million places, often have our partner sign too (and they don’t conveniently work with us so we can’t do it at work) and then post back somewhere (and realistically, when was the last time any of us entered a post office?).  So naturally it stays on the kitchen bench.  Often unopened.  For weeks. 

This was a major challenge in our business.  It is not uncommon to reach April / May, a key deadline for businesses like ours, and still have 300-400 tax returns sitting on our clients’ kitchen benches all around Australia.  Many will have been sent months earlier but still haven’t been returned. That is challenging and time consuming for us and our advisers (who don’t have a lot of control over their clients’ kitchen benches either) but even for the trustees – all of a sudden something they have been ignoring for weeks has become urgent.

Moving to electronic signatures

We took a random sample of the SMSF returns we sent out recently – those sent by Docusign are typically returned in 3 days.  Those sent via paper are typically returned in 21 days.  (And remember this is looking at the “typical” case (or median) rather than the extremes – some of the paper packs still set up home on the kitchen bench for many months!)

So moving to electronic signing definitely achieved what we wanted – but is it a positive experience for clients?

For some clients it is an immediate win – those where the trustees don’t all live together or where the financials arrive at a time when someone is away are over the moon.  Equally those who know they have a kitchen bench problem are delighted that all they need to do is review and discuss the package with their fellow trustees and then the actual sign / return process is no more than a few clicks.  Every signatory receives a copy of the signed documents at the end (no need to separately copy and post or email) and we are able to upload them to our portal virtually immediately once they are returned.

It also means clients are very aware of where they need to sign and whose signature is required.  While our paper packages have often jokingly been referred to in-house as “death by Sign Here stickers”, it’s amazing how easy it is to miss one, sign in the wrong place, forget to add a date when there’s a lot to do.  Many clients comment how much easier it is to just be prompted electronically.

The security benefits are clear too.  We can be confident that our clients’ financial data goes directly to them rather than potentially sitting in a letterbox for days or weeks, getting lost in the mail or being delivered to their neighbour by accident.  We can tell them where and when the documents are signed and even the IP address of the computer on which it happens.

Quite apart from the personal wins, many clients love the fact that Heffron and their advisers are taking this small step towards a paperless, greener future.  And when you think about it, the impact of simply not printing a large document pack is huge - no paper, less toner, no transport, no special envelopes (which we needed to do our best to combat the battering documents inevitably receive when transported through the mail).

Were there any concerns?

In some cases it wasn’t initially obvious that electronic signing would be great. 

An early concern we bumped into was that advisers and clients like to work through these documents together face to face.  The same applied for some of our trustees whose children belonged to the fund – they liked the idea of a family meeting where they really talked about their superannuation fund together.  The act of signing the paper was an integral part of the whole process.

We found other cases where advisers and clients didn’t necessarily meet face to face to execute the documents but they did want the adviser to review the work before it was passed on to the trustees.  Others simply wanted to ensure that the adviser received a copy of the signed package.

Fortunately, we realised we could accommodate numerous signing approaches that meet this need, for example:

• Even before anyone starts signing the document, it is possible to create a PDF of the full copy and print it to share with others.  Advisers and trustees can then review together on either paper or their own devices before completing the electronic signing,
• We can set up the process so that the document is only forwarded to the client for e-signing once the adviser has reviewed and approved it or the adviser can simply receive a copy at the end.  Just like sending out paper copies, we have tailored this to suit the adviser and their client – different people make different choices, and
• We can even identify at a glance whether anyone in the process needs to be reminded that they need to do something.  (Any of us with very full email in-boxes know that there is a kitchen bench equivalent for emails too!)

Whatever the preferred method, the act of actually signing AND returning still only takes a few clicks. Sometimes this is done on the spot where clients have access to their emails on a mobile device or others after they return home.

And in the end?

The most interesting aspect of this change is how many advisers initially rejected the idea of electronic signatures out of concern for their clients, only to discover that the trustees are far less concerned by it than they are.  Even in the 12 months we have been using the system, it has become far more common than previously for all of us to sign contracts electronically – whether it’s buying a new phone, taking virtually any form of delivery or renting a car, we just don’t expect to see so much paper any more.  Electronic signing in its many different forms is everywhere.

Not surprisingly the benefits of:

• speed and certainty of delivery both to and from the trustees
• ease of signing – particularly when accommodating trustees and advisers at multiple addresses
• security, and
• far less paper

are being understood and appreciated by all of us.

With a new financial year upon us, you may be thinking about what contribution caps apply for the 2018/19 financial year.

Concessional Contributions

The concessional contribution cap remains at $25,000 for the 2018/19 financial year. 

The concessional contribution cap captures both employer contributions (including superannuation guarantee and salary sacrifice contributions) and personal contributions where a tax deduction is being claimed.

Non-concessional Contributions

The non-concessional contributions cap for the 2018/19 financial year remains at $100,000 for individuals who had a total superannuation balance of less than $1.6m at 30 June 2018.  Individuals who had a total superannuation balance of $1.6m or more at 30 June 2018 are unable to make any non-concessional contributions in the 2018/19 financial year without exceeding their cap (ie their cap is $nil).

The non-concessional cap captures personal contributions where a tax deduction is not claimed or contributions made for a spouse.

Broadly speaking, total superannuation balance is all of the money an individual has in superannuation across all superannuation funds to which they belong.  Importantly, it is not just the amount in the SMSF.

As you may be aware, in certain situations, it is possible to “bring forward” the non-concessional contributions cap from a future year and use it in the current year.  The bring forward amount and periods are shown in the table below.

Downsizer Contributions

From 1 July 2018, some individuals are eligible to make a new type of contribution called a “downsizer contribution”. 

Generally speaking, an individual is eligible to make a downsizer contribution if they are over age 65 when the contribution is made, they sell their home on or after 1 July 2018, and they owned the home for at least the last 10 years.

Importantly:

• there is no maximum age limit (rather the contributor must simply be aged 65 or over),
• there is no requirement to satisfy a work test, and
• unlike non-concessional contributions, downsizer contributions can be made regardless of the size of the individual’s total superannuation balance.

Downsizer contributions are limited to the lesser of:

• $300,000 per person (eg $600,000 combined if both members of a couple are eligible), or
• the capital proceeds from the disposal of the dwelling.

If you are unsure if you are eligible to make contributions to superannuation or use bring forward mode, or would like further information on downsizer contributions, please give us a call to discuss.

With the 1 July 2017 introduction of the $1.6m Transfer Balance Cap (or “pension cap” as some people call it) came a new obligation on superannuation fund trustees to report certain member “events” to the ATO.  These events are reported using a “Transfer Balance Account Report” or TBAR. 

The TBAR is a way of reporting a number of things but mainly it is concerned with funds telling the ATO when:

• a new pension starts for someone who is retired or age 65 or over (or otherwise able to access their superannuation benefits without restriction),
• a transition to retirement pension becomes a retirement phase pension (because the recipient retires or reaches age 65 etc),
• some or all of an existing retirement phase pension stops (called a commutation), and
• some other special events that affect the Transfer Balance Cap,

and the amount involved.

For many SMSF members, the first TBAR lodged for them was to report the balance of any pensions already in place on 30 June 2017. 

Will SMSFs need to lodge TBARs on an on-going basis?

For most SMSFs, no.  For many funds, it is quite possible that no further TBARs will need to be lodged until say:

• a member dies and his or her pension is transferred to the surviving spouse, or
• the trustee decides to wind up the fund and transfer the remaining member balances to a public fund.

This is because there is no need to lodge a TBAR to report for:

• pension payments, or
• payments from a member account that is not a retirement phase pension (eg a withdrawal from an accumulation account – money that has not been converted to a pension).

More regular TBARs will be required by some SMSF members.  For example:

• those who had not yet started to draw a pension from their fund at 30 June 2017 but do so at a later stage,

• those who “stop & restart” or “re-set” their pension each year to combine it with new contributions made in the previous year (not possible for those members who have already fully utilised their $1.6m Transfer Balance Cap),

• those who are drawing a transition to retirement pension and reach age 65 or retire etc after 30 June 2017, and

• those who take payments known as partial commutations (where part of the pension is withdrawn as a lump sum rather than a pension payment).  This might be common in the future as a partial commutation reduces the amount counted towards an individual’s Transfer Balance Cap.  Many people who will potentially inherit a superannuation pension from their spouse in the future will take partial commutations rather than larger pension payments to make sure they have as much of their cap available in the future.

In summary, whilst a great many SMSFs had to initially lodge TBARs (because members had pensions in place at the end of 30 June 2017), TBARs won’t be a major issue for most funds in most years in the future.

Prior to 1 July 2017, as a general rule, where an individual was age 60 or over and wanted to draw monies from their pension account in excess of their minimum pension requirements, the excess was simply treated as an additional pension payment.  This is because, whilst the payment was tax free regardless of whether the amount was treated as a pension payment or a lump sum commutation, pension payments didn’t necessitate any additional paperwork whereas lump sum commutations did.

However, since 1 July 2017, individuals aged 60 or over who need/want to take more than the minimum amount from superannuation are often inclined to:

• firstly, take monies from their accumulation account (if any eg the excess above the $1.6m which they “rolled back” to accumulation on 30 June 2017), and
• once the accumulation account has been exhausted, treat subsequent payments over the minimum pension as a partial lump sum commutation from their retirement phase pension.

This approach firstly maximises the portion of the fund generating tax free income by leaving as much as possible in the pension account.  Secondly, partial lump sum commutations create “cap space” by reversing some of the amount that has used up their $1.6m Transfer Balance Cap.  This will help an individual leave more in superannuation should they inherit a spouse’s superannuation in the future.

However, the ATO expects SMSF trustees to be able to identify whether a payment is a pension payment, a lump sum from accumulation or a lump sum commutation from pension the moment the payment is taken.  We have developed documentation which can be put in place at the start of each financial year which dictates how each payment from the fund is to be treated in that financial year.  If you are drawing more than the minimum from your retirement phase pension, and have an accumulation account or think it would be worthwhile treating some of the payments as a partial lump sum commutation, please let us know so we can prepare the necessary paperwork for you.

In the May 2018 Federal Budget, the Government proposed that SMSFs with three years of clean audit reports and returns lodged in a timely manner would be eligible to move to a three-yearly audit cycle rather than being audited every year. 

Not unexpectedly, this announcement led to a number of questions by SMSF trustees and their auditors.  Thankfully, the Government has now released a discussion paper on this proposed change which gives us a bit more of an idea of how it may work.

We’ve summarised the main points below:

• Not every SMSF will be eligible for a three-yearly audit. 

• Eligibility requirements are still to be finalised but are proposed to be determined by whether the fund’s auditor has reported to the ATO any contraventions of the superannuation law in the last three years and whether the fund has lodged its SMSF Annual Returns on time.

• Where a fund is eligible for a three-yearly audit, the auditor will still be required to audit each of the three years in that period.  For this reason, we do not expect there will be any significant reduction in overall audit costs (although funds may only actually pay their audit fee once every 3 years). 

• It is proposed that eligible SMSF trustees will be able to choose whether or not to move to the three-yearly audit cycle.  Some trustees may choose to remain being audited annually simply as a means of keeping on top of their record-keeping.  Locating a missing bank statement can be troublesome enough say 12 months after the event, let alone potentially 4 or more years later.

• In addition, if an eligible fund experiences a “key event”, eligibility would cease (at least temporarily) and an audit would be required before the SMSF Annual Return for that year was lodged.  This audit would need to cover all financial years since the SMSF’s last audit. 

           A “key event” is proposed to include events like:

           - the commencement of a pension for the first time,

           - the death of a member,

           - the addition or removal of a member,

           - the commencement or continuation of a limited recourse borrowing arrangement,

           - the purchase of an asset from a related party, or

           - investments, loans or leases with related parties.

           But the year after the key event, provided the auditor doesn’t report any contraventions to the ATO, it is proposed the fund would be eligible to return to a three-yearly audit.

• Whilst it is proposed that this change will commence for audits for the 2019/20 financial year and onwards, transitional arrangements may mean funds become eligible on a staggered basis to assist auditors in adjusting to the new arrangements.

We expect there is still a lot of consulting and negotiating to be done before we see this proposal legislated.  However, as you can see, there may be far less cost savings for SMSF trustees than the initial announcement suggested and some trustees will choose to remain on an annual audit cycle.

The methods available for obtaining Total Superannuation Balance and Transfer Balance Cap information depend upon whether or not you are the individual’s tax agent. 

Tax Agent for Individual

The tax agent for the individual can access Total Superannuation Balance information via the Tax Agent Portal by:

• sending a Mail message using:
  • the mail topic “Superannuation”, and
  • the subject “NCC balance”,
• in the mail message, you can request both the Total Superannuation Balance and non-concessional contribution bring forward information (if desired) for either:
  • all linked clients, or
  • specific clients.

You will need to include the relevant tax file numbers (TFNs).   A spreadsheet of TFNs should be included if the request is for more than 10 clients.

Transfer Balance Cap information is not currently available on the Tax Agent Portal.  Tax agents can only access this information by ringing 13 10 20.

Tax Agent for Fund/Adviser for Individual

Unfortunately Total Superannuation Balance and Transfer Balance Cap information is not currently available to persons who are not the individual’s tax agent.

If you are not the individual’s tax agent, you could try asking the client to view the information via their myGov account (see below) or ask the client’s tax agent to request the information from the ATO (as above) and then forward the information to you.

Clients

Clients can view and download a print-out of their Total Superannuation Balance and Transfer Balance Cap information via their myGov account (where they have one). 

In relation to the Transfer Balance Cap information, we recommend asking clients to provide you with the debit and credit information as well as the balance amount.

In relation to the Total Superannuation Balance information, clients are able to view their total as well as the various superannuation balances making up the total.

My client is well within his/her Transfer Balance Cap and their Total Superannuation Balance is below the relevant thresholds, so why would I need to check?

We’ve seen many instances of tax agents and advisers (and even clients) discovering superannuation balances they didn’t know the client had.  In other cases, amounts have been inadvertently reported twice for Transfer Balance Cap purposes and commutations not reported at all.

Where these errors result in the client exceeding their Transfer Balance Cap, the first you may know of the problem will be when an excess transfer balance determination is received.  If the problem is simply due to reporting errors, it can easily be fixed but your client (and you) may get a fright which could have been prevented.  For some clients, these sorts of reporting errors may not even come to light until many years down the track (eg when they inherit a superannuation pension from their spouse).

With the Total Superannuation Balance now being used as an eligibility threshold for so many tax concessions (eg non-concessional contributions cap, utilising unused concessional contributions, method for claiming exempt current pension income), we expect to see many more instances of excess contributions, mistakes in tax calculations etc going forward. 

It’s one of those areas where a little bit of time spent now reviewing client records may save a lot of heartache later on.

Remember of course, the data provided (whether via the ATO or a myGov account) will be based on the information reported to the ATO by your client’s various superannuation funds and it may not always be up to date. 

Must the fund issue a PAYG summary?  Does the individual need to report the payments in their personal tax return?  Are they still eligible for the untaxed element tax offset?

Fund PAYG Summary requirements

Where an MLP meets the definition of a Capped Defined Benefit Income Stream (CDBIS), the paying fund is required to issue a PAYG Summary. 

An MLP will be a CDBIS if it commenced prior to 1 July 2017 and the recipient is:

• over age 60, or
• the beneficiary of a death benefit MLP where the deceased was over age 60.

A PAYG summary must be issued, even if the withholding amount is NIL.  Why?

The introduction of the Transfer Balance Cap limited the amount that could be transferred to retirement phase, and individuals with more than the allowed amount were required to return the excess to accumulation.

However, MLPs and similar income streams, are prohibited from being returned to accumulation.  To create a broadly similar limited tax concession for these types of pensions, a $100,000 pa defined benefit income cap was introduced.  This cap is applied at the individual level.

As the trustee of a superannuation fund has no way of knowing what other CDBIS payments an individual may be receiving, they are required to issue a PAYG summary and the individual is then responsible for determining what to report in their personal tax return.

Individual return & CDBIS payments – to include or not?

Below age 60 for entire year

For individuals aged under 60 receiving their own pensions or in receipt of death benefit pensions where the deceased was under age 60 at the time of passing, there have been no reporting changes.  Total taxable, untaxed and tax withheld figures for all pensions should be reported at Item 7.

Aged over 60 for entire year and pension held for whole year

Individuals aged over 60 for the entire year will generally only receive a PAYG summary for a pension if that pension:

• meets the definition of a CDBIS, or
• has an untaxed element.

Simply receiving a payment summary for a CDBIS does not mean an amount always needs to be included in the individual’s income tax return.  An amount only needs to be included if:

• the sum of all of the individual’s CDBIS amounts (both tax free & taxed elements) exceeds $100,000.  The amount to include is then 50% of the excess above $100,000 (label 7M), or
• the individual has an untaxed element (label 7Z).

Receiving own MLP & turned 60 during the year OR aged below 60 and in receipt of death benefit MLP where deceased was over age 60 at death

Individuals in this category may have a reduced defined benefit income cap to reflect that some of the payments they received were not concessionally taxed.  This is discussed in detail in Law Companion Ruling 2016/10 and the 2018 Individual Tax Return Instructions (QC 54214).

Very simply, the $100,000 cap is prorated to only capture the period of tax concession.  Similarly, the reportable amount will be half the amount that exceeds the reduced income cap received during the period of the tax concession.  For example, if you turn 60 during the year, it only includes the payments received after reaching age 60.

What about the untaxed element tax offset?   It’s not showing on the PAYG summary anymore – can it still be claimed?

Similar to the PAYG summary requirement, as the trustee of a superannuation fund has no way of knowing what other CDBIS payments an individual may be receiving, they cannot determine what offset eligibility an individual may have as it too is now affected by the defined benefit income cap.  As a result, this figure is no longer provided on the PAYG summary for CDBISs.

Each individual may still be eligible for the offset but must self-assess their eligibility and complete the tax return appropriately at Item T2.

Where the sum of the taxed and tax-free components of the CDBIS payments exceeds $100,000, there is no offset available on the untaxed element.

Where the sum of the taxed and tax-free components of the CDBIS payments is below $100,000, an offset is available on the difference between that total and the individual’s defined benefit income cap (which may not be the full $100,000 for all pensioners).

Last month’s Full Federal Court decision in the Aussiegolfa case [Aussiegolfa Pty Ltd (Trustee) v Commissioner of Taxation [2018] FCAFC 122] may have resulted in a significant setback to the ATO in its thinking on the sole purpose test but it doesn’t mean SMSFs are free to lease residential property to related parties without restriction.

In the Aussiegolfa case, an SMSF owned units in a unit trust and that trust leased residential property to the daughter of one of the SMSF members.  In the original decision, the Federal Court found the lease arrangement with the daughter caused a breach of the sole purpose test but this decision was overturned on appeal.

In short, the Full Federal Court confirmed several factors needed to be considered in order to determine whether the sole purpose test had been breached.  One such factor was whether the SMSF had suffered any detriment or “dissipation” as a result of the lease of the property to the daughter of the SMSF.  In this case, the daughter paid rent on arm’s length commercial terms/market rates and consequently the SMSF did not suffer any detriment as a result of her tenancy – the SMSF continued to receive the same return from its investment as it had from previous (unrelated) tenants.

The Court found that transactions between an SMSF (or a trust in which an SMSF invests) and a related party which are undertaken on arm’s length commercial terms/market rates weigh in favour of the sole purpose test not being breached – but this is simply one factor that needs to be considered.

In addition, remember that compliance with the sole purpose test does not mean that other breaches of the Superannuation Industry (Supervision) Act would not arise.  In the Aussiegolfa case, the SMSF’s investment in the unit trust was found to be an in-house asset.  If the fund had owned the property directly and leased it to a related party, the value of the property would also have been caught as an in-house asset.  Remember SMSFs are restricted from having no more than 5% of their assets invested in in-house assets. 

In our next quarterly webinar, we’ll be exploring the full ramifications of the Aussiegolfa case for both the sole purpose test and investments in unit trust.  Click here for further information and to register.

Data is the mother of all knowledge and as we all know - knowledge is power.

Humanity is defined by data. It is the currency through which we are revealed both individually and collectively. The data that defines us is our most private thing. Human data provides the collectors and possessors of that information with power that can be used to influence and impact us for many purposes.  

We would all rather give our individual data to those who are simply trying to help us. For example, our doctors who collect data on medical conditions from us to diagnose our illnesses and advise on treatments. However, most of us also recognise that the data collected on our personal health can be used to create information that will be used by the medical and pharmaceutical industries collectively to develop new treatments and cures that will benefit humanity generally.

We also accept that governments collect personal data from us (usually through legislative fiat) to decide where to build new schools and hospitals (which is great) but also to impose taxation upon us to pay for those schools and hospitals (which isn’t always that great!).

Before the fourth industrial revolution was wrought by digital technology, data was often quite difficult to acquire, and information was therefore expensive to create. Usually, only governments had the resources and the influence to acquire enough of it to produce reliable, useful, actionable information.

