Transition to retirement tax strategies

Article

Setting a tax strategy for your clients before they start their transition to retirement (TtR) pension is an important step in helping them increase both their savings and their super.

Understanding pension types

Account-based pensions may either be retirement phase pensions or TtR pensions. The difference between the two types of pensions is primarily the way in which they are internally taxed:

Retirement phase pensions

This type of pension can be commenced when a super fund member has met a full condition of release and is not taxed on its earnings including capital gains.

Transition to retirement (TtR) pensions

TtR pensions can be commenced once a super fund member reaches preservation age, and these are taxed at up to 15% on the earnings, including capital gains. 

Tax implications of a TtR pension payment

Unlike the tax on earnings within a TtR pension, the tax treatment of income payments from a TtR pension to the account holder depends on their age:

  • If your client is 60 or over when they receive income payments from a TtR, the income payments are still tax free where the super fund is a taxed scheme.
  • If your client is under age 60, the taxable portion is taxed at their marginal tax rate less a 15% tax offset.

In situations where a client has reached their preservation age but has not yet retired, a TtR pension can provide them with additional income. This was the original intention of the transition to retirement condition of release.

The below case study demonstrates how a client can use a TtR pension to receive additional income:

Jenny, aged 60

Jenny is single and aged 60. She works four days a week in day care and earns $43,000 per annum. After tax, her net income is $38,558. She is finding it difficult to afford her lifestyle and expenses. Jenny has $220,000 in her superannuation account.

Using a TtR pension, Jenny can receive additional income of up to $22,000 in this financial year, increasing her total net income to $60,558. This will be sufficient to meet her lifestyle expenses, however she should note that by drawing from her superannuation savings now, she will have less to rely on during her retirement.

TtR income swap strategies

There may still also be a benefit for clients to make pre-tax contributions into super and replace that income with TtR pension income. When using an income swap strategy, it’s important to remember that personal deductible and salary sacrifice contributions are taxed at 15% on the way into super, and possibly at 30% if your client has income* and low tax contributions exceeding $250,000 in a financial year.

It is also crucial to ensure that the client does not exceed their concessional contribution cap. Personal deductible contributions and salary sacrificed contributions count towards the client’s concessional contributions cap as do super guarantee (SG) contributions.

Explore case studies 

The following case studies illustrate the taxation consequences of clients making pre-tax contributions into super and drawing out income from a transition to retirement pension.

Clients under age 60

Marie, aged 58

Marie, aged 58 has $280,000 in super, all taxable component. Marie earns $80,000 per annum. Her net income after tax is $63,013^. Marie salary sacrifices $19,500 (up to her concessional cap of $27,500) into super and draws $15,866 from a TtR pension, giving her a net income of $63,013.

As a result of the strategy, Marie saves $709^ in tax which is reflected by a $709 increase to her overall super balance.



Status quo

Income swap strategy
   
Salary   
   
$80,000   
   
$80,000   
   
Salary sacrifice   
   
$0   
   
$19,500   
   
TtR pension   (taxable))   
   
$0   
   
$15,866   
   
Taxable income   
   
$80,000   
   
$76,366   
   
Income tax (including   Medicare)   
   
$16,987   
   
$13,353   
   
Net income^   
   
$63,013   
   
$63,013   
   
   
   
   
   
   
   
Personal tax   
   
$16,987   
   
$13,353   
   
Tax inside super   
   
$1,200   
   
$4,125   
   
Total tax   
   
$18,187   
   
$17,478   
   
Tax benefit of strategy   
   
   
   
$709   
   
   
   
   
   
   
   
Net contributions   to super   
   
$6,800   
   
$7,509   
   
Super benefit of strategy   
   
   
   
$709   

Bill, aged 58

Bill, aged 58 has $250,000 in super. Of this, $180,000 forms part of the tax-free component and $70,000 forms part of the taxable component. He earns $100,000 in salary. After tax his net income is $75,813^. Bill salary sacrifices $17,500 (up to his concessional cap of $27,500) into super, uses his super to commence a TtR pension and draws $11,807 giving him a net income of $75,813.

As a result of the strategy, Bill saves $3,068,^ in tax which is reflected by a $3,068 increase to his overall super balance.

