Some important decisions with indexation imminent
By Colin Lewis, Head of Strategic Advice, Fitzpatricks Private Wealth
By now you may be aware the general transfer balance cap (TBC) is increasing on 1 July by a whopping $200,000 from $1.7 million to $1.9 million due to inflation running so high.
The TBC limits the amount you can move into the tax-free retirement phase, and it extends to death benefit income streams (DBIS) – meaning it can restrict the amount you may receive as a pension when a loved one dies.
Should I commence a retirement phase income stream now?
Once you’ve met a ‘condition of release’ (COR) – meaning you’re eligible to access your super – it’s attractive to commence a pension and move into retirement phase where fund earnings including capital gains on the assets supporting the income stream are tax-free.
Normally, if you don’t need income but want the tax benefits of being in retirement phase, then commencing a pension on 1 June is ideal as you can delay your first payment for nearly 13 months as a pension payment is not required in June – keeping more in the tax-free environment for longer.
But this isn’t a normal year – we have indexation on 1 July.
To benefit from indexation, you need to delay the commencement of a pension until 1 July, but you’ll pay a little more tax now – 15 per cent in accumulation phase – to save tax in the long term by having more in retirement phase from 1 July.
It’s a numbers game!
If you’ve already fully utilised your TBC then it doesn’t matter.
Nor does it matter if you’ll never come close to your personal TBC after combining the value of your super and your spouse’s super – as one day you may receive theirs as a DBIS stream which counts against your TBC. In this case, don’t delay for indexation.
Transition to retirement income streams (TRISs)
A TRIS is a pension you can commence before retirement once you have reached preservation age.
Interestingly, unless you reach preservation age in 2022-23 – currently 59 until 30 June – then you will not reach it in 2023-24 as preservation age increases to 60 from 1 July 2024.
TRISs are ideal for people needing extra income to live on.
As these pensions are started before retirement, earnings including capital gains on the assets supporting the income stream are taxed as if still in accumulation phase, i.e. at 15 per cent (the effective tax rate on capital gains on assets held for more than 12 months is 10 per cent).
Pension payments from age 60 are tax-free.
Let’s say you’re working and have started a TRIS.
Once you meet a ‘retirement’ COR and advise the trustee of your fund of this event, or reach age 65 (a COR in its own right), the pension becomes a retirement phase TRIS and earnings including capital gains become tax-free.
At this point the retirement phase TRIS is assessed against your TBC.
Consequently, it may be necessary to act now if you wish to maximise indexation.
If you are turning 65 before 1 July, you will meet a COR and your pension automatically becomes a retirement phase TRIS assessed under the current $1.7 million TBC.
Say you have a $2 million TRIS and turn 65 on 15 May.
On that date, you will meet a COR and your TRIS automatically counts against the $1.7 million TBC, resulting in an excess transfer balance of $300,000 which must be ‘commuted‘ (transferred back) to the taxable accumulation phase and kept there or withdrawn from super.
In addition, you’ll be taxed on the earnings on the $300,000 at 15 per cent for the period you have the excess transfer balance – so, the sooner you commute the excess, the less tax you’ll pay.
Should an excess transfer balance arise again, you’ll be taxed at 30 per cent.
You are better off commuting your TRIS back to accumulation phase now – before you turn 65 on 15 May – to stop this happening.
Then on 1 July, utilise the full indexation of the general TBC and commence an account-based pension with $1.9 million. Thus, getting $200,000 more into retirement phase.
Death benefit income streams
A death benefit paid as a pension to an eligible beneficiary, e.g. spouse, is counted against their TBC on the date the DBIS commences.
So, a beneficiary may benefit from indexation where the DBIS commences after 30 June.
Death benefits must be paid ‘as soon as practicable’ and the ATO doesn’t accept long delays without extenuating circumstances.
For APRA-regulated funds, you’re in the hands of the trustee but it should be relatively straightforward if the beneficiary is known and eligible, and it has all relevant documentation.
For SMSFs, the ATO’s rule of thumb is six months to get a DBIS in place and there must be a valid reason for any delay beyond this. Importantly, the reason together with why it’s still considered ‘as soon as practicable’, must be documented.
Whilst you cannot unduly delay the commencement of a DBIS – delaying for indexation is not a valid reason – should the process take longer due to extenuating factors, it could work in your favour with the impending indexation.
Where the deceased had a reversionary pension, the beneficiary’s pension is counted against their TBC on the 12-month anniversary of the deceased’s death, so they’ll only benefit from indexation where the deceased died on or after 1 July 2022.
Unfortunately, the concessional contributions (CCs) cap of $27,500 remains unchanged for 2023-24 as average weekly ordinary times earnings (AWOTE) – the measure on which this cap is indexed – for the December quarter was not high enough for indexation.
The non-concessional contributions (NCCs) cap – being four times the CCs cap – is also not increasing and remains at $110,000.
However, the total superannuation balance (TSB) threshold for making NCCs is increasing as this TSB measure equals the general TBC which is being indexed.
So, if your TSB on 30 June 2023, is less than $1.9 million then you may be able to make NCCs from 1 July.
In addition, the TSB thresholds for using the bring-forward rule are increasing.
Accordingly, if your TSB on 30 June is less than $1.68 million then you may be able to contribute up to three years’ worth of NCCs in one hit ($330,000) in 2023-24 and if it’s between $1.68 million and $1.79 million, it’s two years’ worth ($220,000).
So, you may need to factor this in when sequencing contributions in 2022-23 and 2023.
*The information in this document (information) has been prepared by Fitzpatricks Private Wealth Pty Ltd (ABN 33 093 667 595, AFSL 247 429) (Fitzpatricks). The information is of a general nature only and does not take into account the objectives, financial situation or needs of any person. Before acting on the information, investors should consider its appropriateness having regard to their own objectives, financial situation and needs and obtain professional advice. No liability is accepted for any loss or damage as a result of any reliance on the information.