Technical bulletin: Winter 2014

Transcription

1 IOOF TechConnect Technical bulletin: Winter 2014 Employment termination payments: taking the complexity out of the equation 1 Deeming and account based pensions 5 Self-managed superannuation fund exit strategies 8 Legislation update June Employment termination payments: taking the complexity out of the equation By Meg Rennie, Technical Services Manager Employment termination payments (ETPs) can be a complicated area of advice. Providing prompt and accurate advice to clients during a time of uncertainty is critical. At this significant life event, it s essential to review the client s retirement planning and take the complexity out of the equation. This article will focus on employment termination payments which can be classed as either life benefit payments (payments to a living person) or death benefit payments (payments on behalf of a deceased employee). It is uncommon for clients to receive an ETP which is a death benefit payment; consequently, this article focuses on life benefit ETPs only. What is included within an ETP? The following payments constitute an ETP: Gratuity or golden handshake. Payments for unused sick leave or unused rostered days off. Severance payments. Compensation payments for wrongful dismissal. Payments in lieu of notice. The following payments do not constitute an ETP and will be taxed differently: Unused long service and annual leave. Capital payments of compensation for personal injury. Payments for restraint of trade. Superannuation benefits. Foreign termination payments. Salary for work already completed. What is a genuine redundancy? According to s of the Income Tax Assessment Act 1997 (ITAA), a genuine redundancy payment is the amount of the ETP that exceeds the amount the individual might be expected to receive if they terminated employment voluntarily. 1

2 In order for the ETP to be classified as a genuine redundancy, all of the following conditions must be satisfied: The individual must have been dismissed before age 65, or if employment would have terminated upon reaching a particular age (eg normal retirement age 65) or completing a period of service before that day. Payment must be no more than what would have been paid in an arms-length situation There is no arrangement entered into between the employer and the employee or the employer and another entity to employ the dismissed employee after the termination. The payment is not in lieu of superannuation benefits. What part of the ETP is taxable? First, calculate the tax-free portion of the ETP. This could result from any combination of the following: Genuine redundancy calculation based on $4,758 for each completed year of service plus $9,514 (based on 2014/15 financial year figures). Invalidity segment 1 of ETP. Pre-July 1983 segment 2 of ETP. The remaining portion of the ETP is the taxable component. What are the rules from 1 July 2012? Before 1 July 2012, a tax offset was available to reduce the tax payable on certain ETPs. The offset reduces tax payable on ETPs to 17 per cent 3 or 32 per cent 3 depending on the age of the recipient. This offset applies to amounts up to the ETP cap which is $185,000 in the 2014/15 financial year and is indexed annually. The Government considered that this offset provided more benefits to high income earners who received large ETPs and were less likely to experience hardship. To address this, the Government has limited the availability of the offset by introducing an additional whole-of-income cap for ETPs. The $180,000 (non-indexed) whole-of-income cap applies to the total income. Total income is defined as the sum of: the individual s taxable income (but not less than zero) in the year they receive the ETP, and the ETP. This whole-of-income cap works in conjunction with the ETP cap. For the 2014/15 financial year, the ETP cap will be $185,000. The rules distinguish between excluded ETPs and non-excluded ETPs. Excluded ETPs continue to have pre-july 2012 taxation treatment and apply to life benefit payments made on: genuine redundancy (or those that would be but for the individual s age) invalidity compensation due to harassment, discrimination or unfair dismissal. Excluded ETPs are taxed on the taxable component according to the table below (for 2014/15 financial year): Recipient s age Under preservation age (currently age 55) on last day of financial year At preservation age or over on last day of financial year Taxable portion of ETP Tax rate Under $185,000 Up to 32% 3 Balance 49% 4 Under $185,000 Up to 17% 3 Balance 49% 4 The tax treatment of non-excluded payments is summarised in the following chart: $180,000 Taxable part of ETP Salary Taxed at 49% 3 Use remaining whole-of-income cap The whole-of-income cap applies only to non-excluded payments. Where the whole-of-income cap applies to the ETP, the cap applicable will be the lesser of: the ETP cap ($185,000), or the amount worked out under the whole-of-income cap. For clients with total income greater than $180,000 (including the ETP), the amount of the ETP above $180,000 will be taxed at 49 per cent 4. That part of the ETP that is less than the $180,000 level may be taxed concessionally depending on the individual s remaining whole-of-income cap. Tip: In most cases, this means that the whole-of-income cap will always be lower than the ETP cap because $180,000 is less than $185,000. However, if the ETP cap has been partially used in a previous year with the same employer then the ETP cap may be lower. 1 s of ITAA s of ITAA Including the 2% Medicare levy 4 Including the 2% Temporary Budget repair levy and 2% Medicare levy 2