This has now irrevocably and completely changed.

The power of the digital revolution enables previously unimaginable volumes of data to be collected and turned into actionable information with relative ease by many players – most of them commercial technology organisations.

So, what does all this mean?

It means the data that defines us (our likes, preferences and fears) is now available to almost anyone willing to pay for it – and they do.  It clearly has great commercial value.

This phenomenon has occurred over an extremely short period. Facebook is arguably the most famous (or infamous) collector and possessor of digital data for commercial use and was founded two years after my youngest son (who is currently in year 9) was born. Facebook is not yet out of puberty and look at the power we have chosen to bestow.  As the world’s greatest orator might have said:

 “Never before in human history has so much wealth been created from so many, by so few, so quickly.”

As recent events have shown, the broader community has become more aware of this power but is still wrestling with the challenge of what to do about the free data we all give away.

A similar challenge exists in the business to business world and I will be exploring that in my next blog

Historically this question has been difficult to answer.  While there does not appear to be any restriction in the Superannuation Industry (Supervision) Act or Regulations (SIS) which would prevent a person acting under an EPOA from completing and signing a BDBN, until recently there has been no legal authority confirming the situation.

However, in a recent case, the Supreme Court of Queensland has confirmed that an attorney has the power to make, renew or extend a BDBN on behalf of a member [Re Narumon Pty Ltd [2018] QSC 185].

In this particular case, Mr Giles was a member of the John Giles Superannuation Fund.  Mr Giles made five BDBNs between 2010 and 2013.  The latest was dated 5 June 2013 and was in the form of a lapsing nomination which would expire after three years (ie 5 June 2016).

Mr Giles lost capacity in November 2013 and in March 2016 his attorneys, Mr Giles’ spouse and his sister, signed a document to extend the June 2013 nomination for a further three year period.  The June 2013 BDBN provided for 5% of Mr Giles’ benefit to be paid to his sister and the remainder divided equally between his spouse and minor child (47.5% each).  At the same time, Mr Giles’ attorneys also signed a second document – a new BDBN – which slightly altered the allocation of benefits to exclude Mr Giles’ sister. This change was made as protection in case the June 2013 nomination was otherwise considered invalid because Mr Giles’ sister was not a dependant and therefore not eligible to receive a death benefit from the fund.  Mr Giles’ sister was one of the attorneys who signed the new BDBN and hence was not disputing her exclusion.

In relation to the attorney issue, the Court held that:

• there does not appear to be any restriction in SIS which would prevent an attorney under an EPOA from executing a BDBN on behalf of a member,
• there was nothing in the deed itself which would prevent an attorney signing a nomination for a member, and
• therefore, the question of whether an attorney could execute a nomination depended on the relevant Power of Attorney Act.

In terms of the relevant Power of Attorney Act, the Court further held that the making of a BDBN:

• was a financial matter,
• was not a matter which must be performed personally (ie it was not a testamentary act), and
• therefore could be delegated to an attorney.

However, the renewal of the BDBN or the making of the new BDBN would only be valid if the transaction was not a conflict transaction.  This was because one of the attorneys or their relatives benefited from the transaction and the EPOA document did not authorise Mr Giles’ attorneys to enter into a conflict transaction (of any particular type or generally).

Ultimately the Court decided:

• the extension of the original BDBN was not a conflict transaction because the attorneys did no more than confirm the nomination made by Mr Giles himself.  It was therefore valid, but
• the new BDBN was a conflict transaction (because there was a change, albeit small, to what Mr Giles had proposed) and, in the absence of Mr Giles’ EPOA document allowing such a conflict, the new BDBN was invalid.

Interestingly the Court also considered the fact that the June 2013 BDBN (legitimately extended in 2016) included a benefit payment to Mr Giles’ sister and concluded that:

• as expected she was not Mr Giles’ dependant (for SIS purposes) at the time of his death and was therefore ineligible to receive a death benefit directly from his superannuation balance, but
• this did not make the entire BDBN invalid; it simply meant that the payment to her could not be made.  The payments to Mr Giles’ spouse and minor child were unaffected.

This case provides some welcome certainty on the issue of attorneys making/renewing/changing BDBNs on behalf of members.  However, it also emphasises:

• the importance of ensuring, where appropriate, EPOA documents specifically deal with the issue of whether attorneys are to be able to make, renew or change a BDBN, and
• where applicable, the EPOA documents specifically deal with whether or not attorneys are able to enter into conflict transactions.  Given that the attorney will often be a family member who might ordinarily expect to benefit from the superannuation death benefit (eg a spouse), this is particularly important for superannuation matters.

Going forward attorneys seeking to make, renew or change a BDBN on behalf of a member should exercise their powers taking into account:

• the member’s wishes,
• the terms of the fund’s trust deed, and
• the terms of the EPOA document.

The majority of SMSFs lodged their Transfer Balance Reports to report the 30 June 2017 value of the members’ pension accounts in the final days of the 2018 financial year.  In what must surely be a record for the ATO, excess transfer balance determinations then began issuing three to four days later.

So, if you’ve received a determination you didn’t expect, what went wrong?

Remember, an excess transfer balance determination is issued when the ATO believes the value of the client’s:

• retirement phase pensions at 30 June 2017, plus
• the starting value of any new pensions commenced since that time, less
• the value of any lump sum commutations since 30 June 2017 (cashed out or rolled over to another fund)

exceeds the $1.6m Transfer Balance Cap.

We’ve identified three common scenarios where this can happen.

Pensions in other funds were missed at 30 June 2017

It was common practice in the lead up to 30 June 2017 for members of SMSFs to request that the trustee “roll back” to accumulation phase the amount necessary such that the member’s total pension value in all funds was no more than $1.6m at 30 June 2017.

We’ve seen situations where the individual was also drawing a pension from another superannuation fund at that time, but this external pension was missed in calculating the amount which needed to roll back to accumulation phase in the SMSF.  Accountants in this situation may need to revise the 30 June 2017 member balances for the SMSF and lodge an amended TBAR.

Importantly, remember that if the documentation prepared before 30 June 2017 expressed the roll back along the lines of “whatever is required” to ensure the retirement pension balances in both the SMSF and other funds were exactly $1.6m in total at 30 June 2017, then amending the TBAR (and updating the member’s pension accounts in the member statements) is correcting an existing error.  The amendments are needed to accurately reflect the true position at 30 June 2017.  It is not backdating documents.  In contrast, if the roll back documentation was expressed in terms of fixed amounts being rolled back to accumulation phase and it turns out those amounts were miscalculated, the issue is different entirely.  In that case, the client does, in fact, have an excess and should act promptly to carry out a commutation now.

One of the many benefits of having an SMSF in the 2016/17 year was the ability to prepare documents that allowed for the fact that precise amounts were simply not known at the time.

Clients who qualified for the transitional rule and commuted their excess before 31 December 2017

There is a small group of individuals whose total pension value at 30 June 2017 was greater than $1.6m but less than $1.7m.  Provided the excess above $1.6m was withdrawn as a lump sum commutation or rolled back to accumulation phase on/before 31 December 2017 (and there had been no other credits to their transfer balance account in that time), the individual is not liable for excess transfer balance tax.

However, due to a systems error, some individuals who qualified for the transitional rule incorrectly received an excess transfer balance determination.  Clients in this situation need to report the problem to the ATO who will check the eligibility rules were met and then manually revoke the determination.

Wind ups of SMSFs & commutations not being reported

The event reporting deadlines for SMSFs are quite different to APRA funds.  Consider the situation of an individual drawing an account based pension from an SMSF.  The value of the pension account was $850,000 at 30 June 2017.  To facilitate the wind up of the SMSF, the bulk of the pension account of $852,000 is commuted to a lump sum on 15 June 2018 and rolled over to an APRA fund.  A new pension is commenced in the APRA fund on 18 June 2018 with an amount of $852,015.

The earliest the SMSF is required to report the lump sum commutation is 28 October 2018.  However, the APRA fund was required to report the new pension commencement by 29 June 2018 (ie within 10 business days of the event).

Without the reporting of the lump sum commutation, the individual will appear to have an excess transfer balance of $102,015 (ie $850,000 + $852,015 - $1.6m) and the ATO will issue an excess transfer balance determination.  This situation can be corrected by the SMSF now lodging a TBAR to report the lump sum commutation.

However, this potentially confusing (and somewhat scary) situation could have been avoided altogether if SMSF accountants remember to report lump sum commutations such as this at the same time as they prepare the rollover benefits statement.

If you’ve received an excess transfer balance determination for a client and need help correcting the situation, feel free to give our tech team a call.

A great many retired SMSF members with large superannuation balances adjusted their pension accounts back to $1.6 million on 30 June 2017.  This was done to reflect new rules at the time that placed a limit, called the Transfer Balance Cap, on pension accounts.

Twelve months on, at least some of these pension accounts have grown above $1.6 million.  It’s a natural consequence of taking as little as possible out of the pension account and investing in assets that produce a lot of income, growth or both.  Particularly for younger retirees, it is entirely possible that the combination of income and growth can be enough to completely replace (and more) the amounts that have been drawn out as pension payments.

So what happens now?  Does another adjustment need to be done to reduce the pension accounts back down to $1.6 million at 30 June 2018?

In short, no.

The Transfer Balance Cap is not a cap on the amount in superannuation or even the amount in a “retirement phase” pension (generally speaking, a pension being paid to someone who has retired).

It is a limit on the amount that can be used to start retirement phase pensions.

The reason it prompted a lot of people who already had pensions to take action at 30 June 2017 was that there was a special once-off check when the new rules came in.  In future, retirement phase pensions will only be checked against the limit when they start.  (There are also some special rules that also ensure the test is carried out when someone inherits a superannuation pension from a spouse.)

So in 2018/19 and onwards it will be entirely possible and in fact common to see pension accounts above $1.6 million.

When will the unallocated amount first count towards his Total Superannuation Balance? 

Your client has undertaken an unallocated contribution or contribution reserving strategy (note, strictly speaking the unallocated amount isn’t a “reserve” for superannuation or tax law purposes although it is commonly called one).

In our view, the unallocated amount will first count towards your client’s Total Superannuation Balance in the year in which the contribution is made, not the year in which the contribution is allocated. 

Why?

An individual’s “Total Superannuation Balance” is the sum of the value of all of an individual’s superannuation interests (with some modifications for individuals with defined benefit pensions and a few other things).  For accumulation and account-based pension interests, the value of the superannuation interest is not simply the closing balance of the member’s account.  Instead, it is the total amount of superannuation which would become payable if the individual had voluntarily caused their interest to cease at that time [ITAA 1997 s.307-230, ITAA 1997 s.307-205(2)].

In our view, if the individual had requested the closure of their account at the end of the financial year, we expect that the SMSF trustee would have immediately allocated to the individual the amount of their unallocated contribution.  It would be highly unlikely that an individual would “walk away”, leaving the unallocated contribution amount behind.

This is why, in our view, your client’s unallocated contribution amount will first count towards their Total Superannuation Balance in the year in which the contribution is made.  This means unallocated contribution or contribution reserving strategies are not a way in which an individual can control their Total Superannuation Balance to remain below a particular threshold (eg $1.6m if the individual was seeking to make non-concessional contributions in the following year).

Note, you don’t need to change the way you report the contribution for the purpose of the SMSF Annual Return to get the Total Superannuation Balance to calculate correctly.  The unallocated contribution is already required to be reported in the SMSF Annual Return in the year in which the contribution is made (and you lodge a “Request to Adjust Concessional Contributions" [NAT 74851] to reallocate the contribution to the following year for contribution cap purposes).

But it does mean you can’t rely solely on the individual’s SMSF member statement for the year the contribution is made to determine their Total Superannuation Balance.  The unallocated contribution amount will also need to be added on.  Whether this amount is gross or net of the 15% contributions tax will depend on the fund’s accounting treatment.  For example:

• If the contributions tax has been deducted from the unallocated contribution amount, it is the net amount which needs to be added on.
• If the contributions tax has been deducted from the member’s existing balance, it is the gross amount which needs to be added on.

With a new financial year upon us, it is time to make ourselves familiar with the various superannuation related thresholds applying for the 2018/19 financial year.

Our 2018/19 Facts & Figures publication will be available for our Super Insights subscribers shortly, but in the meantime, some of the more commonly used thresholds are detailed below:

Of course, don’t forget not everyone is eligible to make contributions, use bring forward mode or draw benefits from superannuation  If you think you’d benefit from a refresher on the fundamental rules around superannuation, take a look at our SMSF Fundamentals on-line course https://www.heffron.com.au/heffron/training/smsf-fundamentals

From 1 July 2017 there are three major changes affecting funds paying retirement phase pensions and claiming a tax exemption on some or all of their investment income (exempt current pension income or ECPI).  Will some of these create the need for a fund to have more than one actuarial certificate in a year?

The three major changes are:

• The tax exemption is no longer available for non retirement phase pensions (ie transition to retirement pensions where the member has not met a full condition of release);
• Some funds are no longer allowed to claim their exemption using the “segregated” method; and
• Some funds must claim their ECPI using the segregated method for part or all of the year.

We have previously explained which funds cannot be segregated in our blog Segregating in SMSFs beyond 1 July 2017.  In a nutshell, if a fund cannot be segregated it will always need an actuarial certificate to claim any ECPI.  Just one certificate will be required and it will cover the entire financial year, even if the fund had periods during the year when it was entirely providing retirement phase pensions.

This includes some weird and wonderful cases where actuarial certificates have never been obtained before – see our blog New and interesting scenarios where an actuarial certificate is required for ECPI.

But what about funds that can be segregated?  What has changed for them?

The challenge for these funds is that if there is any period during the year when they are entirely in pension phase (providing retirement phase pensions only) they must claim their ECPI for that period using the segregated method.  This is the case even where there are other periods during the year when they are not entirely providing retirement phase pensions.

Consider the following fund:

• 1 July 2017 – a mixture of pension and accumulation accounts
• 1 November 2017 – moves entirely to retirement phase pensions
• 1 March 2018 - receives a contribution which remains in accumulation phase

Assuming this fund is allowed to be classified as segregated, it will claim its ECPI as follows:

• 1 July 2017 – 31 October 2017 : actuarial certificate method
• 1 November 2017 – 28 February 2018 : segregated method
• 1 March 2018 – 30 June 2018 : actuarial certificate method

In other words, all investment income between 1 November 2017 and 28 February 2018 will be ECPI automatically (no actuarial certificate required).

The fund will need an actuarial certificate to claim any ECPI in either of the other two periods.  (Although of course, if no income is actually received during either of those periods there is nothing to prevent the accountant choosing not to obtain an actuarial certificate and therefore claim no exemption for that time).

But how many certificates? One covering the entire year or two (one for each period)?

While there has been some confusion created about this recently, the law is quite clear – it is one certificate for the entire year and it should provide only one percentage.  This is applied to all income other than income that was earned on segregated assets.  This means it will effectively be applied to all investment income received before 1 November 2017 or after 28 February 2018.

Interestingly the same percentage will be applied to all relevant income (ie excluding the segregated period).  This is despite the fact that the relative values of pension accounts might be very different in the first and second “mixed” periods.  What if, for example:

• Only 40% of the fund was in pension phase for the first period; and
• 80% of the fund was in pension phase for the second?

A single percentage (let’s say 60%) would be applied to all the relevant earnings (any investment income before 1 November or after 28 February).

In fact, even if there had been no pensions at all during the first 4 months of the year, the actuarial percentage would be applied to earnings during that part of the year as well (and of course the percentage applied to the last four months of the year would be much lower than might be expected because it would have been dragged down by the fact that no pensions were provided at all in the first phase of the year).

(Technically if there are no pensions at all during the first part of the year the trustees could obtain a different type of actuarial certificate stating that the assets were segregated non pension accounts at that time.  This is very unusual and we have ignored that possibility here.)

Importantly, no matter how many periods there are during the year, the actuary will only ever provide one certificate containing one percentage which is applied to all income received at a time when the fund is not segregated.

 This is going to lead to some really weird results.

From 1 July 2017 some funds providing retirement phase pensions are no longer allowed to be classified as segregated when it comes to claiming a tax exemption on some or all of their investment income (exempt current pension income or ECPI).  We have explained who, how and why in our blog Segregating in SMSFs beyond 1 July 2017.

This does create some new scenarios where these funds will now need actuarial certificates to claim their ECPI.

This article provides some examples.  Note that it only relates to funds that cannot be classified as segregated.  The position for funds that can be classified as segregated is quite different – the exact opposite in fact.

Example 1 - Funds that are exclusively providing retirement phase pensions all year

These funds would normally have claimed all investment income as ECPI without an actuarial certificate.  Whether the trustee realised it or not, they were only exempt from the actuarial certificate requirement because their ECPI was being claimed using the segregated method.

These funds will now need an actuarial certificate.  And funnily enough it will give a percentage of 100%.

Tip : since it is only funds that have members with both retirement phase pensions and a total superannuation balance of more than $1.6m at the previous 30 June which cannot segregate, it may be difficult to imagine how Example 1 would actually occur in practice.  Surely anyone with more than $1.6m cannot be entirely in retirement phase pensions? However, remember that this may be applicable for many funds from 1 July 2018 (their pension balances were below $1.6m at 30 June 2017 but higher at 30 June 2018).  Also remember that total superannuation balance includes benefits in other funds – a member with a $1.5m retirement phase pension in their SMSF at 30 June 2017 but $0.3m in another fund at that date would rule their SMSF out of being allowed to segregate as early as 2017/18.

Example 2 - Funds that are entirely providing retirement phase pensions for most of the year

If little or no income is received when the fund has accumulation balances, accountants for these funds often chose not to obtain an actuarial certificate for the “unsegregated” period. 

For example, a fund that had a mixture of pension and accumulation accounts on 1 July but cashed out the accumulation account entirely on 5 July and was 100% providing retirement phase pensions for the rest of the year.  If the only investment income received in the first five days of the financial year was $100 bank interest, accountants would often simply pay tax on that interest and claim income beyond 5 July as ECPI.  If they were not claiming any exemption on income earned while the fund was “pooled” (unsegregated) there was no need to obtain an actuarial certificate.

In the new world, if this fund is not allowed to segregate it will be required to obtain an actuarial certificate for the whole year to claim any ECPI.  Depending on the amount of time the fund had a mixture of accumulation and pension accounts and the relative sizes of the two types of accounts, the actuarial percentage may be 100% or it may be less.  Importantly, it does not matter how much income was received in that “mixed” period.  A fund that received no income during that period may still find their actuarial percentage is only (say) 95% and this 95% must be applied to all income received throughout the year.

Example 3 – Funds that move from 100% accumulation phase to 100% pension phase during the year

In the past, many funds would just treat all investment income received after the pension(s) started as exempt from tax and pay tax on income received before that date.  No actuarial certificate would have been required.

In the future, for funds that cannot be classified as segregated, an actuarial certificate will be obtained for the whole year and be applied to all income received during the year.  If a major asset such as a property was sold after the pensions started in (say) December the capital gain would not be entirely tax exempt.  It would be subject to the actuarial percentage that would relate to the whole year (including five months where there were no pensions at all).

Tip : again it may be difficult to see how this would actually happen since it is likely that a fund in this  position would have no members with retirement phase pensions in their SMSF at the previous 30 June. Remember, however, that if any member had a retirement phase pension in another fund at the previous 30 June and also had a total superannuation balance of more than $1.6m at that time, the SMSF will be ineligible for the segregated method for ECPI.

These are just three examples where the new world will be profoundly different to the old.  Time to re-set some longstanding paradigms for all of us.

Given such action is now contrary to the ATO’s new position expressed in SMSF Regulator’s Bulletin 2018/1, is the ATO likely to take action in relation to the fund?

As you have mentioned, the ATO’s new position is that reserve allocations may not be made to pension accounts (this includes both retirement phase pension accounts and transition to retirement pensions).  Where allocations are made from a reserve, they must be made to accumulation accounts only.

However, many trustees made reserve allocations in the 2017/18 financial year before the release of SMSFRB 2018/1 in March 2018.  If these reserve allocations were made to pension accounts, is the ATO likely to take action?

In a welcome move, the ATO has now confirmed that they will not devote compliance resources to funds where:

• the establishment of the reserve was permitted by SIS and the fund’s governing rules,

• the facts do not indicate that the reserve was used by the trustee as a means of circumventing the Government’s 1 July 2017 reforms (eg the establishment of the reserve was a consequence of the cessation of a defined benefit pension arrangement),

• there was an established practice to make reserve allocations on a fair and reasonable basis to all member accounts (including pension accounts) prior to 30 June 2017, and

• no further reserve allocations have been made to pension accounts since the release of SMSFRB 2018/1 on 15 March 2018.

For further explanation of the ATO’s new views on reserves, refer to Issue #4 of Super Insights.

If you are not subscribed to a technical support package that includes our Super Insights newsletter, click here to view the available packages.

