July 2011 Technical Bulletin Superannuatin cntributins tax ruling Tax deductibility f superannuatin cntributins Wh is impacted? As a result f tax ruling 2010/1 yur clients can n lnger claim a tax deductin fr the full amunt f their cntributins after making a partial withdrawal (rllver r lump sum) frm their superannuatin benefit. Therefre, if yur client wishes t claim a tax deductin fr their superannuatin cntributins yu shuld ensure they prvide a valid tax deductin ntice t their superannuatin fund prir t making any partial withdrawal. Since TR 2010/1 was released in February 2010 many superannuatin funds have been perating under transitinal relief which allwed administrative practices t cntinue and this new apprach t nly apply t superannuatin cntributins made frm 1 July 2011. In brief Purpse f the cntributin ATO Tax Ruling TR 2010/1 prvides the Cmmissiner s interpretatin n the meaning f a superannuatin cntributin and hw and when different types f superannuatin cntributins are made. This ruling als prvides guidance n sme aspects f the deductibility f superannuatin cntributins fr bth individuals and emplyers. This Technical Bulletin will fcus n the fllwing tax deductibility aspects that are utlined in the ruling: Part 1: Deducting cntributins - Invalid tax deductin ntices Part 2: Deducting cntributins - The maximum earnings test Part 3: Deducting emplyer cntributins Befre a cntributin (emplyer r ) will be cnsidered deductible, the ATO requires that the purpse f the cntributin must be made t prvide superannuatin benefits fr a persn r a class f persns and nt fr the tax deductin. The benefit f the tax deductin can nly be a cnsequence r incidental t this sle purpse f making the cntributin in rder t increase the member s retirement benefits. 1
1 - Deducting cntributins - Invalid tax deductin ntices A persn wh intends t claim a tax deductin fr their superannuatin cntributins must give their superannuatin fund a valid tax deductin ntice. The Cmmissiner has stated that a ntice may be given by an agent n behalf f the persn including a legal representative f a deceased persn. Circumstances where a ntice is nt valid include: 1) The persn is n lnger a member f the fund; 2) The superannuatin prvider n lnger hlds the cntributin; r 3) The superannuatin prvider has cmmenced t pay an incme stream based in whle r part n the cntributin. This is nt an exhaustive list and this paper des nt cver all rules regarding claiming tax deductins fr cntributins. Fr further infrmatin refer t: Technical Bulletin: Cntributins: The prcess fr claiming tax deductins fr super cntributins - 2010/11. The ruling prvides the Cmmissiner s view n each f these three areas which we will nw examine in detail. 1) The persn is n lnger a member f the fund This is simply where the member has rlled ver their entire balance t anther fund, r taken their entire balance as a lump sum withdrawal and n lnger has an interest in the fund. 2) The superannuatin prvider n lnger hlds the cntributin cvered by the ntice The Cmmissiner s view is that a superannuatin prvider will n lnger hld all r part f a cntributin if the member has withdrawn part f their superannuatin benefit (as a rllver r cash payment). Fllwing a partial withdrawal, a member cannt prvide a tax deductin ntice fr the entire amunt f their cntributin(s) made prir t the partial withdrawal. The member can nly prvide a valid ntice fr the prprtin f the cntributins that remain in their accunt after the withdrawal. The amunt f the cntributin remaining in the accunt fllwing a partial withdrawal is calculated as: Tax-free cmpnent f x cntributin accunt balance remaining tax-free cmpnent f accunt befre after withdrawal withdrawal The fllwing example is surced directly frm the tax ruling and demnstrates hw the Cmmissiner sees this frmula applying. 2
