Super pension shift can make tax sense

Considering how to protect recent gains? Some trustees might benefit from a shift to a super pension.

Summary: For those who are eligible, turning on a pension fund from within a SMSF can be highly tax effective. But be careful about switching in assets to the pension account that have capital gains attached. The Tax Office is watching.

Key take-out: Using a transition to retirement pension strategy, it is possible to keep working and draw down super at the same time, and use salary sacrificing to reduce tax.

Key beneficiaries: SMSF trustees. Category: Superannuation.

Stockmarkets seem to be getting choppy, following a largely stellar run since the middle of last year.

After months of gradual rises, the last few weeks has seen daily movements turn jittery again. A big rise last Friday, a bigger fall of 2%-plus on Monday. And those moves aren’t alone – it’s been constant in the last month.

Some big gains have already been made, for those who stayed invested throughout, or who had the guts to invest mid last year. Some SMSF trustees’ minds will be turning to how to protect those gains, or at least to minimise the amount of tax paid on them.

One way to avoid capital gains tax, of course, is to never sell. However, sometimes that is a risk that isn’t worth taking.

Another is to turn on a pension in your super fund – even for those who don’t think they necessarily want to draw an income. This can be a handy way to allow capital gains to be crystallised without having to hand over too much (potentially not hand over anything) to the tax man.

Of course, not everyone can do that. Being able to turn on a pension is a birthright – you need to be at least 55 years of age (but see below).

For others who are only a few years off that mark, this is certainly something to start planning for, or keeping in mind as you plan that run to a pension.

Accumulation fund versus pension fund

There are two “states” a super fund can be in. They are either in accumulation mode or pension mode. An individual SMSF can be both accumulation and pension, depending on the life stage and financial ambitions of the members.

And, in fact, it can have multiple accumulation/pension accounts running for every member, if it makes sense for each member’s situation.

Anyone born on or before 30 June 1960 has a preservation age of 55. (The preservation age rises on a sliding scale for those born after that date, so that those born on 1 July 1964 or later have a preservation age of 60.)

It is possible to turn on a pension at age 55, while you’re still working. This is generally called a “transition to retirement (TTR)” pension (see Retire your tax bill for a broader article on this). A TTR pension is one where you are drawing from a pension fund, generally while you are still working and contributing to an accumulation fund.

There are potentially several major benefits to starting a TTR pension and combining it with a salary sacrifice strategy, even if some of the benefits have been watered down in recent years by the Rudd and Gillard governments.

Pension funds are tax-free

One of the primary benefits of turning on a pension fund is that it becomes tax-free. Any income (interest, coupons, rent, dividends, distributions, etc) a pension fund earns is tax-free and any capital gains can be crystallised tax free. (It’s also true that capital losses in pension phase are of little benefit.)

Further, if the income comes with franking credits, those franking credits will come back to the pension fund.

More accurately, it is those assets that are backing the pension that benefit from the tax-free status.

What is the difference? The most obvious example would be that a SMSF might have two members and only one of which has hit their preservation age, allowing the SMSF to start a pension.

Let’s say the older pension fund member (58) is male and has a balance of $600,000 and the younger female member (53) has a balance of $400,000.

The SMSF could potentially start a pension for the older member. It is possible (but be careful and read the warning below) that the assets with significant capital gains attached to them could be transferred to the husband’s pension account.

If the assets were subsequently sold by the pension fund, then no CGT would be payable.

The opposite strategy – one which is based on minimising income tax on assets – can also make sense. Sometimes it might make more sense to transfer assets into the pension fund that are spinning off high levels of income.

Warning: The ATO will be watching

Be aware that it will look suspicious – as in, send off the stench of tax evasion – if the capital gains intensive SMSF assets are suddenly segregated one day and sold the following day, or in any short time frame. And it would look even worse if the pension was turned on, assets sold, and then the fund was switched back to accumulation again, particularly if in quick succession.

The ATO has previously warned on this issue. It would see that sort of situation as tax evasion and is not afraid to investigate and penalise trustees.

So, like debt recycling – where ungeared assets are sold and used to pay down non-deductible debt, while fresh assets are purchased with borrowed money – it becomes a matter of timing and degrees.

Some planning and professional advice should be sought by anyone considering doing this. It is a legal strategy, but one that, if executed incorrectly, can lead to unnecessary attention from the ATO.


The information contained in this column should be treated as general advice only. It has not taken anyone’s specific circumstances into account. If you are considering a strategy such as those mentioned here, you are strongly advised to consult your adviser/s, as some of the strategies used in these columns are extremely complex and require high-level technical compliance.

Bruce Brammall is director of Castellan Financial Consulting and the author of Debt Man Walking. E: bruce@castellanfinancial.com.au
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  • More self-managed superannuation fund trustees want specialist financial advice that helps them manage their savings while at the same time allowing them to keep control, according to new research commissioned by Vanguard and the SMSF Professionals’ Association of Australia (SPAA). Just 13% of advisors said that SMSF investors accounted for the majority of their clients, compared with 55% who said SMSF investors represented fewer than 10% of clients.
  • Chris Smith, head of healthcare and retirement property at Australian Unity, has warned SMSF trustees not to over-invest in residential property at the expense of other property sectors. “The healthcare sector has outperformed all other property on a one, three and five-year basis, driven primarily by strong returns,” Smith said. He also advised that as the population ages, occupancy would increase and new builds would be undertaken.
  • Research by RFi has found that 35% of SMSF trustees who established their own fund within the past year were ‘somewhat likely’ to close their SMSF. This number decreases to just 12% for those who have operated a SMSF for five years or more. “[The trustees’] likelihood to want to go back to retail or industry super is higher in the first year. Their satisfaction is lower, and their happiness with setting up the fund is lower — all of those measures improve after that first year’s out of the way,” company director Alan Shields said.
  • The Government has introduced new legislation restricting the use of the terms “financial planner” and “financial adviser” to those who have AFSL licences or are authorised representatives. The SMSF Professionals’ Association of Australia (SPAA) says it supports the decision. “SPAA has long advocated professionalism and the highest standards to ensure SMSF trustees get the best advice, and believe this move by the Government is a step in the right direction.”  SPAA chief executive Andrea Slattery said.