3 More information on the ETP cap The ETP cap is reduced by: the amount of any earlier life benefit termination payment received in the same financial year any ETP received in an earlier year in relation to the same termination. Clients may have separate ETP caps for each employer, assuming the termination payments are received in different financial years and are not related to the same termination. Tips: The ETP cap is a separate cap from the low rate cap which is used for lump sum superannuation benefits. (For example, clients who are aged between 55 to 59, and who make a lump sum withdrawal from superannuation upon retirement are using up their low rate cap). Both caps are indexed in the same manner on an annual basis. The whole-of-income cap is refreshed each year. This means it can be used twice or more if necessary. Case study: Adam receives multiple payments from the same employer Adam, age 60, ceases his employment due to retirement in December His taxable income is $100,000 for the 2014/15 financial year and his employer provides an ex-gratia payment of $100,000. The ex-gratia payment is a taxable ETP and it is paid in two instalments: $40,000 paid in December 2014 $60,000 paid in June Questions a Is the above payment an excluded ETP or a non-excluded ETP? b How much is the taxable portion? c How is the taxable portion taxed? Solutions a This payment relates to retirement and is therefore classed as a non-excluded payment. b The total payment of $100,000 represents the taxable component. c These payments are taxed as outlined in the below: $200,000 $20,000 taxed at 49% 4 from the second instalment $180,000 $60,000 ETP Amount within remaining whole-of-income cap of $40,000 from the second instalment: 17% tax rate 3 $40,000 ETP Amount within remaining whole-of-income cap of $100,000 $40,000 from the first instalment: 17% tax rate 3 Adam s ETP was a non-excluded ETP, so the lesser of the two caps applies as follows: His whole-of-income cap is reduced from $180,000 to $80,000 because Adam had earned $100,000 in that income year. Adam s calculated whole-of-income cap of $80,000 is less than his ETP cap of $185,000 (for the 2014/15 financial year) so the calculated whole of income cap is applied to his ETP. The taxation treatment of the instalments is outlined as follows: The first instalment of $40,000 is less than his calculated whole-of-income cap of $80,000. This instalment of the taxable ETP will be taxed at the concessional tax rate of 17 per cent (since Adam has reached his preservation age). The first $40,000 of the second instalment brings the total taxable amounts up to $180,000 being the whole-of-income cap. Therefore, this $40,000 is taxed at 17 per cent. The balance of the second instalment above the whole of income cap is then taxed at 49 per cent. Case study: Linda negatively gears an investment property Linda (age 58) retires on 1 July 2014 with an ex-gratia payment of $220,000. She has negative income of $10,000 for the 2014/15 financial year due to her investment properties. Since she retired on 1 July 2014, she will not receive any employment income for the 2014/15 financial year. Questions a Is the above payment an excluded ETP or a non-excluded ETP? b How much is the taxable portion? c How is the taxable portion taxed? Solutions a This payment relates to an ex-gratia payment and is therefore classed as a non-excluded ETP. b The whole payment of $220,000 represents taxable component. c This payment is taxed according to the chart below: Linda s total income calculation has interesting twist. The $10,000 loss is taken to be zero income and will not reduce the amount of non-excluded ETP. $220,000 $180,000 Part of ETP up to cap Taxed at 49% 4 Taxed at 17% 3 The remaining whole-of-income cap applies Salary 3

4 Since Linda s ETP was a non-excluded ETP, the lesser of the two caps applies as follows: Her whole-of-income cap remains at $180,000 because the $10,000 loss is taken to be zero income. Linda s calculated whole-of-income cap of $180,000 is less than her ETP cap of $185,000; therefore, the calculated whole-of-income cap is applied to her ETP. As Linda is over preservation age, the first $180,000 of the non-excluded ETP is within the $180,000 whole of income cap. This will ensure that the $180,000 is concessionally taxed at 17.0 per cent 3. The balance of the payment is above the $180,000 whole of income cap and is taxed at 49 per cent 4. Case study: Glen receives a mixture of payments including a genuine redundancy Glen (age 66), is made genuinely redundant in June 2014 and receives an immediate termination gratuity of $50,000. This was a set amount that he would have received under his contract when he left his job for any reason (including voluntary resignation). In July 2014, Glen receives a further amount of $150,000 which represents the genuine redundancy portion of his total termination package. Glen s income for the 2013/14 financial year is $140,000. Glen is not planning on working during the 2014/15 financial year, as he will be travelling. Questions a Are the above payments an excluded ETP or a non-excluded ETP? b How much is the taxable portion in each payment? c How is the taxable portion taxed in each payment? Solutions a There is both an excluded ETP and a non-excluded ETP component. The payments can be summarised as follows: Payment date Financial year Amount Type of ETP June /14 $50,000 Non-excluded July /15 $150,000 Excluded b The $50,000 non-excluded payment represents the taxable component for the 2013/14 financial year. The non-excluded payment is taxed as outlined in the chart below: $180,000 $140,000 $50,000 ETP Salary The lesser of the two caps applies to the gratuity as follows: Glen s whole of income cap was reduced from $180,000 to $40,000 because he had earned $140,000 in the 2013/14 financial year. As Glen s calculated whole-ofincome cap of $40,000 was less than his ETP cap of $185,000 (for 2014/15 financial year), the remaining amount of his whole-of-income cap is applied to his ETP. Since Glen s first $40,000 is within his calculated whole-of-income cap of $40,000, this amount will be taxed at the concessional tax rate of 17 per cent (including Medicare levy). The $10,000 balance is taxed at 49 per cent 4 as it represents the amount above the $180,000 whole of income cap. c The $150,000 is paid in the 2014/15 financial year and is taxed as an excluded ETP. Even though Glen has received a payment for genuine redundancy, he is not entitled to a tax-free portion as he is not under age 65. The excluded payment is not subject to the whole-of-income cap. It is taxed as follows: Step 1: Work out the remaining ETP cap first: As $10,000 of Glen s gratuity (paid in 2013/14) used up his ETP cap, his new ETP cap for the 2014/15 year is reduced from $185,000 to $175,000. Step 2: Determine what tax applies: $10,000 taxed at 49% 4 Remaining whole of income cap applies: 17% 3 As the excluded ETP is within the unused ETP cap, the $150,000 is taxed at 17 per cent 3. Important: whilst an individual may benefit from indexation of the ETP cap, the amount previously used up to the ETP cap is not required to be indexed. A genuine redundancy payment is so much of the ETP that exceeds the amount the client might be expected to receive if they terminated employment voluntarily. As Glen would have received the $50,000 if he had resigned voluntarily, that amount cannot be a genuine redundancy payment and cannot be an excluded ETP. 4

