On July 1, 2019, innovative superannuation income streams became a viable offering for product providers, financial planners and clients. However, the rules governing these new income streams, also referred to as Comprehensive Income Products for Retirement (CIPRs), are complex.
On July 1, 2019, innovative superannuation income streams became a viable offering for product providers, financial planners and clients. Such income streams, also referred to as Comprehensive Income Products for Retirement (CIPRs), were given a significant boost by social security law changes that provide them with means-testing concessions.
The rules governing these new income streams are complex. Determining what constitutes an innovative superannuation income stream, and then calculating how much of it qualifies for social security means testing concessions, requires a clear understanding of a number of new terms and concepts.
What led to innovative superannuation income streams?
After significant consultation, Treasury released a position paper in 2018 on retirement incomes. It gave three key features required for a retirement income product to be considered a CIPR. These were:
Efficient and broadly consistent income.
The provision of income for life.
Some flexibility and access to capital.
How does this translate to the innovative superannuation income stream law?
While the regulations that permit innovative superannuation income streams broadly reflect Treasury’s position paper, they are not currently as prescriptive. Under the Superannuation Industry (Supervision) Regulations, innovative superannuation income streams must meet the following criteria:
They may only be commenced after the owner has met the death, retirement, terminal medical condition, permanent incapacity or attaining age 65 condition of release.
They must be payable throughout the life of the primary or reversionary beneficiary.
Their payment amounts must have been determined using a method that ensures they are not unreasonably deferred, taking into account the timing of the investment returns, the age and mortality of the beneficiaries of the income stream and any other relevant factors.
After an innovative pension commences retirement phase, lump sum commutations cannot exceed permitted levels.
If a commutation occurs before retirement phase starts, a condition of release must be met, and the standard order of cashing restrictions must be followed (first unrestricted non-preserved, then restricted non-preserved, then preserved).
Ownership can only be transferred on the death of the original beneficiary.
The income stream cannot be used as security for borrowing.
Such income streams can be deferred more than 12 months after purchase but they must still have annual payments after payments commence.
Traditional account-based or lifetime income streams cannot be considered innovative superannuation income streams.
Maximum permitted commutation levels from innovative superannuation income streams rely on two factors:
The life expectancy period: This is based on the life expectancy of the primary beneficiary if they were alive when the retirement phase commenced, or the reversionary beneficiary if the primary had died by that date. The life expectancy period is the number of days from the day the income stream enters retirement phase until the end of the relevant person’s life expectancy.
Iris, aged 66, purchased an innovative superannuation income stream in January 2020. The income stream is not deferred, so it enters retirement phase on the day of purchase. Iris’ life expectancy at this date is for 21.6 years. For commutation purposes, this makes her life expectancy period 7,890 days (including leap years).
Access amount: This is the maximum amount payable on the day the pension enters retirement phase plus any additional instalments paid into the pension after the retirement phase commences. However, if the innovative income stream is not deferred, the access amount will commonly be the purchase amount.
Iris purchased her innovative superannuation income stream with $200,000. As it is not deferred and no further contributions are made, her access amount is $200,000.
If a death benefit is paid before the halfway point of the life expectancy period, the whole access amount may be commuted. Otherwise, the maximum commutation level is the access amount, pro-rated for the days remaining in the life expectancy period, less any previous commutations.
If Iris wished to commute her innovative superannuation income stream after 3,000 days, assuming no commutations have been made, her maximum commutation amount under the regulations would be:
$200,000 x (7,890 – 3,000) / 7,890 = $123,954
If this commutation was due to Iris’s death, Iris’ full access amount of $200,000 could be commuted, as less than half her life expectancy period had elapsed.
If Iris instead commuted her income stream after 4,000 days, her maximum commutation allowed under the regulations would be:
$200,000 x (7,890 – 4,000) / 7,890 = $98,606
If this commutation was due to Iris’ death, the maximum amount would still be $98,606, as more than half of her life expectancy period had elapsed.
It is important to note that these are the maximum commutation amounts permitted by law. Actual commutation amounts may be governed by the income stream conditions and may be lower.
An innovative superannuation income stream is fully commutable within the 14 day cooling off period after purchase.
Social security means testing concessions
The laws that were passed to provide means testing concessions to innovative superannuation income streams do have broader application. Any income stream purchased from July 1, 2019 that falls under the definition of an asset-tested (lifetime) income stream can benefit from concessions.
Where an income stream has a component of account-based, allocated or term income stream, and a component of lifetime income stream, it is only the lifetime component that is considered an asset-tested (lifetime) income stream and therefore, benefits from the means testing concessions. The lifetime component may take different forms, including a contractual agreement or specific investment component.
Asset test concessions
The asset test concessions revolve around three key concepts: the assessment day, the threshold day and the purchase value.
From the assessment day until the threshold day, only 60 per cent of the purchase value of the income stream is assessed as an asset for the owner. From the threshold day onwards, only 30 per cent of the purchase value of the income stream is assessed as an asset for the owner.
For superannuation income streams, ‘assessment day’ is defined as the later of:
the day the income stream recipient satisfies a condition of release that is identified as acceptable under an instrument created by the Secretary of the Department of Social Services;
the day of the first income payment from the income stream; or
the day the person acquired the income stream.
Where a pension reverts, the assessment day is either:
the day of the reversion if the assessment day had already occurred for the initial owner; or
the assessment day determined using the process outlined above for the new owner ignoring point 2.
In practice: For most non-deferred superannuation income streams, the assessment day will be the day of the first income payment.
