- Tax treatment of lump sums for under-60s
- Tax treatment of pension payments for under-60s
- Three examples: Taxation of super benefits
- Tax treatment of pension earnings
Q: I’ve just turned 58, and I’m thinking of retiring before I turn 60. I would like to know whether I would have to pay tax on my superannuation. I know that after I turn 60, it’s tax-free, so my inquiry is regarding the period until I turn 60. My super money consists of compulsory employer contributions, and personal contributions from me (and some money that was the proceeds of a house sale… the proceeds were not taxable as the house was my primary residence). My total super is $230,000. I would like to take about $70,000 to $80,000 or so as a lump sum, and the rest as a super pension. So my question is: Between now and when I turn 60, will I be subject to any tax on any super money I receive, namely, tax on the lump sum, or tax on pension income, or tax on pensions earnings from the super in my super account?
I am not permitted to comment specifically on your financial circumstances, but I can certainly explain how the tax rules work, generally, when taking super benefits before the age of 60. I also provide 3 examples later in my response that may illustrate similar scenarios that you refer to in your question. I suggest you chat to an accountant for specific tax advice, or an accountant or financial adviser for retirement planning advice.
Super benefits can be made up of two components – tax-free component and taxable component. The tax-free component is always tax-free and the taxable component is taxed depending on the size of the benefit and the age of the fund member.
Any non-concessional (after-tax) contributions form part of the tax-free component, although fund earnings on those contributions form part of the taxable component.
Tax treatment of lump sums for under-60s
If an individual retires, and receives a superannuation lump sum from a taxed source on or after reaching preservation age (but before the age of 60), he or she can take advantage of the low-rate cap: an indexed lifetime limit that applies to an individual’s taxable component. An individual, who has reached preservation age and satisfied a condition of release, can receive up to $195,000 (for the 2016/2017 year) of their taxable component tax-free, provided the component is a taxed element (all super benefits are treated as a taxed element, except certain benefits from public sector funds).
Note: For anyone born before 1 July 1960, preservation age is 55 years. For anyone born on or after 1 July 1960, preservation age is at least 56 years and steadily increases to age 60 for those born on or after 1 July 1964. For more information on your preservation age, see SuperGuide articles Accessing super: What is my preservation age? and Accessing super: Preservation age moving to 57 years.
The low-rate cap is in addition to any tax-free component. If a super benefit includes a ‘tax-free component’ then no tax is payable on the tax-free component of a benefit even when an individual is under the age of 60.
Note: If an individual has withdrawn super benefits in the past, he or she may have used up some, or all, of their low-rate cap which means he or she may have to pay tax on the full taxable component when he or she takes additional lump sums, assuming they are under the age of 60.
When an individual has reached preservation age (at least aged 56 but under 60), and a lump sum exceeds the lifetime low-rate cap, then tax is payable on the excess amount of the taxable component at the rate of 17% (benefit payment tax of 15% plus 2% Medicare levy). If a fund member is permitted to withdraw super benefits before their preservation age, the low-rate cap does not apply which means the full amount of the taxable component is subject to tax, and the benefit payment tax rate is at the higher rate of 20% plus 2% Medicare levy.
Note: For Australians turning 55 on or after 1 July 2015, preservation age has increased to 56 years rather than 55 years, and for Australians turning 55 on or after 1 July 2016, preservation age increases to at least 57 years. See SuperGuide article Accessing super: Preservation age moving to 57 years.
Tax treatment of pension payments for under-60s
Individuals who choose to take an income stream (super pension) in retirement receive a double tax bonus. First, any fund earnings on assets used to finance a superannuation pension are exempt from tax, regardless of age. Second, the taxable component of pension payments of fund members aged under the age of 60 (and at least of preservation age) are taxed concessionally via a 15% pension offset (tax rebate) on pension income, provided the individual has reached their preservation age.
Super alert! Taking effect from 1 July 2017, Australians can transfer no more than $1.6 million of superannuation savings into pension phase. For more information about this transfer balance cap, see SuperGuide article Burden for retirees: Monitoring $1.6 million transfer balance cap.
Note: Anyone who turned 55 before 1 July 2015, has a preservation age of 55. Anyone who turned 55 on or after 1 July 2015 has a preservation age of at least 56 years.