5 Strategy considerations for non-excluded ETPs Reduce taxable income In the charts above, salary has been used as a proxy for all other taxable income. Therefore, if you can reduce a client s taxable income for the year using some suggested options below, the client could then reduce tax on their non-excluded ETPs: The definition of the whole-of-income cap does not add back any salary sacrifice to super. By ceasing employment at the beginning of a financial year where other taxable income for the new financial year is not expected to be significant, the client s taxable income may be reduced. Consider making personal deductible contributions to super to reduce the client s taxable income (if applicable). Ensure unused annual leave and long service leave is received in a different year from the main ETP. Consider a negative gearing strategy. However a client cannot create a financial loss to reduce their taxable income to below zero. This was demonstrated within the case study of Linda. Receiving an ETP in the new financial year Where possible, receiving a non-excluded ETP in a new financial year allows the client to benefit from a refreshed $185,000 ETP cap and indexation on the ETP cap. Receiving an ETP in the year of turning 55 This applies to clients who are turning age 55 during an income year. Where possible and for situations where the ETP cap is considered, clients should opt to receive the ETP in the financial year when they will turn age 55, instead of receiving it in an earlier year. This is because the ETP cap begins to be available to individuals who are age 55 on 30 June of the year of payment. Conclusion Employment termination payments are complex and can have wide impacts on a client s financial affairs. Although you may not deal with clients who receive an ETP on a regular basis, when you do, it s essential to provide prompt and accurate advice to clients during this time of uncertainty. 5

6 Deeming and account based pensions By Meg Rennie, Technical Services Manager We have received many questions about this topic and, following a detailed explanation of the rules, we will attempt to address all your questions. If you have a question that isn t covered by this list, please forward it our IOOF TechConnect team for consideration. Deeming on account based pensions will come into effect on 1 January To be subject to the old rules a person must: have commenced an account based pension prior to 1 January 2015; and be in receipt of an income support payment prior to 1 January Section 23(1) of the Social Security Act 1991 (Cth) defines an income support payment as one of: a a social security benefit including any of the following: widow allowance youth allowance austudy payment newstart allowance sickness allowance special benefit partner allowance a mature age allowance under Part 2.12B benefit PP (partnered) parenting allowance (other than non-benefit allowance) b a job search allowance c a social security pension including any of the following: an age pension a disability support pension a wife pension a carer payment a pension PP (single) a sole parent pension a bereavement allowance a widow B pension a mature age partner allowance a special needs pension d a youth training allowance e a service pension f income support supplement. A person on a carer allowance does not qualify. Note that DVA War widow, DVA disability, rent assistance and a holder of a Centrelink/DVA concessional cards doesn t qualify as in being in receipt of income support. This is because a service pension is restricted to the following under section 23(1): a an age service pension under Part III of the Veterans Entitlements Act, or b an invalidity service pension under Part III of the Veterans Entitlements Act, or c a partner service pension under Part III of the Veterans Entitlements Act, or d a carer service pension under Part III of the Veterans Entitlements Act. Your questions answered Q1 If my client is on the Carer Payment, is that going to satisfy the rules come 1/1/2015 (providing that they are in receipt of an account based pension on 1/1/2015)? A1 Yes Q2 If my client is on Newstart Allowance, is that going to satisfy the rules come 1/1/2015? A2 Yes Q3 If I have a client receiving a transition to retirement pension (as of 1/1/2015) and on an income support payment pre 1/1/15 does this satisfy the requirements? A3 Yes, this would satisfy the grandfathering requirements. Q4 Once a TTR pension reverts to an account based pension (when a condition of release is met), is that still considered the same income stream, for purpose of the grandfathering rules? A4 Yes, it s still the same income stream. So, if the client was on a benefit pre 1/1/15 and they move from the TTR to the account based pension they would still have the grandfathered rules apply. 6

