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- How do the transfer balance cap rules work?
- Does this mean I can’t have more than $1.6 million in super?
- What is a transfer balance account?
- What counts towards the cap?
- What happens if I breach the transfer balance cap?
- What happens when the transfer balance cap increases to $1.7 million?
- How does the transfer balance cap relate to SMSFs, death and defined benefit members?
One of the most significant changes to superannuation – the introduction of the $1.6 million transfer balance cap – became effective on 1 July 2017. The Australian Taxation Office (ATO) estimates the changes will impact only 1% of Australian superannuants, however that 1% needs to be clearly across the Treasury Laws Amendment (Fair and Sustainable Superannuation) Act 2016 and what it means for their retirement.
Anybody that retires has the choice of accessing their superannuation either as a lump sum, an income stream or a combination of both. If they access any of their superannuation as an income stream, the income earned on the capital supporting that income stream is concessionally taxed at 0%.
As of 1 July 2017, a $1.6 million cap on the amount that can be used to commence a pension in retirement phase was introduced for everybody in retirement. The change, as indicated by the name of the Act, is designed to introduce a fairer system, so that those who are fortunate enough to have started pensions after retirement with such a significant amount in their superannuation do not live tax-free forever.
Income earned on transition to retirement income streams will also now no longer be tax-free.
To keep up with inflation, the $1.6 million will be indexed periodically in $100,000 increments (see the section below about what happens when the TBC increases to $1.7 million). Your indexed amount will be calculated proportionally based on the remainder of your cap. Of course if you meet or exceed that $1.6 million, or future limits, there will be no gap to index.
How do the transfer balance cap rules work?
Upon retirement, an individual has a $1.6 million cap (expected to be increased inline with indexation in the future) on how much capital they started with to provide the income stream.
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This value is static at the time of transfer. That means if, as at the time of your retirement, the capital supporting your income stream is 1,000 shares in company X and 1,000 shares in company Y, valued at that point in time at $1.6 million, then those investments represent your balance cap, rather than their monetary value at that point.
If those shares appreciate, you will not breach your transfer balance cap. You can have more than $1.6 million in your transfer balance cap if the value of that capital grows. Unfortunately, the reverse applies as well. If the market falls, and the value of company X and company Y drops, then you will obviously have less than $1.6 million in your transfer balance account but that does not mean you can top up the difference with other superannuation money. If you did, you would breach the cap and a penalty tax would apply.
If you exceed the cap, you will be liable to pay tax on the excess transfer balance earnings. You will need to transfer any excess to your accumulation account in the fund or withdraw the amount from the fund as a lump sum.
Does this mean I can’t have more than $1.6 million in super?
You can have more than $1.6 million in superannuation, but you can only have up to $1.6 million in retirement funds used to commence a retirement income stream.
If you are in the fortunate position of having more than $1.6 million in superannuation, you can leave the remainder in your accumulation account and access it if you have retired after reaching your preservation age. The fund pays 15% tax on earnings in the accumulation phase rather than 0% if it was in retirement phase. You can also remove it from the superannuation system tax-free but, if the amount was invested in your name, any income will be taxed at your personal tax rate.
What is a transfer balance account?
If you receive your superannuation as an income stream, you will have a transfer balance account commence in your name with the ATO on either the date you first commence to receive a retirement income stream after 1 July 2017, or on that date (ATO) if you were already receiving a retirement phase income stream on 30 June 2017.
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A transfer balance account is a record of all the events that count towards your transfer balance cap and is kept by the ATO. It is not a specific bank account that you keep the amount in. If you have a number of separate superannuation pension accounts the amounts will all be recorded and added together in your transfer balance account report (TBAR) with the ATO. This account remains active to your death and you can access a transfer balance account report (TBAR) at the ATO via your myGov account.
In the case of account-based superannuation income streams, your fund is required to report the value of all the superannuation interests that were used to commence the retirement income stream. If you had such a retirement income before 1 July 2017, they were required to report the value as at 30 June 2017. If you commenced an income stream after 1 July 2017, your fund will have reported the commencement value of that superannuation income stream. You can always talk to your superannuation account if you disagree with the amount reported on your TBAR.
If you have a self-managed superannuation fund (SMSF), as the trustee of that fund you will need to report transfer balance cap events at least annually.
A transfer balance account report will include both credits and debits as per the below example.
|1 Jan 2018||Superannuation Income stream||$0||$1,600,000||$1,600,000|
|1 Jun 2018||Partial commutation of the income stream to a lump sum||$200,000||$0||$1,400,000|
What counts towards the cap?
