Retirees with more than $1.6 million in superannuation and who are drawing a private pension are clearly flummoxed by the raft of new rules slated to be introduced in the middle of the year.
From July 1 individuals will be allowed to have a maximum of $1.6 million in a tax-free pension, forcing anyone with a bigger pension account to transfer the excess into a so-called accumulation account, where earnings are taxed at 15 per cent.
If letters to your columnist are anything to go by, one concern retirees have is the mechanics of making extra pension withdrawals, or withdrawals above the minimum annual amount required by the government.
One retired reader wants to fund major house renovations from his self-managed super fund that is in the pension phase with a balance of $1.5 million.
The reader's circumstances are complicated by the fact that, in addition to the $75,000 income being generated by his tax-free pension, he receives a $40,000 annual taxable defined benefit pension from the Commonwealth Public Sector Super Scheme.
From July the reader's $40,000 annual PSS pension will be assessed as having a capital value of $640,000 under pension transfer cap rule for defined benefit schemes. This amount is derived by applying a multiple of 16 times to the annual income entitlement (16 times $40,000 equals $640,000).
When added to his $1.5 million SMSF pension, the reader has total pension assets of $2.14 million, or $540,000 greater than the $1.6 million allowance that will apply from July 1.
As a result, by June 30 he will need to transfer $540,000 from his SMSF pension into an accumulation account.
So, back to the renovations.
If the reader were to fund the renovations before June 30 he would simply withdraw more money from his tax-free pension.
But, he wonders, what will happen after July, when his SMSF will have a $960,000 pension and a $540,000 accumulation account? Will he be able to finance the entire renovation from the accumulation account or will he have to withdraw the money from both accounts on a proportional basis?
Michael Hallinan, special counsel advising on super at Sydney-based Townsends Business and Corporate Lawyers, says that the reader will be able to withdraw a lump sum solely from the accumulation interest. There will be no requirement for withdrawals to be made across both accounts proportionately.
Proportions matter when it comes to taxing pension accounts, but not for withdrawals.
From July tax must be paid proportionately on the income generated by the pension and accumulation accounts. In other words, 64 per cent of the assets will be treated as tax-free investments, while 38 per cent of the fund will be taxed at 15 per cent.
The reader has also considered rolling over the $540,000 excess balance into either a new SMSF or an industry super fund and wonders if this is permitted. He is not alone in asking this question.
One apparent attraction of transferring the accumulation money into a pooled super fund is that it will avoid the need for SMSF trustees to obtain an actuarial certificate, which will determine how much of the total super earnings will be tax exempt.
Hallinan says that transferring money to an industry or retail fund is possible, but he questions what would be achieved. If the aim is to avoid the need for an actuarial certificate it seems an expensive fix, argues Hallinan. Actuarial certificates generally cost about $250.
In any event, one proposal under the new rules is that actuarial certificates will not be mandatory where the pension liabilities of an SMSF are in the retirement phase of account-based pensions.
Retaining $540,000 in the SMSF should not adversely affect the tax-exemption status of the pension interest, says Hallinan.
Further, the accumulation interest is not subject to any withdrawal requirements but it is accessible at any time and payments will be tax-free given the reader's age (over 65). Hallinan says the $540,000 could create its own investment portfolio. Assets supporting the accumulation account could be segregated, so the reader could, say, place income-generating assets in that account. Growth assets could be placed in the pension account, as there is no limit on how much a tax-free pension can grow.
The reader should bear in mind that the minimum pension drawdown for him is 5 per cent.
Hallinan suggests the reader may wish to make only minimum withdrawals from the pension interest and make any extra withdrawals from the accumulation interest.
An alternative strategy, he says, is to take a partial commutation from the pension interest, as the amount commuted from the pension will constitute a debit to the transfer balance account. A commutation is the conversion of part or all of a super pension into a lump sum.
It is unlike pension payments, which are not regarded as debits to the transfer balance account.
Debits and credits – and how they work – are important new concepts that fund members will need to understand.
John Randall of Deloitte says the first task for the reader looking to access money for renovations after July should be to nominate that the money comes from the accumulation account.
The second choice, where there is no accumulation amount, is a commutation rather than taking an extra amount from your pension.
A commutation provides a credit on the retiree's transfer balance account. Having a credit allows them to top up their account balance where they have the opportunity to do so.
That will, no doubt, be the subject of another column.