A number of significant changes have been made to the taxation of income streams at both super fund and member levels. These rules are summarised as follows.
$1.6 million transfer balance cap
From 1 July 2017 a new transfer balance cap will apply to limit the amount of benefits a superannuation member can transfer from the accumulation phase to support retirement phase income streams.
This reform is designed to limit the amount of benefits a superannuation member can transfer to the tax-free retirement phase.
Broadly, the balance of existing retirement phase income streams at 30 June 2017 as well as the initial value of new income streams commenced after 1 July 2017, will be measured against an individual’s personal transfer balance cap. Any amounts in excess of the cap will need to be rolled back to accumulation phase or withdrawn from the superannuation system.
Meaning of retirement phase income streams3
Retirement phase income streams include all superannuation pensions and annuities other than:
• transition to retirement income streams
• non-commutable allocated pensions and annuities
General transfer balance cap
The general transfer balance cap for 2017–18 will be set at $1.6 million and will be indexed annually in line with increases in the Consumer Price Index (CPI) in increments of $100,000.
Personal transfer balance cap
The personal transfer balance cap determines the amount that a superannuation member can transfer into retirement phase income streams. The personal transfer balance cap initially equals the general transfer balance cap in the year they first commence a retirement phase income stream. However over time, the personal transfer balance cap may differ from the general transfer balance cap due to proportional indexation.
Indexation of personal transfer balance cap
Where a superannuation member has commenced a retirement phase income stream but has not fully utilised their transfer balance cap, their personal cap will be subject to proportional indexation based on the value of any increase in the general transfer balance cap and the unused proportion of their personal cap.
However, it is important to note that once a superannuation member has fully utilised their personal cap they will not be eligible for any further increases, as their remaining unused proportion will be nil.
Modified transfer balance cap for child beneficiaries
Where a child receives a death benefit income stream from their deceased parent, a modified transfer balance cap rule applies. This ensures that the child’s own personal transfer balance cap at retirement is not impacted by their receipt of the pension from their parent.
Generally, a child’s transfer balance cap will be as follows:
- If they have been receiving a death benefit income stream from before 1 July 2017, $1.6 million
- If they start to receive a death benefit income stream on or after 1 July 2017 and the parent does not have a transfer balance account (eg, the parent dies prior to reaching retirement), their proportionate share of the death benefit multiplied by the general transfer balance account
- eg, if the child receives 50% of a parent’s death benefits on 1 January 2018, their transfer balance cap is $800,000
- If they start to receive a death benefit income stream on or after 1 July 2017 and the parent does have a transfer balance account, their proportionate share of the parent’s benefits that were already in an income stream in retirement phase
- eg, if the child receives 100% of a parent’s death benefits and the parent had $300,000 in an account based pension, their transfer balance cap is $300,000
A child’s transfer balance account will cease when their death benefit pension ceases. Generally, this will be by age 25 due to the requirement for a child to commute a death benefit income stream by that time. For disabled children who can continue their pension beyond age 25, the transfer balance account will cease once the pension assets are exhausted.
Death benefit rule changes
It is important to note that changes to the treatment of superannuation death benefits may result in a superannuation member’s eligible beneficiaries being forced to take a death benefit as a lump sum where it would otherwise result in them exceeding their transfer balance cap.
For more information, please see super death benefit payment rule changes section below.
Transfer balance accounts
To determine when a superannuation member has exceeded their personal transfer balance cap, a transfer balance account system will be implemented from 1 July 2017.
Transfer balance accounts will work like a general ledger, with amounts being credited and debited depending on a superannuation member’s circumstances.
Creation of transfer balance accounts
A superannuation member will have a transfer balance account created for them when they first commence a retirement phase income stream. Alternatively, where a superannuation member is receiving a retirement phase income stream on 1 July 2017, a transfer balance account will be created for them on that date.
The value of a superannuation member’s transfer balance account will then change depending on whether amounts are credited or debited from the account on any particular day. The net value of the account at the end of each day will then be used to determine whether a superannuation member has exceeded their transfer balance cap at that time.