In the lead up to 30 June 2017 you may recall the Government announcing that they intended to amend the Total Superannuation Balance provisions in situations where an individual was a member of an SMSF with a limited recourse borrowing arrangement (LRBA) in place.  Specifically the Government had intended for a share of the fund’s outstanding loan balance to be apportioned to each affected member and counted towards their Total Superannuation Balance.

This “adding back” of the loan balance may have restricted the ability of affected individuals to:

• make further non-concessional contributions to superannuation without exceeding their cap,
• trigger a “bring forward” for non-concessional contributions,  
• utilise the “catch up” of unused concessional contribution rules, or
• segregate the fund’s assets for tax purposes.

Due to backlash at the time, the proposals were referred for further consultation.

A Bill has now been introduced into Parliament to give effect to the Government’s proposals [Treasury Laws Amendment (2018 Superannuation Measures No. 1) Bill 2018].  In a pleasing move, the “adding back” of a proportion of the outstanding loan balance will only apply where the LRBA was entered into on or after 1 July 2018 and:

• the individual, whose superannuation interests are supported by the asset held under the LRBA, has met a condition of release with a nil cashing restriction (ie reached age 65, retired, is permanently incapacitated or is terminally ill or injured), or
• the lender is a related party of the fund members.      

Younger individuals who enter into an LRBA where the lender is a commercial lender (or indeed an unrelated party) may not be affected by these measures (unless they were say terminally ill).

The proportion added back is intended to be based on the individual’s share of the total superannuation interests that are “supported” by the asset held under the LRBA, as calculated by the following formula:

In cases where only one member’s interests in the fund are supported by an asset held under an LRBA, the entire outstanding loan balance at a particular 30 June would be added to the member’s Total Superannuation Balance at that 30 June.

Among other things, this new measure would ensure that any SMSF member that had met a relevant condition of release could not:

• withdraw funds in order to reduce their Total Superannuation Balance below $1.6m, then
• lend money to their SMSF to acquire an asset under an LRBA, and subsequently
• make additional non-concessional contributions tax effectively (ie their non-concessional contributions cap would be $nil).

And note, the legislation would capture any new LRBA for individuals in this position, not simply those where a related party lends money to the fund.

Consider the following examples.

Example 1

Josh (52) is the sole member of his SMSF which holds $1m in accumulation phase.  His SMSF enters into an LRBA in July 2018 to acquire a property worth $1.2m.  The SMSF pays $600,000 of the acquisition costs from its assets and borrows to pay the remaining $600,000.

At 30 June 2019, the value of the SMSF’s “other” assets remained the same, the property had increased to $1,210,000, and the amount of the outstanding loan was $599,000.

If Josh’s SMSF had borrowed from an unrelated party his Total Superannuation Balance at 30 June 2019 would be $1,011,000 and:

• His non-concessional contributions cap for 2019/20 (ie the following year) would be $100,000, and
• He would have the ability to trigger a “bring forward” in 2019/20 with a $300,000 bring forward amount.

In contrast, if Josh’s SMSF had borrowed from a related party his Total Superannuation Balance at 30 June 2019 would be $1,610,000 (ie $1,011,000 + the outstanding loan balance of $599,000) and:

• His non-concessional contributions cap for 2019/20 (ie the following year) would be $Nil, and
• He would not be able to trigger a “bring forward” in 2019/20.

In Josh’s case, the identity of the lender may play a critical role in the event that his SMSF needs additional contributions in order to meet its obligations under the LRBA loan agreement 

Example 2

Laura (age 66) is working full-time and is the sole member of her SMSF, which holds $2m in accumulation phase.

She withdraws a lump sum of $500,000 on 1 June 2019 which reduces her total accumulation account balance to $1.5m on 30 June 2019.

On 30 June 2019, Laura lends $500,000 to her SMSF under an LRBA and the SMSF acquires a property for $1.5m (using $1m of its remaining $1.5m funds and the $500,000 borrowed funds) and the position of her SMSF is as follows.

Under current law, Laura’s Total Superannuation Balance at 30 June 2019 would be $1.5m and, as this is less than $1.6m, her non-concessional contributions cap in 2019/20 would be $100,000.  In the future, as the SMSF repays the LRBA loan, the net value of the SMSF will increase and Laura’s Total Superannuation Balance will again approach $1.6m.  However, prior to reaching $1.6m, she could withdraw another lump sum and enter into another LRBA to acquire another asset. The withdrawal would again reduce her Total Superannuation Balance enabling additional non-concessional contributions.

Under the proposed law, regardless of the identity of the lender, Laura’s Total Superannuation Balance at 30 June 2019 would be $2m (ie $1.5m + the outstanding loan balance of $500,000).  As a result her non-concessional contributions cap would be $Nil in 2019/20.  Withdrawing funds and entering into a new LRBA would no longer increase Laura’s capacity to make non-concessional contributions.

Winter has arrived and that means it is time to get all our pre-30 June planning finalised.

One area which is always worth addressing early is pensions – have we done everything we need to do and is there anything extra we should be thinking about for 2017/18?

In this article, we provide a few tips.

Pay the minimum

Most obviously, pay the minimum amount required before 30 June 2018.  Remember that “paid” means:

• For cheques – the cheque is dated on or before 30 June 2018, is held by the trustee on or before 30 June 2018, is banked promptly and the balance in the SMSF’s cheque account at the time the cheque was written was sufficient to cover the payment.  While the cheque can be presented to the bank after 30 June 2018, it is important that it occurs quickly and is honoured; and
• For electronic transfers – almost always means that the money actually appears in the individual’s bank account on or before 30 June 2018.  Given that 30 June 2018 is a Saturday,  it’s not enough to process an on line transfer at 11pm on 30 June 2018 and hope for the best - you’ll need to get in earlier than that!

2017/18 is the first year where only “superannuation income stream benefits” (pension payments) count towards the minimum.  Unlike previous years, partial commutations no longer count.  This also means that all payments counting towards the minimum must be paid in cash rather than by transferring assets (often referred to as in specie payments) since only lump sums such as commutations can be paid in specie.

But don’t pay too much as a pension payment

In the new world of limited pensions (thanks to the $1.6m Transfer Balance Cap) getting money into retirement phase pensions has never been harder.  That makes it more important than ever to ensure that those with these pensions who take more than the minimum pension consider other options as well:

• Should the “extra” amount be drawn from the member’s accumulation account in preference to simply taking a higher pension?  The higher the pension account relative to any accumulation accounts, the more of the Fund’s investment income that will be tax exempt;
• Was the extra amount actually a partial commutation of the pension?  (Remember this is not a decision that can be made now, it had to be made in advance of the commutation.)  If this step has not been taken for 2017/18, it is something to consider for 2018/19.  A commutation allows a member to remove the amount of the commutation from his or her Transfer Balance Account.  This might be useful in the future if the member’s spouse dies and the member inherits more pension accounts, or the member makes downsizer contributions and wants to convert them to a retirement phase pension.

Don’t forget transition to retirement income streams

Now that transition to retirement income streams no longer give the paying superannuation fund a tax exemption on its income (because they are not classified as retirement phase pensions) it’s easy to forget that they are still pensions.  It is still important to meet the minimum pension requirements for these income streams.  Admittedly one of the big downsides of failing to do so (loss of the tax exemption) is no longer in place.  But not paying the minimum pension is still:

• A breach of superannuation law;
• A trigger to recalculate the tax free / taxable components of the pension balance; and
• Exposes the member to the risk that any payments which have been taken will be treated as lump sums for tax purposes which, unless the member has unpreserved money, will be early release payments and taxed at the member’s marginal tax rate (with no recognition of any tax free component, no use of the low rate threshold etc)

And remember, the ability to elect for a payment to be taxed as a lump sum instead of a pension payment (which was great for many under 60 as it reduced their personal tax bill) is no more .  The taxable part of any TRIS payment will be at the member’s marginal tax rate (less a 15% offset).

Watch out for retirement and age 65

In all the effort to prepare for 30 June 2017 and then lodge the 2016/17 annual returns (with all the complexity around CGT relief) it’s easy to miss the fact that some members will have reached 65 or retired during 2017/18.  That means their transition to retirement pensions have become retirement phase pensions which has some important consequences:

• The $1.6m Transfer Balance Cap applies from the moment they turned 65 (regardless of their work status at the time) or from the moment they told the trustee they had retired;
• If they need to “roll back” part of their transition to retirement phase pension to comply with this and it wasn’t done at the time, do so now for two reasons.  Firstly it will minimise the penalties to the member for exceeding their cap.  Secondly it will ensure the 2018/19 minimum pension is not based on the higher balance.

There will be more to do in 2018/19 – we’ll provide an update on that in July!

One of the more crazy elements of the 1 July 2017 superannuation changes was the treatment of market linked pensions.

Recent press articles have highlighted that there is a problem without necessarily explaining what it is.  The key lies in understanding how amounts are added to or subtracted from the Transfer Balance Account for these pensions.

Instead of just valuing these at an amount equal to the account balance for Transfer Balance Account purposes, the legislation provides a formula.  The formula is more or less:

• Work out the “next” payment due from that pension
• Annualise it (eg if it’s $3,000 per fortnight, multiply $3,000 by 365/14)
• Multiply that annualised amount by the number of years the pension has left to run (because remember market linked pensions last for a specific number of years, the annual payments are worked out so that the final year’s payment is 100% of the remaining balance).

This doesn’t make sense on a number of levels:

• There’s an account balance which is the absolute maximum the member can ever get out of this pension – what is the logic for using anything else?
• There’s no such thing as a fixed “next payment” from these pensions.  They are more flexible than (say) defined benefit pensions where the payments are often fixed and defined as (say) $3,000 per fortnight or $6,000 per month etc.  So how should one determine that next payment?  Presumably it’s “whatever actually gets paid”.  But then, how do we work out the period to which that relates? If there’s no requirement to take payments at a fixed frequency such as fortnightly or monthly, how do we annualise the “next” payment.

(And it’s almost as if Treasury realised this at the last minute because market linked pensions are valued using their account balance for Total Superannuation Balance purposes. What a shame no-one told the people writing the Transfer Balance Cap provisions.)

But an even worse problem is now receiving significant press coverage (at last).

Not surprisingly these pensions change sometimes – if a member transfers from one fund to another, their market linked pension is technically fully commuted (stopped) and then re-started in the new fund.

There are a range of problematic issues with re-starting the pension but this article just focusses on the first step – stopping the old pension.

It would be reasonable to assume that the formula used to add this pension to the Transfer Balance Account in the first place would also work to reduce this when the pension is fully commuted (although a new amount would be added when the pension started again in the new fund).

However, the wording in the law is sufficiently vague that two camps have emerged:

• View 1 (of which I’m a member) says : the formula involves calculating the value of the pension “just before” a commutation amount is paid.  If you’re calculating something “just before” a key date, you should do the calculation as if that event (in this case the commutation) wasn’t happening.  This would mean the calculation would be based on whatever the “next payment” would have been if the pension hadn’t been commuted (with all the problems that entails, there would at least be an amount to calculate!);
• View 2 says : while the formula does involve calculating the  value of the pension “just before” a commutation amount is paid, the formula used to do this depends on a “next payment”.  If this pension is fully commuted, there will never be a next payment.  In other words, it will be $nil and so will the commutation value for the purposes of this Transfer Balance Account.  That is, the commutation of the pension would not result in any reduction in the amount counted towards the Transfer Balance Cap.  That’s clearly crazy since the new pension that starts in its place will add more to the Transfer Balance Account.  This view would see the same money being counted twice for anyone who changes their market linked pension on or after 1 July 2017..

The example provided in the Explanatory Memorandum to the legislation ignores a number of practical problems but is at least consistent with View 1.  (And probably all parties would agree that that this is surely what the lawmakers intended to achieve.)

However, even the EM is ultimately subject to the law and there is enough ambiguity for plenty of people who have carefully considered this law to land at View 2.

It would seem that the ATO’s position is that we need a legislative change to resolve this issue which puts the job firmly in the lap of Treasury.  Many industry participants have already identified this and explained the problem to Treasury and the recent publicity will hopefully expedite their consideration of it.

For now, the safest approach for those close to or over the $1.6m Transfer Balance Cap would be to leave market linked pensions untouched. Those who have already made the change might receive an assessment from the ATO under View 2 although hopefully they will hold off doing so until the issue is resolved.  Clearly the current position cannot continue.

Stay tuned.

The TBAR system revolves around the reporting of “events”, hence the name “events-based reporting”. 

The reversion of the pension will not count towards your client’s Transfer Balance Cap until the first anniversary of his wife’s death (ie August 2018).  However, the “event” which triggers reporting is not the counting of the pension towards the cap but rather the reversion of the pension in August 2017.

The due date for lodgement of the TBAR will depend on whether the fund is an annual or quarterly reporter for TBAR purposes.

If the fund is an annual reporter, the TBAR will not be due until lodgement of the fund’s SMSF Annual Return for the 2017/2018 financial year (ie May 2019).

However, if the fund is a quarterly reporter, the TBAR will be due on 28 October 2018.  This is the due date for quarterly reporters for any event in the 2017/18 financial year.

Whether a fund is an annual or quarterly reporter depends on the Total Superannuation Balances of the fund members as at 30 June 2017 (if a retirement phase pension was in place at that date) or as at 30 June of the year immediately prior to the first retirement phase pension commencing.  If a member of the fund had a Total Superannuation Balance of $1m or more at the relevant date, the fund is a quarterly reporter.  All other funds are annual reporters.

When completing the TBAR, you will need to report the date of death value of the pension and an “effective date” equal to the date of death of the original member.  For quarterly reporters, this will almost certainly mean processing the fund’s accounts to August 2017 in time to meet the 28 October 2018 deadline even if it is not (at that time) possible to complete the full 2017/18 year end.

Your client became the “owner” of the pension on the day of her husband’s passing.  This means the value of the pension counts towards her Total Superannuation Balance immediately in March 2018 (although remember that Total Superannuation Balance isn’t actually used for anything other than as at the end of a financial year).

In contrast, the value of the pension (calculated at March 2018) won’t count towards her Transfer Balance Cap until the first anniversary of his death (March 2019).

For example, Sean died on 3 March 2018 and his pension automatically reverted to his wife Katie (age 63).  The value of Sean’s pension was $1m on the day of his passing and is expected to be worth $1.03m on 30 June 2018.

Katie is also drawing her own account based pension which was worth $0.45m on 30 June 2017 and is expected to be worth $0.5m on 30 June 2018.  She has no other superannuation interests and is contemplating making a non-concessional contribution in either June or July 2018.

Katie’s Total Superannuation Balance at 30 June 2017 is $0.45m (that is, the value of her pension account at that date - Sean was still alive so she does not include his pension at that time).  This means her non-concessional contributions cap is $300,000 in the 2017/18 financial year (assuming of course that she had not triggered bring-forward mode in the previous two years).

However, Katie’s Total Superannuation Balance is estimated at $1.53m on 30 June 2018 (that is, the value of both her original pension account and the pension which reverted to her).  This means her non-concessional contributions cap is expected to be only $100,000 in the 2018/2019 financial year.

Inheriting Sean’s pension means that Katie’s non-concessional contributions cap is far lower in the 2018/19 financial year and beyond even though Sean’s pension will not count towards her Transfer Balance Cap until 3 March 2019.

As part of last week’s Federal Budget, the Government confirmed that they intend to legislate to increase the maximum number of members that can belong to a single SMSF from four to six, with this change to apply from 1 July 2019. 

In this article, Lyn touches on some of the things to consider in relation to this proposal.

There are potentially a number of perils in adding additional members (eg adult children) to an SMSF.  For example, parents risk being “out-voted” by their children in the running of the fund without adequate controls.

But conversely there can be a number of benefits depending on the situation.  For example, building up balances for the adult children can help in addressing liquidity issues on the death of the parents or as a way of mitigating some of the impact of the ALP’s plans to scrap cash refunds for franked dividends –Meg covers this issue in detail here https://www.heffron.com.au/blog/article/could-children-in-the-fund-help-beat-the-alp-proposal-to-remove-franking-credit-refunds).

However, it is important to note that the Trustee Acts of some states/territories (eg NSW, QLD, VIC, WA and ACT) only allow a maximum of four individual trustees.  SMSFs looking to take advantage of the increased membership would generally need to have a corporate trustee unless those state Acts were changed.

In addition, some trust deeds would also need amendment as they limit member numbers to no more than four.  The Heffron trust deed does not include such a limitation.

We’ll be covering the pros and cons of including adult children in their parents’ SMSF in our upcoming Heffron Super Intensive Day. 

But in the meantime, we are keen to hear your thoughts – do you have clients likely to want to take advantage of this proposal?  If so, what is their driver?  Pop us an email at technical@heffron.com.au

Following on from Meg’s blog article earlier this month, the ATO has now responded to calls from the SMSF industry to simplify reporting and reduce unnecessary work when it comes to TBARs and whether or not accumulation balances also need to be reported.

In this article, Lyn clarifies the new ATO position.

Thankfully common-sense has prevailed and 30 June 2017 accumulation balances only need to be reported in a TBAR in limited situations. 

A copy of the ATO’s new instructions for completing TBARs can be found here https://www.ato.gov.au/Forms/Super-Transfer-Balance-Account-Report-Instructions/.  Some of the relevant information in relation to reporting accumulation values is not very user-friendly so we’ve taken the opportunity to clarify the rules below.

Scenario 1 - Member has only accumulation/TRIS balances in the SMSF at 30 June 2017

Generally speaking, a TBAR is not required at all for members who have accumulation/TRIS balances only.  However, trustees may choose to use the TBAR to report an accumulation/TRIS value in limited situations where not doing so might disadvantage the member.

Where a member has an accumulation account/TRIS, the amount to be included in the member’s Total Superannuation Balance is the “total amount of superannuation which would become payable if the individual voluntarily closed their account on that day”.  In theory this figure should take into account the costs to dispose of fund assets, tax on disposal, administration/wind up costs etc.

However, these costs are rarely included in either the fund’s financial statements or the figure reported as the member’s “closing account balance” on the 2017 SMSF Annual Return.  This may mean that the value reported on the Annual Return over-states the member’s Total Superannuation Balance.  Where this over-statement would materially impact the member (eg they would otherwise be over $1.6m and therefore have a non-concessional contributions cap of $nil AND are wanting to make non-concessional contributions in the 2017/18 financial year), a revised value should be reported via the TBAR.

We should note that the TBAR instructions do not specifically mention that the same rules apply for a TRIS but since they are treated in the same way for TBAR purposes (ie neither are retirement phase pensions), it would be reasonable assume that the same concepts would apply for these income streams.

Scenario 2 - Member has only retirement phase pension interests in the SMSF at 30 June 2017 and all of these pensions are account based pensions

in this situation, there is no accumulation balance to report on the TBAR and a $nil accumulation value is not required.

The TBAR will simply report the 30 June 2017 value of the pensions.

Since no accumulation value has been reported on the TBAR, the ATO will calculate the accumulation value for Total Superannuation Balance purposes as:

• the member’s Closing Account Balance (shown in Section F on the 2017 SMSF Annual Return) less
• the value of the retirement phase pensions reported via the TBAR.

In this case $nil.

Scenario 3 - Member has only retirement phase pension interests in the SMSF at 30 June 2017 but at least one of these pensions is a market linked, lifetime, life expectancy or flexi pension

In this situation, a $nil accumulation value needs to be reported on the TBAR in addition to the usual pension values.

Scenario 4 – Member has both accumulation/TRIS and retirement phase pension interests in the SMSF at 30 June 2017 and all of these retirement phase pensions are account based pensions

As per scenario 1 above, the accumulation/TRIS value only needs to be reported in the TBAR if the trustee is wanting to report a value lower than the value shown in the Annual Return.

The 30 June 2017 value of the pensions will need to be reported in a TBAR as usual.

Because no accumulation value has been reported on the TBAR, the ATO will calculate the member’s accumulation value for Total Superannuation Balance purposes using the same method as above (ie the difference between their Closing Account Balance from the 2017 SMSF Annual Return and the value of the retirement phase pensions reported via the TBAR).

Scenario 5 - Member has both accumulation and retirement phase pension interests in the SMSF at 30 June 2017 and at least one of these retirement phase pensions is a market linked, lifetime, life expectancy or flexi pension

In this situation, the member’s 30 June 2017 accumulation value must be reported in a TBAR in addition to the usual pension values.

If you need to report an accumulation/TRIS value, you do so by:

• completing sections A to D as usual
• at question 11, selecting “Total super balance”
• at question 15, selecting “Accumulation phase value”
• at question 17, effective date = 30 June 2017
• at question 18, the accumulation/TRIS value (if needing to report $nil, enter “0.00”)
• leave question 20 blank
• complete the remainder of the form as usual

The reporting of 30 June 2017 accumulation/TRIS values (if required) is due by 8 September 2018.  The date for reporting 30 June 2017 pension values remains 2 July 2018.

If you have already lodged a TBAR reporting pension values but not accumulation/TRIS values and now need to report an accumulation/TRIS value, you do not need to cancel the original report and lodge a new one.  Simply complete a new TBAR reporting the accumulation/TRIS value.

