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Managing the pension Transfer Balance Cap

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.

12 Comments
Graham Horrocks
July 27, 2018

Yes, for calculating tax a SMSF (or a small APRA fund) must now use the proportional method for unsegregated assets (rather than use the method for segregated assets) if any member is receiving a pension and has total superannuation benefits in all funds exceeding $1.6 million. Splitting some of the superannuation benefit into another, perhaps non-SMSF superannuation fund, should allow different asset allocations to be used.

Peter H Hughes
July 24, 2018

I was under the impression that if the $1.6m was exceeded in a SMSF -say $2M, the total income of the pooled investment would be treated proportionately ie assume total income of $120,000 - 80% would be tax free = $96,000 and the remaining 20% in 'Accumulation ' phase would $24,000 taxed at 15% = $3,600 I could live with that!

Vicki C
July 24, 2018

My understanding is that you can segregate for asset allocation purposes, but not for tax. So a member with over $1.6m of superannuation balance could have mainly growth assets in pension phase, and some other type of asset in accumulation phase. Only the ECPI calculation will treat them as not segregated.

Liam
July 24, 2018

Just repeating my above comment for John. To help clarify the strategy of segregating your investments I would mention that more defensive assets such as cash and fixed interest could only be segregated in a SMSF if both members are under the TSB limit of $1.6m. If one/both of the members is above the $1.6m TSB (across all Superannuation accounts inside and outside of the SMSF) then the option would be to to have a separate accumulation account within a retail / industry superannuation fund or keep those investments outside superannuation in personal names or a family trust.

The other option is a second SMSF but the ATO is frowning on that idea and you would need a good argument to sustain the 2 SMSF strategy like other younger members in accumulation so wanting to keep all accumulation funds invested in a similar investment strategy.

John De Ravin
July 20, 2018

I have the same query as Gavin Roberts. Graham can you please clarify your comment about asset allocation as between the pension account and the accumulation account where the total exceeds the TBC? At least in an SMSF I don’t believe segregation is permissible.

James N
July 19, 2018

Great article, Graham!

I am surprised how little consideration is given by most to matching asset return profiles to ownership structures.

As a further example, holding low-income/high-growth assets like a US share ETF outside of Super, with the high-income/moderate-growth assets like an AUS share ETF inside of Super.

This type of approach allows you to control the timing of most of the taxable element of returns from the US ETF by choosing when to realise gains, and make use of the refund of excess franking credits available to the AUS ETF inside of super. Similar in concept to what you're describing.


Thanks for putting your thoughts out to the Cuffelinks readership!

Geoff F
July 20, 2018

Hi James N,

Re your comment “and make use of the refund of excess franking credits available to the AUS ETF inside of super” ...

It may be appropriate/necessary to factor in Labor’s policy of not refunding “excess franking credits”, as it would impact your suggested approach.

James N
July 23, 2018

Hi Geoff F,

Yes, it certainly could. It would diminish the value of the strategy, but it would still be beneficial holding those assets within super environment compared to personally/via family trust.

Good discussion, as always.

Dean
July 19, 2018

One item that was not covered is the effective use of the provisions to increase the $1.6M TBC by government under the current regulations. It makes sense, where possible, to defer some decisons to after the first increase which is several years away. The increase will be based on CPI and be in increments of $100,000.

Has anyone calculated the effective date of the increase to $1.7M?

peter
July 19, 2018

Dean, that very much depends on the CPI, which can go up and down year on year. The Reserve Bank is targeting CPI of about 2.5% per year. If we get this inflation rate consistently it should reach $1.7 million in 2020. A consistent rate of inflation 2.0% will mean 2021. Of course we all know inflation is not consistent year on year.

Gavin Roberts
July 19, 2018

I thought you are unable to segregate assets (and therefore their earnings) when the $1.6m TBC applied, ie. you needed to use the proportionate approach for the allocation of income across pension and accumulation balances.

Liam
July 24, 2018

To help clarify the strategy of segregating your investments I would mention that more defensive assets such as cash and fixed interest could only be segregated in a SMSF if both members are under the TSB limit of $1.6m. If one/both of the members is above the $1.6m TSB (across all Superannuation accounts inside and outside of the SMSF) then the option would be to to have a separate accumulation account within a retail / industry superannuation fund or keep those investments outside superannuation in personal names or a family trust.

The other option is a second SMSF but the ATO is frowning on that idea and you would need a good argument to sustain the 2 SMSF strategy like other younger members in accumulation so wanting to keep all accumulation funds invested in a similar investment strategy.

Important to understand it is the $1.6m TSB that causes the restriction, not the TBC

 

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