Since 1 July 2017, $1.6m has been a magic number in superannuation for all sorts of purposes, most notably the general transfer balance cap. Now that this has increased to $1.7m from 1 July 2021, what happens to other rules like segregation?
One of the many strange quirks of our superannuation system is that we have two entirely different sets of rules aimed at constraining people receiving pensions from SMSFs.
Firstly, we have the transfer balance cap regime. Philosophically, this is designed to limit the amount of money anyone can put into the most concessionally taxed corner of superannuation – a pension.
Secondly, we have rules about segregating assets for tax purposes. Or more specifically, we have rules that are designed to stop people who have a combination of pension and accumulation accounts from deciding to specifically allocate (or segregate) different assets to different types of account. Rather than impose a blanket ban on segregating within SMSFs, the legislators only banned those with (among other things) more than $1.6m in super from doing so.
Given that both sets of rules relate to pensions, it would be reasonable to assume that an increase to $1.7m for one threshold would also mean an increase in the other. But no, they operate entirely separately and the threshold relevant for segregation remains at $1.6m.
This will have some quirky outcomes in the future that it’s worth understanding.
Most importantly, from 1 July 2021 onwards, it’s entirely possible that clients will be able to put all of their superannuation into a pension (their balance is less than $1.7m or their personal transfer balance cap which might be lower) but still won’t be able to use the segregated method when it comes to calculating their fund’s tax exempt income (or exempt current pension income, ECPI).
For example, Katie started an account-based pension in 2018 when she was 62 with $1.5m. She had recently changed jobs and as a result her existing super became unrestricted non-preserved. Since then, she’s made new contributions to super which are preserved. At 30 June 2021, the balance of her pension was $1.55m and her accumulation account was $100,000, giving her a total superannuation balance of $1.65m. On 1 October 2021 she turned 65 and commenced a second account-based pension with her accumulation balance (still around $100,000).
Katie’s SMSF was therefore 100% in retirement phase pensions from 1 October 2021. She assumed that the segregated method would apply from 1 October 2021 when it came to calculating her fund’s ECPI for 2021/22 and that an actuarial percentage would only apply for the first three months of the year.
But in fact, that’s not how it works.
Katie’s SMSF is not allowed to use the segregated method in 2021/22 because at 30 June 2021 she met two important conditions:
- She had a retirement phase pension in place already, and
- Her total super balance exceeded $1.6m (it was $1.65m).
Importantly, the key threshold for segregation has remained at $1.6m rather than increasing to $1.7m in line with the general transfer balance cap.
She will, therefore, only get a partial tax exemption on all income throughout the year, even if it was received / realized after 1 October 2021.
Katie’s case highlights exactly how confusing all the thresholds can be:
- The transfer balance cap has increased to $1.7m but Katie’s own transfer balance cap is $1,607,000 (she gets some of the $100,000 indexation but not much),
- She can actually contribute $110,000 in non-concessional contributions in 2021/22 because her total super balance at 30 June 2021 was less than the general transfer balance cap of $1.7m. It doesn’t matter that this will give her too much in her accumulation account to convert it all to pension phase when she turns 65. All that matters when it comes to non-concessional contributions is that her total super balance was less than $1.7m at 30 June 2021, but
- Her fund can’t claim its ECPI using the segregated method because the threshold relevant for that test is $1.6m (as discussed above).
It’s a shame the Government didn’t link the two thresholds – the $1.6m used for segregation and the $1.7m used for the transfer balance cap. There is no policy logic for the two to be different. Unfortunately, the fact that they are will create some unnecessary traps for the unwary.
When calculating Transfer Balance Caps or starting pensions for clients, the Heffron Super Toolkit can save you time and guide you through the process, ensuring compliance is covered. Book your free demo today.