For further explanation of the new TBAR requirements in respect of accumulation values, register for our webinar on 24 May 2018.

Click here for further information on our webinars.

We learned something new – and weird – about the new Transfer Balance Account Reports (TBARs) last week.

In a nutshell, the TBAR prepared to report pre-existing pensions at 1 July 2017 will also need to include accumulation balances in almost all cases.

If these accumulation balances are not reported, there is a risk the ATO will unintentionally double count any retirement phase pension reported on the TBAR when it comes to calculating the individual’s Total Superannuation Balance (TSB).  This is not consistent with the current instructions for the TBAR and the ATO is in the process of updating these.

The issue has now been reported in a couple of online publications but this article puts a little more flesh on the bones.

Huh?

The ATO needs to understand each and every person’s Total Superannuation Balance for a range of reasons including:

• To see whether they can make non-concessional contributions in 2017/18 (and if so, whether they can bring forward one or more future years’ $100,000 limit);
• To assess whether a particular fund is allowed to operate on a segregated basis for tax purposes; and
• In future, to check whether an individual is eligible for the “catch up” concessional contributions that start from 1 July 2018.

It’s an important number.

In future, it will be a figure that the ATO can work out from the SMSF Annual Return for members with a balance in an SMSF.

At 30 June 2017, however, it’s tricky.

In theory, the ATO could just take the Closing Account Balance shown for each member on their SMSF’s 2016/17 Annual Return (Section F).  (They would then add any other balances reported for other funds.)

But the annual return does not provide a breakdown between pensions and accumulation accounts.  Plus for some pensions, the figure needed for the Total Superannuation Balance is not just the amount shown on the annual return – there is a special calculation carried out to value the pension for both TBAR purposes and the Total Superannuation Balance.

So the ATO has decided to do the following to determine a member’s Total Superannuation Balance as at 30 June 2017:

• If no TBAR is lodged, they will use the figures shown on the annual return (effectively assuming that the entire balance for each member is in accumulation phase) – this makes sense;
• If a TBAR is lodged, they will use the TBAR figures instead of the annual return figure as long as:
  • There were no contributions into the fund during the year for that member; or
  • An accumulation balance is explicitly reported in the TBAR (including a $nil value) (the relevant spot is Question 15)
• Otherwise they will use the sum of both the TBAR and annual return figures.  This is the problematic part!

The examples below show how an SMSF member could easily end up with the wrong amount being recorded as their Total Superannuation Balance if the fund’s reporting is not as the ATO expects.

Example 1

Jane and John have been in pension phase (account based pensions) for many years and no contributions were made to their fund in 2016/17.  They each had $2m in their SMSF at 30 June 2017 (in retirement phase pensions) and so each rolled back $400,000 to accumulation phase on 30 June 2017 to fall within the new $1.6m Transfer Balance Cap.

Their SMSF’s TBAR for each of them should show:

• Retirement phase pension values of $1.6m; and
• Accumulation accounts of $400,000

If no accumulation balance is reported on the TBAR, the ATO will underestimate Jane and John’s Total Superannuation Balance as the ATO will only count the amount shown on their TBAR ($1.6m each).

Example 2

Mike and Marcia are in precisely the same position as Jane and John at 30 June 2017.  However, they each made contributions to their fund during 2016/17.

Like Jane and John, their SMSF’s TBAR should show both their retirement phase pension values and their accumulation accounts.

However unlike Jane and John, if they do not do so, the outcome will be different for them.  Instead of underestimating their Total Superannuation Balance, the ATO will actually overestimate it.  This is because it will be calculated as:

• The $1.6m retirement phase pension value reported on the TBAR; plus
• Their $2m member balance shown on the annual return

That is, a total of $3.6m for each of them.

Does it matter?

In fact in these two examples, none of the key superannuation tests will be affected if their Total Superannuation Balances are misreported:

• None of the members are able to make further non-concessional contributions and this will be correctly determined by the ATO even if their Total Superannuation Balances are under or over reported in line with the examples above;
• The same applies for their fund’s ability to be treated as segregated for tax purposes
• Overstating the Total Superannuation Balance has no impact on the amounts assessed against the Transfer Balance Account – these will be based exclusively on the TBAR.

However, it will mean that the amount shown on MyGov for the member will appear very strange to the member and the fund has technically misreported figures to the ATO (although it is unlikely the ATO will take draconian action as a result).

But it could be important.

If Mike (say) had a $1.0m retirement phase pension at 30 June 2017 but did receive contributions during the year, the situation would be entirely different.  Assuming he meets the relevant age or work tests, he is allowed to make non-concessional contributions during 2017/18.

However, if his TBAR does not show a $nil accumulation balance at 1 July 2017, his Total Superannuation Balance will be calculated by the ATO as follows:

• Values reported via the TBAR ($1m); plus
• Balance reported on his SMSF’s annual return (also $1m).

That is, a total of $2m.

If he makes non-concessional contributions during 2017/18, the ATO will assume these are in excess of the permitted level ($nil for someone with more than $1.6m in superannuation) and issue the relevant assessments.  Even if the reporting is corrected, there will obviously be a fairly anxious wait for the member and action will need to be taken very quickly.

As a result, we expect that trustees who have already lodged their TBAR without reporting the accumulation balances (including $nil if applicable) at 1 July 2017 may need to re-report.

However we know the ATO is still looking for alternatives that are less onerous so for now, watch this space.  We understand the ATO is unlikely to start using the Total Superannuation Balance information until September / October 2018 so there is some time to decide what to do.

For those using specialist superannuation software, a software update may be required before TBARs will automatically include accumulation balances.

As the Bank Inquiry dominated news headlines in recent days the government announced a change that will certainly be very welcome for some families with Self Managed Super Funds (SMFS). Until now the most people allowed in an SMSF fund was four – the government has announced it intends to allow the limit move to six people.  The timing is especially useful since some families are reviewing their SMSF arrangements in the light of the ALP plans to scrap cash refunds for franked dividends.

One way to mitigate the impact of the ALP proposal is to include adult children in the SMSF so that the franking credits generated by the parents’ share portfolio can at least be used to pay the tax generated by the children’s super rather than being wasted.

But there are some problems with this idea

To put some real figures around this issue, let’s assume an SMSF has two members and $1.5m in assets (combined). Both members have retired, stopped making contributions and are receiving pensions from their fund.

The fund earns around 4% in investment income each year (a combination of dividends, rent, interest) in addition to any growth in the value of their assets.  Around 50% of the investment income is franked dividends.  This means that in addition to receiving the cash dividends of $30,000 (4% x 50% x $1.5m), the fund will receive franking credits – these will be around $12,857.  Under current law, the fund would pay no tax and would receive a tax refund of $12,857.

Under the ALP proposal the fund would still pay no tax but would not receive the $12,857 refund.  In other words, if the ALP measure is introduced as planned, the fund (and therefore the members) will be $12,857 poorer every year.

What if the couple included their adult children in the fund?

If the children are working, their employer could contribute to the fund, creating more taxable income (which in turn will use up the franking credits rather than wasting them).  Or the children could make personal contributions for which they claimed a tax deduction.

Let’s say the employer contributions made for the children were as high as possible ($25,000 each).  At the moment, only two children could be included in the SMSF before the four member limit was reached so this would help but would not entirely solve the problem.  Adding the children’s contributions would now mean the fund would use $7,500 of the franking credits (the amount of tax that would normally be due on the contributions).  But the family would still waste the rest of the franking credits ($5,357).

(Note that it would also be possible – and reasonable – to make sure that the benefit of being able to use some of the franking credits passed to the parents rather than being a windfall for the children, given that it would be the parents’ investments that created the opportunity in the first place. This is something that would be worked out by the fund’s accountant)

Is there any way of making sure the fund uses up all of the franking credits?  In fact, it is difficult. Even if the children transferred their own superannuation balances into the fund (and so the fund paid income tax on some of its investment income), this would also mean that the fund would have more investments and probably more franking credits. 

Really what the fund needs is more taxable contributions.  This is why large funds (such as industry funds and retail funds) not affected quite so much by the ALP proposal.  Even though these funds might have many more pensioners than an SMSF, they also have many more members receiving employer contributions.  It is also why the latest announcement about increasing the limit on SMSF members to six will be particularly interesting to those with larger families.  Parents in this position with four children (or two children and their spouses) with the maximum rate of taxable contributions would be able to use all the fund’s franking credits.

Of course, this relies on couples conveniently having family or others who can direct large contributions to the fund and want to do so.

Nonetheless, where feasible, it is likely that including children and possibly even extended family in an SMSF will be a common response if Labor’s proposal is introduced.  As the figures above show, it will certainly help make better use of the franking credits that might otherwise be wasted, particularly in a pension fund.

But there are downsides to including the couple’s children in their fund.

Firstly, new members are generally also required to be trustees of the fund.  This means the children become decision makers when it comes to the running of the fund.  There are some protections that can be put in place but at the very least the fund’s trustees must make decisions with the interests of all members (including the children) in mind.  Even now (when funds are limited to four members), if one parent dies there is a risk that the children (combined) have more control over the fund than the surviving parent.  In a six member fund (four children) this problem exists from day one.

If a couple has too many children (more than two at the moment or more than four in the future) , some must miss out.  This may not be a problem (who really wants to belong to their parents’ superannuation fund anyway?).  But it does create the potential for the children who are not in the fund to feel they have been excluded.

Finally, adding the children to the parents’ fund may disrupt the children’s own superannuation planning – at the very least it may delay their ability to set up their own SMSF with their spouse.  It is also an arrangement that will need to be unwound at some point – for example, once the parents die, will the children want to continue combining their superannuation arrangements?  Even this has some solutions – the children could routinely roll out most of their superannuation contributions to their own fund, the contributions just need to be made to (and taxable in) their parents’ fund.  But then life starts to become more complicated.

So while adding children to an SMSF may provide a better tax result by making sure more of the franking credits are used, it won’t necessarily be right for every family.

With some new rules for actuarial certificates coming in from 1 July 2017, the term "deemed segregation" has popped into the SMSF vernacular.  What does it actually mean and why is it important?

Traditionally, describing an SMSF as "segregated" generally meant the trustee had made a decision to allocate specific investments to a particular member account or group of accounts (eg all pension accounts).

The term is legally significant in that it comes directly from the terminology used in Section 295-385 of the Income Tax Assessment Act 1997.  This is the provision that basically says:

• funds can claim a tax exemption on investment income earned on "segregated current pension assets" (exempt current pension income or ECPI).  Segregated current pension assets are assets supporting retirement phase pension accounts; and
• providing the only pensions being provided are linked to account balances (eg market linked, account-based etc) the fund can claim this exemption without needing an actuarial certificate.  (Importantly funds providing defined benefit pensions still need an actuarial certificate regardless.)

Deemed segregation is when the ATO describes a fund as segregated even though the trustee has not made any formal decison to do so.

This will happen when:

• the fund is entirely and exclusively providing retirement phase pensions; and
• it is legally allowed to operate on a segregated basis (see our blog Segregating in SMSFs beyond 1 July 2017 to understand which funds cannot segrgate and which ones can).

In the past, common industry practice was to assume that a fund will only be deemed to be segregated if it is entirely supporting retirement phase pension accounts for the full financial year.  From 1 July 2017, however, the ATO will be policing their view that in fact a fund could go through a period of deemed segregation if it is exclusively providing retirement phase pensions at any point during a given financial year.

For example, a fund that has a mixture of accumulation and retirement phase pension accounts from 1 July - 30 November and then moves entirely to retirement phase pensions from 1 December would be deemed to be segregated from 1 December.  If a contribution was made later in the same financial year (say May) and this remained in an accumulation account, the deemed segregation would end at that time.

So why is deemed segregation such a hot topic?

It's because the ATO considers that if a fund is deemed to be segregated for a period during a financial year, ECPI must be claimed using the segregated method for that period. In the example above, the fund could no longer simply obtain an actuarial certificate for the whole year and apply that to all investment income.  Instead the fund would claim its ECPI:

• using the segregated method for the period between December - May; and
• using the actuarial certificate method for the rest of the year (before December and after May).

Of course, this only applies to funds that are actually allowed to segregate.  But it does mean that those funds that can segregate must consider themselves segregated for a time if they are entirely providing retirement phase pensions at any time during the year.

And is the minimum pension for the current year recalculated on his 65th birthday?

Whilst a TRIS automatically becomes a retirement phase pension on the recipient’s 65th birthday, it doesn’t automatically become an account based pension. 

In the absence of your client undertaking a “stop & restart”, he’ll continue to receive the same pension as before.  It won’t be called an account based pension, but it will have all the same features as an account based pension, ie:

• the 10% maximum will no longer apply and there’ll be no restrictions on lump sum commutations (subject to the fund’s trust deed),
• the fund will start receiving a tax exemption on the investment earnings associated with the TRIS balance,
• the balance of the TRIS on your client’s 65 birthday will count towards their $1.6m transfer balance cap, and
• on death the pension can revert to any eligible beneficiary (usually only the surviving spouse) regardless of their age or retirement status (assuming Treasury Laws Amendment (2018 Measures No 4) Bill 2018 is passed in its current form). 

For simplicity, once your client turns age 65, we’d differentiate his pension from a “normal” TRIS, by calling it a “retirement phase TRIS”.

Because the pension is just continuing to your client, his minimum pension for the current year will remain at the amount you have already calculated for this year based on his TRIS balance at 1 July.  You do not need to recalculate his minimum pension until the following 1 July – at that point his minimum pension will be calculated based on a 5% draw down factor because he will be 65.

For some clients where the size of their TRIS balance would cause them to exceed their transfer balance cap, it may make sense to “stop & restart” the pension with a lower account balance.  We covered these issues in detail in our November 2017 edition of our Super Insights publication.  If you are not already a subscriber, see here for our technical support packages to sign up today.

Sometimes the lunacy of politicians (both sides) amazes me when it comes to superannuation policy.  Although perhaps that fact in itself is amazing since I have been working in superannuation for nearly 30 years and should have learnt better by now.

The Opposition Treasury Spokesman recently re-iterated some of Labor’s superannuation policies which were reported here but the full explanation is readily available on their website here.  These reports don’t specifically cover their earlier announcements about changes to franking credits to make them non refundable but this is also clearly part of the mix.

Essentially the problem for any politician today is that superannuation in retirement phase looks like a very juicy pot of potential tax revenue that is currently largely untouched.

There are two ways of changing that:

• Tax the payments (benefits) people receive from their superannuation funds, or
• Tax the income received by the fund itself so that it has less money with which to pay benefits. 

The first approach - taxing the benefits paid out of super directly - would unwind the very generous treatment introduced by the Coalition back in 2007.  From 1 July 2007, anyone over 60 has been able to receive any amount from a conventional superannuation fund and pay no tax.  (I say “conventional” because there is a small number of funds that don’t pay tax while their members are building up their superannuation entitlements but do pay tax when the money comes back out again.  Most of us are not in these funds.)

I would be prepared to bet that no politician has the courage to adopt this approach.

So both the major parties are currently taking the easier second option of focussing on taxing investment income (dividends, rent, interest etc) received by the funds that are paying pensions. 

Winding back tax concessions funds paying pensions

Historically, once a superannuation fund member started taking a pension the fund stopped paying income tax on the earnings it received from the assets supporting that pension.  Paying less tax meant more money built up in the superannuation funds and therefore higher benefit payments to members.

Years ago, the ALP proposed to change this by introducing a policy to say:

• Fundamentally it’s OK that superannuation funds pay no tax on their earnings if their assets are being used to pay out pensions to retirees; but
• Only up to a point.

The ALP proposed to achieve this by placing a limit of $75,000 on the amount of tax free income a fund could receive for each pensioner each year.  A fund with two members receiving pensions, therefore, could receive up to $150,000 of its dividends, rent, interest etc tax free.  If the fund earned more, this would be taxed at the usual superannuation fund tax rate of 15%.  Before this policy could be legislated, the ALP lost power.

The Coalition approached the same problem slightly differently.  Their approach was that instead of directly capping the amount of tax free investment income a fund could earn, they would cap the amount that could go into the sorts of pensions that created this income in the first place.  They did this by making two changes from 1 July 2017:

• Firstly, only pensions being paid to people who had actually retired would be entitled to give rise to this tax free income in their superannuation fund (this is why transition to retirement pensions were specifically excluded from the definition of “retirement phase” pensions and only retirement phase pensions create tax free investment income);
• Secondly, the amount that could be put into a retirement phase pension was capped at $1.6m.

This second change was really designed to achieve something very similar to the ALP policy in allowing tax free income to be generated in superannuation funds for retirees but “only up to a point”.

In fact, the two policies also give very similar outcomes under a number of scenarios.

Imagine a fund generates around 5% income on its assets.  Capping the amount that can be put into a retirement phase pension at $1.6m means that the tax free income generated in the fund thanks to that pension will be around $80,000 (5% of $1.6m) which is quite similar to Labor’s $75,000 limit.

Over time, if the $1.6m pension account grows because its investment returns are higher than the pension payments withdrawn, the tax free income might be higher.  But all pension balances eventually start to reduce courtesy of the compulsory draw down rates.  At that point, the current rules are entirely likely to result in much less tax free income than Labor’s $75,000 (particularly if the Labor policy involved some indexation of the $75,000 threshold).

Where the two policies really deviate would be in their treatment of capital gains.  Selling assets and realising capital gains might well result in a far more than $75,000 of taxable income in a single year, even for funds that traditionally fall well within the $75,000 per person threshold.  For this reason, Labor previously floated some complex workarounds to spread capital gains over a number of years – although I notice that these are not discussed on their website.  Perhaps because it would be even more obvious that it involves yet more complexity.

So conceptually the two approaches look like variations on a theme – designed to achieve more or less the same thing but in different ways.  And in both cases, designed to continue the practice of tax free investment earnings for pension funds but only up to a point.

This is why the recent comments from Chris Bowen on ALP policies are completely bewildering to me.  He has indicated that if elected, the ALP would do both – they would keep the existing $1.6m pension cap introduced by the Coalition and overlay their $75,000 per person limit.

To me this is taking a simple policy that achieves 90% of what you’re after and then adding three times as much complexity to achieve the final 10%.

I refuse to believe that the $75,000 per person limit will actually add much to the Government’s coffers over and above what is already being achieved by the new rules.  There are some large savings mentioned on Labor’s website but this is presumably relative to the position before 1 July 2017 when the $1.6m pension limit did not apply.

Labor will no doubt argue that this is a “belt and braces” approach that will allow them to be really really sure that they are constraining the tax concession they are targeting. I’d argue it’s actually just a belt plus another belt - which would look stupid on any set of pants.

The ATO has recently issued its first guidance on reserves in SMSFs via a brand new series of publications called "SMSF Regulator's Bulletins".  The new Bulletins (SMSFRBs) allow the ATO to flag compliance issues it is concerned about or actively monitoring relatively quickly without the formality of other publications such as SMSF or Tax Rulings etc. It also explains how the Commissioner would apply particular legislation if asked via a formal process such as a private binding ruling. In that sense it is perhaps similar to a Taxpayer Alert but with a regulatory focus as well as a tax one.

This first publication (SMSFRB 2018/1) provides some contentious views (and reversals of previous views) on reserves in SMSFs.

We covered these in detail in the March edition of our Super Insights publication.  If you are not already a subscriber, see here for our technical support packages to sign up today.

One of the highlights was the ATO's complete reversal of their position when it comes to making reserve allocations to pension accounts.  In the past, the Regulator has taken the view that for a reserve allocation to be "fair and reasonable" it is necessary that all member accounts in the fund (including both pension and accumulation accounts) receive the same reserve allocation in relative terms.  In other words, a trustee wishing to allocate reserves via (say) an extra interest rate of 4% in a fund with two members would simply apply an additional 4% to all their member accounts - both pension and accumulation accounts alike. 

The new position (expressed in SMSFRB 2018/1), however, appears to be that the total reserve allocation would be calculated as 4% of all the various member accounts but it would only be allocated to accounts not yet in retirement phase (eg accumulation accounts).  If one or both of the members didn't have an accumulation account, we asume a new one would need to be created.

While this issue has (not surprisingly) grabbed the headlines in SMSF publications, what is perhaps even more interesting is the very strong language the ATO adopts when talking about reserves in SMSFs generally.  It signals a clear focus by the Regulator on asking SMSF trustees to defend any practice that involves creating, adding to or removing funds from a reserve. This is despite the fact that many SMSFs have legally operated reserves for a number of years and some funds have little choice but to have one if they have terminated a defined benefit pension.

We raised a number of issues on this publication with the ATO during the consultation process and will continue to do so now that it has been published. These, together with some thoughts on how existing reserves can be dealt with are all covered in our March 2018 Super Insights publication.

It depends on whether the pension reverted (continued automatically) to a reversionary beneficiary such as the spouse on death or stopped.