7 Q5 I was employing a dual income strategy of an account based pension and an annuity before to ensure that clients had certainty of income in the long term but extra income in the short term. Will this strategy still remain relevant for new clients? A5 Yes and no. The income longevity issue is still addressed with the use of the annuity. Annuities (other than allocated annuities are not captured by deeming under the new rule) However, under the new rules the account based pension will be deemed if commenced after 1/1/2015. The more money that is in the account based pension, the bigger the problem gets. For instance, in an account based pension of $700,000 for a 65 year old woman (who is a member of a couple) the deeming is $23,339 1 whereas the assessable income under the old rules would be $2, This is a difference of $20,716 (ie $23,339 $2,623). The income test results in $ per fortnight under the deeming rules but $ per fortnight under the grandfathered rules 3 (even though it is the assets test that currently applies and overrides the incomes test in both of these instances). Q6 Are there any circumstances where the deeming will actually improve a client s circumstances? It would seem that if a client is drawing significantly more than the Centrelink deductible amount could actually be better off. A6 You are correct. In certain circumstances, if the client is drawing more than the Centrelink deductible amount being deemed may actually work in their favour unless they were to treat the withdrawal as a drawdown on capital rather than income (with future implications as the deductible amount is reduced). Q7 When are the benefits of the old regime the best? A7 When there is an income test problem. This might be when one person already has a defined benefit pension or an overseas pension. Q8 If I have a client receiving a defined benefit pension and on a benefit pre 1/1/2015 does this satisfy the requirements? A8 The new rules only apply to account based pensions not defined pensions. They will continue to be treated the same as before. Q9 If my husband has an account based pension on 1/1/2015, for which I (being the wife) am the reversionary spouse, will the account based pension be deemed if he dies and reverts to me? My husband was on a benefit as at 1/1/2015 and the account based pension was grandfathered at the time. What if I m not on a benefit on 1/1/2015? A9 The reversionary pensioner need not be on a benefit as at 1/1/2015. They only need to be on a benefit from the date of death. Q10 How will the deeming work? A10 The deeming will work in exactly the same way as it has before. For a single person, the first $46,600 will be deemed to be earning 2.0 per cent and the financial investments above that will be deemed at 3.5 per cent. For a couple, the first $77,400 is deemed to be earning 2.0 per cent and financial investments above that will be deemed to be earning 3.5 per cent. Q11 How will account based pensions started after 1/1/2015 be treated for people who are on other benefits like a disability support pension or a carer s payment after 1/1/2015? (that is, if they started their account based pension after then)? A11 All account based pensions will be deemed if they have commenced after 1/1/2015 regardless of what sort of benefit that they are on. However, if someone starts an account-based pension prior to 1/1/2015 and is on either disability support pension or a carer s payment, then their account based pension will be grandfathered. Q12 What do I do if I want my client to have his/her account based pension deemed? A12 For a client who may benefit from the new rules, the client would have to commute their existing pension and commence another account based pension. The client cannot request that an account based pension be treated under the new rules. Q13 Are annuities included in the new deeming rules? A13 Yes, long term superannuation annuities (ie allocated annuities) will be captured and will be counted as financial investments under the new rules. However, long term ordinary money and superannuation based annuities (such as lifetime and term annuities) are still captured under the old rules which means a deductible amount applies to reduce the income/pension payments. Q14 Can I buy an annuity with ordinary money and have the old rules apply? A14 The old rules apply to long term ordinary money annuities. They have a deductible amount. Short term annuities are those which are five years or less where as long term annuities must be those which are greater than five years. Q15 Can I buy an allocated annuity with superannuation and have the new rules apply? A15 The new rules will apply to allocated annuities. Short term annuity treatment (as outlined in question 14) doesn t change it will be deemed. Q16 Is the Centrelink Schedule going to change in any way as a result of this? A16 This is currently being reviewed. 1 Based on deeming rates as at 31 March $700,000 x 5% $700, = $2, Were deeming to apply in April These numbers are also based on the Centrelink pension rates applicable in April

