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One of the benefits of having a self-managed superannuation fund (SMSF) is its ability to pay members an income stream, or account-based pension. Of course any superannuation fund can do this, but paying a pension from an SMSF offers members more control and flexibility. The trustee can decide what assets will be supporting the pension and how much, or how little, pension will be paid.
Factors to consider before starting a pension
There are a number of factors to consider when paying a pension from an SMSF. It’s not a simple task to set one up, but that doesn’t mean you shouldn’t bother.
Eligibility
First you should understand the eligibility factors for paying a pension. You still have to meet the conditions of release for superannuation – such as being permanently retired and having reached your preservation age – unless you are over 65. You can pay yourself a transition to retirement pension (see section below), even if you haven’t permanently retired, as long as you have reached your preservation age.
If your date of birth is…
- before 1 July 1960, your preservation age is 55
- between 1 July 1960 and 30 June 1961, your preservation age is 56
- between 1 July 1961 and 30 June 1962, your preservation age is 57
- between 1 July 1962 and 30 June 1963, your preservation age is 58
- between 1 July 1963 and 30 June 1964, your preservation age is 59
- on or after 1 July 1964, your preservation age is 60
Source: ATO
Minimum pension amount
There is also a minimum annual pension amount you need to pay yourself each year. There is no maximum pension amount unless it is a transition to retirement pension and then the maximum is 10 per cent of the balance.
| Age of beneficiary | Temporary percentage factor (2019-20 to 2021-22) | Normal percentage factor (2013-14 to 2018-19) |
|---|---|---|
| Under 65 | 2% | 4% |
| 65 to 74 | 2.5% | 5% |
| 75 to 79 | 3% | 6% |
| 80 to 84 | 3.5% | 7% |
| 85 to 89 | 4.5% | 9% |
| 90 to 94 | 5.5% | 11% |
| 95 or more | 7% | 14% |
Source: SIS Act
Pension assets
The assets supporting a pension are fixed at the pension commencement date. This means you cannot keep contributing into the pension account, or transfer an asset from an accumulation account into the pension account, once the account-based pension has commenced. This would be considered stopping the existing pension and starting a new one.
Also, the introduction of the $1.6 million transfer balance cap places a limit on the maximum total amounts you can have to commence pensions, and on which earnings are tax-free. You may wish to leave the remainder of your retirement savings in accumulation phase (and be taxed at 15 per cent) or withdraw from the superannuation system.
Trust deed
Your trust deed also needs to allow an account-based pension. Some older trust deeds may not accommodate transition to retirement pensions so you need to check your trust deed and update it, or change it, if necessary.
Starting a pension
1. Value the assets
After making sure your trust deed can accommodate a pension, and amending it if it doesn’t, you need to value the assets that will be supporting the pension. This valuation is also the amount that will count towards the balance transfer cap of $1.6 million. In regards to this valuation, the ATO says:
The market value of the account balance needs to be determined on the commencement day of the pension or, for ongoing pensions, on 1 July of the financial year in which the pension is paid.
The valuation should be based on objective and supportable data.
You don’t need to get an independent valuation unless there are collectibles and/or personal use items in the fund, which need to be valued by a qualified independent valuer.
2. Do the paperwork
You need to notify the trustee in writing that you wish to start a pension, this needs to be minuted and a pension agreement drawn up. This agreement needs to specify such things as the frequency of the pension, the pension commencement date, documents that need to be supplied to the member from the trustee, such as an annual pension statement, how the pension could be commuted to a lump sum, and how variations could be made to the pension.
A product disclosure statement (PDS) also needs to be supplied to the member starting the pension. Like any other PDS, this document needs to include key benefits, features, costs and risks of the product.
Earnings on pension assets are tax free, so if there is more than one member in the SMSF and the fund has both accumulation and retirement assets, then exempt current pension income – ECPI – will need to be calculated.
3. Calculate ECPI
There are two methods for calculating ECPI – the segregated method and the proportional method. If the segregated method is used, then the assets supporting the pension are known and are separated from the assets in accumulation phase. If the assets are mixed, then the proportional method needs to be used. This requires an actuarial certificate to determine the proportion of assets in each stage, and therefore the proportion of income that is tax-free.
If there are members in accumulation and pension phase, or a member receiving a pension but still making contributions, or a member with a pension that starts mid way through a financial year, and the assets are unsegregated, an actuarial certificate will be required.
You will need an actuarial certificate each year to clarify which assets support the pension and therefore how much income is exempt from tax (ECPI), and which assets are in accumulation phase.