Where a pension reverts on death, the pension continues albeit to a different person.  As a result, the minimum calculated for the deceased for year of death carries across to the reversionary.  Any amount not paid prior to death, must be paid to the reversionary by 30 June.  The minimum amount for the reversionary on the following 1 July is then recalculated using the reversionary’s age.

In contrast, where a pension does not revert on death, the pension ceases on date of death.  This means the minimum also ceases on date of death.  That is, no minimum payment is required for the “old” pension (to the deceased) in the financial year of death.  A minimum for any new pension will determined if and when a new pension is commenced for an eligible beneficiary.

It is a well established principle that company directors are not considered common law employees, unless they are also engaged under a contract of employment to provide non-director duties.

So, if a director is not a common law employee, can they ever qualify as “gainfully employed” for the purpose of making superannuation contributions after age 65? Conversely, if they cease to be a director after age 60, is that sufficient to satisfy the retirement definition?

We recently sought clarification of these issues from the ATO and can now confirm:

• Whilst not common law employees, directors are included as employees for the purpose of the Superannuation Industry (Supervision) Act & Regulations.  Specifically, under section 15A(2) “a person who is entitled to payment for the performance of duties as a member of the executive body of a body corporate is, in relation to those duties, an employee of the body corporate”.
• This means a director of a company who is entitled and paid fees for their services as a director would qualify as gainfully employed [SIS Reg 1.03(1)].  For individuals aged between 65 and 74, provided they were gainfully employed for the requisite minimum of 40 hours in no more than 30 consecutive days, voluntary employer or personal superannuation contributions could be made.
• Similarly, where a director has received remuneration for their services as a director and subsequently ceases that directorship, an arrangement under which they were gainfully employed has come to an end.  For individuals aged 60 or over, where that cessation occurs after their 60th birthday, they will have met the second limb of the retirement definition and thus satisfied a condition of release [SIS Reg 6.01(7)].  This will be case even if the individual has continued in other forms of gainful employment.

Of course, given the incentive post 1 July 2017 for individuals to satisfy a retirement definition and commence a pension which will generate tax exempt earnings in the fund, the ATO is likely to pay closer attention to such arrangements.

If you have any concerns about whether you or your client is gainfully employed or has satisfied a retirement definition, feel free to give the team at Heffron a call.

We are definitely at the business end of 2017/18 when it comes to discovering just where the submerged rocks lie for CGT relief under the 2017 Superannuation Reforms.

We have written more broadly on this before - see our previous publication, Heffron Super News, Issue # 142 and for subscribers to McPherson Superannuation Consulting’s SuperTech newsletter, the December 2016 edition.

However, as is always the case, new tips and traps emerge all the time and we’ve shared below just five that have come to our attention as we help advisers, accountants and trustees navigate the rules and lodge their 2016/17 annual returns.

Which aspects of the CGT relief are a “choice”?

Funds can choose whether or not they adopt the CGT relief.

They can also choose whether they do so for all or just some assets.

And they can choose whether (under certain circumstances) tax on any capital gains triggered as part of opting into the relief is dealt with in 2016/17 or deferred until the asset is sold in the future. 

But they can’t choose which method applies.  Whether it is the so-called “segregated method” or the “proportionate method” will be a matter of fact and will depend entirely on whether or not a particular asset was entirely devoted to providing pensions on 9 November 2016:

• If it was, only the segregated method is ever possible for those assets – never the proportionate; and
• If it was not, only the proportionate method is ever possible for those assets – never the segregated method.

And of course it’s entirely possible that neither method is available if the fund or asset doesn’t meet the conditions required for the applicable method.

The interplay between the method available for CGT relief and the method used to calculate a fund’s tax exempt income (ECPI) in 2016/17

While the CGT relief method is not something funds can choose, they can make some choices about how they claim their ECPI in 2016/17 while the ATO is not devoting compliance resources to ensuring that their view of how the law works is applied (see our article ECPI – what is different in 2017/18 to understand that ATO view). In fact many funds might use both methods to claim their ECPI in 2016/17 depending on the circumstances.

However, this does not change anything about their CGT relief – the segregated or proportionate method will apply based on their position at 9 November 2016 no matter how they claim their ECPI in 2016/17.

Dealing with losses when carrying forward gains under the proportionate method

For some funds it will make perfect sense to opt into the CGT relief on assets that are currently in a loss position where the proportionate method applies.  But those losses are then recognised in full in 2016/17; they cannot be deferred in the same way as capital gains.

For example, consider a fund that will opt in to CGT relief for two assets – one with an unrealised gain of $100,000 and one with an unrealised loss of $40,000.  Both have been held for more than 12 months and the fund’s actuarial percentage for 2016/17 is 75%.

It is tempting to assume that if the trustee intends to defer the capital gain trigged by adopting the relief, the following amount would be reported as the “deferred notional gain” on the fund’s 2016/17 annual return:

($100,000 - $40,000) x 2/3 x (1 – 75%) = $10,000

But in fact this is quite incorrect.

The fund should instead report a capital loss of $40,000 and a deferred notional gain of:

$100,000 x 2/3 x (1 – 75%) = $16,667

This deferred notional gain would be recognised (and taxed) when that asset is eventually sold. The $40,000 loss must be recognised immediately.  It would be used to reduce normal capital gains made in 2016/17 and carried forward in the usual way if the gains were not enough to use it up in full. Importantly, however, it would be entirely excluded from the deferred notional gain calculation.

Is CGT relief really worth it if both members only have $1.5m in super pensions?

CGT relief is not always valuable (and in fact we explain a number of cases where it is not in our CGT relief technical paper – see below).  But it is also easy to under value it when it doesn’t look all that useful right now.

If the two members above were receiving a transition to retirement income stream during 2016/17, CGT relief is still available even though their balances were less than $1.6m at 30 June 2017. 

If the members have now retired (ie post 1 July 2017) and there is little chance that their balances will increase above this level in the future, it is tempting to imagine that the CGT relief is not particularly valuable.  Surely the fund will be 100% in pension phase in the future anyway?

But remember that when one of the members dies, it is entirely possible that the survivor will wind down some of their own retirement phase pension so that they can keep the deceased’s pension running and leave as much as possible in superannuation.  At that point the fund will return to having a combination of accumulation and pension accounts – CGT relief would once again be valuable. Don’t underestimate the impact that future events have on the value of the decisions being made today.

Oops – I missed it the first time

The decision to opt in to the CGT relief for a particular asset is an irrevocable one. An amendment to the tax return can’t change this.

However, the ATO has recently clarified that where the tax return has been lodged with (say):

• no election to opt in made at all; or even
• a response that indicates the fund has specifically chosen NOT to opt into the relief

an amendment can be submitted that effectively changes this to opting in.  (We expect the argument is that the irrevocable part of the election can only ever apply to a positive choice to take up the relief.  No decision or even a decision not to opt in doesn’t constitute an election for this purpose.)

So if your fund has mistakenly ignored CGT relief and already lodged their 2016/17 return, it’s not too late to change things.  If your fund has already lodged a return with a positive election to opt in, then unfortunately that cannot be changed.

If you’re struggling with CGT relief, you’re not alone.  Heffron has helped countless advisers, accountants and trustees understand the rules and make their decisions.  We can review a specific fund’s circumstances and provide a report on which method applies together with our recommendation as to whether the fund opts in, defers etc (see our CGT relief review service).  We have guides you can use to explain the rules for clients (CGT relief fact sheets), minute templates (CGT relief minutes) and technical papers (CGT relief paper).  Let us help you deal with CGT relief quickly, efficiently and cost effectively so that you can get back to the important work of getting the most out of SMSFs for yourself or your clients.

With all the recent focus on new limitations on super, it’s easy to forget that there is also at least one new rule that helps those still saving to put more into their super account with the best possible tax treatment.

Until this year, there were really only two ways for most people to voluntarily make extra superannuation contributions.

The first was to ask an employer to divert some of their salary to their fund as extra super (known as “salary sacrifice” contributions).  This is valuable for those paying high rates of personal tax because they escape income tax on the money used to make salary sacrifice contributions.

The second method was to put in extra money as what’s called a “non-concessional” contribution.  Non-concessional contributions are not tax deductible.  If there’s no tax deduction available, most people opt for paying down their mortgage rather than putting more into super!

In the past, very few individuals could make a superannuation contribution for which they claimed a personal tax deduction.  Those who could were typically people running a business in their own name or not working at all – it was rarely possible for a traditional salary earner.

That’s all changed from 1 July 2017. 

These days, anyone can claim a tax deduction for contributions they make to superannuation from their own money.  There is a limit of $25,000 pa and unfortunately any contributions made by an employer will also use up the limit.  But the new rule does open up some new opportunities.

Have you ever thought about salary sacrifice contributions and then decided it’s all too hard because you have to make regular payments and commit to them in advance?  (And then of course there is the hassle of changing your instructions with your company’s payroll department if you change your mind!) 

Have you ever received a bonus and thought afterwards “I paid a lot of tax on that bonus, I wish I had put some of it into super as an extra salary sacrifice contribution”? 

Have you ever reached the end of the financial year with more cash than expected and wondered if there is any way you can contribute it to super and reduce your personal tax bill at the same time?

Do you have an employer who is not able to organise salary sacrifice contributions for you?  Or does your employer reduce other salary-based benefits if you deliberately opt for less salary and more super?

If so, it’s time to think differently in 2017/18 because there is now a second path.

In the new world, virtually anyone can decide in (say) June to put an extra deposit into superannuation and claim a personal tax deduction for it.  There are some issues to watch:

• Remember the $25,000 annual limit includes any superannuation provided by an employer such as compulsory (Superannuation Guarantee) or salary sacrifice contributions.  For some funds this amount is not immediately obvious – check carefully with your employer and fund before making the extra contribution;
• Just like an employer contribution this extra contribution will be taxed in the fund.  For most people the rate is 15% but for some it is as high as 30% (generally only for those earning salary, superannuation and other income of more than $250,000 pa);
• There is paperwork to do.  Unlike salary sacrifice contributions which are automatically tax deductible to an employer, personal contributions are only tax deductible if you specifically ask your fund to treat them that way within certain time frames and the fund agrees to do so;
• Anyone over 65 needs to meet certain rules to be able to make superannuation contributions;
• Claiming a tax deduction for your personal contributions will mean they are potentially taxed again when you eventually take the money out of superannuation.  Generally this is only relevant if you take the money out before you turn 60 or under certain circumstances when you die;
• It won’t be worthwhile for anyone paying very little personal income tax (particularly those whose personal tax rates are less than or similar to the normal superannuation rate of 15%).

Of course some people will still choose to use a salary sacrifice arrangement with their employer and make these contributions regularly.  There is something simple and comforting about knowing you are adding to your superannuation every fortnight / month without having to do anything to make it happen.

But effectively this new rule allows everyone to have the tax benefits of salary sacrifice contributions with the flexibility of non-concessional contributions.

[An edited version of this article appeared in The Australian on 6 March 2018]

It was pretty big news in SMSF circles today when SuperConcepts announced they had bought More Super.

SuperConcepts (AMP) is probably the country’s largest SMSF administrator.  Perhaps not surprisingly given the dollars at their disposal, the AMP business has everything – they own their own software (SuperMate), offshore processing operations, multiple SMSF administration brands, financial / investment products (via the AMP business), Australian financial services licensee for accountants (SMSF Advice), financial planning network and no doubt many other components I haven’t even imagined.

More Super just adds “more” to an already big story.  Compared to others in this industry it was already a sizeable business and when combined with AMP the result is just … huge.

But there is one fascinating thing about the SMSF industry that this change highlights : even in an environment where the largest one or two players dwarf everyone else, AMP still only administers around 5% of the country’s SMSFs

And we still have an industry where smaller players can not only survive but even thrive.

I would be surprised if many in the sizable group of “middle sized” independent administrators are racing to change their plans for sale in the wake of this news.  (Or maybe I should just speak for Heffron here – we’re not!)

So why are SMSF administration businesses able to do this when so many other industries have become “winner takes all” propositions – pushing out anyone but the dominant few?

I suspect part of the answer lies in the fact that we started from a very disaggregated place.  Everyone has read the statistics at one point or another – showing how many funds are looked after by firms that have fewer than 5 or 10 or 20 etc.  Aggregation is definitely happening, it will continue and probably even speed up but there is a long way to go.

Another helpful influence is that while administrators are still highly disaggregated there is a relatively small number of providers of software to those administrators (Class, BGL and even AMP’s own version SuperMate).  This puts very sophisticated technology in the hands of quite small administration businesses allowing them to benefit from scale they don’t have themselves.

And finally, with SMSFs in particular, the golden egg is finding new and better ways to better serve trustees and the professionals who advise them.  At the end of the day these are the people who matter when it comes to getting the best possible retirement outcomes for SMSF members.  Fortunately there are a great many ways to do that – meaning that many different business and service models are possible.  Scale and size will be great for some but the ability to be independent, nimble (particularly with technology development) and responsive to a range of different client needs will also be handy.  That’s why the SMSF industry is such an exciting place to work – it is just like the funds themselves, full of choice and variety with amazing opportunities to do something differently tomorrow.

Traditionally when a transition to retirement income stream (TRIS) reverted to a spouse on the death of the original pensioner, the TRIS status of the original pension was academic.  Regardless of how the pension started, the surviving spouse inherited a pension unencumbered by the usual restrictions associated with a TRIS because the death of the original pensioner effectively ‘freed up’ the entire balance to become ‘unrestricted non-preserved’ superannuation. 

However, the addition of the ‘retirement phase’ concept on 1 July 2017 added some complexity which currently causes some constraints to remain even after death and changes the position for those transition to retirement pensions that revert to another beneficiary on death.

In what has now been agreed is an omission from the law, under current legislation, any pension that commences as a TRIS does not automatically become a ‘retirement phase’ pension when it automatically reverts to (say) a spouse on the death of the first member of a couple.

Instead, the treatment of the ongoing pension (if it commenced as a TRIS) depends on the age and retirement status of the new recipient (ie the reversionary pensioner).  This is the case even if the pension had already become a ‘retirement phase TRIS’ in the hands of the original pensioner before they died.

This deficiency in the current law means that if the person nominated as the reversionary pensioner has not yet retired/reached age 65 etc by the time of the original pensioner’s death, there is an argument that the pension simply cannot revert    However, even if the pension is considered to have reverted, the compulsory cashing rules have not been satisfied as the death benefit pension is not a ‘retirement phase’ pension.

This would mean the fund’s eligibility for exempt current pension income in respect of that pension account would cease immediately and the trustee/member would need to act quickly to stop the TRIS and restart a retirement phase pension.  But in doing so the member would have lost the benefit of the usual 12 month delay in an amount counting towards their transfer balance cap.

However in a welcome move, the Government has now released draft legislation which if passed in its current form, will ensure that an auto-reversionary TRIS can always be paid to a reversionary beneficiary (provided they are an eligible recipient - eg spouse) regardless of the age or work status of the reversionary beneficiary.  There will be no need to ‘stop & restart’ the TRIS, the fund’s eligibility for exempt current pension income will continue uninterrupted and the reversionary beneficiary will benefit from the 12 month delay in their transfer balance cap.

This common-sense change is proposed to apply from 1 July 2017 but is subject to the passage of legislation through Parliament.

Why is there so much focus on SMSFs and Bitcoin?

Mainly because it’s new and sexy.  Whenever there is a new and exciting investment, early movers want to get started.  These days, the largest pot of potential investment cash is often an individual’s superannuation.  Thanks to compulsory superannuation at a relatively high level for a long time now, even youngsters in their 30s and 40s potentially have large sums locked up for retirement.

(Did you know that someone with a salary of $50,000 ten years ago who has experienced wage increases of only 3% each year could have grown their superannuation to around $50,000 today if their fund earned even just 2% more (ie 5% pa) over that period?)

But how does one invest superannuation money in Bitcoin?

This is where SMSFs enter the conversation.

On the whole, large funds are subject to exactly the same rules as SMSFs (in fact SMSFs are generally more constrained) but a range of factors get in the way of quickly opening up new opportunities for large fund members.  Internal policies that apply thorough vetting to anything new, governance committees that are nervous about taking risks, trust deeds or other internal documents that simply prohibit it, concerns about additional costs (which would end up affecting all members not just the few who take up the new opportunity) to name just a few.

SMSFs, on the other hand, can respond to anything immediately.  Want to buy diamonds?  Want to buy mushroom farms?  Want to buy racehorses?  Want to buy Bitcoin?  There will almost always be compliance hoops to take care of and in a few cases, there are specific rules governing particular types of investment.  But there are generally very few assets an SMSF cannot buy at all.

This “nimbleness” is exactly one of the things that sets SMSFs apart from the rest of the slow and ponderous superannuation industry.

And sometimes that’s the problem.  There’s very little to stop someone in charge of their own superannuation fund racing headlong into an exciting new thing.  But there is also virtually no protection when something goes wrong.

Some people will make a killing on cryptocurrencies.  And some people will lose their shirts. 

Given the very generous tax concessions given to superannuation funds including SMSFs, we shouldn’t be surprised that the ATO (as the regulator of SMSFs) and auditors of SMSFs (as their whistle blowers) tend to instinctively view anything new with concern.  Sometimes that concern is just based on ignorance.  Sometimes it is founded on a genuine appreciation of risk and fear that some people making important investment decisions actually do not understand what they are doing.

Right now both are probably applicable for cryptocurrency.

Not surprisingly there are plenty of articles currently being published expressing concern about cryptocurrencies.  The best I’ve read so far is this one from ASF Audits – Why Cryptocurrency is SMSF Kryptonite. 

But there are also plenty in support and highlighting some points that are absolutely true:

• An SMSF can invest in cryptocurrency providing some important compliance rules are followed.
• The technology underpinning cryptocurrency is surely here to stay – regardless of whether the large range of specific currencies (Bitcoin, Ethereum, Dash, Monero and more) survive in their current form.
• As George Bernard Shaw said once "all great truths begin as blasphemies".  Everything was new once and many activities that are somewhat mainstream today were probably once viewed with the same suspicion that now surrounds cryptocurrencies.  As entities that are always on the front line of innovation, SMSFs experience this a lot!
• As mentioned earlier, some people will make a killing investing in these assets.

I have an SMSF and I won’t be buying cryptocurrencies for now for several reasons:

• I don’t really understand it well enough to be confident I would be making an informed decision.  My adviser doesn’t either – so I’d be on my own;
• I’m kind of intrigued about it and would actually love to have a dabble “just because” – but that’s exactly the wrong thing to be doing with my retirement savings.  I should do that with my own money otherwise I’ve breached one of the most important superannuation rules we have: the sole purpose test.

But this isn’t something just restricted to crypto - my SMSF doesn’t have any direct property for exactly the same reasons!

On the other hand, my colleague Andrew Smith is our CTO.  He knows far more about this than I do.  In fact he’s even played around with inventing his own currency and knowing his history with new and innovative ideas, he will probably be one of the people to make a killing!  It may be an entirely appropriate investment for his SMSF.  If he does invest some of his superannuation money in some form of cryptocurrency, I’ll be flagging just a few things I want him to be careful about:

• Make sure you are doing this with a genuine focus on growing your retirement savings – if you just want to have a play, it will be very hard to look your auditor and the ATO auditor in the eye and say you’ve satisfied the sole purpose test.  This is particularly hard if you have JUST created your SMSF and put all your money into Bitcoin.  Would someone genuinely focused solely on growing their retirement savings put all their eggs into that particular basket?
• Your SMSF needs to be able to prove that it owns what it says it owns – this is pretty easy in the “non virtual” world where things like bank statements, share registers etc provide some conventional methods of supporting ownership;
• Cryptocurrency isn’t currently included in the definition of “money” for superannuation law purposes. This means there are rules about who you can buy it from – only ever buy your coins from an external party, not yourself or family or people you’re in business with;
• Make sure you can show how you are protecting yourself from fraud or natural events such as the death of the trustees (who own the wallet);
• Remember that the assets will belong to the superannuation fund.  If your sell some of your Bitcoin, the money needs to go into your SMSF not your own pocket.  You also can’t spend it on things for you (or family or anyone else) – it can only be spent on buying things for the SMSF.

Other than that, go for your life and make a killing!

One of the many benefits traditionally enjoyed by funds entirely in pension phase was that when an asset was sold, any capital gain was completely disregarded.  Not only was there no tax paid on that particular capital gain but the fact that the gain was ignored entirely meant it also did not “use up” capital losses that the fund might have been carrying forward from previous years.

But what does the future look like on this front?

The traditional treatment of capital gains was potentially hugely beneficial.  Many funds have large capital losses carried forward from the days before they started their pensions and have been able to leave those intact for the proverbial rainy day when they are once again paying tax on some or all of their investment income.

So how will this change in the future (2017/18 and beyond)?

For some funds, the rainy day has arrived.  Many funds that were 100% in pension phase are now back to having a combination of pension and accumulation accounts.  (The classic case here is a fund where one or more of the members had more than $1.6m in pension phase at 30 June 2017 and chose to prepare for the 2017 reforms by “rolling back” some of their balances to accumulation phase.)