1 - Deducting cntributins - Invalid tax deductin ntices cnt. Example - valid ntice f intentin t deduct Rachel, wh is 54, has a superannuatin interest valued at $50,000. This interest includes a cntributins segment 1 f $10,000. She makes a $100,000 cntributin in March 2009. The fund recrds this cntributin against the cntributins segment fr Rachel s superannuatin interest which means that amunt wuld be cunted against the tax free cmpnent f any superannuatin benefit paid t Rachel. The value f her superannuatin interest is $150,000. In June 2009, Rachel rlls ver $60,000 leaving her with an interest f $90,000. The $60,000 rll-ver is cmprised f a $44,000 tax free cmpnent and a $16,000 taxable cmpnent. The tax free cmpnent f the rll-ver is wrked ut as fllws: Rll-ver amunt x Tax free cmpnent f interest befre rll-ver/value f the superannuatin interest befre rll-ver = $60,000 x $110,000/$150,000 = $44,000 The tax free cmpnent f the remaining superannuatin interest is $66,000. Rachel then ldges a ntice in September 2009 advising that she intends t claim a deductin fr the $100,000 cntributin made in the 2008-09 incme year. That ntice is nt valid. Rachel s superannuatin fund n lnger hlds the entire $100,000 cntributin. Rachel culd give a valid deductin ntice fr an amunt up t $60,000. That amunt is wrked ut as fllws: Tax free cmpnent f remaining interest x Cntributin/Tax free cmpnent f interest befre rll-ver = $66,000 x $100,000/$110,000 = $60,000 Due t the prir rllver, Rachel was nly able t claim a maximum f $60,000 even thugh she had cntributed $100,000 t superannuatin. (Surce: Example 10 frm TR 2010/1) The ATO s view Despite being different t the traditinal industry view, the Cmmissiner cnsiders that this revised apprach is cnsistent with the integrity f the rules that determine hw superannuatin benefits are taxed. Under tax law, the tax free amunt f a superannuatin benefit payment is determined by a prprtining rule. The tax free prprtin f any payment is based n the prprtin that the ttal tax free cmpnent makes up f the ttal benefit just befre the payment is made. Persnal cntributins frm part f the tax free cmpnent within the fund. When a member prvides a tax deductin ntice t a superannuatin fund the amunt f the cntributins intended t be claimed as a deductin are changed frm a tax free cmpnent t taxable cmpnent within the fund. The ATO stated that the deductin ntice cvering all r part f the cntributin will be invalid if a partial withdrawal is taken because the tax free amunt f that withdrawal will be inflated and larger than it wuld have been if the ntice was prvided prir t the withdrawal. That is, thrugh the prprtining rule, these cntributins still frm part f the tax free cmpnent and wuld have been included in determining the partial withdrawal. 1 The cntributins segment is defined in s307-220 Incme Tax Assessment Act 1997. It includes cntributins frm 1 July 2007 which d nt frm part f the assessable incme f the super fund including after-tax cntributins, gvernment c-cntributins, spuse cntributins and any tax free amunts that have been rlled int the plan since 1 July 2007. 3
1 - Deducting cntributins - Invalid tax deductin ntices cnt. 3) All r part f the cntributin cvered by the ntice is used t cmmence an incme stream The Cmmissiner s view is that an incme stream is based in whle r part n the cntributin if it is cmmenced frm the superannuatin interest t which the cntributin was made. This means that after a member uses any amunt f their accumulatin superannuatin benefit t cmmence a pensin within the same superannuatin fund 2 they will nt be able t prvide a valid tax deductin ntice fr any cntributins previusly made t the fund. The Cmmissiner cnsiders this view is als cnsistent with the integrity f the prprtining rule used t determine tax cmpnents f superannuatin benefits (explained abve). Allwing cntributins t be deductible after part r all f these cntributins are used t cmmence an incme stream wuld als result in an inflated tax free prprtin applying t the life f that incme stream. The fllwing example demnstrates hw this rule applies. Example invalid ntice f intentin t deduct Claudine is 62 and makes $40,000 in cntributins in the 2009/10 financial year t her super fund. She is self-emplyed and wishes t claim a full tax deductin f $40,000. In August 2010, Claudine retires and cmmences a pensin with the same prvider, using the $140,000 f her $200,000 superannuatin