8 Q17 If my client is receiving an account based pension and has nominated his spouse to get a pension by way of binding nomination (but it is not a reversionary pension) will this satisfy the grandfathering rules if he dies? A17 No Q18 How long do they have to be on a benefit for assuming my client has already commenced an income stream? A18 There is no minimum length of time. If their benefit was granted on 27 December 2014 for example, this would mean that your client(s) will be in receipt of an income support payment prior to 1 January 2015 and qualify for grandfathering. Q19 What will happen to my client who is on a disability support pension who intends to go overseas for 10 weeks? A19 They can only continue to receive DSP for four weeks as announced in the recent Federal Budget to commenced from 1 January Q20 Does the six weeks that they are not paid their DSP mean that the grandfathering stops? A20 This can depend on whether or not their DSP is cancelled or the recipient is granted a temporary extension. If the DSP is cancelled then the account based pension will not be grandfathered because a new application will be required. Decisions that have been applied to reduce a recipient's payment and they return to Australia AFTER that reduction, are governed by the 'favourable determination after notification' provisions. This could be because the recipient has been outside Australia for a period and add-ons cease and/or they are proportionalised. In these cases, the date of effect is the date of receipt of the advice, or the date of the event, whichever is later. The situation where a recipient's payment is cancelled CORRECTLY and they return to Australia AFTER that cancellation requires that the recipient lodge a new claim to regain qualification. This could be, for example, because they have been outside Australia for a period. It is also possible that a recipient who has been cancelled on account of their having a limited portability period, had their circumstances been known, would have been granted a discretionary extension. In such cases, the original cancellation would be overturned and the new decision (that portability be extended) applied. Discretionary extensions can be granted in the following circumstances: SSAct section 1218C: if the person or a family member of the person (section 23(14)) is: involved in a serious accident, seriously ill, hospitalised, or the victim of a robbery or serious crime, if the person is: involved in custody proceedings, required to remain overseas in connection with criminal proceedings, other than in respect of a crime alleged to have been committed by the person, unable to return because of war, industrial action, or social or political unrest in which the recipient is not willingly participating, or unable to return because of natural disaster, if a family member dies. Q21 Are the rules exactly the same for SMSFs as they are for retail account based pensions? A21 Yes, although there is one quirk. You can convert a SMSF to a Small APRA Fund whilst an account based pension is in place and it will retain the grandfathering. That is, provided that the account based pension is not commuted and restarted. Q22 Does being on the Low Income Health Care Card or the Seniors Health Care Card prior to 1 January 2015 in addition to the account based pension later ensure grandfathering if one later becomes eligible for the aged pension? A22 No 8

9 Self-managed superannuation fund exit strategies By Julie Steed, Technical Services Manager It is widely known that self-managed superannuation funds (SMSFs) are the fastest growing sector of the superannuation industry. Over the last few years, an average of 30,000 new funds have been established. Whilst the establishment of SMSFs receives much attention, little attention is paid to the other end of the SMSF life cycle when the SMSF is no longer appropriate. In this article, we will review when clients may need an SMSF exit strategy and what alternatives are available. ASIC report on SMSF advice In 2012, the Australian Securities and Investment Commission (ASIC) set up an SMSF taskforce to look at risks in the SMSF sector. In April 2013, ASIC handed down its Report 337 SMSFs: Improving the quality of advice given to investors. The report summarises the findings of ASIC s review into over 100 pieces of SMSF advice provided to investors and identifies a number of practical tips that practitioners can use to improve the quality of the SMSF advice they provide. Whilst ASIC found that the majority of the advice given was adequate, they expressed concern about pockets of poor advice. Some of their areas of concern included SMSF advice with: low balances undiversified portfolios property and borrowing arrangements no insurance recommendations no replacement product disclosure non-disclosure of the lack of access to statutory compensation scheme for theft or fraud no exit strategies. ASIC was particularly focused on the importance of an exit strategy where a portfolio was undiversified. ASIC also released consultation paper CP 216 Advice on self-managed superannuation funds: Specific disclosure requirements and SMSF costs in September 2013 which provided further guidance regarding ASIC s views on best practice advice. Why do clients need an exit strategy? The importance of an exit strategy is often related to the fund s investments. Does the fund have illiquid or indivisible assets that may impact on the ability to make benefit payments? If one or more members dies or is unable to be a trustee, it is important to consider the attitudes and abilities of remaining members. Will the surviving members want to continue the fund? Do they have the necessary skills and interest levels? An SMSF is often a fun and interesting venture when undertaken by a husband and wife but quickly turns to a chore when left to only one. Exit strategy alternatives There are three primary alternatives as an exit strategy for an SMSF: Rollover to a public offer fund. Convert to a small APRA fund (SAF). Meet a condition of release. Each alternative has its place, depending upon what the trigger event for the exit strategy is, what the fund assets are and the attitudes of any remaining members. Rollover to a public offer fund Rolling over to a public offer fund is a capital gains tax (CGT) event whilst in accumulation phase. Any gains will be realised and tax will be payable. If capital losses exist, they will not be able to be carried forward. A CGT event occurs regardless of whether assets are sold down and cash is transferred to the public offer fund or whether assets are transferred in-specie (a common misunderstanding). 9

