Transition Times for Super

Treasurer Peter Costello, in this year’s budget speech, left open the possibility of “transitionary arrangements”, to resolve anomalies that may arise from changes announced in the budget. The possibility that there might be even further amendments to superannuation has confused many Eureka Report subscribers, already struggling to understand the latest changes.

Rumours and speculation about possible outcomes from the budget have abounded in the financial press during the past fortnight. Today, Barbara Smith answers readers’ questions, but first responds to frequently asked questions about the budget from people with DIY funds.

Will the Government really unlock super savings so we can cancel existing non-commutable income streams?

A report in the Australian Financial Review on May 26, headed New rules to unlock super savings, said Treasury has told the superannuation industry that retirees would be allowed to cash in long-term pensions and annuities. The report brought a ripple of joy for affected retirees, but Treasury immediately issued a press release saying the report was incorrect and that it had not indicated that existing non-commutable pensions could be cancelled as part of the Government's plan to simplify and streamline superannuation.

So far the Government has been tight-lipped on the budget and any adverse effects. It appears to be sticking to its plan to consult on the proposed superannuation reforms until August 9 before making any final decisions.

Should you still consider splitting super with your spouse?

Several commentators have suggested that splitting super with a spouse would be less useful after the budget. But is it?

Super splitting may be useful solely from a tax-saving point of view, but what about from a woman’s point of view? The majority of women have built up substantially less super than their spouses during their working life. One way to achieve equity is via the splitting rules, albeit that they are limited to contributions made since July 1, 2006.

Women would hate having all of the super and resultant retirement income controlled by their (male) spouse. Women need their own retirement income stream that they control. Imagine having to justify or confess how much the new outfit, hairdo, gifts for grandchildren, etc cost '” the divorce rate for the over-60s will skyrocket as women seek to get half of their spouse’s super!

As if this isn’t enough, there are other reasons why splitting super contributions between spouses is valuable. If one partner has little or no super, they will be able to use two ETP low-rate thresholds instead of one for lump-sum benefits. This means couples who plan to retire between the ages of 55 and 59 will pay no tax on $259,502 instead of $129,751. This lump sum can be, and often is, used to pay off any remaining mortgage and other debts.

With undeducted contributions already limited to $150,000 a year per person (subject to enabling legislation being passed) couples who do opt to split contributions can get $300,000 a year into one member’s account via splitting.

Now there are plans to simplify super, do you still need a financial adviser when you retire?

The thinking behind this question only takes one aspect of a person’s superannuation and financial affairs into account. There are many other aspects to consider. The proposed new rules limiting tax concessions on deductible super contribution to $50,000 a year (with some transitional rules for people over 50) creates a new tax hazard and the $150,000-a-year limit on undeducted contributions have created barriers to bumping up super immediately before retirement.

Should a withdrawal and re-contribution strategy be adopted, and if so, how should this now be approached?

The new rules mean that skills of a competent financial adviser are as important as ever and are now needed long before retirement.

This week, I have selected five subscribers’ questions:

International shares

I am the sole beneficiary of a DIY superannuation fund in accumulation mode. I expect to retire after the recently announced budget changes are implemented and I convert the fund to an allocated pension. The investments of the fund include international shares. I understand the reduction in Australian tax for the amount of overseas withholding tax on international investments is limited to the amount of Australian tax payable on each of these investments.

When I convert the DIY fund to an allocated pension, the income of the fund will become exempt from Australian tax. Overseas withholding tax will continue to apply but the Australian tax credit will no longer be available as the Australian tax will be zero. As a consequence, from that time there will be a tax disadvantage on international investments. Are there any strategies that would enable me to retain the international investments without any tax disadvantage?

When you are in accumulation mode you only get a foreign tax credit up to the level of the tax payable on the foreign income in Australia. For example, if your self-managed superannuation fund is entitled to receive gross foreign income of $1000 and 30% foreign tax is withheld, you will only get $150, or 15%, as a foreign tax credit, whereas if it was Australian income you would get the whole of the $300 tax credit to offset against other tax payable and any excess would be refunded.

I agree with you that once your fund becomes exempt from Australian tax you will still pay the foreign tax, but will not get any foreign tax credit for the foreign tax paid, and so in addition to exchange risk, you will also suffer a tax disadvantage on international investments. I am not aware of any strategies to mitigate this, so you will need to factor in this disadvantage when deciding whether to retain the international investments or dispose of them and replace them with Australian investments.

Tax off-set

Is it true that managed funds achieve a tax deduction by a set off between accumulation and payout stage members?

Managed funds and superannuation funds, including self-managed superannuation funds, get a tax deduction for the income generated by assets underlying superannuation pensions.

Accessing the co-contribution

A close friend would like to make a super contribution to access the co-contribution. However, like many low income people, she is struggling spare $1000 to enable her to do this. However, she does have $2000 available for withdrawal in her super fund, according to her statement, presumably a pre-1999 unrestricted non-preserved amount. Is it possible to access this and then use this to effectively recontribute a personal contribution, which would then be eligible for the co-contribution?

There is nothing to stop anyone from withdrawing unpreserved benefits from their superannuation; however, your friend would need to take her age and what component it is into account. There is nothing in the law to stop her from then contributing $1000 as an undeducted contribution.

Retiring early

If I wish to retire early at, say, 57, will I have to pay tax on money taken from an allocated pension until I reach 60 and then have the allocated pension tax-free, or do you have to work/wait until you are 60 before you can get the tax-free pensions?

Under changes proposed in the budget you will pay tax on money taken from an allocated pension until you reach 60 and then have the allocated pension tax-free from the latter of July 1 2007, and when you turn 60.

Over-75s

My question is in two parts.
1: Do over-75s now have to enter the pension phase from a self-managed super fund? What if they wish to defer taking a pension because they are still working or are self-sufficient as to income?

As the law stands today a member’s benefits must be cashed or rolled over for immediate cashing as soon as practicable if the member turned 75 on or after July 1, 2004.

The same applies to a member who turned 75 before July 1, 2004, who is no longer gainfully employed full-time '” that is, for at least 30 hours a week.

From July 1, 2007, the requirement that benefits must be paid out regardless of a person’s work status from age 75 will be removed. This means that a 75-year-old would be able to keep their benefits in their superannuation fund indefinitely and withdraw as much or as little of their benefits as they choose. If they choose to take their benefits as a pension, earnings on the underlying assets would be exempt from tax; earnings on other assets would continue to be subject to tax as assessable income of the fund at 15%.

2: Can the same over-75s still contribute to their self-managed super fund if they defer taking the pension as previously required?

Seventy-five-year-olds cannot currently make contributions to superannuation. The budget papers do not propose any change to this rule.