accunt. In September 2010 she prvides a ntice t her super fund t claim a tax deductin fr $40,000. Her super fund advises this request is invalid as the trustee has begun t pay an incme stream based in whle r part n the cntributin. Claudine has lst the pprtunity t claim a tax deductin fr these cntributins. If Claudine had rlled ver the $140,000 t anther fund prir t cmmencing the pensin, the utcme wuld be different. While Claudine wuld still nt be able t claim the full $40,000 as a tax deductin, she wuld be able t claim part f this amunt. The tax free cmpnent f the rll-ver is wrked ut as fllws: Rll-ver amunt x Tax free cmpnent f interest befre rll-ver/value f the superannuatin interest befre rll-ver = $140,000 x $40,000/$200,000 = $28,000 The tax free cmpnent f the remaining superannuatin interest is $12,000 ($40,000 - $28,000). Therefre had Claudine rlled ver part f her benefit t anther fund instead f using a prtin f it t cmmence an incme stream then she wuld be able t submit a valid tax deductin ntice fr $12,000, prvided she meets all the ther criteria. 2 - Deducting cntributins - The maximum earnings test In general, after-tax cntributins are nly deductible fr thse wh are self emplyed, thse wh are nt emplyed r thse wh are emplyed but are able t meet the maximum earnings test, cmmnly referred t as the 10% test. 2 A superannuatin fund may include mre than ne prduct therefre after an individual uses all r part f their superannuatin benefit t cmmence a pensin within the same prduct, r a different prduct within the same superannuatin fund, cannt prvide a tax deductin ntice fr cntributins made prir t the cmmencement f the pensin. 4
2 - Deducting cntributins - The maximum earnings test cnt. Where the persn engages in any emplyment activity in the incme year a deductin can be claimed where the ttal incme 3 they earn as an emplyee is less than 10% f their ttal incme 3 frm all surces fr the incme year in which the cntributin is made. All amunts that are attributable t the emplyment activity are taken int accunt as assessable incme in the 10% test. These include: salary r wages; allwances and ther payments earned by an emplyee; ther payments, such as cmmissin, directr s remuneratin and cntract payments, that are treated as salary r wages by sectin 11 f the SGAA fr thse persns wh engage in an emplyment activity in a capacity ther than a cmmn law emplyee; payments received n terminatin f emplyment including accrued leave and emplyment terminatin payments; and wrkers cmpensatin and like payments made because f injury r illness received by a persn while hlding the emplyment, ffice r appintment, the perfrmance f which gave rise t the entitlement t the cmpensatin payments. Emplyment activity need nt be an activity in Australia hwever, if incme attributable t verseas emplyment incme is nn-assessable in Australia then it will nt be cunted twards the maximum earnings test. This needs t be distinguished frm emplyment activities where the persn is an Australian resident and where the incme is assessable in Australia. 3 - Deducting emplyer cntributins General rule (sectin 290-70 f ITAA 1997): Fr an emplyer t be eligible t claim a tax deductin fr superannuatin cntributins: 1) The cntributins must be made fr an emplyee; 2) The emplyee must satisfy the emplyment activity cnditins; and 3) The cntributin must be made t prvide superannuatin benefits fr an emplyee (r a class f emplyees). Therefre the emplyee must be a member f the fund when the cntributin is made. 1) The cntributins must be made fr an emplyee An emplyer can claim a deductin fr a cntributin made t prvide superannuatin benefits fr anther persn wh is an emplyee at the time the cntributin is made. An emplyee is an emplyee under cmmn law and any ther persn wh is treated as an emplyee because f sectin 12 f the SGAA 4. 