Unfortunately, when it comes to dealing with capital gains and losses, the treatment of these unsegregated or pooled funds is far less generous than the treatment of 100% pension phase funds.

In particular, for these funds, any current and historical capital losses are firstly offset against any capital gains before the actuarial % is applied to any remaining gain.  This means that even if the fund’s actuarial % is 99% (indicating that the fund is exempt from tax on 99% of its investment income), a $100,000 capital gain will completely use up a $100,000 carried forward capital loss.  (Logically one would think it should only reduce the carried forward capital loss by $1,000 – the portion of the new gain that is to be taxed.)

Unfortunately this is just the way the law works - even funds with a very small accumulation balance will find that they are using up their carried forward capital losses at pace – with every single dollar of capital gain they realise from 1 July 2017.

Eventually many funds with accumulation balances may return to a position where they are once again 100% in pension phase.

But even then, how will their capital gains and losses be treated if they are no longer allowed to have segregated assets?  (Remember some funds are no longer allowed to be classified as segregated even if they are 100% in pension phase – see our article Segregating in SMSFs beyond 1 July 2017.)

There is slightly better news here.

Funds that claim their ECPI using the “segregated” method are specifically allowed to disregard any capital gains and capital losses under s 118-320 of the Income Tax Assessment Act 1997.  Whilst, this provision will no longer apply to funds that are not allowed to segregate even if they are 100% in pension phase, another provision in the same Act (s 118-12(1)) provides a more general ability to ignore new capital gains under these circumstances.  It states that:

 A capital gain or capital loss you make from a CGT asset that you used solely to produce your exempt income or non-assessable non-exempt income is disregarded.

Translated, this means that a fund where 100% of the income is exempt from tax because 100% of the balances are in pension phase all year will be able to disregard capital gains.  For these funds, new capital gains will therefore stop “using up” any capital losses that are being carried forward from previous years.

The ATO announcement this morning advising that they will be extending the due date for lodgement of SMSF Annual Returns strongly indicates the complexities around the CGT Relief is proving challenging, as we, at Heffron, predicted would be the case.

Heffron has been at the forefront of the 2017 superannuation reform, creating products and services that provide practical solutions. 

If you have one or multiple funds that are affected by the super reform and aren’t sure on the rules then get in touch with our team to discuss the multiple services we’ve introduced specifically to help deal with these rules.

From our Masterclass Course, in March, through to our CGT Relief Review service, technical papers or even our full Administration services.  All services are designed to help practitioners apply the rules to real life situations.   

For example, our CGT Relief Review Service includes:

• identifying which CGT relief method is applicable for each fund asset
• our recommendation as to whether the trustee does or does not opt into the relief for particular assets
• where relevant, our recommendation on whether the trustee defers tax on the capital gain triggered by opting in; and
• highlighting any other issues we identify as part of our review.

Transfer today, as easy as you like!

A question that has already come up in our practice several times relates to clients who died before 1 July 2017.

In particular, if the deceased had a retirement phase pension, what (if anything) should be reported for that pension when the Fund’s first TBAR (Transfer Balance Account Report) is lodged later this year.

Like most superannuation issues, it depends.

What if the pension was non reversionary?

If the pension was non reversionary (did not automatically continue to a new beneficiary) then from a superannuation and TBAR perspective, there was actually no pension in place at 30 June 2017.  This means there is nothing to report on the TBAR at 30 June 2017, no pension account to “roll back” to $1.6m by 30 June 2017 and no payments to make from that pension during 2017/18. 

In our view, if this pension was the sole income stream in the Fund, no CGT relief is available because none of the fund’s members needed to “do anything” to address the 2017 super reforms. 

Of course, the Fund can continue to claim a tax exemption on its investment income until the death benefit is dealt with (providing this happens as soon as practicable).  Interestingly this applies even though the “pension” balance may be much higher than $1.6m.  Let’s say the deceased’s pension balance (the sole balance in the Fund) was $5m when they died in April 2017.  If the trustee sells all the assets in 2017/18 to pay this out as a lump sum, the Fund will be able to do so entirely CGT free in any case.

If the balance was ultimately used to start a new pension in September 2017, the usual rules would apply just like any other new pension.  There would be TBAR reporting (based on the value of the balance at the time the new pension started), new minimum pension calculations and the maximum amount that could be dealt with in this way would be $1.6m (potentially lower if the beneficiary already has their own retirement phase pensions that have not been commuted).

What if the pension was reversionary?

The situation is quite different if the pension was reversionary.  Remember that reversionary pensions normally just continue in place to a new beneficiary – while the “owner” changes, the pension continues on.

Under this scenario there was a pension in place at 30 June 2017 and TBAR reporting will be required.

The 30 June 2017 balance will need to be reported for the new beneficiary.  It won’t have any impact on his or her transfer balance cap until 12 months after death – giving us until April 2018 to ensure the new beneficiary has no more than $1.6m assessed against their transfer balance cap in the example above.

What if the pension was a TRIS?

The situation is much more complex if the pension was originally a TRIS.  This is an area on which the ATO’s consultation process seems to have stalled (we are crossing our fingers that this means Treasury has finally shown some interest in a legislative solution). 

The 2017 superannuation changes altered many of the traditional superannuation strategies and none more so than the best way to deal with death benefits.  For this reason we are devoting our next masterclass series to both the strategies and practicalities of dealing with death in the new world.  We will review the issues that have stayed the same and explain the implications of everything that has changed.  Register as soon as you receive your invitation to avoid missing out.

Draft legislation has been released for comment aimed at closing off two avenues in which the Government considers LRBAs could be used to circumvent contribution caps.

The first of the Government’s proposed changes will include a member’s share of the outstanding loan balance of an LRBA in the member’s Total Superannuation Balance.  It will only apply to SMSFs and Small APRA Funds (SAFs).

In other words, a single member fund with a $2m asset and $500,000 LRBA (so net balance of $1.5m) will – under the new provisions – have a Total Superannuation Balance of $2m rather than $1.5m.

Since one of the main uses of Total Superannuation Balance is to limit a member’s future contributions, increasing it in this way will have the effect of:

• stopping a member from making non-concessional contributions to superannuation if his or her share of the gross assets of the fund exceeds $1.6m (the example of the single member fund above); and
• stopping a member from carrying forward unused concessional contributions from 1 July 2018 if his or her share of the gross assets of the fund exceeds $500,000.

This measure is only proposed to apply to LRBAs entered into from 1 July 2018. It is something trustees and their advisers need to be aware of if considering new LRBAs as it will potentially impact their feasibility if future non-concessional contributions were anticipated to repay the borrowing.

The second of the Government’s proposed changes ensures that expenditure is also taken into account when determining whether the non-arm’s length income tax rules apply to a transaction.  Whilst not necessarily a SIS breach, remember that if considered to be non-arm’s length, income is taxed at 47% not the concessional 15% rate (or 0% for income earned on assets supporting a retirement phase pension).

The proposed changes have not been specifically limited to LRBAs and therefore apply to any “unreasonably low” expenditure incurred in deriving income.  Arguably it addresses a gap that has always existed in the non-arm’s length income provisions – they only required that the income received in relation to a particular asset was arm’s length and did not explicitly prevent SMSFs from achieving a similar result by artificially suppressing costs.

Clearly, however, the main target is LRBAs involving loans from related parties where the arrangement is not on arm’s length terms.  For example, where the interest rate charged is less than the rate charged by a third party financial institution or is not in accordance with the safe harbour provisions of PCG 2016/5.

The proposed changes would mean that under these circumstances, the income (including capital gains) earned by the asset acquired under the LRBA would be taxed as non-arm’s length income (albeit the interest would be a deductible expense under the usual rules).

This second change is proposed to apply to income derived from 1 July 2018, regardless of whether the arrangement was entered into before 1 July 2018, and effectively gives legislative backing to what the Government attempted to do with the safe harbour rules.  Presumably this would include any capital gain realised after 1 July 2018 regardless of when the growth in the asset actually occurred.

These measures are open for consultation until 9 February 2018.  We’ll let you know how they proceed.

Well we know what the ATO will be doing over Christmas. 

While we expect few SMSFs have lodged any reporting for the new Transfer Balance Cap (the $1.6m limit on transfers to retirement phase pensions), the ATO plans to start issuing its first excess transfer balance determinations from January 2018. These are the new notices that will alert individuals that they have exceeded the limit and set a deadline for taking action.  Those who don’t do so within the required timeframe will effectively have their entire pensions cancelled.

What issues will this present?

• Unfortunately the first ETB determinations will be too late to help many of those with small excesses who potentially qualified for special treatment (retirement phase pensions at 30 June 2017 that were between $1.6m and $1.7m and no new pensions since then).  These people were able to avoid an excess altogether (and the associated tax consequences) but only if they took action to remove the excess before 31 December 2017.  The release of the first ETB notices in January 2018 will be too late to alert anyone who hadn’t taken the necessary action by 31 December 2017.  Note, members of SMSFs who formally documented the rollback of any potential excess above $1.6m on/before 30 June 2017 are not required to take action before 31 December 2017.  For these individuals, any potential excess has already been dealt with and simply needs to be finalised as part of the completion of the fund’s 2017 financial statements (by the due date for the lodgement of the SMSF Annual Return eg 15 May 2018);
• We may see our first instances of the different timing requirements for APRA funds (which have been reporting since October 2017) and SMSFs (which are not yet required to report anything) creating “fake excesses”.  For example, a fund where the SMSF has reported the 30 June 2017 pension but not a subsequent commutation and rollover to an APRA fund may find that the only records the ATO has on file will be the 30 June 2017 pension and the new pension in the APRA fund.  The commutation will need to be reported urgently to avoid a misunderstanding by the ATO.

We expect the latter problem will become a vastly bigger issue in the future when all SMSFs have reported their 30 June 2017 pensions.  Despite all the concessions made to SMSFs to ease the reporting burden, we expect the work created by being out of sync with APRA funds and receiving unexpected excess notices from the ATO will prompt many to report early when members are transferring between the two systems.

If you receive an ETB determination for a client which you weren’t expecting, feel free to send us a copy for review.  It may be a case of a timing issue like that above or a problem with the information reported.

The Bills necessary to make both the above measures law have now received Royal Assent.

Both were May 2017 budget measures and will take effect from 1 July 2018.  (Further changes to the Superannuation Industry (Supervision) Regulations 1994 will be required but these do not require a vote in parliament and are expected to progress smoothly.

To very briefly re-cap, the “downsizer contributions” measure is designed to encourage older Australians to downsize their home.  The incentive is that they are allowed to make contributions to superannuation after 65 when they sell an eligible dwelling without meeting a work test and regardless of the size of their existing superannuation balance.  There are of course limits, rules and deadlines but a few features include:

• Only dwellings sold (contracts exchanged) after 1 July 2018 can be used to trigger eligibility for one of these contributions.  The person does not have to be over 65 when the dwelling is sold (or even when the settlement proceeds are received) but they do have to be over 65 when the contribution is made and there are time limits for making the contribution after sale;
• The maximum contribution is the sale proceeds of the dwelling, capped at $300,000 (or $300,000 each for a couple);
• There is no requirement that the contribution actually comes from the sale proceeds or that the sale actually occurs as a result of an intention to downsize (the contributor might in fact buy a more expensive home or even none at all);
• There are rules around the nature of the dwelling but in most cases any Australian unit or house that has been held for more than 10 years and is at least partially exempt from CGT because of the “main residence” exemption will be eligible
• The contribution can be made in multiple individual amounts but can only be triggered from the sale of one dwelling

The FHSSS is also related to housing but is generally relevant at the opposite end of the age spectrum.  It is designed to help individuals buy their first home by allowing them to extract some of their superannuation contributions to do so.  The new rules relate only to contributions made on or after 1 July 2017 and it will only be possible to release them from 1 July 2018.  Both personal and employer contributions are eligible for this scheme but in the case of employer contributions, only the amount over and above compulsory (superannuation guarantee) contributions are considered.  There is a maximum (formula) amount and when the contributions are released to the individual, any part that does not relate to the individual’s personal contributions for which they have not claimed a tax deduction (non-concessional contributions) will be taxed – albeit at a concessional rate.  The scheme has been designed so that the tax treatment favours contributing money to superannuation and then asking for it to be released rather than simply saving it in their own name for most individuals.

Both were promoted as part of the Government’s strategy to ease pressure on housing prices. We expect the downsizer contributions measure to be more useful for most SMSF members and in fact it presents some interesting planning opportunities particularly since there are no upper age or balance limits.  We expect that a great many SMSF members will look to take advantage of the scheme at some point in their retirement, although the potential impacts on social security entitlements and aged care fees will need to be carefully considered.

Understanding when a fund is "segregated" for tax purposes is critical in applying the tax rules to SMSFs providing pensions.  An important rule change from 1 July 2017 means that some funds are no longer classified as segregated even if they very much look like it - for example, they are entirely in pension phase.  In this article we explain which funds are actually no longer allowed to segregate for tax purposes and what that means when it comes to their tax exemptions.

So what are the new rules?

From 1 July 2017, a fund cannot have any assets classified as segregated at any time during a particular financial year if, at the previous 30 June:

• any member had a total superannuation balance of more than $1.6m (and remember, total superannuation balance includes not just the balance in the SMSF but all superannuation in every fund to which the member belongs); and
• any of those members with more than $1.6m also had a retirement phase pension from any fund (not necessarily the SMSF).

If a fund cannot be classified as segregated it simply means that it cannot claim its tax exemption (ECPI) on the segregated basis.  The fund is still eligible for an exemption but under the "pooled" method.

Example 1

Mary and John both have $1.6m retirement phase pensions at 30 June 2017 and small accumulation balances.  They have no other superannuation.  During 2017/18 they fully withdraw their accumulation balances and their pension balances grow slightly during the year because their fund's investment earnings exceed their pension payments.  At 30 June 2018 their balances are $1.65m each (all in pension phase).

Their SMSF cannot be classified as "segregated" for tax purposes during 2018/19 even if it remains entirely in pension phase throughout the year (ie no new contributions are made for either of them).  The fund will instead claim its tax exemption for 2018/19 under the normal rules for "pooled" funds.  These are found in Section 295-390 of the Income Tax Assessment Act 1997.  The SMSF will need an actuarial certificate to say that the fund is 100% exempt from tax.  This is because only funds that are segregated (and covered by Section 295-385) are allowed to claim a tax exemption without obtaining an actuarial certificate.

If Mary and John both withdraw large amounts from their pension accounts during 2018/19 and by 30 June 2019 their balances are under $1.6m, the situation will change again for 2019/20.  For 2019/20 their fund will be allowed to be classified as segregated.  It can claim a tax exemption on all of its investment income for the year without needing an actuarial certificate if no further contributions are made.  If contributions are made during the year (or the fund has a mixture of pension and accumulation accounts for some other reason) the Fund will need to claim its tax exemption in two parts - on the segregated basis while it is entirely in pension phase and via an actuarial certificate during the "mixed" phase.

Example 2

Stacey and Mark both belong to the Stacey & Mark Superannuation Fund (an SMSF) and their entire balances will provide retirement phase pensions throughout 2017/18.  Their total superannuation balances have never been more than $1m.  Stacey's mother Anne is also a member of the fund.  She has a small accumulation account ($100,000) in their fund and traditionally the trustees have invested Stacey and Mark's balances quite separately to Anne's.  They have treated the fund as segregated for tax purposes.  Unfortunately Anne had $2m in another SMSF at 30 June 2017, of which $1.6m was providing a retirement phase pension.  This means that the Stacey & Mark Superannuation Fund is not allowed to be segregated for tax purposes any more.  It doesn't matter that Anne's large balance is in another SMSF, nor does it matter that Anne doesn't have a pension in the Stacey & Mark Superannuation Fund.  Simply the facts that:

• she is a member of the Stacey & Mark Superannuation Fund;
• she has more than $1.6m in total superannuation balances at 30 June 2017; and
• she has a retirement phase pension "somewhere"

is enough to compromise the ability of the Stacey & Mark Superannuation Fund to segregate its assets for tax purposes.

The trustees could still invest the money separately and allocate investment earnings on the basis of the different assets chosen for each member. However the fund's tax return would be prepared as if all the assets are shared.  The tax exemption would be based on an actuarial certificate.

Feel free to add your own scenarios to the comments box and we'll let you know whether or not the fund can segregate from 1 July 2017.

The terms "segregated" and "pooled" (or "unsegregated") have been part of the superannuation landscape for 30 years (since superannuation was first taxed in 1988).  From 1 July 2017, however, the way we think about these terms for pension funds needs to change profoundly.

Traditionally, pension funds were segregated under only two circumstances:

• funds that were entirely in pension phase all year (often referred to as "segregated by default"); and
• funds where the trustee set aside specific assets to support one or more pension accounts and kept these quite apart from the assets supporting members' accumulation accounts.

Being segregated (or not) was important in determining whether the fund needed an actuarial certificate.  For the last 10+ years, funds have been able to claim a full tax exemption on any income earned on segregated assets without needing an actuarial certificate.  Funds holding assets that were supporting pensions but were not segregated needed an actuarial certificate to support their tax exemption.

Conceptually that did not change from 1 July 2017.

But two things did change:

1. During 2016/17, the ATO clarified its view that a fund paying only pensions at any point during the year would be considered segregated (by default) for that period but pooled or unsegregated for the rest of the year.  Given that it was way out of step with common industry practice in SMSFs, the ATO agreed to take a fairly relaxed view on this during 2016/17 and earlier years but signalled that the Commissioner would expect the law to be applied in this way from 1 July 2017 (subject to the second change below);
2. From 1 July 2017 some SMSFs (and only SMSFs) are actually legally prohibited from having any segregated assets for tax purposes.  Assets that might look segregated (eg in a fund that is 100% in pension phase) are actually given a new name - "disregarded small fund assets" - and are never treated like segregated assets.

Taken together the impacts are significant.

Change 1 means that a fund that is allowed to be segregated in the future (subject to Change 2!) might actually have to claim their tax exemption by breaking the year up into multiple smaller periods.  For example, if the fund was entirely in pension phase from July - October, received a contribution in October and converted that contribution to pension phase in January, there might be three distinct periods with different rules for tax exemptions :

• July - October : the fund would claim a tax exemption on all investment income (as it was 100% in pension phase and therefore segregated by default)
• October - January : an actuarial certificate would be required and the % shown in that certificate would be applied to any income earned in this period
• January - June : back to 100% pension phase - so all income would be tax exempt.

Selling a property in (say) December would potentially produce a very different result to selling the same asset for the same price two months later in February.

Change 2 means the exact opposite - funds that we may have assumed are segregated all year (or even for just part of the year) will now be considered unsegregated or pooled all year.  A great example here would be a fund that had two members, all in retirement phase pensions (no accumulation accounts) where they are not allowed to segregate.  Even though the fund is entirely in pension phase, an actuarial certificate (stating the obvious - that 100% of the fund's investment is exempt from tax) would be required. 

So who cannot segregate in the future?  We've covered this in another article.

The timing of TBARs (Transfer Balance Account Reports) for SMSFs has been hotly debated ever since the ATO first flagged its view that this should occur outside the normal annual return cycle.  The final verdict is now in.

The term “events based reporting” has been used to describe a more timely reporting regime for events such as starting pensions, commuting them (partially or fully), converting an existing transition to retirement pension to a retirement phase income stream, inheriting a reversionary pension and a variety of others.  The deadlines initially proposed were 28 days after the end of the quarter or 10 days after the end of the month in which the event occurred depending on the nature of the event.

It would seem that significant pressure has resulted in a concession for SMSFs.. of sorts.

A recent ATO media release and subsequent webinars for SMSF professionals signals that:

• SMSFs in which all the members have total superannuation balances of less than $1m can report the new “events” with their annual return rather than when they occur; but
• All other SMSFs will need to report any event that affects their transfer balance (the balance that is checked against the new $1.6m limit) within 28 days after the end of the quarter in which the event occurs.  (It seems that the proposal to have some events reported 10 days after the end of the month has been dropped for SMSFs.)

What’s tricky here?  A few things:

• A fund is either in or out of the “28 day” events based reporting regime.  So the fact that one member has more than $1m in superannuation will drag all other members into the regular reporting net.  To provide some perspective here – remember that this reporting is only ever required when someone actually does something that affects their transfer balance account such as starting a new pension or stopping an old one.  It is not necessarily something that funds will have to do very often.
• Whether a fund qualifies for the exemption from timely reporting depends on all the members total superannuation balances, not just the amounts they have in their SMSF.  This will require knowledge of amounts that the administrator of the SMSF does not necessarily have easily available to them.
• When total superannuation balance is measured depends on whether or not a member was receiving a retirement phase pension from the fund just prior to 1 July 2017.  If so, then the members’ total superannuation balance is measured at 30 June 2017.  Otherwise, the members’ total superannuation balance is measured as at 30 June of the year immediately prior to the first pension for that fund commencing.  Importantly, once a fund is determined to be an annual or quarterly reporter, the fund’s classification is fixed in place.  Subsequent increases or decreases in the balances of the members will not result in a reclassification of the fund from quarterly to annual or vice versa.
• APRA funds will continue to have shorter timeframes and will be reporting events throughout the year.  This will encourage SMSFs to voluntarily bring their reporting forward in cases where a member is transferring to an APRA fund.  For example, imagine a single member fund with a $900k pension balance (let’s assume that $900k was reported to the ATO as at 1 July 2017 for this pension and the balance has stayed roughly the same ever since).  The member decides to wind up the fund and transfer to an APRA fund in 2018/19.   The APRA fund will report a new pension of $900k shortly after it starts.  Unless the fund voluntarily reports the commutation in the SMSF early, the ATO will believe that the member has exceeded his or her cap by $200k and start issuing frightening notices immediately.

