Part 1 focused on the compliance and procedural requirements under Division 7A.2 of the Superannuation Industry (Supervision) Regulations 1994 (Cth) (SISR) and the Family Law (Superannuation) Regulations 2025 (Cth), including notices, drafting considerations and implementation pathways.
In Part 2, we turn to pension mechanics, tax and preservation components, and the potential impact of a fund’s compliance history — all of which can materially affect the outcome of a split and are frequently overlooked in practice.
Pension commutation and the proportioning rule misunderstood
Where a retirement phase pension is subject to a split, it must be commuted to the extent necessary to give effect to the orders. This gives rise to several technical considerations.
Mixing of tax components
The tax-free and taxable components of a pension are broadly locked in at commencement. However, once the pension is commuted, the commuted amount is combined with any existing accumulation benefits. This mixing results in new blended tax components that cannot be reversed.
If the split is implemented after, or in conjunction with a commutation, the non-member spouse (NMS) may receive blended proportions rather than the original pension proportions. This may significantly disadvantage a party where the pension had a high tax-free component or has grown substantially since commencement.
Application of the proportioning rule
The proportioning rule requires that any payment or transfer from a member’s interest reflects the tax-free and taxable proportions of that interest immediately before the payment is made. In practice, this means the design of the split should have regard to the following:
- The tax components of a pension interest are fixed unless the pension is commuted.
- The tax components of an accumulation interest are variable, with the taxable component being the residual amount after determining the fixed tax-free component.
- The split must use the component proportions of the source interest.
The timing of any commutations relative to the split therefore directly affects the tax outcome.
Naturally, advisers and clients generally seek the most favourable tax outcome.
Preservation components
The preservation components of a split amount must replicate the proportions of the member spouse’s underlying interest. For example, if the member spouse holds unrestricted non-preserved benefits, the NMS’s split interest must reflect the same proportions. This can influence strategic considerations, such as whether a younger NMS is eligible to take a lump sum outside the superannuation environment under reg 7A.06(1)(c) of the SISR.
These issues are frequently overlooked in practice and can materially affect the NMS’s access to benefits. For example, an NMS who has not met a condition of release may prefer to gain timely access to superannuation moneys in circumstances where their former spouse has unrestricted non-preserved benefits (eg, due to satisfying a condition of release such as retirement after attaining age 60).
Compliance history not factored into negotiations
It should also be borne in mind that an SMSF’s compliance history can materially affect the value of the “super pie” that is actually available as part of the property settlement process. Advisers should consider whether the fund has:
- late lodgment issues and unresolved superannuation law contraventions;
- issues under the trustee–member rules in s 17A of the SISA;
- tax exposures under the non-arm’s length income provisions;
- SMSF residency issues; or
- use of fund assets, early withdrawals and other contraventions.
If the fund is made non-complying, a significant tax impost arises. Broadly, 45% tax applies to the market value of the fund’s assets at the end of the prior financial year, reduced only by certain undeducted contributions that form part of the contributions segment. In addition, the fund’s taxable income for the year of non-compliance, including any assessable contributions, is taxed at 45%, and this punitive rate applies for each subsequent non-complying year.
This can dramatically reduce the value available to be split and produce uneven outcomes for the parties if not addressed during negotiations. If one spouse is responsible for the contraventions and has concealed this from their former partner, then an adjustment may be needed if additional tax and penalties are incurred.
Similarly, personal exposures under the administrative penalty regime due to contraventions can affect the personal finances of both spouses. Note these exposures are generally greater where a fund has individual trustees, as penalties apply per trustee.
These issues should be factored into negotiations and, where appropriate, reflected in indemnities or rectification obligations under the orders.
Other matters
Numerous other issues should be considered before implementing super splitting orders. In particular, among other things, the following should be considered:
- the super split naturally impacts the split of non-super assets and vice versa, eg, a businessperson may elect to forego superannuation to retain the relevant business and its goodwill;
- the amount of pension capital that can be maintained for each spouse in the future under the transfer balance cap rules;
- income tax consequences, including fund-level capital gains tax (CGT), and the application of the CGT rollover relief provisions, if relevant; and
- stamp duty and other indirect taxes.
Note that obtaining CGT rollover is not always advantageous, depending on who you are acting for. If CGT rollover applies, the receiving fund inherits the transferring fund’s cost base, which may expose the receiving fund to future tax liabilities on a later disposal. Conversely, if CGT rollover relief does not apply, the receiving fund can obtain a stepped-up cost base, with the transferring fund needing to account for any resulting capital gain or loss.
Conclusions
SMSF super splits require careful attention to both the family law regime and the SISA/SISR rules. Pension mechanics, tax and preservation components, and a fund’s compliance history can materially affect the outcome of a split. A methodical and technically informed approach helps ensure a compliant, timely and appropriately structured settlement outcome.
