How to navigate the $1.7 million super cap

Especially for a generation that’s been ‘grandfathered in’, super still has some significant tax advantages.

With a little bit of effort, and possibly some assistance from a competent financial advisor, you can work out how to wring the maximum tax advantage from the ‘super cap’ arrangements that were first introduced in 2017 and which were recently tweaked.

Some useful background

Australian governments have long faced a dilemma. On the one hand, governments want to keep taxation on ‘super money’ modest to encourage low-income and middle-income Australians to save for retirement. On the other hand, taxing super lightly incentivises well-heeled Australians to park lots of money in their super accounts.

In 2017, the Turnbull Government introduced some substantial changes to super. The one that was most significant for those Australians with the capacity to direct lots of money into their super accounts was the ‘superannuation transfer balance cap’, aka super cap. In 2017, this was set at $1.6 million, but it’s recently risen slightly to $1.7 million.

Another change made in 2017 was the introduction of a significantly lower cap on non-concessional contributions. That is, the extra money Australians could choose to, but weren’t required to, direct into super each year. This was lowered to $100,000 in 2017 but has recently increased to $110,000.

The cap that isn’t quite a cap

Super money eventually ends up in two distinct buckets. For decades, it all goes in the ‘accumulation phase’ bucket and gets taxed at 15 per cent. (That is, the government takes 15 per cent on the money going into your super account and also takes a 15 per cent cut each year of any returns you make on your overall pool of super money.)

Once they reach preservation (i.e., retirement) age, Australians can transfer some or all of the money in the ‘accumulation phase’ bucket into a ‘pension phase’ bucket. The good news is that no tax is paid on any super money once it’s in the pension bucket. The bad news is that, since 2017, Australians have only been able to put $1.6 million (now $1.7 million) in the pension bucket per person.

Given the limits in place around making contributions to super, the average Australian is unlikely to direct significant amounts of money into the ‘accumulation phase’ bucket during their working lives, so they won’t need to worry too much about the various rules pertaining to the accumulation phase and pension phase buckets. When they retire, they will likely simply transfer all or most of the relatively modest amount of money they have in their accumulation phase bucket into the (untaxed) pension phase bucket.  With the right financial advice strategy however, there are still ways for younger individuals who are high income earners to target the $1.7 million total super balance.

However, there are a significant amount of ‘grandfathered in’ middle-aged to elderly Australians who do have, or could ultimately have, millions of dollars in super. They do need to be aware of the pros and cons of directing money into the two super buckets (or directing it into non-super investments). 

This is where an ANZ private wealth advisor, such as Laura Ritchie CFP, can come in handy.

How you can and can’t now use super to minimise your tax bill

“The 2017 changes were a gamechanger,” Laura says. “But it remains the case that Australians of all income levels can reduce their tax bill by being smart with their super.”

Here’s what affluent Australians of a certain age need to understand about the current super regime.

1) ‘Catch up’ contributions are allowed in certain circumstances

“By design, it’s now difficult for high-income earners to make large one-off deposits into super,” Laura says. “But if you’ve been working overseas and haven’t been putting money into an Australian super account, or have a spouse who doesn’t work, or you’re a self-employed individual who hasn’t been putting much money into super, you can utilise ‘catch up’ contributions. You can take advantage of unused limits from previous years to contribute to super, so long as your balance is under $500,000. The contributions are tax deductible, and you only pay the standard 15 per cent tax on the way into super (or 30% for high income earners earning over $250,000 pa).”

Laura says ‘spousal splitting’ and super rebalancing strategies is how she assists many of her clients. “With the baby boomers, it’s common for one of the partners to have been out of the workforce for a long time and have a modest super balance,” Laura observes. “If a couple hasn’t already taken advantage of the spousal-splitting rules before reaching retirement age, they can use rebalancing strategies once they get into their sixties. Someone with, say, $3 million in super can transfer $110,000 a year or $330,000 (bringing forward the contribution limits from the next 2 years) to a partner with a low super balance. That generates greater tax benefits on that couple’s pool of super money.”

2) You can (often) still make concessional and non-concessional contributions

If you’re an employee, your employer will put 10.5 per cent of your salary (up to a total of $27,500) into super, regardless of your super balance. If you own a business, you can put $27,500 of your pre-tax income into your super every year under the concessional rate (i.e.15 per cent). For high income earners with earnings over $250,000 per annum, division 293 tax reduces the tax concession on super contributions by charging an additional 15% (I.e. 30% total contributions tax). You can also put up to a further $110,000 of your post-tax income into super without paying any (extra) tax on it – so long as you have less than $1.7 million in the ‘pension’ bucket of your super.

“To avoid double taxation, the government allows for money you’ve already paid income tax on to be put into super without levying the usual 15 per cent tax on it,” Laura says. “It can be beneficial to put ‘spare money’ into super rather than put it into other investments outside super where you are likely to pay more than 15 per cent tax on any returns you make.”

Transferring wealth to your kids and grandkids

It’s not for lack of trying, but nobody has discovered anything that compares to pre-2017 super when it comes to minimising tax. “There are still ways of reducing your tax bill, but many of them come with constraints,” Laura says. “For instance, many affluent Australians still use family trusts to reduce tax. However, since the ATO clarified its guidance around distributions, it’s mainly those paying lower marginal tax rates – usually the lower-income-earning spouse or the adult children of the high-income earner putting money into the trust – who most benefit from the trust.”

For those keen to minimise their own tax bill or to accumulate funds for children or grandchildren, investment bonds are an option. “These have an effective annual tax rate of up to 30 per cent, which is lower than top marginal tax rates for high income earners,” Laura points out. “Also, the funds can be withdrawn tax free after 10 years.” 

Space doesn’t permit listing them all, but Laura says those with surplus funds that can’t be put into super have other tax-effective investment options. “There are a range of entities, both complex and simple, that may be appropriate depending on the individual’s personal circumstances,” she says. 

Of course, it is rarely a good idea to make investment decisions solely – or evenly mainly - because it may result in a somewhat lower tax bill. Especially given governments can and frequently do change the superannuation and tax laws. Laura suggests examining potential investments on their overall merits and viewing any tax breaks they may involve as no more than an added bonus.

Always read the fine print

Little about super is easy to understand, even for those used to parsing complex taxation codes. “Even highly intelligent and accomplished professionals and business owners are often left bewildered by the rules around when, how and why money can be put into or taken out of super accounts,” Laura warns. “And, as everyone’s taxation and superannuation position are different, it’s always a good idea to get input from an expert when planning for the future.”