Once upon a time, there lived many retirees that rolled over their superannuation savings to commence what was known as a “complying income stream”. Some purchased their products from retail providers while others used a vehicle called a Self-Managed Super Fund (SMSF).
Join our newsletterWhat is a complying income stream?
“Complying income streams” refers to particular
types of income streams that were popular early in the 2000s and their terms
and conditions met a set of standards detailed in the superannuation
regulations. There were three main categories of complying income
streams:
-
Lifetime income streams,
- Term
certain, or life expectancy income streams, and
- Term
allocated income streams, otherwise known as Term Allocated Pensions (TAPs) and
now more commonly referred to as Market Linked Pensions (MLPs).
These complying income streams were very appealing at the time as they came with two special benefits:
1. They allowed an
individual to access a higher level of superannuation benefits over their
lifetime before it was taxed as excessive (anyone remember Reasonable Benefit
Limits?) making them very appealing to the wealthy, and
2. They were also
eligible for either a 50% or 100% exemption from the social security assets
test and were generously income tested making them very appealing to those with
some savings but definitely less wealthy.
To qualify for these special concessions, they had to meet strict criteria making them long term pensions or annuities designed to pay income over the individual’s (and possibly their spouse’s) life with very limited access to lump sums. Once in, the individual generally cannot pull out of them (with some exceptions such as death).
In 2007, the tax and social security rules changed, effectively negating the benefits of commencing any new complying income streams.
* * *
The retirees were very happy with their
complying income streams – the savings they had worked for all their lives was
being put to good use in investments of their choosing. Little or no tax was
payable on the earnings or capital gains of those investments. They received
regular income that was largely tax free before 2007 and entirely tax free from
then on. And for those untroubled by Reasonable Benefit Limits, arguably the
best feature of all was that either none or only half of the balance backing
the income stream counted as an asset in their Assets Test which meant they
qualified for significantly more Age Pension.
There were some niggles – they couldn’t have
extra money for a holiday when they wanted it but fortunately many had
allocated pensions (or – in later years – the account-based pensions these
morphed into) and took their special extras from there. SMSFs paying
lifetime or term certain pensions required strange actuarial certificates that
no-one really read or understood and it was also slightly confusing to find
that if one of them died prematurely there were often constraints on the
surviving spouse taking the money out of super. But by and large,
everyone was happy.
Many years later, things look a little
different for these happy retirees. They are elderly now, and their other
assets have dwindled to the point that they are on the full Age Pension. Their
complying income stream balances have dropped to under $50,000, some to under
$10,000 through no fault of their own – that is what these products are
designed to do. For many, this is the last of their investments – they could
sure use that cash.
* * *
Like anything, SMSFs cost money to run – they have strict compliance and taxation reporting that is required every year.
They are very cost effective when the investments in them are high enough to justify the fees to administer them, but generally those fees don’t reduce as balances go down. Usually when SMSF members are getting older and their account balances have reduced down to a level that the fund is no longer cost effective, they have the option to “wind it up” by paying the remaining balances out to themselves as a tax free lump sum.
The trouble with complying income streams is that one of the rules that makes them complying is that they cannot be withdrawn unless it’s to roll them over to recommence a new complying pension. There are very few retail complying income stream providers left in the market, and even those remaining set a minimum amount that can be rolled into them – often more than what is left in the ageing member’s SMSF – making a rollover impossible.
What this all means is that there is a bunch of elderly pensioners out there with the last of their savings stuck in what are now known as “legacy” products in SMSFs being eaten away by administration fees at an alarming rate. A fund with, say, $20,000 in assets can still cost around $3,000 a year to run especially if it has a complying pension in it.
A Flawed Strategy?
Does this mean that they should not have
commenced these products in the first place? They reaped the benefits in tax
and social security concessions and now are paying the price?
Not at all. These were legitimate and robust
strategies that have boosted retirement incomes and, in many cases, stretched
out a retiree’s investments to last longer, potentially reducing the drain on
the Age Pension system over the long term.
They have guaranteed the recipients a minimum
income throughout economic ups and downs (including the GFC) and prevented them
from being tempted to withdraw large lump sums to give to children or overspend
on holidays.
But now for many, it’s starting to bite. I have
seen many cases where an elderly widow is on the full Age Pension with almost
nothing left except less than $50,000 in their SMSF, inaccessible and being run
down by up to an effective 5-10% in fees each year. I’d love to recommend that
these people just take the money and run, but I can’t – it’s not legal and
could come with hefty penalties.
Time to Let Go
It’s time to let these amounts out. No one
benefits from these people staying locked in – be it an SMSF or a retail
provider. Not the Government, nor the member, whose assets are too low to be
getting any tax or social security advantage from them. Not the retail product
provider – these legacy products are a costly headache and they would happily
shut them down. Even the SMSF service providers would be happy to see them go.
There needs to be a legislative amendment that
allows the release of these pensions when the balance gets below a certain
point, say $100,000 or $50,000 or even $20,000. And the amendment needs to be
ASAP, as the costs to the pensioners are biting. It would cost the Government
nothing and frees up the cash for these elderly members to use towards their
medical and aged care costs.
PS: those who went into these products to manage
Reasonable Benefit Limits have their own set of issues, but that is a story for
another day.