Amounts credited to transfer balance accounts
The following amounts are required to be credited to a superannuation member’s transfer balance account:
- The value of all of a member’s existing retirement phase income streams as at 30 June 2017
- The commencement value of new superannuation retirement phase income streams (including new superannuation death benefit income streams and deferred superannuation income streams) commenced on or after 1 July 2017
- The value of reversionary superannuation income streams as at the time the individual becomes entitled to them.4 Note – a modification applies to defer the time at which a credit arises for a reversionary pension. Please see below for more information.
- Where a member has exceeded their transfer balance cap at a time, an amount of deemed earnings on the excess amount will also be added to the member’s transfer balance account.
Value of retirement phase income streams
The value of a retirement phase income streams that will be credited to a member’s transfer balance account will depend on the type of income stream paid.
For account based income streams (other than market linked income streams):
- where the income stream commenced prior to 1 July 2017 – the value of the income stream account balance on 30 June 2017, or
- where the income stream commenced on or after 1 July 2017 – the commencement value on the start day
Where a member has a non-commutable defined benefit income stream or a market linked income stream, the value of the income stream is determined by multiplying the member’s annual income entitlement by a pension valuation factor. For more information on these rules, please see the capped defined benefit income streams section below.
Timing of credit for reversionary pensions
Where an income stream automatically reverts to a nominated beneficiary on the death of the original recipient, the value of the pension as at the time of death will count as a credit to the beneficiary’s transfer balance account.
However, to give the beneficiary time to arrange their affairs, the credit will be deferred and will not arise in the beneficiary’s transfer balance account until 12 months from the date of death.
This rule applies where a pension reverted to a member’s beneficiary on or after 1 July 2016. For example, where a pension reverted to a member’s beneficiary on 1 January 2017, a credit will not arise in the beneficiary’s transfer balance account until 1 January 2018.
Where a beneficiary receives a reversionary pension that reverted prior to 1 July 2016, the balance of the reversionary pension at 30 June 2017 will count as a credit to the beneficiary’s transfer balance account.
Amounts debited from transfer balance accounts
The following amounts will act as debits to a superannuation member’s transfer balance account:
- The value of any lump sums commuted from a retirement phase income stream (including where the commutation results in a negative transfer balance account value5)
- The value of any structured settlement contributions made in respect of a superannuation member. In this case, the debit occurs at the later of when the contribution is made or when a transfer balance account is created for a superannuation member6
The value of any replenishment debits approved by the ATO. Replenishment debits apply in limited circumstances where the value of a superannuation member’s retirement phase income stream has been impacted by:
- fraud or dishonesty7
- bankruptcy
- family law payment splits
- situations where a trustee is unable to comply with a commutation authority due to a lack of funds in the relevant superannuation member’s pension account8
- where a pension or annuity ceased in a year due to the provider failing to meet the pension standards in a year.
The Government has also advised it will review the impact of the transfer balance cap amendments if there is a macroeconomic shock that substantially affects retirement incomes.
Impact of a rollover on a superannuation member’s transfer balance account
Under the new rules where a superannuation member fully or partially commutes a retirement phase income stream, the value of the commutation will be debited from their transfer balance account and can result in a negative transfer balance account value.
This ensures that a superannuation member is able rollover the full value of any retirement phase income stream to another provider even where their pension balance has grown due to investment returns and now exceeds their personal transfer balance cap.
Consequences of exceeding the transfer balance cap
Where a superannuation member exceeds their personal transfer balance cap, the amount of the excess plus a notional earnings amount will be required to be commuted and removed from the retirement phase. In addition, the superannuation member will also be required to pay excess transfer balance tax on the amount of notional earnings.
Calculation of notional earnings
The notional earnings on an excess transfer balance amount will be calculated at the General Interest Charge rate (currently 8.76%9) for the period starting when the superannuation member commenced to have an excess amount and ending when the amount is removed from retirement phase.
Excess transfer balance tax will apply to notional earnings at the following rates:
- For assessments during the 2017–18 financial year – 15%
- For assessments from 1 July 2018 – 15% for the first assessment and then 30% for subsequent assessments.