Important: The tax-free component of a pension payment is always tax-free whether a fund member is under 60, over 60 or even when accessing super benefits under special circumstances before preservation age.
I explain how the tax-free component and the taxable component are calculated in the SuperGuide article SMSF: What is the proportioning rule?
Three examples: Taxation of super benefits
For illustrative purposes, and assuming no super lump sums have been withdrawn in the past, let’s say an individual is aged 58 and has $230,000 in a super account. Also assume that the individual has satisfied a condition of release, typically reaching preservation age and retiring. The super fund confirms that the tax-free component of the super benefit is $35,000, and the taxable component is $195,000. What are the tax implications if the individual:
- Withdraws 100% of the $230,000 super benefit as a lump sum?
- Withdraws $80,000 as a lump sum, and starts a super pension with the remaining $150,000?
- Uses 100% of the $230,000 to start a super pension?
Example 1: Withdraws 100% of the $230,000 super benefit as a lump sum
Withdrawing super benefits before the age of 60 can mean possible benefits payment tax. In this example, we assume the super benefit has a tax-free component of $35,000, which is not subject to tax. The taxable component is usually subject to 15% (plus 2% Medicare levy), except when an individual can utilise the low-rate cap. The low-rate cap means the first $195,000 (for the 2016/2017 year) of the taxable component of the lump sum is not subject to tax.
Tax outcome: The tax outcome is that tax is payable on nil amount of the taxable component from the $230,000 lump sum, when withdrawn before the age of 60 but on or after preservation age. No tax is payable because the full $195,000 of the taxable component is within the low-rate cap, and the balance of the lump sum payment represents the tax-free component.
Example 2: Withdraws $80,000 as a lump sum, and starts a pension with remaining $150,000
Withdrawing super benefits before the age of 60 can mean potential super benefits tax. Assume the super benefit is made of a tax-free component of $35,000 and taxable component of $195,000: The proportion of tax-free and taxable component is then 15.2% tax-free component ($35,000) and 84.8% taxable component ($195,000). Accordingly, the $80,000 lump sum is made up of $12,160 tax-free component (15.2%) and $67,840 taxable component (84.8%).
The $12,160 tax-free component is tax-free. The taxable component of a lump sum is subject to 15% (plus 2% Medicare Levy), but assuming a person has reached their preservation age, he or she can utilise the low-rate cap. What this means is that the first $195,000 (for 2016/2017 year) of the taxable component of the lump sum is not subject to tax. Note that the low-rate cap of $195,000 (indexed) is a lifetime cap, and if a person has utilised the low-rate cap in the past, or hopes to utilise it again in the future, then past lump sums and future lump sums will reduce the amount of the low-rate cap remaining.
Tax outcome: In this example 2, the $67,840 taxable component of the lump sum is not subject to tax because it is within the person’s low-rate cap. Any pension income drawn from the $150,000 pension account, is made up of 15.2% tax-free component and 84.8% taxable component. The pension income sourced from the taxable component forms part of an individual’s assessable income, but the pension is also eligible for a 15% pension offset against the taxable component of the pension. At these levels, no income tax is likely to be payable on the pension income due to the offset, although it is still is included in your tax return, and counts towards your total assessable income.
Example 3: Uses 100% of the $230,000 to start a super pension
Withdrawing super benefits before the age of 60 can mean possible super benefits tax. Any pension income drawn from the $230,000 pension account is made up of 15.2% tax-free component and 84.8% taxable component.
Tax outcome: The tax-free component of the pension income is tax-free. The pension income sourced from the taxable component forms part of an individual’s assessable income, but the pension payment income is also eligible for a 15% pension offset against the taxable component of the pension, assuming the person has reached their preservation age. At these levels (depending on how much is withdrawn each year), no income tax is likely to be payable, although it still is included in your tax return, and counts towards your total assessable income.
Tax treatment of pension earnings
Earnings on superannuation assets in pension phase are exempt from tax, regardless of the age of the pension fund member.
Super reminder! Taking effect from 1 July 2017, Australians can transfer no more than $1.6 million of superannuation savings into pension phase. Refer earlier for the article link explaining this change.