As part of the super reform package that received Royal Assent on 29 November 2016, the Government has re-introduced an effective reasonable benefit limit, otherwise known as the transfer balance cap.

This article is for educational purposes only and is no longer available for CPD hours.

While it is arguable whether the new transfer balance cap rules are simpler than the old reasonable benefit limit rules, there is no dispute that the rules are complex and will impose significant additional knowledge and due diligence requirements on advisers looking to provide retirement income stream advice, both now and into the future.

$1.6 million transfer balance cap

From 1 July 2017, a new transfer balance cap will apply to limit the amount of benefits a client can transfer from the accumulation phase to the tax-exempt retirement phase.

Income streams that will count against the transfer balance cap include all ‘retirement phase income streams’, which include superannuation pensions and annuities, other than transition to retirement income streams and deferred superannuation income streams.

Broadly, the balance of existing retirement phase income streams at 30 June 2017, as well as the initial value of new income streams commenced on or after 1 July 2017, will be measured against the transfer balance cap. Any amounts in excess of the cap will need to be rolled back to accumulation phase or withdrawn from the super system.

General transfer balance cap

The general transfer balance cap for 2017-18 will be set at $1.6 million and will be indexed annually in line with increases in the Consumer Price Index in increments of $100,000.

Personal transfer balance cap

The personal transfer balance cap determines the amount that a client can transfer into retirement phase income streams. The personal transfer balance cap initially equals the general transfer balance cap in the year the client first commences a retirement phase income stream.

However, over time, the personal transfer balance cap may differ from the general transfer balance cap due to proportional indexation. Proportional indexation will be based on the value of any increase in the general transfer balance cap and the unused proportion of the client’s personal cap (based on their highest balance).

Example

Glenda retires on 1 July 2017 and immediately commences a $1.2 million account based pension. As Glenda commenced her first retirement phase income stream in 2017-18, her personal transfer balance cap is equal to the general transfer balance cap of $1.6 million.

In this case, Glenda will have used 75 per cent of her personal transfer balance cap and will have an unused cap proportion of 25 per cent.

On 1 July 2019, the general transfer balance cap is increased by $100,000 to $1.7 million due to indexation. Assuming Glenda has not commenced any other retirement phase income streams in the interim, her personal transfer balance cap will then be increased by $25,000 ($100,000 × 25 per cent) to $1.625 million. In this case, Glenda will then have $425,000 of her personal cap remaining.

Note: Once a member has fully utilised their transfer balance cap, they will not be entitled to any indexation.

Transfer balance accounts

To determine when a client has exceeded their personal transfer balance cap, a transfer balance account system will be implemented that will work like a general ledger, with amounts credited and debited depending on a client’s circumstances.

Amounts credited to transfer balance accounts

The following amounts are required to be credited to a client’s transfer balance account:

• The value of all of a member’s existing retirement phase income streams as at 30 June 2017.
• The commencement value of new superannuation retirement phase income streams commenced on or after 1 July 2017.
• The value of reversionary superannuation income streams as at the time the individual becomes entitled to them. (Note: A modification applies to defer the time at which a credit arises, see below for more information.)
• Where a member has exceeded their transfer balance cap at a time, an amount of notional earnings on the excess amount will apply.

The value of retirement phase income streams that will be credited to a member’s transfer balance account will depend on the type of income stream paid.

For account based income streams (other than market linked income streams):

• where the income stream commenced prior to 1 July 2017, it’s the value of the income stream account balance on 30 June 2017; or
• where the income stream commenced on or after 1 July 2017, it’s the commencement value on the start day.

For certain non-commutable defined benefit income streams (known as capped defined benefit income streams¹), the value of the income stream is determined by multiplying the member’s annual income entitlement by a pension valuation factor.

• For lifetime pensions or annuities, it’s the client’s annual income entitlement × 16.
• For life expectancy pensions and market linked income streams (including term allocated pensions), it’s the client’s annual income entitlement × the number of years (rounded up to the nearest whole number) in the remaining term.

Note: Not all defined benefit pensions and annuities will qualify as capped defined benefit income streams. To determine whether a pension or annuity will qualify as a capped defined benefit income stream, you should contact the product provider.