Excess transfer balance account transitional rule
Where a superannuation member breaches their transfer balance cap on 30 June 2017 by less than $100,000, the excess amount will be disregarded for a period of six months.
However, this transitional rule will only apply where the excess amount is removed from the retirement phase by the end of the six month period.
Excess transfer balance determinations
Where a superannuation member has an excess transfer balance amount, the ATO will issue an excess transfer balance determination to the superannuation member. The determination will specify the amount (known as the crystallised reduction amount) that must be commuted and removed from retirement phase.
The determination will also include a default commutation notice which will identify the fund which the ATO will issue a commutation authority.
Where a superannuation member is receiving multiple retirement phase income streams from different providers they can elect for the commutation authority to be issued to a different provider. To be valid the election must be made to the ATO in the approved form within 60 days of the date of the excess transfer balance determination.
Funds must comply with a commutation authority
Once the member has made an election to choose a different fund or where the 60 day period has lapsed, the ATO will issue a commutation authority to a fund specifying the crystallised reduction amount. The trustee must generally comply and commute the amount specified in the notice within 60 days.10 The trustee is also required to notify the ATO of compliance with the notice within 60 days. During the 60 day period, there is an expectation that the fund will make reasonable efforts to contact the member to seek instructions (eg, which option/product does the member want rolled back to accumulation phase). The commuted amount can be rolled back to accumulation phase or paid as a superannuation lump sum benefit payment.
Where a fund fails to comply with a commutation authority, the entire income stream will cease to be in retirement phase (and no longer qualify for the earnings tax exemption), from the start of the financial year in which the fund failed to comply with the commutation authority and all later financial years.
The transfer balance cap and defined benefit income streams
Where a superannuation member is receiving certain non-commutable defined benefit income streams (known as capped defined benefit income streams) on 30 June 2017, or commences to receive a capped defined benefit income stream on or after 1 July 2017, special rules apply to:
- determine the value of the income stream for the purposes of the transfer balance account
- ensure that a superannuation member cannot have an excess transfer balance amount to the extent the excess is attributable to a capped defined benefit income stream, and
- modify how the pension payments from capped defined benefit income streams are taxed.
Meaning of capped defined benefit income stream
Capped defined benefit income streams are defined in section 294-130 the Income Tax Assessment Act 1997. The types of retirement phase income streams that qualify as capped defined benefit income streams are summarised as follows:
- complying lifetime pensions commenced either before or, on or after 1 July 2017, and
- the following types of income streams commenced prior to 1 July 2017:
- complying lifetime annuities
- complying term pensions and annuities
- complying market-linked pensions and annuities (eg, a term allocated pensions)
The Government has also confirmed that regulations may designate further capped defined benefit income streams.
Note: At the time of writing it is still unclear how commutable lifetime superannuation pensions and annuities will be valued for these rules.
Value of capped defined benefit income streams
The value of a capped defined benefit income stream for the purpose of the transfer balance cap is:
- For lifetime pensions or annuities – the superannuation member’s annual income entitlement × 16
- For term and market linked income streams – the superannuation member’s annual income entitlement × number of years (rounded up to the nearest whole number) in the remaining term.
A superannuation member’s annual income entitlement is calculated by annualising the first payment an individual is entitled to receive after the valuation is required.
Capped defined benefit income streams and excess transfer balance amounts
Due to the fact that capped defined benefit income streams are generally non-commutable, special rules apply to ensure that a superannuation member cannot exceed their personal transfer balance cap to the extent the excess is attributed to a capped defined benefit income stream.
This means that where a superannuation member only has a capped defined benefit income stream, and its value exceeds their personal transfer balance cap (eg, $1.6 million for 2017–18), they will not have an excess transfer balance. Therefore, the superannuation member will not have any excess transfer balance tax liability and will not be required at commute an amount.
However, where a superannuation member has a capped defined benefit income stream, and another type of retirement income stream, such as an account based pension, they will have an excess transfer balance amount to the extent that it can be attributed to that other income stream.