10 The range of investment options that are available in a public offer fund may also be of significance when choosing an exit strategy. It will be important to compare the existing investments in an SMSF with those available in a public offer fund. If the SMSF has assets that are not able to be accepted, how do the members feel about disposing of the assets? This may be an issue if the SMSF has real property, collectables or shares in private companies. If the SMSF has a residential apartment on the Gold Coast, the SMSF members may be perfectly comfortable in selling the property to facilitate a move to a public offer fund. If, however, the property is business real property that the SMSF members are running the family business from, the sale of the property may be highly undesirable. Another barrier to rolling over to a retail fund may be if the SMSF is paying complying pensions. Very few retail funds will currently accept account-based term allocated pensions, let alone complying lifetime or life expectancy pensions. There may also be social security implications of rolling over pension benefits from an SMSF. For clients who are in receipt of a Centrelink income payment and have an account-based pension prior to 1 January 2015, the new deeming rules will not apply. However, if a member s SMSF pension account is rolled over to a retail fund, the grandfathering will cease. The balance of the account-based pension will then be treated as a financial asset and deemed for the purpose of assessing Centrelink eligibility, which may result in a reduction in age pension. Convert to a small APRA fund An alternative to a public offer fund is to convert the SMSF to a SAF. A SAF is an SMSF with a professional licensed trustee. The professional trustee company manages the fund for the benefit of the members and is responsible for all compliance, regulatory reporting and administration of the fund. Nearly all of the legislative concessions that apply to SMSFs are also available in SAFs, including the ability for members to direct trustees in respect of death benefits and investments. In addition to CGT issues, moving to a SAF may help members who wish to retain particular investments such as a unique shareholding, real property or collectables. Different SAF trustees will have their own rules in respect of allowable assets; however, a SAF will be far more likely to accept a particular asset than a retail or industry fund. Provided that the investments are relatively diversified, it is common for SAFs to allow holdings of real property, private companies and collectables. In a SAF, the investment decisions are directed by each member, the trustee does not generally make investment decisions unless the members fall outside of their elected investment strategy. Even then, the trustee will generally require the members to rectify the situation; stepping in will only be a last resort. A SAF will also be able to continue any complying pension that may exist, both account-based term allocated pensions and complying lifetime or life expectancy pensions. Converting an SMSF to a SAF will also not have any implications for the grandfathering of Centrelink deeming on account-based pensions. Meet a condition of release If the members have met a condition of release, it is possible to simply pay the member benefits and wind up the SMSF. Sufficient funds will need to be retained for wind-up costs and taxes and a final return will be lodged. Naturally, comparing the tax-effective environment of superannuation with other forms of investments needs to be considered, as does the client s ability to return money to superannuation. If clients are ineligible to contribute, then their ability to invest in superannuation is lost. If clients have a higher superannuation balance than they are able to re-contribute then the time taken to return monies to superannuation needs to be considered. There may also be Centrelink implications of cashing benefits from an SMSF. The conversion from an SMSF to a SAF can entirely avoid the imposition of CGT if clients retire as trustees of the fund and appoint the professional licensed trustee. The fund (the tax paying entity) continues uninterrupted and does not dispose of any assets; there is simply a change in trustee. There is no change of tax file number or Australian business number. 10

11 When do clients need an exit strategy? There are a number of trigger events that may lead to clients needing to exit an SMSF including: disqualified persons non-residents loss of capacity lack of interest relationship breakdown of fund members death of a member special estate planning needs. Disqualified persons A disqualified person is an individual who: has been convicted of an offence involving dishonesty is an undischarged bankrupt has been disqualified by a Regulator of a civil penalty. If an SMSF trustee becomes an undischarged bankrupt, they are required to notify the ATO immediately. Alternative arrangements must be made for their SMSF within six months of declaring bankruptcy. If alternative arrangements are not made within this time, the fund will fail the definition of an SMSF and not be eligible for tax concessions. A disqualified person is unable to be a trustee and is, therefore, unable to be a member of an SMSF. There are, however, no legal issues with disqualified persons being members of a public offer fund or a SAF. Residency To be eligible for concessional tax treatment, a superannuation fund must meet the definition of an Australian superannuation fund. If a fund fails to meet the test at any time during an income year, it does not meet the definition of an Australian superannuation fund and is not entitled to tax concessions. A superannuation fund is an Australian superannuation fund if: the fund was established in Australia, or any asset of the fund is situated in Australia, and the central management and control of the fund is ordinarily in Australia, and active members who are Australian residents hold at least 50 per cent of the fund value. There is a two year grace period where the central management and control test can be deemed to have been met, even though the trustees are temporarily outside Australia for a period of up to two years. In a public offer fund or a SAF, the trustee will invariably be a body corporate, incorporated in Australia, with the business of the fund being managed from Australia. As a result, the central management and control test is generally easily met. Active members are members who contribute, or for whom contributions are made, to a fund. For the purpose of the residency test, contributions include rollovers to a fund. In a public offer fund, although there may be a number of non-resident members who contribute, it is rare that those members would hold at least 50 per cent of the fund assets. Accordingly, the active member test is usually not an issue in a public offer fund. In a SAF, however, given that membership is limited to a maximum of four members, the active member test can be an issue. A SAF can only meet the active member test if non-resident members don t contribute (or attempt to rollover a balance into the SAF) or if contributory resident members hold greater than 50 per cent of the fund s assets. Loss of capacity Potential loss of capacity due to dementia or other illnesses is also a source of concern for SMSF trustees. Dementia is projected to increase over four-fold from 245,400 people in 2009 to around 1.13 million people by so these concerns will continue to escalate. If an SMSF trustee loses mental capacity they are unable to continue in the role of trustee and they are, therefore, unable to be a member of an SMSF. There are no legal issues with a person who lacks mental capacity being a member of a public offer fund or a SAF. However, there may be practical impediments to their becoming a member of a public offer fund or a SAF if they do not have an enduring power of attorney. Accordingly, having an enduring power of attorney for SMSF trustees is an essential part of the SMSF establishment process. In addition to loss of capacity, loss of interest can be a driving force behind the requirement for an SMSF exit strategy. Many SMSF trustees are skilled and committed when they commence their journey but may become less interested and able as they age. For SMSF trustees, the residency test is crucial. As the trustee is responsible for the central management and control of a fund, their physical location is particularly important. If an SMSF trustee becomes a non-resident, the fund will generally fail to meet the definition as the high level decisions relating to the fund (the central management and control) will be made wherever the trustees reside. 1 Keeping dementia front of mind: incidence and prevalence Access Economics report August

