Tax in SMSFs and regular super funds: How do they differ?

Includes investment earnings such as interest, dividends and rental income, less any allowable tax deductions or credits.

Super funds are also liable to pay capital gains tax (CGT) on any capital gain received when investment assets are sold (see section below for more information).

Withdrawal tax: Varies depending on your age

If you access your super prior to turning 60, the amount of tax you pay will depend on:

• Whether you have reached your preservation age
• Whether you take an income stream or lump sum
• What the components of your payment are – a tax-free component, a taxable component or both.

If you take a lump sum after reaching your preservation age but prior to age 60, the taxable component of your super up to the low-rate cap ($235,000 in 2023–24) is tax free. Amounts over this are taxed at either 17% (including the Medicare levy) or at your marginal tax rate, whichever is lower.

If you are accessing your super after age 60, you can generally withdraw your super benefits tax free.

2. During the retirement phase

Income tax: Nil

The transfer balance cap limits the amount you may transfer into tax-free retirement income streams. The cap is currently $1.9 million, but your personal cap will be lower if you commenced a retirement income stream prior to 1 July 2023.

Withdrawal tax: Nil

Large fund or SMSF: Which is best for tax?

Although the super system itself is a concessionally taxed environment in which to save for your retirement, many people are still keen to take advantage of any opportunity to cut their tax bill.

For tax purposes, super savings within an SMSF are treated the same way as if they were held by a large super fund, but SMSFs have more flexibility in how they can use the tax rules to achieve greater tax efficiency.

SMSFs offer trustees opportunities for more control over the tax position of their fund because there are some tax strategies large super funds choose not to use. These are often impractical to implement in a large fund or using them would benefit some members while disadvantaging others. They often require extensive – and expensive – system changes that are impractical in a fund with millions of members.

SMSF trustees, on the other hand, can be more flexible and choose to minimise the overall amount of tax their members pay within the fund by making these types of strategic decisions.

Before rushing out to start your own SMSF, however, remember the golden rule of investing – never make an investment decision based purely on potential tax savings.

SMSFs offer tax management benefits, but for many fund members it’s questionable whether they are worth the administrative burden of running your own SMSF. And remember, the ATO is the regulator for SMSFs and will always be looking over your shoulder.

6 ways SMSFs can take control of their tax

As SMSF trustees have closer control of their fund’s assets and investment decisions, they enjoy more freedom to manage the tax position of the fund for the benefit of individual members. Some of the tax strategies SMSFs can use include:

1. Applying franking or imputation credits

The basic tax rule is that investment returns generated within an SMSF during the accumulation phase are taxed at a maximum tax rate of 15%.

Once an SMSF member moves into the retirement phase and begins receiving an account-based pension, no tax is payable on investment earnings from the assets supporting their pension. Any imputation or franking credits received from these assets can be used to reduce – or even eliminate – any tax payable by other members of the SMSF who are still in the accumulation phase.

This gives SMSF trustees significant flexibility. If there are no members still in the accumulation phase, the imputation credits can be received by the SMSF as a tax refund from the ATO.

2. Reducing capital gains tax (CGT)

Generally, CGT is only payable when an asset is sold, and it’s applied at a maximum rate of 10% on investment assets acquired after 21 September 1999 and held for longer than 12 months. (The CGT tax rate on assets held for less than 12 months is 15%.)

Within the super system, however, CGT is not payable once an asset within the fund is supporting the payment of a pension to a fund member.

Some SMSFs have a general policy within the fund of minimising the sale of assets (such as real estate and shares) until the fund begins paying members a pension to ensure it minimises the amount of CGT payable by the fund. This can mean long-term assets have a significant capital gain associated with them.

SMSF trustees can take advantage of these CGT rules by timing their disposal of a fund asset to reduce – or potentially eliminate – any CGT liability for the fund.

3. Avoiding brokerage and buy/sell spread costs

SMSF trustees can also utilise the difference between the accumulation and retirement phase to avoid brokerage fees when a fund member decides to move into retirement and start a pension.

Within an SMSF, there is an almost seamless transition into retirement and the fund does not need to sell any assets to start supporting the member’s account-based pension payments. Not selling assets means the fund avoids any associated brokerage fees, buy/sell spreads and taxes.

In a large super fund, however, these costs need to be taken into consideration when a member moves into the retirement phase. Potentially, the fund needs to liquidate investment to begin paying your pension, so it incurs fees and costs to do so.

4. Accessing deductions after death

SMSFs can also take advantage of the tax deductions associated with the so-called Future Service Benefit (FSB). This benefit arises from Section 295–470 of the Income Tax Assessment Act 1997, which allows a super fund to claim a tax deduction in a financial year when it pays a super death benefit, terminal illness benefit, disability super benefit or temporary incapacity income stream.

If a member dies or is disabled and this results in the termination of employment, an SMSF can claim a substantial tax deduction for the future liability to pay out that members death or disability benefit, which would include any relevant proceeds from the insurance policy. This deduction is claimed in place of the usual deduction for the insurance premiums. The SMSF can then use this to offset any tax payable on the fund’s assessable income or concessional contributions. 

If the fund doesn’t use the entire deduction in a single year, it can be carried forward and used to reduce the tax liabilities of other fund members. This is particularly beneficial if most of the remaining SMSF members are still in the accumulation phase.

Keep in mind that once a super fund has claimed the FSB deduction, it can then never again claim a tax deduction for any insurance premiums for fund members in the future. Hence why a future service period deduction is a one-off claim and generally only used by SMSFs and not by larger APRA regulated funds with a large membership base.

5. Timing tax withdrawals

Another tax strategy available to SMSF members is greater control of the timing of contribution tax deductions.

In large super funds, the 15% contributions tax is generally deducted from your super account as soon as the contribution is paid into your super account. With an SMSF, however, the deduction of contributions tax generally does not occur until the fund lodges its annual tax return after the financial year has ended. This timing difference gives your super contributions more time to earn investment returns.

6. Timing investments decisions

An SMSF can also provide tax advantages due to its ability to time buying and selling decisions relating to the fund’s investments.

Unlike a large super fund, SMSF trustees can decide to defer the purchase or sale of a particular investment asset to reduce the taxable income of the fund in a particular tax year.

If the SMSF has realised a capital gain by selling assets during the year and has other investments sitting on a capital loss for example, trustees are able to crystallise some investment losses to offset a capital gain prior to financial year-end. The fund is free to rebuy the investments in the next tax year (subject to certain tax rules). Large super funds, however, are more constrained in their ability to do this and face higher costs.