Tax treatment of pension payments from capped defined benefit income streams
To ensure equivalent tax treatment of capped defined income streams with other types of retirement phase income streams, a separate defined benefit income cap of $100,000pa will apply. Pension payments over $100,000pa will subject to additional taxation, depending on whether they are from a taxed or untaxed pension.
Payments that count towards the defined benefit income cap
Payments that count towards the defined benefit income cap include payments made from a capped defined benefit income stream that are paid to a superannuation member:
- age 60 or over, or
- under age 60 from a death benefit income stream where the deceased member was age 60 or over at the time of death.
The defined benefit income cap
A superannuation member’s defined benefit income cap for a financial year is generally equal to the general transfer balance cap for the corresponding financial year divided by 16. For example, the defined benefit income cap for 2017–18 will be $100,000, ie $1.6m/1611.
Tax treatment of concessionally taxed income received in excess of the defined benefit income cap
The income tax treatment of concessionally taxed income from a capped defined benefit income stream depends on whether it is from a taxed or untaxed source.
Payments from taxed sources
Where a superannuation member receives concessionally taxed payments from a taxed source (ie, payments made up of either tax-free component and/or taxable component (taxed element), the payments will continue to be tax-free up to the defined benefit income cap.
However, where payments exceed the defined benefit income cap, 50% of any excess (including any part of the payments made up of tax-free component) will be included in their assessable income and will be taxed at their marginal rate. The assessable portion will also not be eligible for the 15% pension tax offset.
Payments from an untaxed sources
Where a superannuation member receives concessionally taxed payments from an untaxed source (ie, the payments consist wholly of taxable component (untaxed element)), the payments will continue to be included in the superannuation member’s assessable income and will get the benefit of the 10% pension offset up to the defined benefit income cap.
However, where payments exceed the defined benefit income cap, the amount will be included in the superannuation member’s assessable income but they will not be eligible for the 10% pension offset.
Payments received from both taxed and untaxed sources at the same time
Where a superannuation member receives concessionally taxed capped defined benefit income from both sources, such as where they receive payments made up of:
- tax-free component and taxable component (taxed element), and
- taxable component (untaxed element)
the payments from the taxed source are assessed against the defined benefit income cap first.
Death benefit income stream rule changes
The Government has made a number of changes to the tax and regulatory treatment of superannuation death benefits paid as income streams to increase flexibility and to cater for the introduction of the transfer balance cap.
Rollover of death benefits permitted
To facilitate the ability of superannuation members receiving a death benefit income stream to change product providers, the definition of a rollover superannuation benefit has been amended to allow eligible beneficiaries12 to rollover superannuation death benefit lump sums from 1 July 2017.
In consequence of this change, the Government has made a number of changes to ensure that a death benefit will always be treated as a death benefit for tax and regulatory purposes (see removal of prescribed period section below).
Therefore, where a death benefit income stream is commuted and the lump sum rolled over to a new provider, the amount must immediately be used to commence a new death benefit income stream in the new fund.
Removal of prescribed period
To ensure that a death benefit will always be treated as a death benefit for tax purposes, the rule which allowed a death benefit to convert to a member benefit where it was commuted outside the prescribed death benefit period13 will be repealed from 1 July 2017.
This confirms that a superannuation member will not be able to commute a death benefit income stream and transfer the lump sum back to the accumulation phase at any time. Instead, a death benefit income stream will only ever be able to be commuted to facilitate the commencement of a new death benefit income stream with the same or a different provider, or to pay a lump sum death benefit.
Transition to retirement income stream rule changes
From 1 July 2017, earnings on assets supporting a transition to retirement (TTR) income stream (ie, one where the superannuation member has not satisfied a full condition of release) will no longer receive a tax exemption and will be taxed in the same way as accumulation phase assets.
This applies to both existing TTR income streams, and new TTR income streams commenced on or after 1 July 2017.
Impact on TTR strategies
Common TTR strategies involve a superannuation member continuing to work full time, commencing a TTR income stream, and using income stream payments to meet expenses while increasing salary sacrifice contributions. This strategy provides two separate benefits:
- Earnings on the TTR pension assets are exempt from tax
- The TTR income stream payments may be more concessionally taxed than the salary they replaced.
