Many Australians who are either approaching retirement or have permanently retired from the workforce are running ‘Account Based Pensions’ through their superannuation structures. It is important to understand the rules of running an Account Based Pension in order to avoid potential taxation penalties in the future.
Under the current legislation it is a requirement for individuals to make a minimum drawdown payment from their pension account each financial year. This minimum payment is calculated based on two factors, firstly a percentage factor which is dependent on the member’s age (as detailed in the table below) and secondly the persons account balance.
|Age at start of account based pension (and 1 July each year)||2012/13Minimum Drawdown||2013/14
The current tax rate that applies to investment income derived from superannuation assets is 15% and the tax rate for realised capital gains is 10% to 15% (depending on whether the asset has been held for more than 12 months).
Once a superannuation fund commences to pay an Account Based Pension, the fund maybe entitled to an exemption on the payment of tax for the investment income and realised capital gains derived from fund assets backing the Account Based Pension. This income is referred to as ‘exempt current pension income’.
For trustees running Self-Managed Superannuation Fund (SMSF), these rules are particularly important given that the ultimate responsibility for making the minimum pension payment each year lies with the trustees.
So what are the implications under the current superannuation regulations if the trustee of the superannuation fund fails to pay the minimum pension?
The pension will be deemed to have ceased for income tax purposes at the start of the financial year (or the start date of the pension if it’s a new pension). As a result, the superannuation fund will not be entitled to treat any investment income or realised capital gains as ‘exempt current pension income’ for that year. Also any payments made to the member during the financial year will be treated as superannuation lump sum payments for both taxation and superannuation purposes.
Under what circumstances will the Australian Taxation Office (ATO) exercise discretion to allow an SMSF to continue to claim the tax exemption on pension income even if the minimum pension payment is not met?
It is important to understand the rules of running an Account Based Pension in order to avoid potential taxation penalties in the future.
- If the SMSF has failed to pay the minimum pension amount due to a trustee error or honest mistake that has resulted in a small underpayment (i.e. is less than one twelfth of the annual minimum payment); and
- The entitlement to exempt pension income would have continued but for the trustees failing to make the minimum payment; and
- The SMSF endeavours to make a catch up payment as soon as possible (within 28 days of the trustee becoming aware of the underpayment) in the following financial year which would has resulted in the minimum payment being satisfied in the previous financial year; and
- The SMSF treats the catch up payment as if it was made in the prior financial year.
Does a superannuation income stream cease in the event of a member’s death if the account based pension does not automatically revert to a dependent beneficiary?
In August 2011 the ATO released a draft tax ruling (TR 2011/D3). The purpose of this ruling was to address ‘when a superannuation pension commences and ceases’. This ruling indicated that superannuation pensions cease as soon as a member dies unless the member had in place a reversionary pension nomination (which means that the pension automatically reverts to a dependent beneficiary upon death). Therefore, in the event that the member did not have a reversionary beneficiary in place, then the member’s assets would revert back to superannuation phase and subsequently loose the tax exempt pension income status. Therefore, should these assets be disposed of, then capital gains tax maybe applicable upon sale at the rate of 10% to 15%. This draft ruling resulted in confusion amongst superannuation advisers.
As a result of this confusion the Government released amendments to the regulations on 29 January 2013 which aimed to clarify that if a superannuation fund member was receiving a pension and then died, the superannuation fund will continue to be entitled to the earnings tax exemption in the period from the members date of death until their benefit is paid out by the fund. This amendment will be a welcome relief for beneficiaries of death benefits as no capital gains tax will be payable from the superannuation fund when the pension assets are sold or transferred to fund the payment of death benefits.
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