While this is a useful concession for some, we still believe a better approach would have been to allow all SMSFs to report in line with their annual return cycle with the ability to report early if they wanted to.

Accountants who use BGL Simple Fund 360 for their SMSF clients can now request actuarial certificates from Heffron with no re-keying, no hassle and an immediate certificate where the fund passes all our automated checks and balances.  We have also taken this opportnity to review the way we bundle our services to construct a range of special offers for BGL 360 users to celebrate our integration.

For some of our accounting clients, the best service is simply certificates at the lowest possible price delivered quickly and efficiently.  But other firms tell us they value tapping into our extensive SMSF expertise and education when they need it and it would be convenient to bundle that with regular purchases like actuarial certificates.

So we invite you to choose:

1. Actuarial certificates only at the lowest possible price ($110 including GST))
2. Our CertificatePlus package – if you choose this package, certificates will be slightly more expensive ($143 including GST) but our relationship with your firm will include other services that are directly relevant to helping you look after your SMSF pension clients.

See the full description of our packages here.

If there is one aspect of the 2017 superannuation reforms that has caused many practitioners some challenges it is the special relief provided on capital gains tax for those affected by the changes to pensions.  We have recently introduced a service specifically to help deal with these rules.
 

This service is designed to help practitioners apply the rules to real life situations.  It covers:

• identifying which CGT relief method is applicable for each fund asset
• our recommendation as to whether the trustee does or does not opt into the relief for particular assets
• where relevant, our recommendation on whether the trustee defers tax on the capital gain triggered by opting in; and
• highlighting any other issues we identify as part of our review.

Read more about the service and sign up today.

Is something funny happening on MyGov for those with large contributions before 1 July 2017?

In short, yes.

The ATO has done a lot of work to ensure that their MyGov application provides relevant and timely information to all taxpayers about their superannuation.  In particular, MyGov helps identify when someone making large contributions has exceeded their contribution cap and potentially has tax to pay.

Unfortunately it looks like there is a glitch that causes incorrect information to be shown for people who made large non-concessional contributions in the 2015/16 or 2016/17 financial years.

Back then, remember that the limit on non-concessional contributions was $180,000 pa or up to $540,000 for those who used the “bring forward” provisions.  That continued right up until 1 July 2017.

One group of clients we have already identified as being shown confusing information on MyGov are those who:

• Used this opportunity to make large non-concessional contributions in the 2015/16 financial year – let’s say $530,000 (perfectly acceptable at the time);
• Therefore had up to $10,000 further that could be contributed ($540,000 less $530,000) over their three year bring forward period (1 July 2015 – 30 June 2018);
• If they had contributed this amount in the 2016/17 financial year, there would be no excess – doing so was within the limits up until midnight on 30 June 2017;
• If they didn’t do so, though, their three year limit was instantly reduced from $540,000 to $460,000 on 1 July 2017 (even less if they had more than $1.6m in superannuation at the time);
• Today, then, they are in the funny position of having exceeded their current limit BUT the law is smart enough to recognise that they did so at a time when the limit was higher – so there are no tax consequences;
• Unfortunately, MyGov is missing the bit about there being no consequences!  It is correctly flagging that the limit has been exceeded but is then creating panic by stating that “You have exceeded the bring forward cap and will need to pay extra tax at your marginal tax rate or higher.” (emphasis added)

We’ve notified the ATO and understand that MyGov will be fixed before the end of the year.

It’s not popular to voice support for the very wealthy, particularly retirees with very large super balances.  But they have just been shafted big time in the latest round of super changes.

Anyone with more than $1.6m in superannuation pension phase is currently preparing for a new world from 1 July 2017 when they will have to move part of their pension back to accumulation phase (or remove it from super entirely).  In the conversations I’ve had with many people affected by these changes there has been little criticism of the overall direction taken by the Government.  There seems to be widespread acceptance that something was likely to change when it came to superannuation tax concessions in retirement phase and capping the amount transferred into pension phase is a reasonable way to do it.  For those already in the system, having to wind back their pension exposure to $1.6m at 30 June 2017 (rather than permanently grandfathering higher pensions) is generally also seen as reasonable.

What is iniquitous, however, is the treatment of those who have market linked and certain defined benefit pensions (called “complying” pensions).

These are people who generally retired more than 10 years ago after a lifetime of excellent superannuation concessions.   It was back in the days when people paid tax on their super pensions and the rate of tax depended on the size of your pension balance.  People with very large balances generally took market linked or complying defined benefit pensions as part of a trade off with the Government – locking up a lot of super up in one of these pensions allowed them to enjoy the best possible tax concessions on more of their pension balance.

The downside was that they really were “locked in” to that pension.

Once a market linked or complying defined benefit pension started, they were stuck with rigid rules around pension payments, couldn’t take any extra amounts if they wanted to and couldn’t change their mind and switch to an account-based pension.  This remained the case even after 2007 when the rules changed for everyone and no-one paid tax on their super pensions any more.

At the time, I didn’t hear any howls of complaint.  This group accepted that they’d chosen to be tied up in return for great tax concessions in the lead up to 2007.  So even when the rules changed and new retirees got superannuation nirvana (no tax on pension payments no matter how large) this group with restrictive legacy pensions didn’t generally complain.

From 1 July 2017, however, the rules will change again.  When the new $1.6m limit on pensions takes effect, this group can’t respond like everyone else and just roll back the excess over $1.6m to accumulation phase.  They are stuck with their pensions.  So naturally the Government has to do something to ensure that they don’t get a free ride (allowed to have a lot more than $1.6m in pension phase).

The Government’s approach has been to impose tax on the pension payments themselves – just for these old legacy pensions.  Sounds OK so far.

But the tax is marginal rates (no offsets, no rebates), on half the pension payment over a $100,000 threshold regardless of its tax components.  Someone who is receiving $500,000 in pension payments will therefore pay tax on $200,000 at their marginal rate (so the new tax bill could be up to $94,000).  That’s like wiping 20% off the value of that part of their retirement savings immediately.  It is likely to be far higher than the tax they would pay if a large part of their fund balance just moved back to accumulation phase and earnings in the fund were subject to 15%.

How can that be reasonable? Or fair?

The most frustrating thing is that there is a simple solution and the Government almost got there.  Draft regulations issued before December added the power to roll back market linked and complying defined benefit pensions to accumulation phase in order to deal with an excess over the $1.6m cap.  This would put recipients of these pensions in the same position as the rest of us.  But those regulations don’t appear in the latest round presented to Parliament.  That means people with large restrictive pensions have no option but to leave them in place and pay the extra tax.

Yes – no-one will die.  The people receiving these pensions will not starve.  They are by definition very wealthy.  They would probably be the first to acknowledge that.  But in what world is it reasonable policy to just hit a very small group of people with massive tax costs in a way that seems out of proportion to the way in which everyone else is dealt with?

I’m not a huge fan of scaremongering around trust deeds.

That doesn’t mean I don’t think it’s an important document – it absolutely is.  A solid trust deed can make a world of difference when it comes to acting quickly to respond to legislative change, having your estate planning put into effect exactly as you intend, minimising friction when setting up a loan for a Limited Recourse Borrowing, minimising the chance that poor process by the trustee or administrator or adviser will result in a bad outcome when it comes to disputes.  And much more.

I just think that as a general rule, they should be written so that they don’t need to be updated all the time – a good deed should last 5 years as a general rule and we generally recommend a review to our clients after that time rather than every year.

Right now, though, we are recommending an upgrade for all clients within our practice – for the first time in 10 years.  It’s no surprise that this is happening at the same time as the major changes to superannuation become law and SMSF practitioners and trustees are getting ready for the big changeover on 1 July 2017.  Here are just five reasons why upgrading a trust deed now is likely to be a good idea:

1. The new rules change the landscape around death benefit planning for everyone, particularly those with legacy pensions such as market linked and defined benefit income streams. Just one feature we’ve incorporated into our latest deed is the ability to add or remove a reversionary pension to an account-based pension without stopping the pension.  This is going to become an increasingly important need as practitioners try to juggle the desire to restructure reversionary arrangements without affecting grandfathering treatment for benefits like the Commonwealth Seniors Health Card or social security income test;
2. The new rules will require a lot of individuals to rollback “excess” amounts from their pension balances to accumulation phase of to remove the excess from super. In cases where money has been rolled back to accumulation phase, any reversionary pension arrangements will no longer apply and the member may wish to put a binding death benefit nomination in place.  Is the current deed flexible to allow different account balances to be dealt with quite separately under a binding death benefit nomination?  Is it crystal clear whether a reversionary pension trumps a binding death benefit nomination or not? (since this usually comes down to the deed);
3. A fund’s ability to segregate its assets will change from 1 July 2017 for those with large balances. But this doesn’t change the trustee’s ability to allow members to “choose” specific investments to underpin their account – it just means that arrangement can’t be reflected in the fund’s tax return.  Many deeds treat segregation and member investment choice as the same thing – ruling funds out of some valuable strategic planning opportunities;
4. In the new environment it will be possible to rollover a death benefit without losing its “death benefit” status (although it will still have to be converted to a pension or cashed out as a lump sum in the new fund). This will be extremely useful where a key member has died, the spouse wishes to wind up the SMSF quickly but retain the money in a super pension – hence rolling it over to a retail or industry fund would be ideal.  Certainly there are plenty of trust deeds that don’t allow that to happen;
5. And conversely, where a member of a retail or industry fund has died, an SMSF may be the optimal retirement vehicle for the spouse’s pension. It will be important that the SMSF trust deed allows the new type of rollover to be received;

Upgrading a trust deed is generally a simple and relatively inexpensive matter.  Right now,  it’s not something to be deferred to another day.

The current superannuation changes present the most profound adjustment to the strategic landscape for SMSFs since 2007.   Like any change, they highlight the importance of good guidance from accountants and advisers for all trustees.  In the coming months, there will be a lot of questions asked of anyone advising trustees but also of those of us implementing the new strategies via a compliance or fund administration role.

Five questions I know we will be asked that immediately spring to mind are:

• Which of my clients’ pensions are currently reversionary and should I change anything? The pros and cons of reversionary pensions have changed over the years.  Since 2007 alone, some legislative changes have favoured them and some have not.  Inevitably there will be a rethink of the best approach for different clients and in fact there is unlikely to be a single answer that is right for everyone.  Given that reversionary and non reversionary pensions are treated differently when it comes to the $1.6m pension transfer cap, it will be vital to understand the status of each and every pension to make this call.  We expect this will be an important part of our review process this year – identifying clients where a change should be considered and highlighting why.
• Have I done anything that would compromise my clients’ eligibility for the CGT relief? In my view this is an immediate risk that has been significantly under-reported.  The new laws do provide opportunities to grandfather capital gains built up in pension funds before 1 July 2017.  This is targeted at those who will pay more tax on their fund’s investment earnings in the future – for example those who have more than $1.6m in pension accounts or who are receiving a transition to retirement pension.  But the rules are complicated.  And for some funds the outcome depends on what happens between 9 November 2016 (the date the legislation was tabled in Parliament) and 30 June 2017.
• Do I actually want my client to take advantage of the CGT relief? Like I said, the rules are complicated!  And some clients will actually get a better result if they ignore the grandfathering altogether.  It will be a great opportunity for advisers, accountants, administrators to work closely together to get the best possible result.  Again, it’s an area where I expect the strategic review process carried out by an administrator will be vital in flagging all of the options for trustees and advisers;
• Does your service support the new reporting requirements? The finer details have yet to be announced (in fact we expect they have yet to be worked out!) but simply reading the legislation and explanatory memorandum makes it clear that there will be a lot more compliance reporting expected in the future.  The ATO has already indicated that they expect requirements such as reporting pensions and other events that affect the pension transfer balance cap within 2 weeks.  This will be extremely difficult for those SMSFs who have chosen a “year end” administration service where the books are only updated when the tax return and audit are dealt with.  Clients using those services might well be ruling themselves out of important new strategies such as treating payments over the minimum pension as partial commutations to “claw back” some of the pension transfer balance cap.
• Does your trust deed accommodate the emerging strategies? These days the fund’s administrator often drives the choice of trust deed.  That puts the pressure firmly back on businesses like ours to make sure we’re always thinking about how these documents need to move with the times.  Even without these latest changes, 2016 was shaping up to be a year of review.  Evolution of death benefit case law and practice over the last few years alone would prompt a trust deed review and in fact we recommended one to all our administration clients this year for the first time since 2007.  For those still in doubt, the latest changes provide an obvious tipping point – many new rules will challenge some traditional deeds.  For example, the new rules will allow certain death benefits to be rolled over – will an older deed accommodate this new opportunity?  They also prohibit some funds from “segregating” their pension accounts and will change the optimal approach for reversionary pensions.  Will the current deed allow, for example, a reversionary pension to be added / removed without fully re-setting the pension?

So 2016/17 and beyond are shaping up to be important times for not just the front line – trustees and those who advise them – but also those of us providing support behind the scenes.

Last Thursday (24 November) the ATO released Law Companion Guide (LCG) 2016/D8.  It is designed to provide some extra insights into how the ATO will apply the CGT relief accompanying the 1 July 2017 changes to superannuation pensions.

The law itself has already been passed and is quite complex – there are some odd cases of people who will miss out despite being obvious candidates for relief and others where they will fall within the rules despite not really being affected by the changes.  So like any law, it’s not perfect.

The Explanatory Memorandum that accompanies it is covered in references to Part IVA of the Income Tax Assessment Act 1936 (which deals with schemes to avoid tax).  This makes it pretty clear that those who manipulate their circumstances to get access to the CGT relief will be at significant risk of being pursued by the ATO.

To my mind the latest guidance from the ATO actually makes the situation even more confusing because it takes this one step further.

The draft LCG indicates that the ATO will administer the law in such a way as to require that:

“there must be a connection between the actions an individual took to comply with the reforms, and any capital gain arising on assets used to support the relevant superannuation income stream.”

[paragraph 9]

Subsequent paragraphs go even further and put the onus firmly on the trustee to decide that they can take advantage of the relief because the action they take “now” is directly related to a need to restructure for the 1 July 2017 changes.

The craziness here is that action is rarely driven by any one thing, it’s a combination of circumstances.  It’s one thing to say that you can’t enter into a scheme that is purely driven to avoid tax (tax avoidance in the normal sense) but it’s quite an extension to say that you only have CGT relief if you needed to take a particular course of action to comply with new laws.

What about someone who has a transition to retirement pension and is currently segregating their assets because they have particular investments they want backing that pension.  This is currently a perfectly legitimate and common strategy.  They know that next year there will be no tax break on their transition to retirement pension.  They don’t actually need to do anything to comply with the new rules, they could just leave everything exactly as it is and accept that next year’s tax outcome won’t be as good as this year’s.

But they might well decide to stop segregating their assets some time before 30 June 2017 because there’s no need to do so in the future (it has no impact) and it’s currently costing them extra in accounting fees.  Or maybe they are about to make a contribution and normally they would have segregated that in a new bank account but since it has no ongoing benefit they won’t do so in 2016/17.

The provisions of the new law would give them access to the CGT relief under these circumstances even though they actually don’t have to do anything to “comply” with the new rules.

I expect Part IVA would not normally apply because they clearly haven’t manipulated their circumstances for the purposes of getting a tax benefit.  It’s been a natural outcome of actions they have taken for a variety of reasons that make sense.

But what about LCG 2016/D8? Could they argue that their action is in line with Paragraph 9 above?  In my view the current wording of the guidance puts that at risk.  Those receiving a transition to retirement pension don’t actually have to take any action at all to comply with the new rules.

I really hope this draft is changed to avoid adding even more confusion and complexity.  One thing is for sure – the ATO are likely to scrutinise CGT relief claims carefully and it will be important to be across the latest state of play at all times.

The new superannuation legislation flew through both houses of Parliament so quickly that I expect most people are still catching their breath about their scale rather than focusing on what next.

But there are some important things to be thinking about right now if you are affected by the changes or advising people who are.  Here are just six.

Urgent Step #1

Get across details of any defined benefit or market linked (term allocated) pensions in place including outside the SMSF. The treatment of these is strange to say the least.    Most importantly, even a defined benefit pension from (say) a corporate or government scheme which feels totally unrelated to the SMSF will affect action taken in the SMSF between now and 1 July 2017.

Urgent Step #2

Those with large balances (above $1.6m) should be seriously thinking about making a $540k non-concessional contribution this year if they can as it may be the last time they can do so. The new rules will prevent any non-concessional contributions for those with more than $1.6m in super and even those with less will find their limits constrained from 2017/18 onwards.

Urgent Step #3

Think carefully, very carefully, before making a contribution to a fund that is currently entirely in pension phase. This can compromise the Fund’s ability to get the most out of some special rules about grandfathering capital gains built up before 30 June 2017.

Urgent Step #4

Lodge the 2015/16 income tax return on time. Some important “once off” irrevocable decisions about CGT relief need to be made before the 2016/17 return is due.  A late lodgement this year could mean the lodgement date for 2016/17 is brought forward – leaving clients with less time to make those important decisions.

Urgent Step #5

Think carefully about whether someone with a transition to retirement pension has actually already met a “retirement” condition of release and the pension is no longer a transition to retirement pension. Remember that someone over 60 who takes a temporary paid job is retired when they end that job.  This will make a profound difference to the tax paid by the SMSF in 2017/18 when transition to retirement pensions lose their general tax exemption on investment earnings.

Urgent Step #6

(Not entirely tongue in cheek!) Register for our December training events.  Of course I believe my own propaganda but I do believe that as these are the biggest super changes in 10 years, it is absolutely critical that advisers and accountants working in SMSFs get up to speed as quickly as possible.  Our training events in early December are essential.  See details here.  Those of us who were around in 2006/07 remember that preparing for the 1 July 2007 changes absorbed the entire year (and curiously a major component of the legislation for those changes was ALSO passed in December!).  The earlier we get started the better.

In a word – yes.

That might seem like an odd position given the significantly detrimental changes due from 1 July 2017. (From then on, these pensions will lose one of the key benefits of being in “pension phase” – the ability to pay no tax within the SMSF on any investment earnings including capital gains on the assets on which it is relying to pay the pension.)

However, there’s nothing like the imminent demise of a tax concession to focus the mind on its value!

Clients eligible to start one (anyone born before 1 July 1960) have just one last year to make the most of three important opportunities.

Firstly, this year, they still have the traditional tax concession on fund earnings. Consider a member whose fund holds $1m, all of which is in transition to retirement phase. If the fund is generating (say) $50k in dividends it will not only pay zero tax on the dividends but will receive a full refund of any franking credits. Even more amazingly, if an asset the fund has owned for many years (including well before the pension started) is sold, it pays no capital gains tax on that sale.

(This is the concession which is disappearing next year.)

Secondly, this is the final year in which any person taking any type of account-based pension (including a transition to retirement pension) can ask the trustee of their fund to make sure it is taxed as if it was a lump sum rather than an income stream payment. The difference is important as most people under 60 still pay tax on income stream (pension) benefits but pay little or no tax on amounts they take as lump sums. This won’t be available next year but is still possible in 2016/17. This means that an individual with a pension (including a transition to retirement pension) this year has all the upside of tax exempt investment earnings in their fund without the downside of any personal income tax. This is a hugely underutilised opportunity as people often assume they cannot ask for payments made from a transition to retirement pension to be classified as lump sums. They can – as long as their fund allows it – which would generally be the case with SMSFs but perhaps not with retail or industry funds.

Finally, there is no doubting that two big changes from 1 July 2017 will reduce the extent to which funds can benefit from tax free income. The first is the removal of that concession entirely for transition to retirement pensions as discussed above. The second is that “full” pensions (for people who have retired etc) will be capped at a starting balance of $1.6m in future and any super over and above this amount will effectively have to remain in accumulation phase (where the earnings are fully taxable).

The Government has specifically recognised that many people will be significantly affected by the change by including some special grandfathering rules for capital gains. In essence, there are opportunities to enshrine some protection for capital gains built up before 1 July 2017.

But you’ve got to be in it to win it – anyone who doesn’t get around to starting their pensions (including a transition to retirement pension) in 2016/17 will miss out on this grandfathering. There are even more incentives to start pensions as soon as possible for those who won’t be completely in pension phase during 2016/17. This is because the protection will be based on the actuarial percentage they receive for the year. The earlier their pensions start the higher the percentage.

