Important! From 1 July 2017, the fund earnings on assets financing a transition-to-retirement pension (TRIP) will no longer be exempt from earnings tax. From 1 July 2017, a TRIP is no longer considered to be in pension phase. Superannuation changes creating this law passed both houses of parliament on 23 November 2016 (and received royal assent on 29 November 2016).
On 3 May 2016, in the 2016 Federal Budget, the Coalition (Liberal/Nationals) government announced that, from 1 July 2017, it intended to remove the tax exemption on pension fund earnings financing a transition-to-retirement pension (TRIP). The removal of the tax exemption is now law and applies to existing and new TRIPs from 1 July 2017.
With the removal of the tax exemption on the earnings of TRIPs, you can expect a TRIP will be a lot less popular with older Australians. For those Australians who have already started a TRIP, the change is certainly retrospective. Most Australians currently receiving a TRIP will now need to review such an arrangement to decide whether such a strategy is still financially viable from July 2017.
Further, anyone continuing a TRIP beyond 30 June 2017 will need to review administration requirements and any potential capital gains tax relief (if applicable – more on this later in the article) in the transition from pension phase to accumulation phase. For others, the possibility of retiring and moving to a regular account-based pension may be a consideration.
I expect many TRIPs to cease and revert to accumulation phase. Alternatively, some Australians may do the numbers and choose to retire earlier than planned to retain the tax exemption on pension earnings.
Why were TRIPs so popular?
The idea of working full-time one day and retiring the following day is fast becoming a trend of the past. Many Australians are experimenting with different versions of retirement, such as working fewer hours or changing careers. A popular option for those seeking a flexible retirement involves starting a transition-to-retirement pension (or TRIP). A TRIP typically involves replacing taxable employment income with concessionally taxed income sourced from a superannuation pension (although there will be no tax-exempt pension earnings from 1 July 2017).
TRIPs are an innovative superannuation policy that has facilitated a more gradual entry into retirement for Australians. Until 30 June 2017, one of the key reasons why TRIPs are compelling is that you can access your super savings without retiring from work, while also benefiting from the tax advantages associated with superannuation pensions.
Until 30 June 2017, the three most common variations of a TRIP involve:
- continuing work as usual, but boosting income with concessionally taxed super pension income (from July 2017, the earnings on such a pension will be subject to 15% earnings tax, rather than be tax-exempt)
- working fewer hours but maintaining the previous lifestyle by supplementing that lower work income with concessionally taxed super pension income (from July 2017, the earnings on such a pension will be subject to 15% earnings tax, rather than be tax-exempt)
- salary sacrificing into a super account to reduce taxable income, while also growing the super account with the added benefit of tax-exempt pension earnings, while receiving a TRIP paying concessionally taxed super benefits. (From July 2017, earnings on transition-to-retirement pensions will be subject to 15% earnings tax, rather than be exempt from tax.)
This third, and most popular TRIP strategy can help you cut your annual income tax bill, while also boosting your superannuation account (until 30 June 2017). The drop in disposable income through salary sacrificing, is fully or partially replaced by pension payments sourced from the TRIP (where earnings on TRIP assets are not taxed until 30 June 2017. I explain this option later in the article.
How do the current TRIP rules work?
Until 30 June 2017, a TRIP can provide a lot of flexibility depending on your age, your income, how much super you have, and how much tax you currently pay.
By starting a superannuation pension, such as a TRIP, the earnings on the TRIP account are exempt from tax (until 30 June 2017), which means more money is retained in the pension account for your retirement. The taxable component of super benefits paid out from the pension account to the fund member are eligible for a 15% pension rebate (for fund members under the age of 60), or are tax-free (for members aged 60 years or over). If the pension benefit includes a tax-free component, then this portion of the benefit payment is tax-free regardless of the age of the member.
Anyone considering taking a TRIP must have reached preservation age. If you were born before 1 July 1960, then your preservation age is 55 years. If you were born on or after 1 July 1960, then your preservation age is at least 56 years, and if you were born on or after 1 July 1961, then your preservation age is at least 57 years. If you were born after June 1964, your preservation age is 60 years. For more information on your preservation age see SuperGuide article Accessing super: What is my preservation age?
You must withdraw no more than 10 per cent of your transition-to-retirement pension account balance (as at 1 July) each financial year, and you must withdraw at least 4 per cent of your account balance each financial year.
Generally, you cannot convert your TRIP into a lump sum unless you retire, turn 65 or satisfy another condition of release. The restriction on taking lump sums means that the TRIP is non-commutable, that is, the fund member is not permitted to take a lump sum, or otherwise access the balance of the transition-to-retirement pension account.
The one exception to the non-commutable rule is when the fund member has some unrestricted non-preserved benefits in the TRIP account. You may have these types of benefits if you were a fund member before July 1999. If so, these benefits are not preserved and can be accessed as a lump sum from the TRIP account, without breaking the TRIP rules. Until 30 June 2017, the lump sum amount counts towards the minimum pension payment amount required to be paid each year, but it does not count towards the 10 per cent maximum payment limit. Note that the Coalition government has now changed the laws so that the option of treating a pension payment as a lump sum is no longer possible.
Note: The TRIP account must also be kept separate from the superannuation account that accepts contributions for the fund member.
What are the current tax benefits of a TRIP?
