The recent budget proposes a superannuation system with significant changes. Mr Costello's budget speech heralded the proposed changes as being the most significant changes to superannuation in 20 years. Which would make these changes, according to him, even more significant than the introduction of compulsory employer contributions in the early 1990's.
Whether the changes are more significant that the introduction of compulsory employer contributions or not, the proposed changes will help to simplify superannuation. This must be a positive. Under the proposed changes a person no longer has to understand reasonable benefits limits (RBL's), age based contribution limits, 15% pension tax rebates, the tax treatments of different superannuation components, compulsorily withdrawals of superannuation benefits at a certain age, different tax treatments of lump sum or income stream withdrawals from superannuation, the role of minimum and maximum pension factors that change every year, calculations of the tax free portion of an income stream or the tax effect of taking lump sum withdrawals from superannuation.
While there are transition arrangements for some people between the ages of 55 and 60, this article focuses on the changes that will affect those people looking to access their superannuation benefits after the age of 60. The transition arrangements are designed to keep the system similar to how it functions now, with people then receiving the full benefit of these proposed changes once they reach the age of 60.
This article divides the superannuation process into three broad stages;
- Contributing to Superannuation
- Superannuation Funds in 'Accumulation' Mode
- Paying Benefits from Superannuation
Contributing to Superannuation
Under the proposed changes people contributing to superannuation will be able to contribute $50,000 where a tax deduction is claimed, such as 9% employer contributions and salary sacrifice contributions. They would be able to contribute a further $150,000 a year of their own 'after tax' money.
Self employed people, who previously have been able to claim a tax deduction for their first $5,000 of superannuation contributions plus 75% of the value of contributions up to their age based limit, will now be able to claim a tax deduction each year for contributions up to $50,000 and make a further $150,000 a year of their own 'after tax' contributions. They will also have access to the superannuation co contribution, where the Government makes a contribution of $1.50 for every personal contribution of $1.00 up to a set limit if they earn less than $58,000.
Importantly for small business owners, the proposed changes keep the capital gains tax exemption rule relating to the sale of a small business.
Superannuation Funds in Accumulation Mode
The reasonable benefit limit (RBL) currently restricts the amount of concessionally taxed superannuation a person can access in their lifetime. This is a complex system with some people having access to a higher transitional RBL or arranging their retirement assets in such a way as to be able to access a higher pension RBL. The proposed changes to superannuation completely remove the concept of a limit to the amount of superannuation that can be accumulated.
The tax rate on the investment earnings of superannuation funds in accumulation mode will stay at 15%, with a discounted capital gains tax rate of 10%. 15% is half the rate of tax payable on assets invested in a company (30%), and 1/3 of the highest marginal tax of 45%.
Paying Benefits from Superannuation
Currently there are a series of 'compulsory cashing' requirements, where you are forced to tax your superannuation benefits once you are a certain age and are retired from full time employment. Under the proposed changes you no longer have to access your superannuation benefits until you wish to.
The proposed changes mean that once you are 60 years of age then there is no tax on any withdrawals from superannuation. You can take lump sum withdrawals, a series of lump sum withdrawals or income stream withdrawals without paying any tax.
If you choose to take an income stream from superannuation, then under the proposed superannuation changes all you have to do is to take more than a minimum payment each year. The proposed minimum income payment is 4% a year for someone between the age of 55 to 64 and 5% a year for someone between the age of 65 to74. There is no set maximum, you can withdraw as much as you need. This will give you great flexibility if, for example, you need a large sum of money in one year to renovate your house. You can simply take a large tax free withdrawal from superannuation.
The proposed minimum withdrawal levels should not be of too great a concern. With investment returns on cash being 5%, you should be able to replace the income withdrawn each year comfortably, so you are not eating into your superannuation balance. The modeling in the proposal suggests that an earning rate of 5% will see your superannuation last you well beyond the age of 100 if you only take the minimum payment each year.
At the moment there are many options for different income streams paid from superannuation assets. These include allocated pensions, term allocated pensions (market linked income streams) and annuity style income streams. These are replaced by this one income stream proposal.
The asset test for centrelink purposes is proposed to change so that rather than $3 of income being lose for every $1,000 of assets over the asset test limit only $1.50 of income will be lost.
One of the downsides of the simplification of the income payments is that some people will be unable to use a 'complying income stream', which can be used to halve the value of their assets for the centrelink asset test purpose, however the lower rate of reduction in the asset test will provide some compensation for this.
There remain two downsides with superannuation that have not been addressed by these proposed changes. The first is that the 9% compulsory contributions will not be enough to fund our retirement. While that is a fair criticism, once we know that it is enough then the onus rests on us as individuals to look at strategies that will either increase our superannuation through additional contributions, or have a plan to create additional wealth outside of superannuation. The second is that superannuation cannot be accessed until we reach our preservation age, between 55 and 60. This has to be taken into account in planning a saving and investment strategy that includes superannuation.
Superannuation has currently has much going for it, including that it is the lowest tax environment that most people can access and that it provides retirement benefits tax effectively. Under the proposed superannuation changes the retirement benefits are tax free, there is more flexibility than ever in accessing these benefits, the rules for contributions are simpler and it is still a low tax investment environment. These changes mean that more than ever an important part of a person's wealth creation plan should be to understand and use superannuation to help them meet their financial goals.
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