And then – just to add some more complexity – there will be some people for whom it makes sense to actively avoid taking advantage of the CGT relief because they could get a better result without it.

We’ll be exploring these opportunities in some detail in our seminars on the new rules in early December. Click here to register right now for the best strategic SMSF training in your capital city.

Big news this week with the Government announcing a total backflip on one of its big 2016 Federal Budget measures – the lifetime limit on non-concessional contributions.

Unfortunately – in my view at least – it has replaced an unpopular and unreasonable measure with something that has plenty of weaknesses itself.

The “unreasonable” aspect of the original announcement was not the fact that it sought to limit non-concessional contributions more than they are at the moment.  It’s inevitable that we will see a winding back of superannuation concessions in all shapes and sizes and this will have to include constraining optional contributions.

No.  The “unreasonable” part was twofold – the limit was relatively low (only $500,000 forever) and it looked backwards and counted contributions made nearly 10 years ago.  You can argue all you like that the measure wasn’t retrospective because it didn’t actually impose a penalty for past behaviour but that doesn’t change the fact that it definitely felt so!

The change is definitely a good one – the original proposal was nuts.  But I see the move to limiting contributions based on the size of the individual’s account balance size as a backward step.

Dollar limits are always tricky – when do you measure them? what happens if someone hovers above / falls below? How do you handle situations where someone contributes in July thinking they can only to discover that their balance at the previous 30 June actually exceeded the limit? How do you avoid manipulation without creating oodles of complex legislation?

Personally I think the lifetime limit was conceptually a great idea.  It’s just that the specific version proposed by the Government was unreasonable.

An annual cap (even with bring forward opportunities) assumes everyone saves for retirement in a fairly linear fashion, steadily adding to their super each year (or in three year lumps).  In real life, we often don’t save much when we’re young and have more interesting things to do with our money.  We take time out to travel, study and have children, we lose our jobs when we’re not expecting it and we sometimes retire earlier or later than we’d like to.  Just as life doesn’t always run in straight lines, nor should our contribution caps.

A lifetime cap would allow the Government to achieve its purpose – limit the extent to which each individual can access the super tax concessions – but without making assumptions about how retirement savings are built up over time.

I expect the Government would have faced vastly less criticism for the original measure if only they had made the limit larger (let’s say somewhere between $500,000 and $1m) and started it from 1 July 2017.  Unfortunately by coming out with something ridiculous in the first instance and then taking too long to back down, they have ended up saddling us with something less than optimal.  I expect that the generally positive reaction to the latest announcements largely reflects the community’s relief that the original proposal has been ditched rather than a strong preference for the annual contribution cap process.

It has already been widely reported that last night’s budget saw a lifetime cap of $500,000 announced for non-concessional contributions.  There is a distinct element of retrospectivity in this measure in that contributions right back to 1 July 2007 will be counted in working out whether someone has exceeded the cap.  I imagine the Government will argue that this is not retrospective because those who had already exceeded the new limit at 3 May 2016 will not be penalised.

However, in my view that’s just not good enough.

What about those who:

• are already well advanced in transferring a property into their SMSF in specie – which will result in non concessional contributions after budget night that quite possibly exceeds their new limit?
• have entered into a contract with a 3rd party to purchase an asset such as a property and were intending to finance the purchase via contributions?
• have entered into long term SMSF LRBA arrangements intending to repay the loan over time with new contributions?
• have contributions “on the way” to their super fund (eg a bank transfer on Tuesday that doesn’t land in the bank account until Thursday) that cause them to exceed their $500,000 limit
• don’t have easy access to their historical contribution data back to 2007 (TEN YEARS AGO), want to make contributions in 2016/17 and are actually permitted to do so under the current legislation
• have regular non concessional contributions made to super and have already exceeded the $500,000 limit.

And it gets worse.

The trouble with budget night announcements that have immediate effect is that you never know whether they will actually happen as planned.  So what should we be telling these clients?

Remember 10 years ago when non concessional contributions were first limited in the 2006 Federal Budget?  The process was laughable:

Initially it was announced that these would be capped at $150,000 pa immediately from budget night.

Then the concept of bringing forward 3 years’ worth of contributions was introduced.

Then the short term cap (up to 1 July 2007) was raised to $1m.

And then those who had ignored all the warnings and made large contributions before December 2006 were allowed a temporary solution in any case.

So what was announced on budget night was completely different to what ended up happening.  How do clients make sensible decisions about long term superannuation matters in that environment?

Following the logic of 2006 should advisers be recommending:

Quickly get as much as possible into super and cross your fingers that the measure will be delayed (this would have worked well in 2006) or

Continue with your current plans (regardless of whether they will work in the new environment) and in fact some people might be forced to do this based on contracts they have already entered into with 3rd parties or

Assume the Government will legislate exactly what has been announced and adjust 2015/16 plans urgently as appropriate.

Obviously the vast majority of advisers and members will take Option (3).   Clients who do so to their detriment could be forgiven for being cynical if the measures are ultimately delayed.

However, it is worth remembering that these days, the only consequence of exceeding the non concessional contributions cap is that the excess plus a notional earnings amount is refunded (and the notional earnings amount is calculated harshly and taxed as assessable income).  For those with well advanced plans, Option (2) may well be palatable with the client accepting the risk that some additional tax might have to be paid and contributions refunded down the track.  The biggest challenge for people in this position will be the need to refund a large amount – if the contribution was in specie will the asset need to be sold?

But the point is serious decisions about super should not have to be made in such a pressure cooker environment.  This measure simply should NOT apply from budget night.

The budget is always a tricky time – should we speculate about what might happen and try to pre-empt it?  Or should we plan around the law we know about rather than what might happen in a few weeks’ time on the basis that trying to predict the unpredictable often means we jump at shadows?

I’ve traditionally been in the latter camp.  Even when governments do make big announcements on Budget night, will they necessarily be legislated immediately?  In fact, will they be legislated at all?  Is it worth potentially compromising long term superannuation plans just on the off chance unfavourable changes will be made as part of the federal budget?

This time my view is different.  In the current environment there are several things I believe it would be worth acting on now.

I’ve rashly put my thoughts down in this article and like everyone else, I will be watching the Treasurer’s address on 3 May to see if any were worth acting on!

Thinking about transition to retirement? Start now.

Some day, transition to retirement pensions are likely to be reigned in – particularly for those who start pensions without any change to their working arrangements.

Remember why transition to retirement pensions have that name?  They were introduced to ease the transition from full time work to retirement.  They do it by allowing superannuation pensions to start before full retirement and fill the income gap created when one winds back to part time or consulting work.  However, they were legislated by simply allowing anyone over their “preservation age” to start one, regardless of whether or not anything had actually changed in their work life.  The outcome was an excellent tax planning strategy – many people over 55 (the preservation age until it increased to 56 this year) made no changes to their work arrangements, started a pension and used the extra income to increase their salary sacrifice superannuation contributions.  Because super funds don’t pay income tax on the income they earn on pension accounts, the net effect is generally a tax saving.  That’s despite the fact that often the arrangement is a complete round robin of cash – the individual withdraws pension payments from super but quite possibly increases their contributions into super by the same amount.

One day I expect transition to retirement pensions to either be pushed out to a later age or linked in some way to a change in personal circumstances.  The gradual increase in preservation age has already started to push out the earliest starting date for many looking to start a transition to retirement pension.

But … this budget is a possible time where the eligibility rules might be reigned in.  It would be politically easier than many other changes to super, it is the kind of change that could be introduced with effect from budget night without major complexity in the law.  Its saving grace might be that it is unlikely to be a major revenue winner.

So I would consider starting transition to retirement pensions now (before budget night) if it’s attractive to do so.  Given the new options for minimising the tax on payments taken from a pension (see below), a transition to retirement pension is attractive for almost everyone with a material super balance who is eligible to have one (they must have turned 55 before 30 June 2015) with the possible exception of those :

• in SMSFs that can’t support the cash flow required to pay the pension, even if it uses contribution income;
• whose fund is earning little or no taxable investment income at the moment; or
• who are already absolutely maximising all their contributions.

Even these people should do the numbers before ruling it out!

Does a payment need to be taken before budget night?

The principle that a pension can start some time before the first payment is made has been well established. For that reason, I do not believe it is essential to take a payment before budget night.

And what if nothing happens?

Remember that in an SMSF, pensions can be switched off at any time.  It will be necessary to pay them “up to date” which will require some payment between commencement and (say) May / June 2016 but this is a pro-rated amount.  So if the pension is in place for 2 months, the payment required would be roughly 2/12 x 4% of the balance at commencement.

Have a transition to retirement pension (or about to start one) and want to use the lump sum strategy?  Do it now.

There has been some publicity (but nowhere near enough in my opinion) about the ATO’s change in view on a key aspect of transition to retirement pensions.

The ATO now considers that any individual receiving a transition to retirement pension can elect to have some or all of the payments they receive from that pension taxed as lump sums.  There are many really important documentation and legal subtleties here so the strategy should be put in place with help from an SMSF expert but the implications are critical.

Most people associate tax free super as something that happens from 60.  This change in view means that it can happen earlier – in fact as soon as the pension starts.

There is a limit on how much can be taken out tax free over one’s lifetime but it is high – just under $200,000.  Hence this pretty much rules out one of the only downsides of starting a transition to retirement pension – the fact that you have to draw out pension payments and you might pay high rates of tax on them (worst case, 30% if you are paying income tax at the top marginal rate).

Because the ATO initially only expressed this view via a Private Binding Ruling (which is a tax ruling that only applies to the taxpayer to whom it is issued), we’ve generally suggested that clients obtain their own private ruling before following this strategy.  But the Commissioner has effectively reiterated this position in a number of forums and via the ATO’s own web content so it would seem fairly clear.

Many describe this generous treatment as a loophole.  If so, it’s a loophole that’s been around since 2007, all that has changed is that the ATO has only recently accepted it exists.  But of course budget night is certainly an opportunity to close it.

For that reason, individuals looking to take advantage of this strategy who haven’t yet received a response to their private ruling request or who have decided not to obtain one should consider taking a payment before budget night (and ensuring the requisite documentation is in place).

Note that this is completely different to taking a pension payment to “prove” that a pension is in place.  As mentioned earlier, I don’t believe that is necessary.  The purpose of this payment would be to achieve a particular tax treatment on the payment itself.

Make large contributions?

I fully expect that we may see reductions in the non-concessional contributions cap in the future – perhaps winding back the ability to trigger the “bring forward” rules that allow three years’ worth of contributions at once.

Those who are making large contributions this year might choose to do so before budget night.  Remember that it’s entirely legal to borrow money to make a personal super contribution, it’s just that the interest is not tax deductible and obviously security from personal assets would be required.  Long term borrowing in this way is unlikely to be tax effective but it would allow a contribution to be made quickly if the personal cash is not yet available.

Those who were planning to make large contributions next year are in a harder place – bringing those forward will generally compromise longer term plans.  My instinct is to leave those plans in place and accept the risk that the bring forward rules may change on budget night.

Thinking about withdrawing large amounts of taxable money and making non-concessional contributions?

Again, think about doing before budget night.  And remember, cash need not be a constraint.

Remember:

• clients that have unpreserved money can take in-specie benefit payments. But take care!  If you’re looking at an in-specie recontribution of the withdrawn asset, make sure the asset transferred out, can actually be transferred back in (eg, listed securities, shares / units in unlisted controlled entities, widely held trusts etc would all be acceptable); and
• the contribution could occur first – providing cash to the fund, followed by the benefit payment. Just make sure your client has sufficient unpreserved money to make the benefit payment!

What I’m not overly concerned about

I don’t expect changes to:

• limited recourse borrowing arrangements for SMSFs – there have been so many opportunities to change these that have been ignored. The ATO’s recent guidance on ensuring loan conditions are always commercial has indirectly tightened the major weakness many felt existed.  Overall, I feel the risk is lower this year than it has been for many years;
• concessional contribution limits – while these may well come down, I doubt that the change would be effective immediately on budget night;
• the tax treatment of superannuation pensions after 60 – this may make a lot of sense in the longer term but it would be politically difficult to achieve right now;
• tax treatment of funds paying pensions – even if we see this, I expect it’s unlikely to be introduced immediately on budget night and there are no obvious pre-emptive actions one could take to mitigate the impact without major disruption to the fund (eg selling all its assets to realise capital gains pre budget).

So here’s hoping we have a very uneventful 3 May on the superannuation front and that all the actions suggested above have been unnecessary.

Accountants daily published an interesting article earlier this week about the ATO targeting low cost SMSF auditors (http://www.accountantsdaily.com.au/breaking-news/8339-ato-targeting-low-cost-smsf-auditors-says-superauditors).

(And then with irony that must have been deliberate, there was an ad about an offshoring conference right in the middle of it in the on-line version I read!)

It got me thinking though – if the ATO really is targeting particular suppliers on the basis of cost, it’s presumably because they don’t think it’s possible to do the job they expect to be done at that price.  I wonder how they decide that without knowing how that cost is achieved? And when is a low cost supplier worrying rather than just a sign of great efficiency innovation?

The article makes some good points – including the fact that the “headline rate” isn’t the only cost to weigh up when looking at any supplier.  If the low cost is achieved by skimping on the job, the new ATO penalty regime makes that a dangerous strategy for everyone – the auditor, accountant, adviser and trustee.

However, low apparent costs can come in many other ways – none of which are inherently evil, they just require a clear understanding so that any arrangements are approached with all eyes wide open.

One approach mentioned in the article is loss leading / cross subsidisation.  A fixed price across the whole client base means that some funds are effectively overpaying for the audit and others are underpaying.  Or extending this further – if the cross subsidisation is occurring across multiple services, it may be that one is cheap because the profit is actually made elsewhere by providing other services to the same clients.  As anyone with any fixed price services will know, this presents challenges for both the business and the client.

For the business – how do you ensure that the gap isn’t too wide or doesn’t encourage behaviour that undermines the model?  (If Service A is cheap because the business is depending on the client also buying Service B, what happens when people stop buying Service B?  And if a service is provided at a fixed price to clients with vastly different circumstances, how do you ensure that the cross subsidisation doesn’t result in significant self selection and the business only ends up with a “complex” client base – which it is now woefully undercharging?)

The risk to the trustee is that the supplier will eventually change their practices.  For example, in the fund administration arena I can think of several suppliers who simply stopped providing Service A (from the example above) in isolation – it could only be purchased with Service B.  They did this to guarantee that overall the client was paying what the business considered to be the “right” price, it was just expressed in a way that made it appear more attractive to the consumer.

Another approach not mentioned in the article is financial subsidisation more generally.  This is unlikely in the audit field but common in others such as fund administration.  A low headline rate is supported by extensive additional fees on the various products that must be used as part of the service.  The risk for the trustee is that they don’t read the fine print and don’t realise what they are paying altogether which can often result in an overall cost that is much higher than the headline rate.  But assuming they are fully informed, many trustees might consider this a perfectly appropriate way to pay for the services they need.

Sometimes low prices come from a very narrowly defined service – in the fund administration arena, it might be that the low rate only applies if the fund has investments drawn from a very specific list.  Or by restricting the service promise to preparing the fund’s financial statements and tax return but anything else (eg dealing with the auditor or ATO when there are problems) is an additional cost or not provided at all.

Finally, low cost can simply be a function of great efficiencies leveraging:

• Low cost (often offshore) labour;
• Great technology;
• Great reductions in the costs associated with acquiring new clients (the classic argument for volume discounts – it is far more efficient to get many clients from one source than the same number of clients from multiple sources)

or all three.

Now a low price for THAT would just be good value.

According to Wikipedia, an oxymoron is a figure of speech that juxtaposes elements that appear to be contradictory. Anyone paying attention to the political debate in Australia will recognise its utility in the hands of a skilled (or not so skilled) politician. Unfortunately, some of these political oxymorons make their way into wider community conversations as an accepted and serious economic truth where they have the potential to cause a lot of damage.

The term “tax expenditure” is one of these. The term has its origins in the US in the 1960s as a means of communicating a political message.  It has become increasingly common in our own political debate where it is unfortunately being misused as a serious economic idea – even by the Commonwealth Treasury.  It’s a term very much in common use when talking about superannuation and the various tax “concessions” applicable to contributions and investment earnings.

This is dangerous for a number of reasons:

• All taxation is revenue. Tax provisions cannot and do not result in government expenditures. Describing any measure as a tax expenditure is (at best) misleading and creates an environment in which a frank and truthful debate will become more difficult to achieve.
• The user of the term assumes there is a normal level, amount or percentage rate of taxation that should be levied on citizens.  Therefore, any provision resulting in this normal amount not being raised is an expenditure. The assumption is based on a political and subjective paradigm of what that normal level of taxation should be.
• It is therefore an entirely impractical idea because there can be no agreement on what represents that normal level of taxation. To illustrate, let’s have a quick look at what those normal levels of taxation could be:
•  Before we had income tax legislation the normal level of taxation was presumably zero. If this was the case then a tax expenditure of any kind is an impossibility because any tax raised is revenue (funny that!)
• If we assume the normal level of taxation is 100% of your income then every tax provision is a tax expenditure because every tax provision will reduce the level of taxation from 100% to something less than that
• If we assume that the normal rate of income tax is the highest rate of personal income tax then our progressive tax system results in a tax expenditure of many, many billions because no one pays that rate on all of their income

Tax expenditure is a dangerous oxymoron because there is clearly no such thing. It has its origins as a means of communicating a political idea about the “right” level of taxation and has no place in Australia’s economic or taxation debate.

As George Orwell said in his famous essay on Politics and the English Language, “if thought corrupts language, language can also corrupt thought.”

Let’s be real careful out there.

Last week saw CPA Australia announce the establishment of CPA Australia Advice Pty Ltd.

This wholly owned subsidiary of CPA Australia will apply for an Australian Financial Services Licence (AFSL) with the intention of effectively providing dealer services to interested members of the association (you have to be a CPA to operate under the new licence).

It’s not entirely clear to me whether the business will also employ financial planners and therefore provide advice itself but given the impact they plan to have on the standards of financial advice in Australia, one would have to assume it’s part of the plan.

Responses to this announcement have predictably fallen into two camps.

On the positive side will be all those members who have been waiting and hoping that their professional association will solve their licencing problem.  They know they need to do “something” if they want to continue helping their SMSF clients in the future.  So far they either haven’t found an external solution that suits them or haven’t found the time to actually do anything at all yet.  They will be breathing a sigh of relief.  Of course, that glow of satisfaction may dim once they discover exactly how many hoops their association plans to put them through before they start providing advice.  Given that CPA Australian plans to raise the bar in terms of financial advice, one can only assume that it will be higher than these same accountants would face at another licensee.

On the negative side are those who have either already found a solution (often incurring significant hard and soft costs) or those who already provide such a solution themselves and now see their professional body competing with them.  One tweet I received was very clear on this – “pay a member fee to [support someone to] compete against you”.

It raises the question – what exactly IS the role of a professional association?

To my mind their responsibility first and foremost is to set and maintain professional standards and monitor members against them.  These might range from practical standards (these policies have to be followed for this particular type of work) or ethical (say by stipulating a code of conduct).  They should also take into account whatever statutory function that profession fills.  For example, members of my institute (the Actuaries Institute) are allotted very specific functions under insurance and superannuation legislation.  It’s important that my institute regulates its members in such a way that the Government and community can be confident that their faith in giving us those responsibilities is not misplaced.  Auditors have a similar role.

So how far should professional bodies go beyond this?

They play a significant part in interacting with the regulator, government and other groups.  That’s valuable and important work – I expect there would be little objection to them carrying out that function.  (Although an interesting aside for regulators and government, in my view, is that they presumably choose to rely on professional bodies because that gives them a conveniently grouped set of people with whom to work.  Trying to talk to “industry” generally would be like herding cats.  But I wonder if it would result in better advice sometimes? There’s no substitute for talking to the people on the ground if you want to consult with industry.  It’s often said that professional bodies are better representatives because they are unbiased and independent.  That assumes that the profit motive is the ONLY thing that introduces bias – a discussion for another day.)

But what next?  Professional bodies routinely get involved in education.  Their argument is that this supports their members in maintaining their professional standards.  Of course the opposing argument from educators like Heffron is that we are simply paying membership fees to an organisation that then competes with us.  Naturally their training is at much lower prices than ours.  I don’t buy the argument that as a not for profit they are not commercial organisations – of course they are! Revenue from conferences, training etc allows them to fund their existence and keep their membership fees low and compete with each other for members.  That’s a good thing if you’re a member – as long as you’re not a member with a training business!

This latest announcement from CPA Australia is effectively yet another foray into that commercial space.  Now, they are competing with their members who operate dealer groups.  What next?  Will they perhaps set up a low cost processing service to support their members who run SMSF administration businesses and are nervous about outsourcing?  Or maybe start providing all the document templates that accounting practices typically need? Or get into software development?

How far do you want YOUR professional association to go?