Apart from those Australians seeking to gradually transition into retirement, a popular TRIP strategy is to: use a salary sacrifice arrangement when making super contributions into your super fund, up to your concessional contributions cap (after also allowing for your employer’s Superannuation Guarantee contributions), while replacing part, or all, of your sacrificed income, with pension payments from a TRIP.
For example, Gerald is 57 and earns $120,000 a year plus super. He has $200,000 in a super account. He starts a TRIP with his super benefits (see table below), which means he must withdraw at least $8,000 from his pension account each year. Gerald has decided he wants to take full advantage of his concessional contributions cap of $35,000 for the 2016/2017 year (applicable to anyone aged 49 years or over as at 30 June 2016).
Gerald salary sacrifices $23,600, in addition to his employer’s 9.5 per cent Superannuation Guarantee contributions of $11,400, taking total concessional contributions to $35,000. By salary sacrificing and receiving TRIP income of $8,000, Gerald’s taxable income drops from $120,000 to $104,400. He also receives a 15 per cent tax rebate of $1,200 on his TRIP income.
By salary sacrificing and starting a TRIP, Gerald receives a lower after-tax income, but accumulates a much larger superannuation benefit. He pays around $6,100 less in income tax and Medicare levy (but about $3,500 more in super contributions tax), and increases his super account at the end of the year by $14,000 more than if he hadn’t used the TRIP strategy. If Gerald was aged 60 years or over, he could roughly save a further $2,000 in income tax and Medicare levy, or more specifically, $1,920.
Note: The tax exemption on pension earnings for TRIPs will be removed, effective from July 2017. The last column in the table illustrates the impact of the removal of the tax exemption on TRIP investment earnings PLUS the drop in the contributions cap from $35,000 to $25,000 (taking effect from 1 July 2017).
Post-July 2017 outcome: From 1 July 2017, because of the removal of the tax exemption on TRIP fund earnings AND the drop in the concessional contributions cap, if Gerald continues the TRIP and salary sacrifices into his super account, Gerald’s income tax bill will increase by $3,900 (compared with 2016/2017 year strategy) because he can only make concessional contributions up to $25,000 (including SG contributions). Further, although a TRIP is no longer considered a superannuation income stream in retirement phase, Gerald will still retain the 15% pension tax offset. His super account will drop by $10,600 (compared with 2016/2017 year strategy), because the concessional contributions cap has dropped, and he loses the tax exemption on fund earnings. The strategy effectively becomes a plain vanilla salary sacrifice strategy (but with a $1,200 tax benefit from the 15% pension tax offset), although a larger super account (compared with not salary sacrificing) does mean a greater amount of savings subject to 15% earnings tax, rather than having earnings subject to personal income tax rate.
15% pension tax offset remains in place: According to an ATO spokesperson: “From 1 July 2017, the earnings from assets supporting a transition to retirement income stream (TRIS) [TRIP] will no longer be subject to an earnings tax exemption, i.e. will no longer be exempt current pension income. The change is only in relation to the tax treatment at the super fund level – there has been no change to the tax treatment of a TRIS benefit paid to an individual member. Therefore there are no changes to the way tax offsets operate for the individual receiving the TRIS payment. A TRIS [TRIP] will continue to meet the definition of a superannuation income stream in the Income Tax Assessment Act 1997 (ITAA), however it will not be a superannuation income stream in the retirement phase under the new section 307-80(3)(a) of the ITAA.”
Gerald’s TRIP and salary sacrifice strategy (age 57)
|Current position||TRIP and salary sacrifice||TRIP and salary sacrifice from 1 July 2017|
|Income tax payable||($32,032)||($26,260)||($29,960)|
|Medicare levy payable||($2,400)||($2,088)||($2,288)|
|Total tax and levy payable||($34,432)||($28,348)||($32,248)|
|Add 15% pension rebate||–||$1,200||$1,200|
|After-tax and after-levy income||$85,568||$77,252||$83,352|
|Gerald’s super savings|
|Less contributions tax||($1,710)||($5,250)||($3,750)|
|Investment return (7%) on opening account balance of $200,000||$14,000||$14,000||$14,000|
|Less Investment tax (15%)||($2,100)||–||($2,100)|
|Net increase in super account||$21,590||$35,750||$25,150|
Table source: Figures calculated by Trish Power, and are for the purposes of illustration only. Anyone considering the tax-effectiveness, or otherwise, of a TRIP and salary sacrificing strategy should seek tax advice.
For more information on how TRIPs work, and what the July 2017 changes mean for current TRIPs, see the following SuperGuide articles:
- Super pensions: Reviewing the merits of keeping a TRIP
- TRIPs: 10 interesting facts about transition-to-retirement pensions
- Transition-to-retirement pension (case studies): How does a TRIP work?
- Transition-to-retirement pension: Can I work full-time and what form do I fill in?
For information on the other 2016 Federal Budget superannuation announcements, including capital gains tax relief, see the following SuperGuide articles:
- Super changes (July 2017): Planning ahead for the 2017/2018 year
- CGT relief and the $1.6 million transfer balance cap, and TRIPs
For ATO guidance on CGT relief and TRIPs
For ATO guidance on CGT relief and TRIPs, see the ATO Law Companion Guideline, LCG2016/8 Superannuation reform: transfer balance cap and transition to retirement transitional CGT relief for superannuation funds