3 Ttal incme = assessable incme + reprtable fringe benefits ttal + reprtable emplyer superannuatin cntributins. Reprtable fringe benefits ttal is the value f certain fringe benefits prvided t an individual r their assciates frm the individual s emplyer which exceed $2,000 in an FBT year. Reprtable fringe benefits are the grssed up taxable value f these benefits that appear n an individual s payment summary fr the crrespnding financial year. Reprtable emplyer superannuatin cntributins (RESC) are generally salary sacrifice cntributins. They are all emplyer cntributins the emplyee culd have chsen t receive as salary and wages rather than superannuatin cntributins. RESC specifically excludes superannuatin guarantee payments and mandated emplyer cntributins. 4 Superannuatin Guarantee (Administratin) Act 1993. In general, sectin 12 extends the term emplyee under cmmn law and includes members f a bard f directrs, persns emplyed under a cntract and Gvernment wrkers. 5
3 - Deducting emplyer cntributins cnt. Treating frmer emplyees as an emplyee Cntributins made fr frmer emplyees are deductible in certain circumstances. The emplyer can deduct a cntributin if it relates t a perid f service where the member was an emplyee and the cntributin is made within 4 mnths after terminatin f their emplyment. This deductin is als allwed where the cntributin is made t reduce the emplyer s Superannuatin Guarantee (SG) charge bligatin fr the frmer emplyee. Cntributins exceeding the emplyer s SG charge bligatin will nt be deductible. In additin, a cntributin made in lieu f salary r wages (ie salary sacrifice cntributins) fr a frmer emplyee is deductible where the payment relates t the frmer emplyee s perid f service. The cntributin must be a ne ff payment fllwing an effective salary sacrifice agreement and shuld reflect the nrmal cntributins fr the emplyee just befre they ceased emplyment. Cntrlling interest deductins A deductin can be claimed fr cntributins fr anther persn wh, when the cntributin is made, is an emplyee f a cmpany in which they have a cntrlling interest. Example - cntrlling interest deductin Henry is a wrking directr and sharehlder f a private cmpany in which he hlds a 75% sharehlder vte. As Henry has a cntrlling interest in the cmpany, he culd chse t: A) cntribute n behalf f the cmpany s emplyees; r B) have his cmpany cntribute n behalf f the emplyees If he cntributes ly, then he can claim the tax deductin fr the cntributin. If the cmpany cntributes then the cmpany wuld be entitled t claim a deductin fr thse cntributins. 2) The emplyee must satisfy the emplyment activity cnditins Fr a cntributin t be deductible, the emplyee must satisfy the emplyment activity cnditins. This requires them t be either: Engaged 5 in prducing the emplyer s assessable incme; r an Australian resident 6 wh is engaged in the emplyer s business. 3) The cntributin must prvide superannuatin benefits fr an emplyee Fr a cntributin t be cnsidered t prvide superannuatin benefits fr an emplyee, that emplyee must be a member f the superannuatin fund when the cntributin is made. In certain circumstances (eg a new emplyee), this requirement will be satisfied if the emplyee becmes a member f the fund in due curse and the cntributin is prperly allcated t the emplyee. 5 The term engaged means t be busy, ccupied r invlved and under an engagement means under an bligatin r agreement. 6 Resident f Australia fr tax purpses. 6
Tips and traps Fr thse eligible t claim a deductin fr a cntributin t superannuatin: Firstly, fr a cntributin t be deductible, the purpse f the cntributin must be slely t prvide superannuatin benefits fr the cntributr and nt fr the benefit f the tax deductin. The tax deductin itself must be incidental. Thse wh wish t claim a tax deductin fr their superannuatin cntributins shuld cnsider : prviding a tax deductin ntice prir t making any withdrawal (including a partial withdrawal) r prir t cmmencing an incme stream, therwise their ability t claim a deductin fr all f their cntributins may be lst; estimating what their assessable incme will be, as they will nt be able t claim a tax deductin fr mre than their assessable incme in any given financial year; delaying any withdrawal frm superannuatin until they knw, with certainty, whether they will be able t claim a tax deductin and/r the size f the deductin that will be claimed. This will then allw them t assess the impact this