Australian Government, A Plan to Simplify Superannuation

A Plan to Simplify and Streamline Superannuation

Next: Payment rules simplified
Back: Background and overview of the proposal

2. Taxation of benefit payments

This chapter describes the proposed taxation arrangements that would apply when superannuation benefits are paid from a taxed source (covering about 90 per cent of superannuation fund members). The arrangements for benefits paid from an untaxed source (mainly covering public servants) are dealt with separately in Chapter 8.

Key Points

  • Superannuation benefits paid from a taxed fund either as a lump sum or pension would be tax free when paid to people aged 60 and over.
  • Superannuation preservation rules would not change. If an individual reaches preservation age (currently 55), they would still be able to access their superannuation benefits before age 60, although their benefits would be taxed (broadly in the same manner as they are now but under some simplified rules).
  • RBLs for superannuation would be abolished.

2.1 Current taxation arrangements

2.1.1 Lump sums

The lump sum payment of superannuation benefits is classified as an ETP and is divided into various components, each of which is subject to special tax treatment. The different components could include the: concessional component; post-June 1994 invalidity component; capital gains tax (CGT) exempt component; non-qualifying component; undeducted contributions component; excessive component; pre-July 1983 component; and post-June 1983 component. An explanation of these components is contained in the Glossary. The manner in which each component is taxed is summarised at Table 2.1.

2.1.2 Pensions

Pension payments received by a person in each year are included in the person’s assessable income and taxed at marginal tax rates. However, a deduction is allowed for the return of contributions which were made towards the pension from the pensioner’s own after-tax income and certain other amounts. The annual deductible amount is determined by apportioning the ‘undeducted purchase price’ of the pension over the expected term of the pension. The ‘undeducted purchase price’ of the pension normally comprises the following components of the benefit — undeducted contributions, the CGT exempt component and the post-June 1994 invalidity component.

A flat 15 per cent rebate of tax may be available to recipients aged 55 or over of superannuation pensions paid from a taxed fund. The rebate is available on the amount of the pension which is included in the recipient’s assessable income. The rebate is also only available for amounts up to the applicable RBL. The application of the lump sum RBL or higher pension RBL will depend on the type of pension chosen and whether, overall, 50 per cent or more of total benefits are taken as a ‘complying’ pension. If the benefit is above the relevant RBL, then the applicable rebate will be reduced proportionally reflecting the extent to which the pension exceeds the relevant RBL.

2.1.3 Reporting

Individuals must report details of ETPs and pensions in their tax return. These amounts are included in their income for tax purposes, potentially increasing the amount of tax they pay on other income.

All benefit payments must be reported to the ATO by superannuation funds for RBL purposes.

2.2 Proposed rules for benefits paid to individuals aged 60 and over

2.2.1 Lump sums — proposed arrangements

All lump sum benefits paid from a taxed source to an individual aged 60 or over would be tax free when paid. There would be no RBL.

2.2.2 Pensions — proposed arrangements

All pension payments from a taxed source would be tax free when paid to individuals aged 60 or over, including pensions which commenced before 1 July 2007. There would be no RBL.

2.2.3 Reporting — proposed arrangements

Individuals would not need to include lump sum superannuation benefits and superannuation pensions in their tax return, lowering their taxable income and therefore potentially lowering the tax paid on other income.

Superannuation funds would not need to report benefit payments to the ATO for RBL purposes.

2.3 Proposed rules for benefits paid to individuals aged under 60 years

Current arrangements

Currently, if a person aged between 55 and 59 years receives a superannuation benefit, the taxation treatment is the same as for a person aged 60 or over. However, if a person aged less than 55 receives a lump sum superannuation benefit, higher rates of tax are payable on the post-June 1983 component, and if they receive a pension then no rebate is available. The lump sum benefit treatment is summarised at Table 2.1.

Proposed arrangements

Benefits would still be subject to tax if paid before age 60 — this would provide an incentive for individuals to remain in the workforce and leave their superannuation benefits in their fund until this age. If the individual continues to work and contribute to superannuation in this time, their retirement savings would be further boosted through additional contributions and earnings.

To reduce complexity, it is proposed that the number of taxation components of a benefit be reduced for those under age 60. This would mean some components would be taxed at a lower rate than previously.

2.3.1 Lump sums

Proposed arrangements for those aged under 60

The proposed arrangements would simplify lump sum payments for individuals aged under 60, with the payment being divided into only two components — an exempt component and a taxable component.

  • The exempt component would be tax free. The exempt component would comprise: the pre-July 1983 component; the CGT exempt component, the post-June 1994 invalidity component, concessional component and undeducted contributions.
  • The taxed component (the current post-June 1983 component and the non-qualifying component) would be tax free up to the low-rate threshold ($129,751 in 2005-06) and taxed at 15 per cent above the threshold. For those aged under 55, this component would be taxed at 20 per cent. This is the same treatment as currently applies to the post-June 1983 component.

A comparison of the current system to the proposed system is at Table 2.1.

