Tax with Max: Super beneficiaries and share schemes

Superannuation and estates; taxing share options; capital losses; LRBAs.

Summary: A broad framework is needed to determine whether a person is a dependant.

Key take-out: When taxable superannuation is paid to a dependant no income tax is payable. 

Key beneficiaries: Superannuation accountholders, semi-retirees, general investors, SMSF trustees. Category: Tax.

Q. I read a long time ago that if superannuation money is left to your estate then the taxable concessional component is taxed at 15 per cent without the addition of the 2 per cent Medicare levy. Is this rule still valid?

Answer: You are 100 per cent correct when it comes to superannuation that passes to an estate as opposed to passing direct to non-dependant beneficiaries. When non-dependant beneficiaries receive taxable superannuation, compared to receiving tax-free superannuation that results from non-concessional contributions, a total of 17 per cent of income tax and Medicare levy is payable.

When taxable superannuation is paid to a dependant no income tax is payable. In some cases it can be beneficial when a member dies for a death benefit pension to be paid to a dependant rather than paying the superannuation as a lump sum.

This can be the case when income is needed to support a family after the death of a parent. Even though the superannuation death benefit pension would be taxable in the hands of the parent receiving it, because they are under 60, they will receive the 15 per cent income tax offset.

The definition of dependants for income tax purposes include:

  • a current spouse,
  • a former spouse,
  • a de facto,
  • any child, or
  • any person that has an interdependency relationship with the super fund member.

A child can also include children from a marriage, stepchildren, those that are adopted, and those born out of wedlock.

For an interdependency relationship to exist the people must have:

  • lived together,
  • provide one or each other with financial support, and
  • have provided domestic support and personal care by one or each to the other.

In addition the financial support must be relied upon and must be necessary to maintain a person’s standard of living. For this test to be passed not all of the conditions must be met, but they should be seen as providing a broad framework where the facts of each case are taken into account in determining whether a person is a dependant.

Q. I have recently retired from full-time work and have an adequate pension but have part-time work as the company secretary for a small start-up technology company that has yet to generate any income. Along with other staff of the company I am compensated by being awarded share entitlements according to my hours worked. The company board makes an annual determination of the nominal value of the share entitlements, taking into account the company’s improving prospects and the number of entitlements issued. The share entitlements will acquire monetary value if and when the company eventually becomes profitable, or alternatively is sold or taken to an IPO. When the company becomes profitable, the intention is to make an annual distribution of part of each entitlement’s nominal value. My question is at what stage is this form of compensation reportable to the ATO and would any cash distribution be treated as salary or as a capital gain?

Answer: Under normal circumstances where an employee receives shares or options at a discount price they have two options with regard to income tax.

The first is to pay tax on the difference between the price paid for the shares and their market value in the financial year the shares or options are received. Under this option no further tax is payable until the shares are sold.

The second option is to use a deferred tax method that allows an employee to postpone paying tax on the discount until the earlier of:

  • the employee ceases the relevant employment,
  • they dispose of the shares or exercise the options, or
  • 10 years from when the shares or options were acquired.

Under this option the employee pays tax on the difference between the price they pay and the market value of the shares or options at the time tax is payable under this option. If this method is used the employee does not have the benefit of the 50 per cent capital gains discount that would apply if the first option was used.

The shares or options being issued to the employees of the company that you act as company secretary for may be eligible for a new tax treatment that applies to start-up companies from July 1, 2015.

For this new tax treatment to apply to discounted employee share schemes the company granting the shares must have an aggregated turnover of less than $50 million in the income year prior to when the shares were issued or options granted.

This beneficial treatment will only apply to ordinary shares or options to acquire ordinary shares. In addition the options or shares must be held for a minimum of three years commencing from the date the options or shares were awarded by the company, and the employee cannot hold more than 10 per cent of the ownership or voting rights in the company that issued the shares or options.

This is an extremely complicated area of income tax law and you should seek professional advice from a specialist in this area to work out exactly what the implications are for the company that you act as company secretary for.

Q. For those suckers like me that still hold Dick Smith shares, do we claim the capital loss at the end of the financial year as I presume there will be no money available from the administrators?

Answer: If the administrators of Dick Smith issue a written declaration that there are reasonable grounds to believe that there is no likelihood that shareholders of the company will receive any distribution from the shares, you can claim a capital loss on the cost value of your Dick Smith shares in the financial year that this declaration is issued.

Q. I don’t have an SMSF but am interested in the situation where a person in an SMSF buys an investment property for say $500,000 with a deposit of $200,000 from the SMSF and borrows the rest. How does this other $300,000 get treated with the new proposed $500,000 limit on non-concessional contributions?

Answer: When an SMSF wants to purchase a property, and does not have the available funds to pay cash for it, it can only purchase the property if all of the conditions relating to limited recourse borrowing arrangements are met.

These conditions are:

  • the property purchased must be an unallowable investment for the SMSF; in other words if it is being purchased from a member it can only be business real property.
  • The property must be held by a custodian which is effectively a limited recourse trust with the trustee of the trust being shown as the legal owner.
  • The super fund must make one or more payments before it can become the legal owner of the property.
  • The loan provided for the purchase of the property must be a non-recourse loan that means that the super fund cannot be at risk if there is a default on the loan.

In the scenario that you have outlined, the super fund would show an investment of $200,000 in the property with the limited recourse trust showing the value of the property purchased of $500,000 with a $300,000 loan. When a super fund uses the limited recourse borrowing provisions there is no effect on non-concessional contributions.