Q&A: What are the pros and cons of entering pension phase with accumulated losses for capital gains?

Q: Given that in pension phase income is exempt from tax, I’m wondering about the pros and cons of entering into pension phase with accumulated losses for capital gains. Does it matter at all?

A: So, this is a really current topical, relevant question that’s been asked, especially with the proposal around the $3 million super cap and higher earnings on bounces above that. Now, I need to start this off with a quick disclaimer that what I’m about to cover is general information only. It’s how the laws are written, not necessarily how they apply to you or your fund. You need to sit down with your accountant or your fund administrator and work out how they deal with this issue. Very important that you apply this to your own fund, how your accountant or administrator has been applying it.

Let’s look at the background to this. We know that earnings in pension phase are exempt from tax. These are the current rules. I’m not talking about any proposed changes. I’m talking about how the current rules apply. Earnings in pension phase are exempt from tax.

Hence, while we have this $1.7 million soon to be indexed $1.9 million cap on our pension phase balances. Earnings on those monies are exempt from tax, including capital gains. Therefore, capital gains and losses that are attributed to those assets held in pension phase are effectively disregarded.

So, we have an asset, it’s used to pay pensions. Since it’s in pension phase, any capital gain or loss in that is essentially disregarding for tax purposes. That’s the first bit.

If you enter pension phase and your fund is holding existing capital losses, which might have been carried forward from prior years, they continue to be carried forward into a future financial year where they may be utilised. So if we start at pension, it doesn’t mean we may lose any of those carry forward losses.

We may not get to use them in pension phase because losses are essentially disregarding, but it might be in a later event, we’ve got more accumulation money, or we might have money where capital gains is applied, where we could first make use of these carry forward losses. So they’re not written off, they’re not forgotten. They just carried forward to a year where you might be able to use them. But again, check with your accountant, check with your administrator on how they manage that for you.

If you go to the ATO website, the wording it says is if your fund has a net capital loss, it can be carried forward each year until it can be offset against an accessible capital gain. The SMSF’s capital gain, less any losses equals the net gain, which is why I mentioned before, these amounts could be carried forward even if not used because you are in pension phase. The important thing to note here is that you do need to ensure that how these rules have been applied to your fund and it’s been done correctly that way.

We’ve got an article about exempt current pension income that you can look at on the website and it does talk about capital gains and capital losses.

This Q&A is taken from one of SuperGuide’s regular members Q&A webinars.

About the author

Garth McNally

Garth has worked in the Australian Superannuation industry for over 20 years with a specific focus on self-managed super funds. He provides ongoing support and training to individuals as well as to professionals working in the superannuation area, including advisers, accountants and lawyers. He is a regular contributor to industry publications and to the leading professional bodies including Chartered Accountants Australia & New Zealand (CA ANZ).