Calculating the pre-July 1983 component

All funds would be required to calculate a pre-July 1983 amount as at a particular date under the existing legislative formula — that amount would then become a fixed component that would not change in the future and would then form part of the new exempt component.

Table 2.1: Comparison of current system to proposed system

Component

Current tax treatment

Proposal

Pre-July 1983

5 per cent taxed at marginal rates

Exempt component

Concessional

5 per cent taxed at marginal rates

Undeducted contributions

Exempt

Post-June 1994 invalidity

Exempt

Capital gains tax exempt

Exempt

Non-qualifying

Marginal rates

Taxable component
(see below)

Post-June 1983

Taxed as per table below

Excessive

38 per cent

Abolished

Taxable component

Taxpayers age

Current tax treatment (for post June 1983)

Proposal

Under 55

20 per cent

20 per cent

Age 55-59

Up to threshold ($129,751) — 0 per cent

Over threshold — 15 per cent

Up to threshold ($129,751) —
0 per cent

Over threshold — 15 per cent

Age 60 and over

Up to threshold ($129,751) — 0 per cent

Over threshold — 15 per cent

Exempt

2.3.2 Pensions

Proposed arrangements for those aged under 60

Pension payments for individuals aged under 60 would generally continue to be taxed under current arrangements (see section 2.1.2), although consistent with the simplification of taxation of lump sum payments, tax would be lower in some cases.

As the components of a lump sum payment made to a person aged under 60 are to be simplified (see section 2.3.1), more components of a lump sum would be tax exempt under the proposal. This is more generous treatment than is allowed under the current system. It would be appropriate, therefore, that when the undeducted purchase price of a pension (commenced on or after 1 July 2007) is determined that it includes all the new exempt components. This would mean a higher undeducted purchase price, and thus deductible amount, may apply to these pensions than under the current arrangements. For example, any pre-July 1983 component would now be included in determining the undeducted purchase price and thus the deductible amount. For pensions that commenced prior to 1 July 2007, it is intended that the current arrangements for calculating the deductible amount remain.

The full superannuation pension rebate of 15 per cent would apply to all pensions paid from a taxed fund if the individual is aged 55 to 59 years.

Once the pension recipient turns 60, their pension would be tax free as outlined in section 2.2.2.

2.3.3 Reporting — proposed arrangements

Individuals aged under 60 would still be required to report details of ETPs and pensions in their tax return.

Benefit payments would no longer be reported to the ATO by superannuation funds for RBL purposes.

2.4 Death benefits

Current arrangements

When a lump sum benefit is paid as a result of the death of a person, the payment is a ‘death benefit ETP’.

When a lump sum death benefit payment is paid to a dependant, the payment is tax free up to the pension RBL ($1,297,886 for 2005-06). The excessive amount is taxed as an excessive component.

If the lump sum death benefit payment is paid to a non-dependant, the payment is assessable as an ETP based on the deceased’s eligible service period and taxed accordingly. However, of the post-June 1983 component, any amount paid from a taxed fund up to the deceased’s pension RBL is taxed at a maximum of 15 per cent (irrespective of the age of the recipient and no low-rate threshold applies) and 38 per cent above the RBL.

When a reversionary pension is paid on death, it is taxed at the reversionary beneficiary’s marginal tax rate less any deductible amount and receives the same rebate as the original pension.

Proposed arrangements

Under the proposed arrangements, all lump sum death benefit payments would be tax free if paid to a dependant.

It is proposed that the taxation of a death benefit paid as a reversionary pension would depend on the age of the primary and reversionary beneficiary. If the primary beneficiary was aged 60 or over at the time of death, then payments to the reversionary beneficiary would be exempt from tax (given they were already being paid exempt to the primary beneficiary). If the primary beneficiary was under age 60 at the time of death, the pension would continue to be taxed at the reversionary beneficiary’s marginal tax rate (less any deductible amount and pension rebate) unless the reversionary beneficiary is aged 60 or over, in which case it would be tax exempt.

A pension would not be able to revert to a non-dependant on death; rather, death benefit payments to non-dependants would have to be made as a lump sum. Lump sum payments to non-dependants (irrespective of their age) would be taxed in the same manner as other superannuation fund payments to someone in the age 55-59 group (see section 2.3.1), though the entire taxable component (see table 2.1) would be taxed at 15 per cent (as is currently the case for the post-June 1983 taxed element).

2.5 Temporary residents

People who enter Australia on an ‘eligible temporary resident visa’ and who later permanently leave Australia can claim any superannuation they have accumulated. The payment is subject to withholding tax.

Current arrangements

The rates for payments from a taxed source are:

  • undeducted contributions and post-June 1994 invalidity component — 0 per cent; and
  • the remainder (in most cases post-June 1983 taxed element) — 30 per cent.

Proposed arrangements

Reflecting the new simplified ETP components (see section 2.3.1), the rates would be:

  • exempt component — 0 per cent; and
  • taxable component — 30 per cent.

In practical effect, this is no change to the current system. If the payment is from an untaxed source, it would continue to be taxed at 40 per cent.

Next: Payment rules simplified
Back: Background and overview of the proposal

Miscellaneous