Super concessional contributions: 2010/2011 survival guide

Superannuation contributions can be divided into two types — concessional (before-tax) and non-concessional (after-tax). Each type of super contribution is subject to a contributions cap (see table below). A contributions cap sets a limit on the amount of contributions you can make in any one year. If you exceed the cap, your excess contributions are likely to be subject to penalty tax.

In a retrograde step for Australian super savers, the contributions cap for concessional (before tax) contributions was halved to $25,000 for under-50s, from the 2009/2010 year (previously $50,000, and had been set to increase to $55,000), and remains at $25,000 for the 2010/11 year. The $25,000 cap is unlikely to increase for the next few years, due to the silly indexation rules applicable to the contributions caps.

The transitional concessional cap (applicable for those 50 years and over), was halved to $50,000 from 2009/2010 year and remains at $50,000 for the 2010/2011 year. Under the current laws, the transitional cap will revert to $25,000 from the 2012/2013 financial year, although the Labor Government has announced that it intends to permanently retain the $50,000 cap for over-50s, subject to some strict conditions (for more information on this prospective change see article Over-50s contributions cap of $50,000 now permanent, for some).

The halving of the concessional caps (and the dodgy indexation policy for deciding when to increase the caps) has had a flow-on effect for the non-concessional (after-tax) contributions cap. The after-tax contributions cap will remain at $150,000 for another year, and going forward will be indexed in line with increases in the concessional cap – six times the level of the (indexed) concessional cap. As a consequence, the after-tax cap won’t increase for the next few years either. I discuss the rules applicable to non-concessional contributions in my article, Your 2010/11 guide to non-concessional (after-tax) contributions.

*If you’re aged 65 or over, you must satisfy a work test to make super contributions. You cannot make super contributions beyond the age of 74.

**Transitional provisions in place (until June 30, 2012) for anyone aged 50 or over on or after July 1, 2007. The existing law states that from July 1, 2012, the contributions cap for all age groups is $25,000 plus any $5000 increments to the $25,000 limit due to indexation since July 1, 2009. Note that the Government has announced that the $50,000 (indexed) limit will remain in place for Australians who have less than $500,000 in their super account (yet to be legislated – see Over-50s contributions caps of $50,000 now permanent, for some).

Despite these silly changes to the contribution caps, Australians can still make the most of the tax incentives associated with the super system by making regular contributions. Here’s the rundown on how rules applicable to concessional contributions operate, and some tips on what to consider when making contributions.

What is counted as a concessional contribution?

Concessional contributions, also known as before-tax contributions, include your employer’s compulsory Superannuation Guarantee contributions, and any salary sacrificed contributions that you arrange for your employer to deduct from your before-tax salary.

If you’re self-employed, or not employed, or you only receive a small proportion of your income from an employer (the 10% rule), then you can make concessional contributions that you claim as a tax deduction in your individual tax return. You must lodge a notice of intention to claim a tax deduction with your super fund.

Note: You need to be mindful of your concessional cap of $25,000 (or $50,000 if aged 50 or over), when considering any salary sacrifice strategy. Your employer’s SG contributions count towards the cap, which means that anyone making additional contributions under a salary sacrifice arrangement needs to check that they don’t exceed the concessional contributions cap in place for the 2010/2011 year.

How are concessional contributions treated tax-wise?

Concessional (before-tax) contributions are hit with a contributions tax of 15 per cent, which means making such contributions is only tax effective if you pay more than 15 cents in the dollar tax on your personal income. The employer claims a tax deduction when making SG contributions or when making contributions under a salary sacrifice arrangement. An individual using a salary sacrificing arrangement benefits tax-wise by paying less tax on the reduced personal income (although the contributions are subject to 15% tax within the fund).

If an individual intending to make the concessional contributions is not an employee, then he or she can claim a tax deduction for those contributions in his or her tax return.

Note: For the 2010/2011 year, if you pay less than 15 cents in the dollar in income tax, that is your taxable income is less than $37,000, then concessional contributions may not be the most tax effective option to save for retirement. Individuals paying less than 15 cents in the dollar are usually better off making after-tax super contributions (see separate article: Your 2010/11 guide to non-concessional (after-tax) contributions).

TFN alert: If your super fund doesn’t have your tax file number, your concessional (before-tax) contributions, including SG contributions, are subject to an additional tax of 31.5 per cent, which means you end up paying 46.5% tax on your concessional contributions. That would be a pointless exercise!

What if I exceed my concessional contributions cap?

The risk of exceeding the concessional cap is much greater since the concessional cap was halved from July 2009, and the opportunities to contribute greater amounts later in life more limited.

If you exceed your concessional cap, then the excess concessional contributions are hit with penalty tax of 31.5%, in addition to the 15% tax payable on contribution. The excess concessional contributions also count towards your non-concessional (after-tax) cap.

Okay, that’s the theory, how do the rules work in real life?

Let’s look at two individuals — Robert (age 46) and Joan (age 61).

Robert: Robert is 46 and earns $85,000 plus his employer’s SG contributions (total package of $92,650). Robert was planning to salary sacrifice $25,000 and make the most of his contributions cap. Ah, but what about Robert’s employer contributions of $7,650? If Robert proceeds with his strategy he will exceed his cap by $7,650. Any excess contributions above his cap of $25,000 will be subject to 15% contributions tax PLUS 31.5% excess contributions tax. Assuming Robert doesn’t want to pay excess tax, the maximum that he can salary sacrifice for the 2010/2011 year is $17,350, after allowing for his employer’s SG contributions of $7,650.

More precisely, Robert can make before-tax contributions in excess of his $25,000 cap, but if he does, then the excess contributions are hit with penalty tax of 31.5%, in addition to the 15% tax payable on contribution.

Joan: Joan is 61 and earns $120,000 a year running her own fashion business. She also receives income from a transition-to-retirement pension (TRIP). A popular strategy for many over-55s is to take a TRIP which enables you to access your super benefits while you’re still working, and then continue contributing to your super fund. The benefits of such a strategy mean the following:

• if you’re aged 60 or over, you receive tax-free pension payments (if 60 or over), or
• if you’re under the age of 60, you receive concessional taxed pension payments, and
• you can then reduce taxable employment income by entering into a salary sacrificing arrangement, or, if self-employed, by making tax-deductible super contributions.

Before the Government halved the over-50s contributions cap (from $100,000 to $50,000 from July 2009), Joan salary-sacrificed $100,000 (the cap in place before the Government halved the limit) into her super fund, and withdrew tax-free pension payments from her TRIP to replace the employment income (adjusted for the tax that would have been deducted), thereby reducing her tax bill while boosting her super account.

Unfortunately, the cut in her concessional cap to $50,000 (for over-50s) means that Joan has to rethink her TRIP and concessional contribution strategy. She can still use the strategy but the mix of pension income and business income will need to be adjusted.

Ten tips when making super contributions

If you’re under the age of 65, you don’t have to be working to make super contributions. If you’re aged 65 or over, however, you must satisfy a work test to make super contributions. I explain the work test and the other contribution rules for over-65s in my article: For over-65s: Ten super tips when making contributions.

Related articles:

1. Your 2010/2011 guide to non-concessional (after-tax) contributions
2. Making super contributions: cracking concessional cap means more tax
3. Concessional contributions: SG and public servants
4. Super tax alert: Have you counted your super contributions lately?
5. Cashing in on the co-contribution rules (2010/2011 year)