Any superannuation transferred into retirement phase from an accumulation account to support an income stream counts as a credit towards the cap.
Both reversionary and non-reversionary death benefit income streams count as credits towards your cap.
A reversionary death benefit income stream is one in which the rules allow for it to revert to a dependent beneficiary in the event of the death of the holder. A non-reversionary death benefit income stream is one in which the rules do not allow for it to revert to a dependent beneficiary, however, the trustee has the discretion to decide to whom the death benefit income stream may be paid, usually in line with binding death nominations as expressed by the deceased holder of the income stream.
Repayments from limited recourse borrowing arrangements will count as a credit towards the cap (see SMSFs section below).
A structured settlement is a payment for a personal injury you have suffered that is contributed to a complying superannuation plan. Providing they meet certain criteria, as defined by the law in the box below, structured settlement contributions do not count towards the cap in that a credit and a debit for the structured settlement amount will appear in your TBAR on the same day.
“The contribution must arise from:
(a) the settlement of a personal injury claim that is based on the commission of a wrong, or a right created by statute, effected by a written settlement agreement between the parties
(b) settlement of a personal injury claim arising under an Australian workers compensation law, or
(c) the order of a court made in respect of a claim that is based on the commission of a wrong, or a right created by statute (not including a court order approving or endorsing a settlement agreement as mentioned above).”
An increase in earnings on your pension balance does not count towards the transfer balance cap. Therefore, if your pension accounts are getting close to the cap purely because of an increase in your fund’s earnings, you don’t need to do anything.
However, if it is getting close to the $1.6 million mark and likely to breach it because of any of the events mentioned above, you need to consider moving some of those assets out of your pension, either by transferring the amount into accumulation phase in the fund or withdrawing the amount as a lump sum.
Any income earned on investments in accumulation phase is taxed at 15%. Any amount you receive as a lump sum and invest will be taxed on the earnings at your personal tax rate.
What happens if I breach the transfer balance cap?
If you breach the cap you may receive an excess transfer balance determination from the Australian Taxation Office. But regardless of whether or not you receive a determination, you are required to pay tax on the excess transfer balance earnings for every day your account is in excess. Those earnings are calculated by a daily pre-determined formula, which is part of the law, and is worked out as follows:
90-day bank accepted bill yield + 7 percentage points ÷ number of days in the calendar year.
The ATO says a notional amount is calculated using the above formula because it is difficult to work out earnings on a proportion of the account.
For 2017/18, the tax rate for excess transfer balance earnings was set at 15%. However, from 1 July 2018, the tax rate is 15% for your initial excess transfer balance amount, increasing to 30% for your next excess transfer balance amount.
The earnings compound daily and are credited to your transfer balance account and included in the next day’s earnings calculations. That only stops when the ATO issues an excess transfer balance determination (to crystallise the amount) or you commute (convert) the excess transfer balance; whichever is earliest.
If you don’t commute the amount by the required date on the determination, the ATO will send a commutation authority to your superannuation fund to commute the amount even if the remaining amount is small.
Once you commute the amount to a lump sum it can be transferred to an accumulation account, which you can access if you are over 65 and meet the conditions of release (and where income is taxed at 15% rather than 0%) or it can be taken out of the superannuation environment and taxed accordingly.
The ATO uses the following example:
Say that you have two superannuation funds – X fund (which your employer contributes to) and an SMSF called Y fund. You retire on 1 July 2018 and commence a superannuation income stream of $1 million from X fund. Then four months later, on 1 October 2018, you start a $1 million superannuation income stream from your SMSF Y fund. That means that as at 1 October 2018 your transfer balance account will have been credited with an additional $1 million, bringing the total to $2 million and exceeding your cap by $400,000.
The SMSF reports this to the ATO on 28 January 2019 and the ATO issues an excess transfer balance determination, which will include the additional $400,000 plus the earnings that accrued from 1 October 2018.
The determination will include a default commutation authority notice instructing that if you don’t voluntarily commute the amount (or make an election to do so) by the due date on the authority, the ATO will issue a communication authority to X fund requiring the trustee of X fund to commute the excess transfer balance amount.
What happens when the transfer balance cap increases to $1.7 million?
In August 2019, the ATO suggested that the indexation (and therefore the increase of the TBC to $1.7 million) could possibly occur on 1 July 2020, although that was only if the All Groups CPI figure for the December 2019 quarter was 116.9 or higher. Since the CPI figure announced on 29 January 2020 was 116.2 it looks like the earliest the TBC could rise to $1.7 million would be 1 July 2021.
The ATO will advise whether indexation will apply on 1 July 2020 “as soon as possible after the indexation figure is released”.
