Transfer balance cap changes to impact outcomes on segregating pension assets for ECPI

In a recent technical update, Heffron managing director Meg Heffron said that one of the many strange quirks of the current superannuation system is that there are two entirely different sets of rules aimed at constraining people receiving pensions from SMSFs. 

“Firstly, we have the transfer balance cap regime. Philosophically, this is designed to limit the amount of money anyone can put into the most concessionally taxed corner of superannuation: a pension,” she said in a recent blog.

“Secondly, we have rules about segregating assets for tax purposes. Or more specifically, we have rules that are designed to stop people who have a combination of pension and accumulation accounts from deciding to specifically allocate (or segregate) different assets to different types of account.

“Rather than impose a blanket ban on segregating within SMSFs, the legislators only banned those with (among other things) more than $1.6 million in super from doing so. 

“Given that both sets of rules relate to pensions, it would be reasonable to assume that an increase to $1.7 million for one threshold would also mean an increase in the other. But no, they operate entirely separately and the threshold relevant for segregation remains at $1.6 million.”

Ms Heffron said this will have some quirky outcomes in the future that it’s worth understanding. 

She noted that, most importantly, from 1 July 2021 onwards, it’s entirely possible that clients will be able to put all of their superannuation into a pension (their balance is less than $1.7 million or their personal transfer balance cap which might be lower) but still won’t be able to use the segregated method when it comes to calculating their fund’s tax-exempt income (or exempt current pension income). 

For example, Katie started an account-based pension in 2018 when she was 62 with $1.5 million. She had recently changed jobs and, as a result, her existing super became unrestricted non-preserved. Since then, she’s made new contributions to super which are preserved. 

At 30 June 2021, the balance of her pension was $1.55 million and her accumulation account was $100,000, giving her a total superannuation balance of $1.65 million. On 1 October 2021, she turned 65 and commenced a second account-based pension with her accumulation balance (still around $100,000). 

“Katie’s SMSF was therefore 100 per cent in retirement phase pensions from 1 October 2021. She assumed that the segregated method would apply from 1 October 2021 when it came to calculating her fund’s ECPI for 2021–22 and that an actuarial percentage would only apply for the first three months of the year,” Ms Heffron explained.

“But in fact, that’s not how it works. Katie’s SMSF is not allowed to use the segregated method in 2021–22 because, at 30 June 2021, she met two important conditions where she had a retirement phase pension in place already, and her total super balance exceeded $1.6 million (it was $1.65 million).

“Importantly, the key threshold for segregation has remained at $1.6 million rather than increasing to $1.7 million in line with the general transfer balance cap.

“She will, therefore, only get a partial tax exemption on all income throughout the year, even if it was received or realised after 1 October 2021.”

Ms Heffron said that Katie’s case highlights exactly how confusing all the thresholds can be where the transfer balance cap has increased to $1.7 million but Katie’s own transfer balance cap is $1,607,000 (she gets some of the $100,000 indexation but not much).

She explained: “She can actually contribute $110,000 in non-concessional contributions in 2021–22 because her total super balance at 30 June 2021 was less than the general transfer balance cap of $1.7 million.

“It doesn’t matter that this will give her too much in her accumulation account to convert it all to pension phase when she turns 65. 

“All that matters when it comes to non-concessional contributions is that her total super balance was less than $1.7 million at 30 June 2021, but her fund can’t claim its ECPI using the segregated method because the threshold relevant for that test is $1.6 million (as discussed above). 

“It’s a shame the government didn’t link the two thresholds — the $1.6 million used for segregation and the $1.7 million used for the transfer balance cap. There is no policy logic for the two to be different. Unfortunately, the fact that they are will create some unnecessary traps for the unwary.”