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In the process of buying and selling assets, self-managed superannuation funds will have capital gains and capital losses.
A capital gain is when you sell an asset for a profit.
For example, if SMSF A bought asset X three years ago for $100,000 but sells it for $120,000, the capital gain made on that asset is $20,000.
Conversely, if SMSF A were to sell asset X for $80,000, the fund would experience a capital loss of $20,000.
The tax imposed on that gain depends on whether an SMSF is in accumulation or retirement phase and whether there are members in each of those phases.
As income earned in retirement phase is tax free, if the asset is sold in retirement phase the fund will have no tax liability on the capital gain.
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Accumulation phase capital gains tax rules
An SMSF wholly in accumulation phase will pay tax on the fund’s annual net capital gain. If an asset is held for more than 12 months, any capital gain is eligible for a discount of one third.
The net gain is treated as income for tax purposes so it will be taxed at the same rate as other income in the fund – i.e. 15%.
Jeff has his own SMSF which is in the accumulation phase. He has made capital gains of $10,000 on the sale of SMSF shares this year. The shares were held by his fund for longer than 12 months, so his fund is eligible for the CGT discount. The fund also has an unapplied capital loss of $3,000 that can be offset against this year’s capital gain.
The net capital gain for Jeff’s SMSF is calculated as follows:
Net capital gain = $10,000 – $3,000 – $3,333 (i.e. 33.33% of the capital gain)
This net capital gain amount will be added to the fund’s income and taxed at 15% or a tax liability of $550.05.
To be eligible for the concessional tax rate of 15% on all income earned a fund must be a complying fund that adheres to all the legal requirements of an SMSF. If it is found to be non-complying, tax is levied at 45%.
SMSFs and capital gains tax losses
Sales of assets in accumulation phase that result in capital losses can only be used to offset capital gains and cannot be used to offset any other income. However, a capital loss can be carried forward to future years in accumulation phase and used to offset capital gains then.
The Australian Taxation Office (ATO) says there is no time limit on how long a capital loss can be held for to offset future capital gains.
Capital gains tax strategies for SMSFs
The obvious strategy for an SMSF expected to make a capital gain on the sale of the asset is to defer the sale of that asset until they and all other members in the fund are in retirement phase.
Max is expecting to retire next year. His SMSF has a balance of $900,000 and is wholly in accumulation phase. Within that balance is a parcel of shares that Max bought for $10,000 15 years ago now worth $30,000.
If Max sold that parcel of shares today, and he had no other capital gains or losses, he would have a tax liability of:
$30,000 – $10,000 = $20,000 x 0.66 (i.e. reduced by a one-third discount for holding the assets more than 12 months) x 0.15 = $1980
But if he held the asset for one more year and sold the parcel of shares once his fund was wholly in retirement phase that tax liability would be zero.
Max needs to consider other factors, such as the investment outlook for that asset. If that investment were to fall in value by 50% before he retired, for example, then his tax liability of nearly $2,000 would pale in comparison to the capital loss of $5,000.
- Using a gain to offset a loss
Capital losses from the sale of assets in an SMSF can be held until the fund experiences a capital gain. If an SMSF is expecting a capital loss in a particular year – for example, they finally decide to sell a poorly performing asset – it would be a good idea to realise a capital gain in the same income year.
This is especially the case if the trustee is getting close to retirement, as a carry forward capital loss is not useful if the fund moves wholly from accumulation phase to being wholly in retirement phase.
Transitional CGT relief regarding the transfer balance cap and transition to retirement pensions
Transitional CGT relief was temporary relief provided to SMSFs in certain circumstances. It was introduced to help SMSFs comply with two changes that were introduced on 1 July 2017.
On 1 July 2017 the transfer balance cap was introduced. The transfer balance cap puts a limit on the amount of superannuation that can be transferred to retirement phase. That cap is currently $1.6 million but will be indexed. (See our guide on the transfer balance cap here: Definitive guide to the $1.6 million transfer balance cap).
The second change was the requirement that income earned on assets supporting a transition to retirement pension (TRIS pension) in accumulation phase be taxed at the same rate as assets in accumulation phase. Previously they were taxed at the same rate as assets in retirement phase i.e. a 0% tax rate.
The transitional CGT relief allowed the value of assets moved from retirement phase into accumulation phase prior to the introduction of the changes be considered at the value of transfer, rather than their value at their initial purchase, for capital gains purposes.
“You are deemed to have sold and repurchased the asset for market value on the day it ceased to be a segregated current pension asset,” the ATO says.
John had $2 million in an SMSF supporting a pension at 30 June 2017. He needed to shift at least $400,000 of assets (bought for $200,000 five years ago) back into accumulation phase in order not to breach the transfer balance cap of $1.6 million.
He is eligible for transitional CGT relief so the transfer will reset the asset’s cost base to the market value on 30 June 2017 when at the time of transfer. If he were to sell the $400,000 in assets at this point the fund would not have a capital gain and the fund would not be subject to tax on the proceeds of the sale.
When he sells the assets in future their cost base will be the value of the investments as at the time of sale, less the value of the assets as at 30 June 2017.
Eligibility for transitional CGT relief
CGT relief was available to SMSFs in very specific circumstances and SMSFs that used them needed to be aware they could be subjected to the general anti-avoidance rules if they did not use the provisions for their intended purpose.
To be eligible for the relief, an SMSF needed to have held the asset throughout the entire pre-commencement period (9 November 2016 until 30 June 2017) and have been a complying superannuation fund from 9 November until the date the relief was applied.
An SMSF’s eligibility for the relief, and how it was applied, depended on how they were calculating eligible current pension income (ECPI) at the start of the pre-commencement period, which was the period from 9 November 2016 to 30 June 2017.
If an SMSF was 100% in pension phase during the pre-commencement period or they were using the segregated method to calculate ECPI during the pre-commencement period they were eligible for the relief. If the asset transferred was both supporting a pension and somebody in accumulation phase, then the relief also needed to be applied proportionately.
SMSFs had until the extended deadline of 30 June 2018 to lodge their tax return for the 2016/17 financial year and make an election for CGT relief.
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