The ATO also described how indexation will impact super fund members:
If you start a retirement phase income stream for the first time after indexation occurs, you will have a personal transfer balance cap of $1.7 million.
If you had a transfer balance account before indexation occurs, your personal transfer balance cap will be:
- $1.6 million if, any at time between 1 July 2017 and indexation occurring, the balance of that account was $1.6 million or more
- between $1.6 and $1.7 million in all other cases, based on the highest ever balance of your transfer balance account.
Indexation of the general transfer balance cap may also change other caps and limits that apply to you, if you:
- make non-concessional contributions to your super
- make a non-concessional contribution to your super and may be eligible for a co-contribution
- make a concessional contribution to super on behalf of your spouse and want to claim a tax offset for that contribution.
How does the transfer balance cap relate to SMSFs, death and defined benefit members?
Below we have included more detail on how the transfer balance cap affects SMSFs, when there is a death of a member, and defined benefit members. Click on the title to view each section.
SMSFs and the transfer balance cap
There aren’t any special rules for SMSFs, but there are some aspects of the law that will mean they must be extra vigilant. It will be up to trustees, for example, to report the amounts supporting the pensions in their SMSFs (and how assets are segregated) on a regular basis. They have always had to do this with quarterly, or annual, reporting dates, depending on the SMSF’s balance.
Limited recourse borrowing arrangements (or LRBAs), which are another investment particular to SMSFs, will also apply to an individual’s transfer balance cap in a specific way.
If an SMSF trustee enters into a LRBA to acquire an asset that will support their account-based pension, any payments (from their accumulation interest in the SMSF) towards the borrowing under the LRBA will add to their transfer balance account if the LRBA was entered into on or after 1 July 2017.
Death and the transfer balance cap
If you die while you have been receiving a retirement income stream, that income stream, and the capital supporting it, has to go somewhere. Your death will create a compulsory cashing requirement for the superannuation provider, which needs to cash your superannuation interests to your beneficiaries, or to your legal personal representative, as soon as it can. That payment is called a superannuation death benefit.
If you were receiving a reversionary income stream then it will be transferred to the nominated beneficiary. If it was a non-reversionary income stream the superannuation fund has discretion as to whom your superannuation benefit will be transferred to as a death benefit income stream.
Either way, it will then be added to the nominated beneficiaries’ transfer balance cap. However, there are some allowances that help beneficiaries of a death benefit get their superannuation affairs in order.
A recipient of a reversionary death benefit income stream will have 12 months from the date of the original recipient’s death to organise their transfer balance account to get it under the $1.6 million limit.
Where the beneficiary is a child under 18 they may have a modified transfer balance cap and they are also, unless they are permanently disabled, required to cash out all their death benefit income streams when they turn 25.
The modification of the transfer balance cap for the child depends on the deceased parent’s superannuation interests – ie whether they were in accumulation or retirement mode – and the child dependent’s share of the superannuation interests. These modification calculations are called cap increments.
For example, for two siblings who were equal beneficiaries of their parent’s reversionary income stream, their cap increment will be half of the amount that was being used to support the parent’s income stream.
Defined benefit members and the transfer balance cap
The transfer balance cap affects anyone in receipt of a defined benefit pension differently, depending on the type of defined benefit fund. For corporate funds and public sector funds (which no longer accept new members but still pay out defined benefits to existing members) there is an annual income cap, instead of a transfer balance cap. For 2017/18 this was $100,000 – or the general transfer balance cap divided by 16. If you turned 60 years old during the year, or were 60 years old and started the defined benefit pension during the year, this amount will be reduced proportionally.
Retirees that receive a defined benefit income stream will also be eligible for a 10% tax offset if they are below this limit. Amounts above the $100,000 will be treated as taxable at the individual’s personal income tax level.
While the rules appear relatively simple if you are in receipt of just a defined benefit pension, it gets trickier if you receive another income stream, say from an SMSF. In those cases, to calculate your total transfer balance amount you need to calculate a ‘special value’ for the defined benefit pension. This is worked out by annualising the next payment from the pension, and then multiplying that annual calculation by the number of years remaining in the pension. Then, if the total of that ‘special value’ and the value of the assets supporting the pension in your SMSF are greater than $1.6 million, you need to adjust the pension in your SMSF.
The law refers to ‘capped defined benefit schemes’, which are basically lifetime pensions, lifetime annuities, life expectancy pensions and annuities and market-linked pensions and annuities that existed prior to when the changes were introduced on 1 July 2017. Most of these types of pensions are payable from SMSFs.
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