Timing of credit for reversionary pensions

Where an income stream automatically reverts to a nominated beneficiary on the death of the original recipient, the value of the pension as at the time of death will count as a credit to the beneficiary’s transfer balance account.

However, to give the beneficiary time to arrange their affairs, the credit will be deferred and will not arise in the beneficiary’s transfer balance account until 12 months from the date of death.

This rule applies where a pension reverted to a member’s beneficiary on or after 1 July 2016.

For example, where a pension reverted to a member’s beneficiary on 1 January 2017, a credit will not arise in the beneficiary’s transfer balance account until 1 January 2018.

Conversely, where a member dies with a non-reversionary pension, or in the accumulation phase, and their beneficiary elects to receive the death benefit in the form of an income stream, the value of the death benefit pension will count as a credit at the time of commencement.

Amounts debited from transfer balance accounts

The following amounts will act as debits from a client’s transfer balance account:

• The value of any lump sums commuted from a retirement phase income stream (including where the commutation results in a negative transfer balance account value).
• The value of any structured settlement contributions.
• The value of any replenishment debits approved by the ATO.
• The value of a retirement phase income stream that ceased due to failure to comply with the pension and annuity standards or the trustee’s failure to comply with a commutation authority.

It is important to note that pension payments and negative investment returns do not count as debits. Therefore, the value of a client’s retirement phase pension, such as an account based pension, could be quite different from the value of their transfer balance account where a client’s account balance has changed due to positive or negative investment returns and/or pension payments eroding the balance.

Impact of a rollover on a client’s transfer balance account

Where a client fully or partially commutes a retirement phase income stream, the value of the commutation will be debited from their transfer balance account and can result in a negative transfer balance account value.

This ensures that a client is able to rollover the full value of any retirement phase income stream to another provider, even where their pension balance has grown due to investment returns and now exceeds their personal transfer balance cap.

Example

Diego commenced an account based pension with $1.6 million on 1 July 2017, fully using up his personal transfer balance cap. In 2020, his account based pension balance has grown to $1,750,000 due to strong investment returns. He then commutes his pension and rolls over the lump sum to another provider and commences a new account based pension.

In this situation, Diego’s transfer balance account would have the following entries as shown in Table 1.

Table 1

Consequences of exceeding the transfer balance cap

Where a client exceeds their personal transfer balance cap, the ATO will issue a determination specifying:

• the amount of the excess plus a notional earnings amount that will be required to be commuted and removed from the retirement phase; and
• the name of the fund the ATO will issue a commutation authority to.

In addition, the client will also be required to pay excess transfer balance tax on the amount of notional earnings.

Notional earnings on an excess transfer balance amount will be calculated at the General Interest Charge rate for the period, starting when the client commenced to have an excess amount and ending when the amount is removed from retirement phase². Excess transfer balance tax will apply to notional earnings at the following rates:

• For assessments during the 2017-18 financial year – 15 per cent.
• For assessments from 1 July 2018 – 15 per cent for the first assessment and then 30 per cent for subsequent assessments.

Impacted members will have 60 days to respond to the determination and can either advise the ATO that the amount has already been commuted or nominate a different fund to receive the commutation authority.

Commutation authorities

Where a fund is issued with a commutation authority, the trustee must generally comply and commute the amount specified in the notice within 60 days. A superannuation provider may only choose not to comply with the commutation authority if the income stream is a capped defined benefit income stream (as these income streams are non-commutable) or where there is insufficient balance to pay the commutation amount.

During the 60 day period, there is an expectation that the fund will make reasonable efforts to contact the member to seek instructions, i.e. do they want the excess amount cashed out of super or rolled back to accumulation, and which investment option does the member want commuted?

Where a fund fails to comply with a commutation authority, the entire income stream will cease to be in retirement phase (and no longer qualify for the earnings tax exemption) from the start of the financial year in which the fund failed to comply with the commutation authority and all later financial years. In this case, the client’s transfer balance account will be debited by the value of the income stream.

It will therefore be extremely important for SMSF trustees to take action and comply with the commutation authority and commute the specified amount within the required timeframe.

