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Presentation at SPAA National Conference — handout now available

Preservation rulesI’ve just presented at the SPAA National Conference in Brisbane. It’s been fantastic as usual and SPAA should be congratulated on another job well done in organising such a great conference.

I’ve made available the paper that accompanied my presentation. You can download a PDF version here

Alternatively, the full text of the paper is as follows.

Introduction

For my presentation at the conference I am keen to look at an area of superannuation law that does not usually get much of a mention, namely, the preservation rules in part 6 of the Superannuation Industry (Supervision) Regulations 1994 (Cth) (‘SISR’).

Naturally, these rules are critically important. However I suspect they are often seen as a bit ‘old hat’ and, to put it bluntly, a bit dull.

However, like most areas of law, there are aspects of these lesser known rules that can be used to help clients tremendously.

Accordingly, in the presentation that I will deliver I am keen to focus not so much on the preservation rules per se. Rather, I will focus on how the five particular areas of the preservation rules that few advisers know about, and how these little known areas can be used by advisers in order to create maximum wealth for their clients.

In order to understand the exciting wealth creation aspects of the preservation rules, an adviser must also have an understanding of the fundamental underlying rules.

This is the role that I hope this paper will play.

Namely, I do not propose that this paper covers the same content that I cover in the SPAA seminar.

Rather, I propose that this paper be a ‘primer’ for the presentation and that it re-cap some fundamental aspects of the preservation rules, which I will then build upon in the presentation.

A note on legislative references in this paper

In case anyone is reading this as PDF on a computerised device with internet access, I have also included links to the legislation. I thought this would be handy if anyone wants to delve deeper. (Also, I have made a number of generalisations and simplifications in this paper, so it is also best to go straight to the horse’s mouth, namely, the legislation itself.)

My personal preference is to obtain legislation from the website ComLaw (www.comlaw.gov.au). ComLaw is run by the Commonwealth government and has the most complete and up-to-date collection of Commonwealth legislation.

However, another good resource is the Australasian Legal Information Institute, more commonly referred to as Austlii.

Austlii allows a hyperlink to be pointed to a particular section or regulation in legislation. I do not believe this can occur with ComLaw (although I am happy to be corrected).

Accordingly, the legislative hyperlinks in this paper point to the Austlii legislation. However, for those who want the ComLaw version, the full text can be downloaded from:

The above two hyperlinks were current just prior to the conference. Presumably, the SISA and the SISR will be amended in due course.

At the risk of stating the obvious, if following the above hyperlinks some time after the conference, be sure to look in the top left hand corner of the pages they take you to in order to check if the page says in green ‘Current’. If it instead says in red ‘Superseded’, there should be a link in the top right hand corner titled ‘go to latest’. Naturally, click this.

The schema of the preservation rules

The preservation rules are contained in part 6 of the SISR.

However, for completeness, one must start in the SISA.

Section 31(1) applies to regulated superannuation funds. It is fair to expect almost all self managed superannuation funds to be regulated superannuation funds. (In most cases, the only time when a self managed superannuation fund is not a regulated superannuation fund is when the fund has only just been set up and has not yet had a chance to make an election under section 19(4) to become a regulated superannuation fund.)

Section 31(1) provides that:

The regulations may prescribe standards applicable to the operation of regulated superannuation funds (funds) and to trustees and RSE licensees of those funds.

Section 31(2) elaborates on this providing that:

The standards that may be prescribed include, but are not limited to, standards relating to the following matters:

(e) the form in which benefits may be provided by funds;

(g) the preservation of benefits arising directly or indirectly from amounts contributed to funds;
(h) the payment by funds of benefits arising directly or indirectly from amounts contributed to the funds;
(i) the portability of benefits arising directly or indirectly from amounts contributed to funds;

Naturally, the regulations that prescribe these standards are commonly called the preservation rules.

It is trite to say that the operating standards must be complied with (SISA s 34(1)). Failure to do so can attract significant penalties.

