When advising clients on pension phase, the key areas to be aware of are excess transfer balances, lump sum vs pension payments and transfer balance caps.

Excess transfer balances

Some clients will have had an excess transfer balance amount recorded in their transfer balance account (TBA) on July 1 this year. This may be due to a range of reasons, such as market returns pushing them above the $1.6 million cap in the lead-up to June 30.

Where an excess is recorded, the client will need to reduce their TBA by making a commutation, either back to accumulation or out of the pension.

The commutation required will be calculated based on the amount in excess as at July 1, as well as any notional earnings that have accrued up to the time of commutation. Excess transfer balance tax may also apply.

Pension payments and/or a reduction in the value of the pension due to market movements will not address an excess transfer balance, as these do not result in a debit to the TBA.

Clients who were in excess on July 1 by no more than $100,000 need to make the required commutation by December 31, 2017 under the transitional rules, to avoid excess transfer balance tax.

Lump sum v pension payments

Unlike pension payments, lump sum commutations will result in a debit to the transfer balance account (TBA). Therefore, if a client requires additional capital from their pension, they may be better off making a lump sum commutation rather than increasing their pension payments, as the following example illustrates.

Case study: Lump sum commutations

Damian (age 63) starts a pension on July 1, 2017 with $1.6 million. His annual pension payment for 2017-18 is $80,000. After commencing renovations to his home, he discovers he needs an additional $100,000 to complete the project.

If Damian asks his fund to increase his annual pension payments for the year to $180,000, he will not receive any debits to his TBA and will still have a TBA balance of $1.6 million (regardless of the actual account balance).

If, on the other hand, Damian maintains the annual pension of $80,000 and instead asks the trustee to commute $100,000 of the pension as a member lump sum:

  • $100,000 will be debited from his TBA.
  • His TBA will reduce to $1.5 million.
  • He will have the opportunity to transfer an additional $100,000 to pension phase at a future stage if he wishes.

However, because his TBA balance was $1.6 million when the pension commenced, he will not benefit from any future indexation to the general transfer balance cap.

Managing transfer balance caps

Where clients have a spouse, there are some strategies that can be used to equalise super benefits and better utilise the transfer balance cap as a couple.

One approach is to split up to 85 per cent of the previous financial year’s CCs with their less superannuated spouse.

Another option, if they have met a condition of release, is to cash out a portion of their super and arrange for the money to be contributed into their spouse’s account. This could be done as a spouse contribution, where a tax offset of up to $540 may be available. Alternatively, the spouse could make a personal after-tax contribution, which may attract a government co-contribution.

Having had these important conversations with your clients in the contributions and pension phase, the final area to turn your mind to is super and estate planning, which we’ll cover in the third instalment.

Richard Edwards is a technical consultant with MLC. 

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