The indexation of the general transfer balance cap set to occur on 1 July has created a whole set of changes in strategies when approaching retirement for SMSFs.
Heffron managing director Meg Heffron said the conventional wisdom in SMSF retirement strategy is that most people who can start retirement phase pensions should do so as soon as possible.
“They come with great tax breaks (the fund stops paying tax on some or all of its investment income, including capital gains), and who doesn’t love a tax break?” she said.
“In fact, in the past, a common strategy adopted by those who wanted the tax breaks but didn’t really want income from their pension was to start a retirement phase pension on 1 June.”
But Ms Heffron said things are slightly different this year.
“From 1 July 2021, the transfer balance cap (the limit on the amount anyone can put into a retirement phase pension over their lifetime) will be indexed for the first time. The general limit will go from $1.6 million to $1.7 million,” she said.
“Not everyone will get the full $100,000 increase. Those who haven’t started any retirement phase pensions at all before 1 July 2021 will see their personal transfer balance cap go up to $1.7 million. But those who have already started pensions will get a lower increase — down to $nil for those who used their full $1.6 million limit at some point in the past.”
This is where timing becomes important in 2020–21, and according to Ms Heffron, someone who has never started a pension but would like to do so “now” needs to weigh up whether the benefits of doing so now are greater than the downside of getting less indexation when the time comes on 1 July 2021.
In an example provided, Mike (62) and Sue (63) have $1 million each in their SMSF (and this is all of their super).
“Their fund owns a property which they are keen to sell in the next few months with a hefty capital gain,” Ms Heffron said.
“Both Mike and Sue have recently retired and won’t be making any further contributions to super in the foreseeable future. It makes perfect sense for them to start pensions now so that the property can be sold with no tax on the capital gain.
“When the general transfer balance cap is indexed to $1.7 million on 1 July 2021, their personal caps will only go up to $1.638 million. But that probably doesn’t matter — even if they make downsizer contributions in the future, they will still fall within their (indexed) cap.
“The only time they might regret missing out on the indexation is when the first one of them dies and the survivor inherits his or her super balance.”
Ms Heffron noted that depending on how big their balances are at the time, the survivor might find that a little more of the combined amount could have been left in a retirement phase pension if he or she had waited until 1 July 2021 to start the first pension and received the full indexation entitlement.
“But it’s highly unlikely that would be a significant enough benefit to change their strategy,” she said.
“In contrast, consider another example where Jim and Nerida might have $1.65 million (each) in their SMSF.
“They know that if they wait until 1 July 2021, they can convert the whole amount to a retirement phase pension (because their cap will go up to $1.7 million). But if they start now, only $1.6 million can be put into a pension.
“The sums they need to do are roughly how much tax will I save by having the fund in pension phase during 2020–21 (i.e. as early as possible) versus what is it worth to me (in terms of longer-term tax savings) to have my whole super balance in a pension rather than just almost all of it?
“The answer will be different for different funds.”