‘Threshold day’ is defined using the life expectancy of a 65-year-old man on the assessment day of the income stream (currently 19.86). This life expectancy is then rounded down to the nearest whole number and increased by 1 (currently resulting in a life expectancy age of 85).
The threshold day is the later of:
the day the recipient reaches the age determined using the process outlined above; and
the fifth anniversary of the income stream’s assessment day.
If a pension reverts after the original owner’s assessment day, the threshold day remains that of the original owner. If the reversionary owner’s assessment day has yet to occur, an asset-test concession only occurs after the reversionary owner’s assessment day and it is the higher concession.
In practice: The threshold day is currently age 85 or five years after the assessment day, whichever is later.
The ‘purchase value’ of a lifetime income stream is split into two portions:
The portion that relates to any amounts contributed for the income stream on or after the recipient’s assessment day; and
The portion that relates to any amounts contributed to the income stream before the recipient’s assessment day, indexed at the higher deeming rate from the day the contribution is made until the assessment day.
This is reduced for any commuted amounts.
In practice: Practically, this means that any amounts contributed before drawdowns can commence is indexed at the higher deeming rate (currently 3 per cent). This would usually only have a significant impact if the income stream is deferred in some fashion or if the first payment is made after the income stream is purchased.
Determining the asset value
The legislation allows the Secretary of the Department of Social Services to impose additional conditions when determining the value of an asset-tested income stream (lifetime). In doing so, the Secretary has determined that the asset value of an asset-tested income stream (lifetime) is the greater of:
60 per cent of the purchase value from the assessment day up until the threshold day and 30 per cent of the purchase value thereafter;
Any current or future surrender value above a surrender comparison value that reduces over time; and
Any current or future death benefit values above a death comparison value that reduces over time.
If the surrender and death benefit values are always at or below the comparison values, the values used in the options 2 and 3 above will be zero.
Surrender and death comparison values
The surrender and death benefit comparison values used in the calculation above reduce evenly over the longest life expectancy of the beneficiaries (rounded down to the nearest year) from the commutation value at the assessment day, to zero. For death benefit comparison values, it is only when one half of this life expectancy period has elapsed that the comparison value drops below the commutation value on the assessment day, plus any additional instalments thereafter (and it immediately halves).
In practice: If the asset-tested income stream (lifetime) has a surrender value that reduces at a slower rate than an even reduction over the older beneficiary’s life expectancy, it may not benefit from the asset-test concessions. A similar circumstance will arise if the death benefit payable from the income stream reduces more slowly than even reduction during the second half of the same life expectancy.
Income test concession
The income test concession for asset-tested income streams (lifetime) is significantly less complex. Sixty per cent of the actual annual payment from the income stream is assessed under the income test.
On the surface, the means testing concessions available to the lifetime component of innovative superannuation income streams are appealing. However, careful consideration needs to be given to how the set purchase price used under the assets test would impact Age Pension entitlements when compared to an annually reassessed product, such as an account-based pension, over time.
There are also likely to be tighter restrictions on accessing capital and less market exposure, when using innovative superannuation income streams than for an account-based pension.
Until meaningful quantities of innovative superannuation income stream products hit the market, it is hard to fully assess their strategic value. That said, it is important to understand how the rules governing, and impacting, such income streams work before the likely release of products. This allows a faster assessment of the value of new products when they become available.
1. Errol is 70 when he purchases his innovative superannuation income stream on March 1, 2020 for $100,000. His life expectancy at the access day is 15.90 (5,806.5 days). Errol dies 2,500 days after the access day. What is Errol’s maximum permissible death benefit commutation amount under the SIS regulations?
2. Frederica is 78 when she purchases her innovative superannuation income stream on March 5, 2020 for $300,000. Her life expectancy on the access day is 11.90 (4345.5 days). Frederika dies 3,000 days after the access day. What is Frederika’s maximum permissible death benefit commutation amount under the SIS regulations?
3. Greg purchases an innovative superannuation income stream for $300,000. Of the $300,000, $100,000 is added to a pool of assets that provides a lifetime payment for all contributors to that pool. Payments relating to that $100,000 are calculated according to Greg’s life expectancy at the purchase date. The remainder of Greg’s $300,000 is in an account-based pension.
How much of Greg’s innovative income stream may be eligible for social security means testing concessions if considered an asset-tested (lifetime) income stream?
4. Heather, aged 81, purchases a non-deferred innovative superannuation income stream. When is the threshold day for Heather’s innovative income stream?
a. Her 85th
b. 905 years from the day she received her first income payment.
c. Five years from the day she received her first income payment.
d. 81 years from the day she received her first income payment.
5. Ian purchased an innovative superannuation income stream for $300,000 in 2020. The income stream has a lifetime component that was purchased for $100,000. This component is considered an asset-tested (lifetime) income stream under social security law, and the surrender and death benefit values are not greater than a straight line reduction over Ian’s life expectancy period. The income stream also has an account-based income stream component that was purchased for $200,000.
Ian receives a monthly payment of $17,000 from the income stream, with $5,000 attributable to the lifetime component. How is the income stream assessed under the social security income test?
a. The balance of the account-based income stream is deemed, with 40 per cent of the deemed amount exempt from assessment and $3,000 of the lifetime component assessed as income.
b. $300,000 is deemed, with 40 per cent of the deemed amount exempt from assessment.
c. The balance of the income stream is deemed, with 40 per cent of the deemed amount exempt from assessment.
d. The balance of the account-based pension is deemed and $3,000 of the lifetime component is assessed as income.