   
   
   
Status quo   
   
Income swap strategy   
   
Salary   
   
$100,000   
   
$100,000   
   
Salary sacrifice   
   
$0   
   
$17,500   
   
TtR pension   (taxable)   
   
$0   
   
$3,306   
   
Taxable income   
   
$100,000   
   
$85,806   
   
Income tax   (including Medicare)   
   
$24,187   
   
$18,494   
   
TtR pension (tax-free)   
   
$0   
   
$8,501   
   
Net income^   
   
$75,813   
   
$75,813   
   
   
   
   
   
   
   
Personal tax   
   
$24,187   
   
$18,494   
   
Tax inside super   
   
$1,500   
   
$4,125   
   
Total tax   
   
$25,687   
   
$22,619   
   
Tax benefit of strategy   
   
   
   
$3,068   
   
   
   
   
   
   
   
Net contributions   to super   
   
$8,500   
   
$11,568   
   
Super benefit of strategy   
   
   
   
$3,068   

Clients over age 60

Sean, aged 61

Sean, aged 61 has $200,000 in super. He earns $75,000 in salary per annum. His after tax net income is $59,738^. Sean salary sacrifices $20,000 (up to his concessional cap of $27,500), uses his super to commence a TtR pension and draws $12,925, giving him net income of $59,738.

As a result of the strategy, Sean’s tax reduces by $4,075^ which is reflected by a $4,075 increase to his overall super balance.

   
   
   
Status quo   
   
Income swap strategy   
   
Salary   
   
$75,000   
   
$75,000   
   
Salary sacrifice   
   
$0   
   
$20,000   
   
Taxable income   
   
$75,000   
   
$55,000   
   
Income tax   (including Medicare)   
   
$15,262   
   
$8,187   
   
TtR pension   (tax-free)   
   
$0   
   
$12,925   
   
Net income^   
   
$59,738   
   
$59,738   
   
   
   
   
   
   
   
Personal tax   
   
$15,262   
   
$8,187   
   
Tax inside super   
   
$1,125   
   
$4,125   
   
Total tax   
   
$16,387    
   
$12,312   
   
Tax benefit of strategy   
   
   
   
$4,075   
   
   
   
   
   
   
   
Net contributions   to super   
   
$6,375   
   
$10,450   
   
Super benefit of strategy   
   
   
   
$4,075   

Claire, aged 62 (impacted by Division 293 tax)

Claire, aged 62 has $500,000 in super. She earns $260,000 in salary. Claire’s employer makes SG contributions of $23,568. Her after tax net income is $163,598^ including Division 293 tax (assuming she does not elect to release an amount from her super to pay this).

Claire salary sacrifices $3,932 (up to her concessional cap of $27,500) into super and she rolls $40,000 into a TtR pension. Claire is taxed an extra 15% on her SG and salary sacrificed contributions (i.e. 30% in total) due to Division 293 tax.

She draws $2,673 from the TtR pension. This gives her a net income of $163,598. As a result of the strategy, Claire’s tax reduces by $668^. This is reflected by a $668 increase to her overall super balance.

   
   
   
Status quo   
   
Income swap strategy   
   
Salary   
   
$260,000   
   
$260,000   
   
Salary sacrifice   
   
$0   
   
$3,932   
   
Taxable income   
   
$260,000   
   
$256,068   
   
Income tax   (including Medicare)   
   
$92,867   
   
$91,019   
   
Division 293 tax   
   
$3,535   
   
$4,125   
   
TtR pension   (tax-free)   
   
$0   
   
$2,673   
   
Net income^   
   
$163,598   
   
$163,598   
   
   
   
   
   
   
   
Personal tax   
   
$96,402   
   
$95,144   
   
Tax inside super   
   
$3,535   
   
$4,125   
   
Total tax   
   
$99,937    
   
$99,269   
   
Tax benefit of strategy   
   
   
   
$668   
   
   
   
   
   
   
   
Net contributions   to super   
   
$20,033   
   
$20,702   
   
Super benefit of strategy   
   
   
   
$668   

Things to consider before commencing a TtR pension

For some clients, there may still be a legitimate reason for commencing a transition to retirement (TtR) pension after 1 July 2017. However, before doing so, the following should be considered:

  • Centrelink/DVA implications – TtR pensions count under the assets and income test whereas money held in accumulation does not count if the client is under age pension age
  • Cost of implementing the strategy and whether the benefits outweigh the fees and transaction costs if the client is using an income swap strategy
  • Contributions tax payable on concessional contributions
  • Division 293 tax which may be payable on personal deductible and employer contributions
  • The concessional contributions cap and super guarantee (SG) amounts
  • TtR income payments must be within the minimum and maximum amounts.

^Based on 2021/22 tax rates including Medicare levy and takes into account client paying contributions tax of 15%
* Income includes:
- taxable income
- reportable fringe benefits
- total net investment losses, and
- low-tax contributions (i.e. concessional contributions less any excess contributions, plus contributions for defined benefit interests).

For any retirement planning queries, please contact a BDM.

Next: Super, tax and other rates and limits 2020/​21

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