A fund that only has members in retirement phase, or only has members in accumulation phase, is treated as a segregated fund (and does not need an actuarial certificate).
An actuarial certificate will be required, and the fund must use the proportional method, if at least one member has a total balance of at least $1.6 million in all super funds they belong to on 30 June in the previous financial year.
Note: In the 2019 Federal Budget Josh Frydenberg announced a measure to simplify ECPI calculations. If the policy is legislated, from 1 July 2020 trustees with interests in both the accumulation and retirement phases during an income year will be allowed to choose their preferred method of calculating ECPI. This will also mean super funds don’t need to obtain an actuarial certificate when calculating ECPI using the proportionate method, where all members of the fund are fully in the retirement phase for all of the income year.
Estimated cost of setting up a pension
Many SMSF advice groups or service providers will offer templates, which can be used for the main documentation for setting up a pension. Platform providers may also include provision of the documents as part of their package. Here is a rough price guide.
| Trust deed amendment (if required) | $250 – $350 |
| Trustee notification letter | $50 |
| Pension payment agreement | $250 – $350 |
| Product disclosure statement | $250 – $350 |
| Actuarial certificate (if required) | $200 – $1,000 |
Some SMSF service providers also offer pension commencement documentation packs from around $450 to $500 as well. However, a qualified actuary will need to provide the actuarial certificate.
Balance transfer accounts and pensions
If you have close to the balance transfer cap of $1.6 million in your superannuation and are looking to start an account-based pension, there are restrictions on how you calculate ECPI for pension purposes. Even if your assets are segregated within your SMSF, under the following circumstances, as stipulated by the ATO, you will need to use the proportional method and obtain an actuarial certificate.
Note: In the 2019 Federal Budget Josh Frydenberg announced a measure to simplify ECPI calculations. If the policy is legislated, from 1 July 2020 trustees with interests in both the accumulation and retirement phases during an income year will be allowed to choose their preferred method of calculating ECPI. This will also mean super funds don’t need to obtain an actuarial certificate when calculating ECPI using the proportionate method, where all members of the fund are fully in the retirement phase for all of the income year.
Starting a pension before you turn 60
To access your superannuation before you turn 60, regardless of whether it is as a lump sum or a pension, you need to have met a condition of release.
For someone who hasn’t turned 60, but who has reached their preservation age, they need to cease gainful employment and have no intention of becoming gainfully employed for more than 10 hours each week in the future.
Any 57 to 59 year old who wants to start a full pension will need to calculate their taxable and tax-free components. All superannuation (from a taxed source) is tax-free after the age of 60 and if you’ve reached your preservation age, but are not yet 60, your tax-free component is the total of all the non-concessional contributions you have made to your superannuation fund over the years.
One of the benefits of accessing your superannuation before you turn 60 (if you meet a condition of release of course) is that you will be eligible for a 15 per cent tax offset on the taxable component of that income stream.
Transition to retirement pensions (TTR or TRIS)
If you’ve reached your preservation age (currently age 57) but have not yet fully retired, you are still eligible to pay yourself a transition to retirement pension. The tax treatment of these pensions is no longer as favourable as it was until you have retired or reach age 65, but they are still useful tools for people wishing to transition to retirement gradually.
Earnings on superannuation funds supporting a transition to retirement pension prior to your retirement are now taxed at 15 per cent (it used to be 0 per cent), just like funds in the accumulation stage. Once you have retired for super purposes, or reached age 65, the income earned on your transition to retirement pension accounts is tax-free. At that time the balance will be counted against your $1.6 million transfer balance cap.
If you are over 60 then any pension payments you receive will be tax-free. If you are between 57 and 59 the payments will be taxed at your marginal tax rate, however you will receive the same 15% tax offset you would be eligible to if it was a regular account-based pension.
Transition to retirement pensions have the same requirements around minimum pension payments (see table above) and have a maximum annual pension payment of 10 per cent of the pension account balance.
Starting a pension after age 60, but before you turn 65
To access your superannuation, either as a lump sum or pension, after you turn 60, but before you reach 65, you just need to leave a job, you don’t need to be permanently retired. And as long as you don’t start pensions with $1.6 million in aggregate, any income earned on your pension account balances will be tax-free.
Starting a pension after 65
On starting a pension once you hit the age of 65 the ATO says: “A member who has reached age 65 may cash their benefits at any time. There are no cashing restrictions, which mean the benefits can be paid as an income stream or a lump sum.” And again, earnings on the pension account balance(s) will be tax-free.