12 Relationship breakdown In the event of a relationship breakdown between a couple with an SMSF, it is desirable for each person to make their own future superannuation arrangements. Whilst in some relationship breakdowns the former couple maintain a cordial relationship, this is not always the case. Running an SMSF with trustees who are not on good terms is difficult at best. In addition, if a family law split is being made, it is possible to take advantage of the CGT exemptions when moving one of the parties to a SAF or a new SMSF. However, this is generally not available if the family law split is paid to a public offer fund. Death Death is a significant trigger event for a review of the viability of the SMSF. Practitioners are well aware that SMSF trustees are jointly and severally responsible for the running of the SMSF. However in practice, there may be occasions where we find that some trustees are more responsible than others. In the event that a more responsible trustee dies, the remaining trustee may not be willing or able to continue in the role of trustee. The payment of a death benefit is an important issue if indivisible or illiquid assets are involved, or if there are assets such as business real property that the family unit wishes to retain. Special estate planning needs There are a number of estate planning issues that may result in an SMSF no longer being the best superannuation vehicle to achieve a client s goals. In an SMSF, the death of a trustee changes the composition of the trustees and may provide potential for disputes if there are family tensions. Family members who have personality disorders or addictions may cause difficulties for the SMSF trustees who are responsible for paying the death benefit. The use of a SAF or a public offer fund for these circumstances hands over the stress of dealing with particular family members to the independent professional trustee. In an SMSF, it is possible to build safeguards into the trust documentation. However, if one of several feuding beneficiaries has the cheque book, it may take the remaining beneficiaries considerable time and expense to track down the person and the money. SAFs and public offer funds may also provide very tax-effective death benefit pension payments for intellectually disabled adult children. The impediment of the disabled person or their legal personal representative needing to be a trustee of an SMSF is not relevant in a SAF or public offer fund. Conclusion The issue of requiring an exit strategy for SMSF clients may not be front of mind when they are considering establishing their fund, however, there are a number of instances in which one could be required. Taking steps to identify the potential trigger events and various exit strategies that exist will enable practitioners to assist clients in achieving their retirement goals, even when things don t go to plan. 12

13 Legislation update June 2014 The following Bills have received Royal Assent: Legislation Purpose of Act Assent date Social Services and Other Legislation Amendment Act 2014 Tax and Superannuation Laws Amendment (2014 Measures No.1) Act 2014 Tax Laws Amendment (Fairer Taxation of Excess Concessional Contributions) Act 2013 Tax and Super Laws Amendment (Increased Concessional Contributions Cap and Other Measures) Act 2013 Tax Laws Amendment (2013 Measures No. 3) Act 2013 Tax Laws Amendment (2013 Measures No. 2) Act 2013 Social Security Amendment (Supporting more Australians into work) Act 2013 The main features of the Act include the: deeming of account-based pensions from 1 January 2015 change in the length of working residence requirements for those going overseas on a Centrelink age pension continuing the freeze on indexation of the child care rebate continuing the freeze on indexation of the upper income limits for family tax benefits removal of late registration of the pension bonus scheme. This Act includes: the gradual phasing out of the Net Medical Expenses Tax Offset (NMETO) penalties for promoters of Early Release Schemes for superannuation increased powers for the ATO with respect to trustees of self-managed superannuation funds (SMSFs). This Act replaces the penalty tax for excess concessional contributions made from 1 July 2013 with tax to be paid at an individual s marginal tax rate plus an interest charge. This Act implements the following changes: The concessional contribution cap to increase to $35,000 for clients aged 60 and over for 2013/14 and later years for those aged 50 and over Technical changes will be made to ensure the low income superannuation contribution operates effectively. The tax concession for concessionally taxed superannuation contributions of very high income earners to be reduced by 15 per cent. Moving financial planners who provide tax advice into the tax agents licensing regime. This Act: removes the 50 per cent discount on capital gains tax for taxable Australian property accrued after 8 May 2012 by foreign and temporary resident individuals requires certain large entities to pay PAYG instalments monthly rather than quarterly or annually. Increases the income free area from $62 per fortnight to $100 per fortnight from 20 March 2014 for recipients of Newstart allowance, Widow allowance, Partner allowance, Parenting payment (partnered) and Sickness allowance. Received Royal Assent in March 2014 Received Royal Assent in March 2014 Received Royal Assent in July 2013 Received Royal Assent in July 2013 Received Royal Assent in July 2013 Received Royal Assent in July 2013 Received Royal Assent in July 2013 The Bills currently before Parliament are listed below: Legislation Purpose of Act Assent date Social Security Amendment (Caring for People on Newstart) Bill 2014 Social Services and Other Legislation Amendment (Seniors Health Card and Other Measures) Bill 2014 The Bill proposes to: increase Newstart and Youth Allowance by $50pw standardise the indexation arrangements for certain pensions and allowances. The Bill proposes to annually index the thresholds for the Commonwealth Seniors Health Care Card amongst other measures. the Senate on 6 March 2014 the House of Representatives on 27 March

