UNDERSTAND HOW PENSION PAYMENTS ARE TAXED AND THE BENEFITS OF EACH PENSION TYPE
The purpose of a Self-Managed Super Fund (SMSF) is to help you invest now, so you’ll have an income in retirement. Once you reach the age of 60, your accumulation fund will be converted into a pension fund and you can start withdrawing benefits from your account. When you reach this stage, you can choose to have either an account-based pension or a transition to retirement pension.
ACCOUNT-BASED PENSIONS
Account-based pensions are the most common type of pension and are suited to those who have fully retired. Once you reach 60, retire or satisfy another condition of release, you can receive regular payments that draw down on your super fund balance. These payments continue until death, the account is empty or you choose to stop receiving the pension. Upon death, the remaining balance will be paid to your beneficiaries in the form of a lump sum payment or regular pension.
There is a minimum pension that must be paid each year, which can change depending on your age. Once you start receiving the pension, you can’t make any additional contributions or rollover funds from other superannuation accounts. However, you can choose to stop and start pensions at any time, or receive the minimum annual payment in a lump sum. If you choose not to start the pension at all, it remains in the accumulation phase and you can continue contributing to the fund until death.
Benefits of account-based pensions
- There are a number of benefits to receiving an account-based pension, including:
- You do not pay any tax on your pension payments if you are over 60
- If you are aged 55-59, you will receive a 15 percent tax offset on the tax payable on your pension
- You do not pay any tax on any investment earnings or capital growth on assets in the SMSF that support your pension payments
- You do not pay any Capital Gains Tax (CGT) on assets in the SMSF that are sold while you are in the pension phase
- Your balance may increase as investment earnings are added to your account
- You can still receive refunds on franking credits while withdrawing a pension
- You can withdraw lump sum amounts of any amount at any time and pay no tax
- You can change your level of income at any time, as long as you meet the minimum aged-based requirement.
Risks of account-based pensions
Although you can receive more than the minimum pension payment each year, it’s important to remember that it has been calculated so that your fund will last as long as you do. If you withdraw more than the minimum amount, you risk running out of super in the years ahead. Your super balance can also fluctuate in line with market performance, which may affect your investment earnings.
TRANSITION TO RETIREMENT PENSIONS
Transition to retirement pensions are more restrictive and suited to those who would like to continue working past retirement age. Once you reach 60, you can contribute to your SMSF using income received from full-time, part-time or casual work, while topping up your income with a pension withdrawn from your super account.
There is a minimum pension that must be paid each year, which can change depending on your age. No more than 10 percent of the balance can be paid to you in any given year and you can’t convert
your balance into a lump sum until you are ready to retire completely or satisfy another condition ofrelease. Although you can continue to make contributions while receiving the transition to retirement pension, contribution caps still apply. It’s important to seek advice from your account to ensure you have the right balance of contributions and pension withdrawals, so you can avoid any negative tax implications.
Benefits of transition to retirement pensions
There are a number of benefits to receiving a transition to retirement pension, including:
- You can increase your super balance as you continue to make contributions to your SMSF
- You can salary sacrifice your pre-tax income with super contributions that may be taxed at a lower rate than your marginal tax rate
- You can replace the income you have salary sacrificed with tax-free pension payments if you’re over 60, or concessionally-taxed pension payments if you’re under 60
- You do not pay any tax on any investment earnings or capital growth on assets in the SMSF that support your pension payments
- You do not pay any Capital Gains Tax (CGT) on assets in the SMSF that are sold while your are in the pension phase
- Your balance may increase as investment earnings are added to your account
- You can still receive refunds on franking credits while withdrawing a pension
- You can change your level of income at any time, as long as you meet the minimum aged-based requirement.
Risks of transition to retirement pensions
Before accessing a transition to retirement pension, you need to consider whether your SMSF structure and SMSF investment strategy will support your plans. Your accountant can help you decide if a transition to retirement pension will be the most tax-effective use of your superannuation balance and whether it will impact your life insurance or any other entitlements.
SMSF MINIMUM STANDARDS
As an SMSF trustee, you need to ensure your trust deed is structured so it meets the minimum standards for pension payments. These include:
- The pension must be account-based, except in limited circumstances
- You must pay a minimum amount at least annually
- You cannot increase the capital supporting the pension using contributions or rollover amounts once the pension has started
- A pension paid to a member who dies can only be transferred to a dependent beneficiary of that member
- You cannot use the capital value of the pension or the income from it as security for borrowing
Before you can reduce a pension, you must pay a minimum amount in certain circumstances.
All pensions that satisfy the minimum standards will be treated as super income stream benefits for income tax purposes. This means you can claim a tax exemption for the income earned on assets that are supporting pension payments. If you do not satisfy the minimum requirements, there may be tax consequences for your SMSF.
Talk to your accountant or SF Wealth financial adviser about structuring your SMSF so meets the minimum standards for pension payments and supports its members in retirement.
This information is general in nature and does not take into consideration your personal circumstances.
Talk to your SF Wealth financial adviser for SMSF advice that’s right for you.
