An issue that advisers may not be aware of as we head towards the end of financial year ending 30 June 2018 is the tax treatment of certain pension payments made in relation to capped defined benefit income streams (‘CDBISs’).
Tax agents and fund administrators need to be across the relevant pay as you go (‘PAYG’) requirements to ensure that payments are reported correctly and where applicable, the necessary tax withheld.
This may catch some advisers by surprise, particularly given that up until the recent reforms, pension payments have generally been tax free (ie, non-assessable non-exempt income) to recipients aged 60 or over and therefore there has been no PAYG withholding required.
This article discusses PAYG withholding obligations in relation to CDBISs.
Which pensions are affected?
The term CDBIS was introduced as part of the recent reforms and is defined under the Income Tax Assessment Act 1997 (Cth) (‘ITAA 1997’). Broadly, a pension is a CDBIS if:
- the income stream is a:
- lifetime pension provided under reg 1.06(2) of the Superannuation Industry (Supervision) Regulations 1994 (Cth) (‘SISR’);
- life expectancy pension provided under reg 1.06(7); or
- a market linked pension (‘MLP’) provided under reg 1.06(8);
as recognised in the table contained in s 294-130(1) of the ITAA 1997; and
- in the case of a life expectancy pension or an MLP, the pension must have been in the retirement phase just before 1 July 2017;
- however, in the case of a lifetime pension, it qualifies as a CDBIS even if it commenced either before or after 1 July 2017.
Therefore, MLPs and life expectancy pensions that were provided just before 1 July 2017 are CDBISs.
The defined benefit income cap
Pension payments that members receive from CDBISs are classified as the member’s defined benefit income under s 303-2(2) of the ITAA 1997.
Defined benefit income is taxed differently to account-based pension streams. Broadly, concessional tax treatment is provided for defined benefit income where the recipient is aged 60 or over, or to death benefits paid to a dependant under 60 who receives the pension from a deceased person aged 60 or over.
Defined benefit income is subject to the defined benefit income cap which is currently $100,000. An individual’s defined benefit income cap for a financial year is generally equal to the general transfer balance cap (‘TBC’) for the corresponding financial year divided by 16 (refer s 303-4(1) ITAA 1997). Therefore for FY2018, the defined benefit income cap is generally $100,000 (the $1.6 million general TBC divided by 16).
Importantly, only defined benefit income that is subject to concessional tax treatment counts towards the defined benefit income cap. Therefore, for members in receipt of an MLP which qualifies as a CDBIS who are age 60 or above, 50% of any MLP payments they receive from a CDBIS that are above $100,000 are subject to tax at the member’s marginal tax rate plus applicable levies (refer s 303-2(1) ITAA 1997). This applies even if the amount reflects a tax free component (in part or full).
Broadly, the defined benefit income cap is reduced by the amount of the defined benefit income that is not subject to concessional tax treatment (on a proportionate basis). In particular, the defined benefit income cap is reduced if a member is entitled to receive both types of the following income:
- defined benefit income that is not subject to concessional tax treatment (ie, the member is receiving an income stream under age 60); and
- defined benefit income that is subject to concessional tax treatment, for example, where the member is over age 60 or is receiving a death benefit pension and either the member or deceased are over age 60.
The cap is also reduced if a CDBIS commences part-way through the FY, eg, if a lifetime pension is commenced on 1 January 2018, the defined benefit income cap is pro-rated.
The new defined benefit income cap rules come with corresponding PAYG withholding obligations.
This was foreshadowed in the Explanatory Memorandum to the Treasury Laws Amendment (Fair and Sustainable Superannuation) Bill 2016 from paragraph 3.299, which provides as follows:
A consequential amendment is made to ensure that the Pay As You Go Withholding regime applies to superannuation income stream benefits that are defined benefit income. The Pay As You Go Withholding regime applies to income stream payments that are included in the assessable income of the recipient (sections 12 1 and 12 80 in Schedule 1 to the TAA 1953). [Schedule 1, item 33, subsection 12 1(4) in Schedule 1 to the TAA 1953]
Superannuation income stream providers may not know whether defined benefit income they pay to members is assessable income because they may not know if the member receives other defined benefit income.
Ensuring the withholding regime applies provides certainty to providers in relation to both their withholding obligations and associated reporting obligations. Importantly, reporting obligations apply to withholding payments even if the amount required to be withheld is nil.
This is reflected in s 12-1 in Schedule 1 of the Taxation Administration Act 1953 (Cth) (‘TAA 1953’) which provides a list of general exceptions to the withholding requirements. CDBISs are excluded from the operation of s 12-1 in Schedule 1 of the TAA 1953 due to s 12-1(4).
Broadly, the SMSF will have to withhold tax from benefit payments if the member is:
- under age 60
- under age 60 and the benefit is from a reversionary CDBIS where the deceased was 60 years or over when they died
- age 60 or over and the benefit is from a CDBIS.
As discussed above, the defined benefit income cap is $100,000 per financial year. Fifty per cent of the concessionally taxed CDBIS payments in excess of $100,000 per financial year are subject to tax at the member’s marginal tax rate plus applicable levies.
Advisers should therefore be aware of the need to review clients with CDBIS payments to ensure they comply with the PAYG rules. There are a number of additional steps that need to be completed in readiness for PAYG. For example, SMSF trustees who have to withhold tax will need to:
- register for PAYG withholding;
- obtain a TFN declaration from the member;
- issue a PAYG payment summary to the member; and
- lodge a PAYG withholding payment summary statement with the ATO.
Importantly, the ATO has stated on their website as follows:
- super income streams that did not previously have a withholding obligation are now subject to withholding even if the withholding amount is nil;
- you will now need to consider whether withholding applies on all superannuation income stream payments regardless of the member’s age and income level; and
- a PAYG payment summary – superannuation income stream is required to be issued to all members regardless of age and withholding amount.
Thus, according to the ATO, PAYG withholding appears to still apply to SMSFs with CDBIS income streams below $100,000 per financial year even if there is a nil withholding amount.
The ATO recently held a webinar titled ‘Tax professionals – helping clients who have exceeded their Transfer Balance Cap’. This webinar also provided information about Tax Time 2018 changes to CDBISs. We understand the webinar recording will shortly be made available on the ATO website.
The CDBIS rules are complex and expert advice should be sought if there is any doubt. The PAYG regime is a change that needs to be appropriately managed.
Naturally, DBA Lawyers would be pleased to assist in relation to any MLP, defined benefit pension or related SMSF assignment.
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This article is for general information only and should not be relied upon without first seeking advice from an appropriately qualified professional.
Note: DBA Lawyers hold SMSF CPD training at venues all around. For more details or to register, visit www.dbanetwork.com.au or call 03 9092 9400.
For more information regarding how DBA Lawyers can assist in your SMSF practice, visit www.dbalawyers.com.au.
3 May 2018