Defined benefit interests are difficult to value in accumulation as final benefits depend on length of service, final salary and other factors. Defined benefit income streams have commutation restrictions imposed by legislation and often by fund rules.
The following measures came into effect on 1 July 2017:
Contributions to defined benefit accounts, including contributions to constitutionally protected funds (CPFs), count towards a member’s concessional contributions cap, however modifications ensure that they won’t exceed the concessional contribution cap.
Deductions can’t be claimed for personal contributions to defined benefit Commonwealth public sector superannuation schemes, untaxed funds (generally CPFs), and other categories of funds that may be prescribed in the regulations.
The modified value of a retirement phase capped defined benefit income stream (special value) counts towards the member’s personal transfer balance.
Additional income tax applies to defined benefit income in excess of the defined benefit income cap ($100,000 per annum indexed).
Before 1 July 2017, notional taxed contributions, which are contributions that would have been required in a financial year to fund a member’s expected final benefit in a defined benefit fund, are counted as concessional contributions to the extent that these are funded. Contributions to CPFs and unfunded notional taxed contributions were excluded from the cap.
Since 1 July 2017, employer contributions to CPFs count towards a member’s concessional contributions cap, along with the following contributions to defined benefit interests:
employer contributions to a member’s accumulation account in a defined benefit fund
notional taxed contributions in respect of the member’s defined benefit interest (including those excluded under 2006 and 2009 arrangements)
the amount by which defined benefit contributions exceed the member’s notional taxed contributions.
Certain allocations from reserves to a member’s account by a trustee of a CPF or defined benefit fund will also count.
Where a member’s contributions to CPFs and defined benefit interests exceed the concessional cap ($25,000 in 2019/20 or higher able to use the carry forward concessional contribution provision) the member will be deemed to have contributed up to the concessional contributions cap. Where this is the case, a member’s concessional contributions to an accumulation super fund will be excess concessional contributions.
In the 2019/20 year Grace is a member of a CPF where she receives $10,000 of employer contributions. She is also a member of a defined benefit fund. Her defined benefit contributions total $25,000 ($20,000 of which are notional taxed contributions in respect of her defined benefit interest and $5,000 are contributions in respect of her unfunded defined benefit interest).
Grace’s capped amount (contributions to a CPF, notional taxed contributions and defined benefit contributions exceeding her notional taxed contributions) for the financial year total $35,000 worked out as $10,000 + $20,000 + ($25,000 - $20,000).
As the total capped amount exceeds the concessional contributions cap (it is assumed that she does not have any unused concessional cap amounts from 2018/19), her total concessional contributions will be equal to $25,000 (concessional cap). If Grace has an account in a retail super fund and receives concessional contributions in that account the contributions will be excess concessional contributions.
Members are no longer able to claim deductions for personal contributions made to defined benefit Commonwealth public sector superannuation schemes and CPFs. Members can make personal deductible contributions to an accumulation super fund without having to meet the earnings test (10% rule) which was also removed as part of the super reforms.
In July 2019 George is a member of a defined benefit fund that is a CPF. He also has an account in a retail super fund. He sells some shares in 2019/20 and has an assessable capital gain of $15,000 after the CGT discount. He is on a 32.5 per cent marginal tax rate and wishes to make a personal deductible contribution to reduce his assessable income.
He cannot make a personal deductible contribution to the defined benefit fund however, he can make the personal deductible contribution to the retail super fund. He doesn’t need to meet the earnings test as this was abolished from 1 July 2017. The contribution to the retail super fund will count against his concessional contributions cap.
From 1 July 2017 superannuation interests used to commence a retirement phase income stream will count against a member’s transfer balance cap (TBC). Special values are calculated for capped defined benefit income streams that commenced just before 1 July 2017 and for non-commutable lifetime pensions and annuities commenced at any time.
Capped defined benefit income streams doesn’t just refer to defined benefit income streams. It also includes non- commutable income streams such as life time pensions and annuities, life expectancy pensions and annuities, market-linked pensions and annuities, along with other certain income streams prescribed in the regulations. Commutable defined benefit pensions are excluded from these rules.
A non-commutable lifetime income stream will have a special value for TBC purposes regardless of when it’s commenced. A special value will also be calculated for non-commutable life expectancy and term income streams including term allocated pensions that exist just before 1 July 2017. The special values will be a credit against the member’s transfer balance account. The calculation of the special value depends on the type of income stream as shown below.
|Type of capped defined benefit income stream||Special value calculated as:|
|Lifetime pensions and annuities commenced any time||Annual entitlement* x 16|
|Life expectancy and term pensions and annuities and market- linked pensions and annuities existing just before 1 July 2017||Annual entitlemet* x remaining term|
‘Annual entitlement’ is equal to:
First payment x 365 days / Days in period
First payment refers to the first payment just after the capped defined benefit income stream is valued.
Jenny is aged 65 and has the following superannuation income streams just before 1 July 2017:
1. A life expectancy annuity (taxed fund) paying $40,000 pa that has a remaining term of 13 years.
a. The special value is calculated as: $40,000 x 13 years = $520,000
2. A lifetime defined benefit pension (untaxed fund) which pays $1,000 per fortnight.
a. The annual entitlement is calculated as: $1,000/14 days x 365 days = $26,071
b. The special value is calculated as: $26,071 x 16 = $417,143
Where the balance of capped defined benefit income streams exceeds the TBC, the excess caused by these interests alone will not cause the member to exceed their TBC or trigger excess transfer balance earnings.
