Should you roll over a grandfathered account-based pension?
If you have clients with a grandfathered account-based pension for social security purposes, the question of whether to retain grandfathering or to roll over to a new account-based pension that will be deemed is an important decision, said a leading adviser.
In a recent FirstTech podcast, Kim Guest, senior manager for technical services at Colonial First State, said that while Australia’s deeming rate is historically low, making deemed account-based pensions seem more attractive, there is no guarantee that deeming rates will stay at their current low levels forever.
Before 2015, all account-based pensions were assessed in the same way under the income test for social security purposes looking at the annual payment the client receives from that account-based pension and subtracting a deductible amount.
That meant if a client drew a fairly low annual payment, which was equal to or less than the deductible amount, they actually had no income that was included under the income test from that account-based pension.
However, if they drew a higher annual payment that exceeded the deductible amount, then the bit that was above the deductible amount was actually included in their assessable income.
All new account-based pensions purchased after 2015 were deemed instead of being assessed under the old rules and were included in all other financial investments, and the deeming rates were applied, which meant that with the new deemed account-based pensions, it didn’t matter what level of annual payment the client actually received, as they were subject to deeming, regardless of how much income they drew.
However, when the government introduced the new rules, from 1 January 2015, it grandfathered existing account-based pensions that were already in place.
Therefore, if a client commenced their account-based pension prior to 1 January 2015, and they still have that account-based pension, and they’ve been receiving Centrelink payments, such as the age pension since that time, then they have a grandfathered account-based pension, which continues to be assessed under the old rules.
Ms Guest said there is also grandfathering that applies to reversionary account-based pensions.
Questions arise, she said, if clients who have the older products that grandfathering applies and the implications if they change to an account-based pension or if they roll over a grandfathered account-based pension to move to a new product.
“We know that their account-based pension is deemed for social security purposes, so the question is, what’s going to be better for them? Sticking where they are and keeping grandfathering? Or going for the new deemed account-based pension?” she said.
Ms Guest said that under the existing grandfathered account-based pension, under the income test, the level of assessable income could be very low if the annual payment being drawn is equal to or less than the deductible amount.
“Alternatively, if they were doing a higher level of income that exceeded the deductible amount, they could have quite a lot of assessable income,” she said.
“Whether that grandfather account-based pension is appropriate for them depends on what level of income they’re drawing. If they did need a higher level of income in a particular financial year, say $20,000 to buy a new car, then we have the complication with those grandfathered account-based pensioners to how do you take that $20,000 out.
“If they take it as an additional pension payment, then that increases their assessable income for the remainder of that financial year, and sometimes, that can take them by surprise and adversely affect their Centrelink.
“If they have an alternative of taking it as a lump-sum commutation, then that recalculates and reduces the deductible amount.
“The decision is complicated and needs to be thought about carefully.”
However, if a client decided to roll over to a new account-based pension, it’s simpler, Ms Guest said.
“Then the amount is just included in their other financial investments in deemed,” she said.
“Deeming rates are very low at the moment — they’re only 0.5 and 2.25 per cent — so rolling to a deemed account-based pension isn’t such a bad option.
“However, once you roll over to a new named account-based pension, you’ve lost grandfathering, and there’s no going back.”
Ms Guest said it’s important to look at the deeming rates and decide if they are going to stay at the current low levels.
“There will be some people that would still have a grandfathered account-based pension that might be under 75, and it has to be also considered if they are looking at recontribution strategies as to whether they move forward from grandfathering to deeming and how that may affect their age pension,” she said.
Although deeming rates are frozen at their current levels through to 30 June 2024, Ms Guest said that with interest rates rising, there is no certainty they will remain low.
“If we assume the government will increase deeming rates, we’re looking at a kind of a worst-case scenario,” she said.
For example, if you consider a client who is a single home owner with $10,000 in household contents and $500,000 in an account-based pension that’s subjected to deeming, what would be the impact of the increase in the deeming rates?
“We’re assuming we’ve moved them from a grandfather account to a deemed one, and right now, deeming rates are low, but if they increase up to between 3 and 5 per cent, would they be impacted then?” she said.
“And interestingly, in that scenario, when the deeming rates shoot up, it does increase their assessable income from $10,122 per annum to $23,872 per annum, so that increase in deeming rates does substantially increase their assessable income.
“However, based on this client scenario, it actually doesn’t change their age pension because they’re still asset tested in this scenario, where they have $500,000 of assets, deeming rates would have to go up quite a bit to impact them.”
Ms Guest said it would have an effect if the client had some other kind of assessable income, such as a defined benefit pension or foreign pension, which could then impact them under the income test.
She said another issue to consider is a reversionary account-based pension.
“If a client has a grandfather account-based pension, and they’ve nominated their spouse’s reversionary beneficiary, as long as the spouse that receives the income stream themselves is on Centrelink, or DBA income support payments, such as the age pension, then that grandfathered account-based pension will continue to be grandfathered, when it reverts to that beneficiary.
“The question becomes whether that is beneficial for that spouse. Is grandfathering a good thing? Or would deeming be better?
“It is complicated when we have one spouse pass away, because the surviving spouse is then subject to the single-income and asset test thresholds for Centrelink, and it depends on what income and assets are still in that person’s name,” she said.