decisin will have n their cntributins caps. It is imprtant t remember that claiming a tax deductin fr all cntributins made t superannuatin may nt be the best strategy. Fr example: where claiming a tax deductin fr all cntributins t superannuatin will result in taxable incme falling belw $15,000. N tax is payable n the first $15,000 f incme when yu take int accunt the lw incme tax ffset. Therefre, reducing the clients taxable incme belw this level will result in the client paying mre tax verall, when yu take int accunt cntributins tax; where a larger benefit wuld be gained frm receipt f a Gvernment C-cntributins, then frm a tax deductin. Generally thse with assessable incme, reprtable fringe benefits and RESC f less than $54,408 will be better ff receiving a c-cntributin n up t the first $1,000 they cntribute t superannuatin. Fr mre infrmatin n this refer t Strategy Paper: Super C-cntributin fr emplyees. Thse wh wish t claim a tax deductin fr their superannuatin cntributins shuld remember that the amunt claimed as a tax deductin will cunt twards the cncessinal cntributins cap, and the balance, if any, will cunt twards the nncncessinal cntributins cap. Additinally, any amunt in excess n the cncessinal cntributins cap will cunt against the nncncessinal cntributins cap. Breaching either cap will result in an additinal tax liability. The 10% r maximum earnings test If yur client is subject t the maximum earnings test yu shuld perfrm an incme assessment befre yur client makes cntributins t superannuatin t ensure that they will meet the 10% (r maximum earnings) test and will be eligible t claim a tax deductin at year end. Alternatively, the cntributin culd be deferred and made clser t year end where mre certainty arises; The maximum earnings test is nly applied where yur client is engaged in emplyment activities in the financial year in which the deductin is claimed. Care needs t be taken if they are nt attending wrk but are still emplyed at any time in that financial year. Fr example, thse in receipt f wrkers cmpensatin are generally cnsidered t be engaged in emplyment; 7
Tips and traps cnt. Fr thse that were engaged in emplyment activities in that year but had terminated emplyment, care needs t be taken t factr in any additinal emplyer payments received such as emplyment terminatin payments and accrued leave entitlements; A nn-resident with Australian surced incme that is nt attributable t emplyment activities, fr example a persn wh derives rental incme frm direct prperty in Australia, is able t claim a deductin fr a cntributin t made t an Australian superannuatin fund t ffset this Australian surced assessable incme. Fr emplyers able t claim a deductin fr emplyees: It is cmmn fr an emplyer t make a superannuatin cntributin fr a new emplyee wh is nt yet a member f the fund. Althugh the ATO accepts that the cntributin is made fr an emplyee if the emplyee becmes a member f the fund in due curse an emplyer shuld ensure that they submit their emplyee s applicatin n later than the same day as the cntributin. Legislative references Incme Tax Assessment Act 1997 Subdivisin 290-B Deductin f emplyer cntributins and ther emplyment cnnected cntributins Subdivisin 290-C Deducting cntributins Taxatin Rulings Incme Tax: Superannuatin cntributins (TR 2010/1) FOR GENERAL INFORMATION ONLY This infrmatin has been prepared by BT Funds Management Ltd ABN 63 002916 458. It is prvided slely fr the general infrmatin f external financial advisers and must nt be relied n as a substitute fr legal, tax r ther prfessinal advice. Further, it must nt be cpied, used, reprduced r therwise distributed r circulated t any retail client r ther party. The infrmatin is given in gd faith and has been derived frm surces believed t be accurate at its issue date. Hwever, it shuld nt be cnsidered a cmprehensive statement n any matter nr relied upn as such. BT Funds Management Ltd (including its related entities, emplyees and directrs) des nt give any warranty f reliability r accuracy r accept any respnsibility arising in any way including by reasn f negligence fr errrs r missins in the infrmatin. 8