No commutation from the defined benefit income stream will be required. However, where the member also has an account-based pension, the excess is the lesser of the amount that exceeds the TBC or the capped defined benefits.
Jane is aged 67 and held the following on 30 June 2017:
Without realising the consequences Jane decides to commence a new pension on 1 January 2020:
The special values of Jane’s lifetime and life expectancy defined benefit pensions total $1,948,286. While the capped defined benefit sub-account exceeds Jane’s TBC, there is no requirement to commute the defined benefit pensions.
Jane’s excess TBC will be $700,000, calculated as the lesser of the amount exceeding:
Jane will be required to commute $700,000 plus related excess TBC earnings from her account based pension. She may choose to commute the amount to accumulation phase where earnings are taxed up to 15 per cent.
To avoid excess TBC amounts, check whether the special value/s of the member’s capped defined benefit income stream/s exceed the TBC before recommending the commencement of an account-based income stream.
While there is no requirement to commute the capped defined benefit income streams where the TBC is exceeded, tax concessions for income from capped defined benefit income streams (capped defined benefit income) are limited to an annual defined benefit income cap (cap). Defined benefit income in excess of that cap will be subject to additional tax. The cap is one-sixteenth of the general transfer balance cap for the financial year, i.e. $100,000 for 2019/20.
A member’s defined benefit income cap reduces if part way in the financial year the member receives defined benefit income that is subject to concessional tax treatment. For example, where the member has attained age 60 or over, or starts to receive a death benefit income where the deceased member died after reaching age 60 or over. The reduced cap is calculated on a pro-rata basis based on how many days they’ve received the income at the concessionally taxed rates.
Tax concessions apply to defined benefit income of members aged 60 or over, or death benefit beneficiaries of members who died at age 60 or over. These tax concessions allow defined benefit income to be received tax-free if a tax-free or taxable (taxed) component and assessed at marginal tax rates with a 10 per cent tax offset if a taxable (untaxed) component.
These tax concessions continue to apply but are now limited to defined benefit income within the cap.
The cap only applies to income that receives concessional treatment. This means the tax treatment of member benefits will remain the same for those under age 60.
Excess capped defined benefit income will be subject to additional tax depending on the tax components as shown below:
|Defined benefit income stream paid from||Special value calculation|
|Taxed fund||50% of the amount exceeding the defined benefit income cap is taxed at marginal tax rates.|
|Untaxed fund||Annual entitlement* x remaining term|
When applying capped defined benefit income against the cap, the taxed source and tax-free component is considered before the untaxed source.
Jose, aged 63 receives the following defined benefit income:
The $80,000 from the taxed source will count against the $100,000 defined benefit income cap first and is non- assessable non-exempt income (tax free) as he’s over age 60. The $30,000 from the untaxed source is considered next and results $10,000 exceeding the cap. The $30,000 is taxable to Jose because it’s from an untaxed fund. As he’s over age 60, he is entitled to a 10% tax offset based on the $20,000 within the cap ($2,000). No tax offset is available for the excess $10,000 income.
Where a member is offered different options in taking their defined benefit interest such as a lump sum, part lump sum + part pension or pension only, the defined benefit income cap should be considered.
There are still opportunities to make concessional contributions to CPFs and defined benefit accounts. While tax concessions on defined benefit income are limited, capped defined benefit income streams are an advantage for members with balances in excess of the TBC as these alone will not cause an excess TBC. Members will be allowed to keep excess benefits in accumulation accounts.
Download "The transfer balance cap".
FOR ADVISER USE ONLY
This publication is current as at 15/12/19 and has been prepared by BT Financial Group , a division of Westpac Banking Corporation ABN 33 007 457 141 AFSL 233714 (“BTFG”), which is part of the Westpac group of companies (Westpac Group). This document has been prepared for the information of financial advisers only and must not be copied, used, reproduced or otherwise distributed or made available to any retail client or third party, or attributed to BTFG or any other company in the Westpac Group. The information contained in this publication is an overview or summary only and it should not be considered a comprehensive statement on any matter nor relied upon as such. This publication has been prepared without taking into account any person’s objectives, financial situation or needs. Because of this, you should, before acting on any information contained in this publication, consider its appropriateness to your clients, having regard to their objectives, financial situation or needs. Any taxation information contained in this publication is a general statement and should only be used as a guide. It does not constitute taxation advice and is based on current laws and their interpretation. Each individual client’s situation may differ, and your clients should seek independent professional taxation advice on any taxation matters. Any graph, case study or example contained in this publication is for illustrative purposes only, and is not to be construed as an indication or prediction of future performance or results. While the information contained in this publication may contain or be based on information obtained from sources believed to be reliable, it may not have been independently verified. Where information contained in this publication contains material provided directly by third parties it is given in good faith and has been derived from sources believed to be accurate at its issue date. It is not the intention of BTFG or any member of the Westpac Group that this publication be used as the primary source of readers’ information but as an adjunct to their own resources and training. To the maximum extent permitted by law: (a) no guarantee, representation or warranty is given that any information or advice in this publication is complete, accurate, up to date or fit for any purpose; and (b) no member of the Westpac Group is in any way liable to you (including for negligence) in respect of any reliance upon such information.
This website may also contain links to websites operated by third parties ("Third Parties") who are not related to the Westpac Group ("Third Party Web Sites"). These links are provided for convenience only and do not represent any endorsement or approval by the Westpac Group of those Third Parties or the information, products or services displayed or offered on the Third Party Web Site.