Rules introduced in July 2017 capped the amount a person can draw into a tax-free superannuation pension at $1.6 million while further constraining contributions they could make into their super while it accumulates.
In the lead up to their implementation, some people were concerned about the effect the restrictions would have, particularly Australians with large superannuation balances who were in or approaching retirement.
More than a year later those concerns have abated somewhat. As outlined below, there’s a number of ways wealthy Australians are working with superannuation limitations to continue to use it as the tax-effective investment vehicle it is.
Impact of the new super restrictions
Those who held more than $1.6 million in a superannuation pension account in July last year were forced to lower that balance by shifting funds into an accumulation account within the super fund or by simply withdrawing them.
Most people elected to retain assets inside super, where investment earnings in accumulation accounts are taxed at a concessional rate of 15 per cent, says KPMG superannuation advisory partner Adam Gee.
“We have not seen a mass exodus out of superannuation,” Gee says. “It has not really had as much of an impact as people were expecting. Because of the concessional tax in super, it’s still attractive.”
But for some of this market, a $1.6 million pension account limit will not be sufficient to fund the retirement they want.
Under current rules, each year account holders must withdraw a certain percentage amount from their pension fund – for a 64-year-old with $1.6 million in a pension, the minimum draw-down equates to an income stream of $64,000 a year.
When your pension isn’t enough
Wealthy people who need more to cover their living expenses are dipping into their superannuation accumulation account and other non-super investments to make up the shortfall in income rather than withdrawing extra from their pension, says ANZ Private financial planning director David Lipari.
“It has necessitated a review of the way clients fund their ongoing living expenses … in the past most of our clients would fund the bulk, if not all of their income needs, from superannuation,” Lipari says.
People who are using their accumulation account to partly cover their living costs are including income-producing investments in the account. People who don’t need to draw extra from their super fund are looking for growth with longer investment horizons in mind – in some cases even stretching beyond their own life expectancy, Lipari says.
The caps and restrictions have compelled wealthy people who expect to have superannuation assets to pass on when they die to rethink their estate-planning arrangements.
Over the past 12 months Lipari has been reviewing his clients’ death-benefit nominations and reversionary pension arrangements. Estate planning is complicated and the recent rule changes have undone some strategies previously in place to ensure assets transferred tax-effectively to beneficiaries.
The challenge of contributing to super
The second part of the July 2017 rule changes prevented superannuation funds from accepting further personal after-tax contributions when the total balance reached $1.6 million. (Before July 2017, contributions could be accepted no matter how large the fund balance.)
“It has become more difficult to get significant amounts of wealth into superannuation,” Lipari says.
Account holders with a super balance far enough below $1.6 million can contribute after tax up to $100,000 a year, or $300,000 averaged over three years using the “bring-forward” rule.
Those with a balance of $1.6 million can still add to their super simply by accumulating investment returns and pre-tax contributions such as employer super payments and salary-sacrifice amounts. But these pre-tax contributions are restricted to $25,000 per person per year.
People who contribute too much into super or move too much into a pension, breaching the $1.6 million limit, must remove the excess amount and pay penalty taxes.
Home sale super boost not so popular
One way to significantly boost the balance of a super account that already contains $1.6 million is to sell the family home and contribute part of the proceeds into the fund. Each person is allowed to make a one-off contribution of up to $300,000 after selling their home, so a couple could get an extra $600,000 combined into their accumulation accounts even if they had maxed out their total super balance.
But Gee says wealthy people are not widely exploiting this strategy: “People will downsize when they want to downsize. We are seeing a few people doing it but it’s certainly not being used as a tax-planning strategy.”
Giving super to your spouse
With tighter restrictions on individuals, wealthy couples are working together to ensure each person optimises their use of superannuation.
Some wealthy couples have withdrawn assets from one member’s superannuation fund and contributed them to the other’s fund to even out the balances, Lipari says.
Such a super contribution can only be made if the contributor meets conditions to ‘release’ their super, such as being retired, and are eligible to contribute. Another option is to split before-tax super contributions with a spouse, which can be done after a financial year ends.
Couples have the capacity to keep adding to their super funds until both have reached the $1.6 million cap – a total of $3.2 million. Both can then transfer $1.6 million each into their tax-free pension accounts.
“It’s about ensuring that the couple have significant balances in super fund, for each of them,” Lipari says.
Consider investing outside of super
For Australians who have already put as much as they can into superannuation, after considering the options above, the only remaining choice is to invest elsewhere.
Some wealthy people with low taxable incomes have withdrawn money from super to invest in their own names. But additional planning is needed for those with higher levels of wealth, Lipari says.
Family trusts, often with a company as the beneficiary, are the most common structures used in tax planning for wealthier people.
“That vehicle often receives income to control the tax payable but it doesn’t really solve the problem because if the client wants to spend the money it has to be distributed to them and they have to pay higher tax,” he says.
In terms of investment choice, Gee says managed funds are favoured. Passively managed index funds and exchange-traded funds are gaining popularity, although Gee does not link their growth with the superannuation rule changes.
“We are seeing a huge uptick in passive vehicles. With active management it’s becoming hard to add value so investors are saying ‘Let’s just take a low-cost vehicle and maximise returns through low fees’,” he explains.