Why auditors check the preservation rules

Consider the ATO publication ‘Completing the Auditor/actuary contravention report’ (NAT 11299-07.2013).

In respect of question 14 of the auditor contravention report, the publication instructs auditors to:

Provide the sections or regulations for the event. Copy each one exactly as it appears in table 1

Table 1 of the publication states

R6.17 Restriction on payment of benefits

Accordingly, auditors are obliged to report on compliance with regulation 6.17 of the SISR.

This regulation provides:

For the purposes of subsections 31(1) and 32(1) of the Act, the standards set out in subregulations (2), (2A) and (2B) are applicable to the operation of regulated superannuation funds …

It goes on to provide that:

[a] member’s benefits in a fund: … (b) must not be paid in that way except when, and to the extent that, the fund is required or permitted under this Part [ie, part 6] to pay them …

Accordingly, it becomes important to consider whether part 6 permits benefits to be paid.

When part 6 permits benefits to be paid in any form

Introduction to key concepts

Part 6 uses the concepts of ‘preserved benefits’ and ‘unrestricted non-preserved benefits’.

(For completeness, I note there is also the concept of ‘restricted non-preserved benefits’, however, it is becoming more and more rare, and accordingly I propose not to discuss it further other than noting that those who are interested in it may wish to read subdivision 6.1.3 of the SISR.)

Preserved benefits

Similar to the concept of ‘taxable component’ in the income legislation, preserved benefits are defined to be a residual amount.

More specifically, preserved benefits are broadly defined to be (SISR reg 6.03):

… the amount of the member’s total benefits in the fund less the sum of … the amount of the member’s unrestricted non-preserved benefits in the fund as defined by regulation 6.10.

Therefore the question now becomes, what are unrestricted non-preserved benefits?

Unrestricted non-preserved benefits

At the risk of oversimplifying, regulation 6.10(1) broadly provides that unrestricted non-preserved benefits are:

…the amount of benefits of the member that have become unrestricted non-preserved benefits in the fund in accordance with regulation 6.12 …

Regulation 6.12(1) then provides that:

If:
(a) a member of a regulated superannuation fund … satisfies a condition of release; and
(b) the relevant cashing restriction in respect of preserved benefits is ‘Nil’;
the member’s preserved benefits in the fund at that time cease to be preserved benefits and become unrestricted non-preserved benefits.

Accordingly, the next questions become:

  • What are the conditions of release? and
  • Which conditions of release have a ‘Nil’ cashing restriction?

Conditions of release

The conditions of release are contained in schedule 1 to the SISR.

In respect of regulated superannuation funds, there are 19 different conditions of release.

Of these 19 conditions of release, seven have ‘Nil’ cashing restrictions, namely (in approximate order of relevance):

  • retirement;
  • attaining age 65;
  • death;
  • terminal medical condition;
  • permanent incapacity;
  • being a lost member who is found, and the value of whose benefit in the fund, when released, is less than $200; and
  • termination of gainful employment with a standard employer sponsor of the regulated superannuation fund on or after 1 July 1997 (where the member’s preserved benefits in the fund at the time of the termination are less than $200).

Naturally, some of these conditions of release have quite specific definitions (eg, ‘retirement’, ‘terminal medical condition’ and ‘permanent incapacity’).

Cashing of benefits

Again, if a condition of release with a ‘Nil’ cashing restriction is satisfied, all preserved benefits become unrestricted non-preserved benefits.

Regulation 6.20 now becomes very important. It provides that:

(1) A member’s unrestricted non-preserved benefits in a regulated superannuation fund may be cashed at any time.
(2) The amount of unrestricted non-preserved benefits that may be cashed in accordance with subregulation (1) is the whole or part of the member’s unrestricted non-preserved benefits in the fund.
(3) … the form in which unrestricted-non preserved benefits may be cashed under this regulation is, unless the cashing occurs in consequence of the death of the member, any one or more of the following forms:
(a) one or more lump sums;
(b) one or more pensions;
(c) the purchase of one or more annuities. [I note that an annuity is broadly paid by a life insurance company or a registered organisation and accordingly self managed superannuation funds typically can not pay them.]