14 IOOF TechConnect: Technical Winter Autumn 2014 Legislation Purpose of Act Assent date Superannuation (Departing Australia Superannuation Payments Tax) Amendment (Temporary Budget Repair Levy) Bill 2014 Superannuation (Excess Non- Concessional Contributions Tax) Amendment (Temporary Budget Repair Levy) Bill 2014 Tax Laws Amendment (Temporary Budget Repair Levy) Bill 2014 Income Tax Rates Amendment (Temporary Budget Repair Levy) Bill 2014 Superannuation (Excess Untaxed Rollover Amounts Tax) Amendment (Temporary Budget Repair Levy) Bill 2014 Fringe Benefits Tax Amendment (Temporary Budget Repair Levy) Bill 2014 Income Tax [TFN Withholding Tax (ESS)] Amendment (Temporary Budget Repair Levy) Bill 2014 Superannuation (Excess Non-concessional Contributions Tax) Amendment (Temporary Budget Repair Levy) Bill 2014 Tax and Superannuation Laws Amendment (2014 Measures No.2) Bill The Bill proposes to increase the tax on Departing Australia Superannuation Payments from 35% to 38% for taxed funds and to 47% for untaxed funds. The Bill proposes to increase the tax on Excess Non-Concessional Contributions by 2% by amending the Superannuation (Excess Non-concessional Contributions Tax) Act It seeks to limit the increase to 95%. The Bill proposes to introduce the temporary Budget repair levy of 2%. It also seeks to avoid the use of deductions to reduce the levy by ensuring that offsets reduce the basic income tax liability first. The Bill proposes to: increase the 45% marginal tax rate to 47% by introducing a 2% levy on all incomes over $180,000 per annum make the operational date 1 July The Bill amends the Superannuation (Excess Untaxed Rollover Amounts Tax) Act 2007 to increase to 49% the rate at which excess untaxed rollover amounts tax is payable on an individual s excess untaxed rollover amounts. The Bill proposes: to increase the fringe benefits tax from 45% to 47% that operational dates would be 1 April 2015 to 1 March 2017 that there will be specific exclusion for public and not-for-profit hospitals, public ambulance services and certain other tax-exempt entities. The Bill proposes to increase the withholding tax where no TFN is quoted to 47%. The full withholding tax will now be 49% (including the Medicare levy.) The Bill proposes to increase the tax on excess NCCs from 45% to 47% plus the Medicare levy for a period of three years from 1 July 2014 The Bill proposes to: increase the Medicare levy low-income threshold amounts for families and the dependent child-student component of the threshold from the 2013/14 financial year limit the ability of taxpayers who obtain additional franking credits as a result of dividend washing to obtain a tax benefit. Passed the House of Representatives on 28 May 2014 the House of Representatives on 13 May 2014 Passed the House of Representatives on 28 May 2014 the House of Representatives on 13 May 2014 the House of Representatives on 13 May 2014 the House of Representatives on 13 May 2014 the House of Representatives on 13 May 2014 the House of Representatives on 13 May 2014 Passed the House of Representatives on 4 June 2014 Find out more For more information on the IOOF TechConnect team or any of the IOOF AdviserConnect services, please speak to your business development or relationship manager, go to or call adviser services: For IOOF Pursuit please call For IOOF Alliances please call For IOOF Employer Super please call This document is for financial adviser use only it is not to be distributed to clients. Issued by IOOF Investment Management Limited (IIML) ABN AFSL IIML is a company within the IOOF group of companies consisting of IOOF Holdings Limited ABN and its related bodies corporate, and is not a registered Tax Agent. Examples contained in this communication are for illustrative purposes only and are based on the assumptions disclosed and the continuance of present laws and our interpretation of them. Whilst every effort has been made to ensure that this information is accurate, current and complete, neither IIML nor its related bodies corporate within the IOOF Group give any warranty of accuracy, reliability or completeness, nor accept any responsibility for any errors or omissions and shall not be liable for any loss or damage in connection with, any use of or reliance on, the information provided. PLA-9153