The $1.6 million pension Transfer Balance Cap (TBC) has become a major part of the financial plans of most people with high net worth. Gordon Mackenzie discussed the workings last year in Cuffelinks. The amounts that comprise the TBC, for each individual, are the accumulated total of:
- the balance in a pension account held as at 1 July 2017, and
- capital amounts that are transferred in to or out of a pension account after 1 July 2017.
Once the capital value of a pension has been counted, at 1 July 2017 or subsequently on transfer to or from a pension, no account is taken of the future account balance as a result of investment earnings (positive or negative) or pensions (ie income) paid. It only takes account of capital amounts as at 1 July 2017 and on each subsequent transfer to or from the pension account.
If investment income exceeds pensions paid, the account balance can increase beyond the $1.6 million limit and there are no adverse consequences. Similarly, if investment income is negative or does not cover the pension payments made the account balance will reduce. This has been caused by investment returns and income (pension) payments and this does not open a gap for further transfers to a pension if the full $1.6 million has previously been used.
Managing your TBC
So how can you manage your TBC to maximise the benefit of the tax-free status of the pension account?
There is a statutory minimum amount of pension that must be paid from a pension account. Taking this into account suggests that management of your TBC could include:
- Increasing the investment return of your pension account by investing it for the longer term using growth assets such as shares and property while investing more defensive assets such as cash and fixed interest outside the pension account either in accumulation accounts within superannuation or outside superannuation. You will need to be careful of any tax implications that might arise.
- Keeping the income (i.e. pension) paid from the pension account to the statutory minimum. If you need more income or lump sum amounts, these should, to the extent possible, be taken from moneys held outside superannuation or held within superannuation in accumulation accounts. This will maximise the pension account benefitting from its tax-free status.
- If you do need extra amounts, whether as income or lump sums, and these need to be taken from the pension account, do this as a commutation (or lump sum) rather than increased pension (income). If you are over 60, payments will be tax-free in either case. Income and lump sum (commutations) are treated differently under the means test for the Age Pension but this is unlikely to be an issue if you are concerned about the TBC. Lump sum (commutation) amounts come off your TBC account.
Future changes
Even if you are satisfied that you have accommodated the TBC for now, this may change in future. You may need extra room within your TBC in the future if you ever have extra superannuation amounts which could arise from:
- Contributions made while you are under age 65.
- Contributions made if you are between 65 and 75 and return to work.
- A contribution made following the sale of your principal residence after 1 July 2018. Contributions of up to $300,000 per person will be allowed if you are over age 65.
- A death benefit superannuation pension received on the death of a partner.
The superannuation rules become increasingly complex, but it's worth understanding the major rules to maximise the benefits of the tax-free status.
Graham Horrocks is an actuary specialising in financial planning and superannuation, and a former General Manager, Research & Quality Assurance, with Ord Minnett. Since 1999, he has been an independent financial adviser. This article is educational and does not consider the circumstances of any investor.