Accordingly, once a condition of release with a ‘Nil’ cashing restriction has been satisfied, there is great flexibility as to how benefits can be cashed.

In order to pay a pension, further, more specific rules must be also met (see, for example, regulation 1.06).

Further, the specific governing rules of the fund — typically contained in or annexed to the trust deed of the fund — must also allow for such payment.

As an example of this, consider the decision in Re Bowmil Nominees Pty Ltd [2004] NSWSC 161. Here the relevant member had died (ie, a condition of release with a ‘Nil’ cashing restriction). However, the deed did not allow for death benefits to be paid as a pension (even the legislation allowed for this). Rather, the deed only provided:

In the event of the death of a Member before attaining the Retiring Age, the amount of the Member’s Benefit shall be held by the Trustees upon trust for the benefit of such one or more of the Member’s Dependants, to be paid in a LUMP SUM in such shares and proportions as the Trustees, in their absolute discretion, determine. [Emphasis added]

When part 6 permits benefits to be paid with restricted forms

I reiterate that of the 19 conditions of release in schedule 1, only seven have ‘Nil’ cashing restrictions.

Accordingly, 12 do not have ‘Nil’ cashing restrictions and can allow preserved benefits to be cashed. However please note, there are associated cashing restrictions.

The most common is contained in item 110 of schedule 1.

This condition of release is ‘attaining preservation age’. Of course, preservation age means (SISR reg 6.01):

  • for a person born before 1 July 1960 — 55 years;
  • for a person born during the year 1 July 1960 to 30 June 1961 — 56 years;
  • for a person born during the year 1 July 1961 to 30 June 1962 — 57 years;
  • for a person born during the year 1 July 1962 to 30 June 1963—58 years;
  • for a person born during the year 1 July 1963 to 30 June 1964 — 59 years; and
  • for a person born after 30 June 1964 —60 years.

Unsurprisingly, the cashing restriction that attaches to this condition of release includes a transition to retirement income stream.

In my presentation I will make reference to two other conditions of release that do not have ‘Nil’ cash restrictions.

The first such condition of release is compassionate ground. Its cashing restriction is:

A single lump sum, not exceeding an amount determined, in writing, by the Regulator, being an amount that:
(a) taking account of the ground and of the person’s financial capacity, is reasonably required; and
(b) in the case of the ground mentioned in paragraph 6.19A(1)(b) — in each 12 month period (beginning on the date of first payment), does not exceed an amount equal to the sum of:
    (i) 3 months’ repayments; and
    (ii) 12 months’ interest on the outstanding balance of the loan

The second is severe financial hardship. Its cashing restriction is:

For a person taken to be in severe financial hardship under paragraph 6.01(5)(a)—in each 12month period (beginning on the date of first payment), a single lump sum not less than $1,000 (except if the amount of the person’s preserved benefits and restricted non preserved benefits is less than that amount) and not more than $10,000

For a person taken to be in severe financial hardship under paragraph 6.01(5)(b)—Nil.

To expressly tie the above back to part 6 of the SISR, regulation 6.18 provides that:

A member’s preserved benefits in a regulated superannuation fund may be cashed on or after the satisfaction by the member of a condition of release.

… the form in which preserved benefits may be cashed under this regulation is… a form (if any) specified in Schedule 1 as a cashing restriction relating to the condition of release …

Conclusion

The preservation rules form a vital aspect of the superannuation regime. Although sometimes thought of as being a bit arcane, once properly understood, advisers can utilise these rules to embark upon more interesting strategies to maximise the benefits for their clients, which I will elaborate on in my presentation.

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