With the first of these benefits no longer available under the new rules, the tax savings achieved by TTR strategies are reduced.
TTR strategies for superannuation members under 60
The benefit of a TTR strategy under the new rules for a superannuation member under age 60 is now very marginal at best, unless the superannuation member has a very high tax free proportion in their TTR income stream.
In addition to the tax on earnings of a TTR pension commencing from 1 July 2017, the reduction in the concessional cap to $25,000pa will also impact the effectiveness of a TTR strategy.
In the following case study the superannuation member makes concessional contributions of $35,000 under the current rules. However under the new rules from 2017–18, they must reduce their salary sacrifice due to the reduction in the concessional cap and make non-concessional contributions.
For superannuation members under age 60, it is important to review their TTR strategies prior to 1 July 2017 to determine whether they should be altered or discontinued.
TTR strategies for superannuation members 60 or over
The benefit of a TTR strategy under the new rules for a superannuation member aged 60 or over who has some concessional contributions cap free still exists, but is reduced compared to current rules.
Such superannuation members may be best continuing with their TTR strategy, although it may need to be altered prior to 1 July 2017 to take into account the $25,000 concessional cap.
Where a superannuation member aged 60 or over has a TTR strategy in place but does not have any concessional cap free, the TTR strategy will generally only remain worthwhile if there is a more effective way to use the payments from the TTR income stream (instead of moving it back to accumulation phase and not receiving them). This could include:
- Debt reduction such as mortgage repayments
- Contributions to their spouse’s account to help equalise superannuation balances. Spouse contributions may also be eligible for the spouse contribution tax offset.
- Implementing a recontribution strategy.
Transitional Capital Gains Tax (CGT) relief
Where a trustee of a complying super fund is required to move an asset from retirement phase to accumulation phase as a result of either the transfer balance cap or the removal of the earnings tax exemption for TTR income streams, the trustee can elect to reset the asset’s cost base to its current market value.
This ensures that only capital gains that accrue after the asset was transferred back to the accumulation phase will be assessable.
Which assets can the CGT relief apply to?
In general the transitional relief will only apply to assets that a trustee has been required to transfer back to the accumulation phase due to the transfer balance cap and transition to retirement rule changes.
Different rules will then apply to determine whether a trustee is able to apply the relief in relation to a particular asset depending on which segregation method the fund uses. However, in all cases CGT relief can only apply to assets held by the fund throughout the pre-commencement period, ie from 9 November 201620 to 30 June 2017.
Consequences of making an election
Where a trustee makes the election in relation to an asset the fund will be taken to have disposed and immediately reacquired the asset for its current market value – triggering a notional capital gain under the CGT rules.
The consequences of making the election varies depending on whether the fund uses the segregated or unsegregated assets method for calculating its assessable and exempt income. However, it should be noted that electing to apply the relief will reset the asset’s acquisition date for the purposes of 12 month CGT discount rule.21
Segregated method
Where the fund uses the segregated method any gain or loss from the deemed disposal will be disregarded and the asset’s cost base will be reset to its current market value.
Unsegregated (proportional method)
Where the fund uses the unsegregated method any capital gain from the deemed disposal will result in a notional capital gain based on the proportion of the fund’s assets that are backing the accumulation assets.
In this case, the trustee can elect to bring the notional gain to account in the 2016–17 year or defer the gain until the time the asset is disposed – at which time the deferred gain must then be brought to account.
Payments from income streams clarified
Since the release of Tax Ruling TR 2013/5, there has been some inconsistency between how a payment from a pension is treated for superannuation and tax purposes.
From 1 July 2017, the treatment of pension payments and partial commutations has been clarified for a range of purposes as follows23:
Pension Payments Partial commutation (cashed out)
Counts towards ABP minimum payment? Yes No
Tax treatment Income stream benefit Lump sum
Exempt pension income for
assets supporting payment
(assuming retirement phase) Yes Yes
Debit from transfer balance account? No Yes
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