Transitional rules

It is important to note that transitional rules apply between 1 July 2017 and 31 December 2017 for clients who exceed their transfer balance cap by less than $100,000.

Where a client has an existing retirement phase income stream at 1 July 2017 and they breach their transfer balance cap by $100,000 or less, the excess amount will be disregarded.

However, this transitional rule will only apply where the excess amount is removed from the retirement phase by the end of the six month period (i.e. by 31 December 2017).

The transitional rules will be particularly useful for clients who are unsure of the total balance of their retirement phase income streams at 30 June 2017. For example, clients with multiple account based pensions may not be able to instruct their fund to simply commute any balance over $1.6 million on 30 June, as each pension may have a value of under $1.6 million.

In this situation, a member may need to estimate the total value of their different retirement phase income streams on 30 June 2017 to determine the amount of the excess they will need to commute. The member will then need to confirm the actual value of their retirement phase income streams on 30 June 2017 to confirm if the amount of the commutation was sufficient to reduce the value of any excess to nil.

Pre 1 July action required

Clients who are members of large funds with retirement income stream balances over $1.6 million will therefore need to take action in the lead up to the end of the financial year to reduce the combined value of their income streams to no more than $1.6 million by 30 June 2017 (or $1.7 million under the transitional rules).

However, where a client is a member of an SMSF, they may not know the value of their retirement phase income streams until several months after the end of the financial year when the fund’s annual return is completed.

In this case, members will need to estimate the amount that needs to be commuted by 30 June 2017 and once the actual balances are known, make further commutations if necessary.

For an in depth summary of the transfer balance cap rules, as well as the other super reforms, please see the FirstTech super reform fact sheets available on FirstNet Adviser at www.colonialfirststate.com.au

Footnotes

1. Capped defined benefit income streams include complying lifetime pensions commenced either before or on or after 1 July 2017, or the following types of income streams commenced prior to 1 July 2017 – complying lifetime annuities, complying life expectancy pensions and annuities, complying market linked pensions and annuities.
2. For the purposes of calculating the amount of notional earnings that must be removed from the pension phase, notional earnings will be calculated at the General Interest Charge rate for the period starting when the client commenced to have an excess amount and ending the earlier of when the determination is issued or the date of rectification.

QUESTIONS

For 0.5 CPD Hours (Critical Thinking), go to fpa.com.au/cpdmonthly and answer the following questions correctly.

1. On 30 June, Trevor (age 83) was in receipt of the following superannuation income streams:

• an account based pension valued at $200,000;

• a lifetime capped defined benefit income stream paying $25,000 per annum; and

• a term allocated pension valued at $1 million paying $200,000 per annum with a remaining term of six years.

What will be the value of his transfer balance account on that date?

1. $1.2 million.
2. $1.6 million.
3. $1.4 million.
4. $1.8 million.

2. Janet is receiving an account based transition to retirement income stream (TRIS) on 30 June with an account balance of $600,000. In respect of her TRIS, what will be the value of the credit to her transfer balance account on 30 June?

1. Nil.
2. $600,000.
3. $300,000.
4. $1.2 million.

3. Which of the following transactions will count as a debit for the purposes of calculating a member’s transfer balance account on a particular date?

1. The value of any lump sums commuted from a retirement phase income stream.
2. The value of any structured settlement contributions which the member then used to commence a retirement phase income stream.
3. The value of any replenishment debits approved by the ATO.
4. All of the above.

4. If Sally commenced an account based pension for $1.6 million on 30 June 2018 and the value of the general transfer balance cap was increased due to indexation to $1.7 million one day later on 1 July 2018, what would be the value of Sally’s personal transfer balance cap on that date?

1. Nil.
2. $100,000.
3. $25,000.
4. $75,000.

5. Harriet has an account based pension that she pays from her SMSF. In the week before 30 June 2017, Harriet estimated that her account based pension would have a value of $1.8 million on 30 June 2017. If Harriet only commuted $180,000, how long would she have after 30 June 2017 to withdraw the $20,000 excess under the transitional rules?

1. 12 months.
2. 3 months.
3. 6 months.
4. 60 days.