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Post-budget super strategies

Post-budget super strategies. Alex Denham Head of Technical Services November 2006. Disclaimer.

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Post-budget super strategies

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  1. Post-budget super strategies Alex Denham Head of Technical Services November 2006

  2. Disclaimer Past performance is not a reliable indicator of future performance. Offers of interests in the Challenger Guaranteed Income Plan are contained in the relevant current Product Disclosure Statement (PDS) issued by Challenger Life No.2 Limited: ABN 44 072 486 938 AFSL 234670 which are available on our website www.challenger.com.au and should be considered before making any decision about the product. The information contained in this presentation is current as at 6 September 2006 unless otherwise specified and is intended solely for licensed financial advisers. It must not be passed on to a retail client except where it is included as part of the financial adviser's own advice to their client and is not accredited to Challenger. Any information provided or conclusions made, whether express or implied, do not take into account the investment objectives, financial situation and particular needs of an investor. The taxation and Centrelink illustrations are based on current and proposed law at the time of writing, which may change at a future date. The case studies in this presentation are fictional and used for illustrative purposes only Challenger Life No.2 Limited is not licensed or authorised to provide tax advice. We strongly recommend that an investor seeks professional taxation and social security advice for their individual circumstances.

  3. Agenda • Contribution rules • Payment rules

  4. Undeducted contributions • Can contribute up to $1 million between 10 May 2006 and 30 June 2007 • $150,000 limit not to apply until 1 July 2007 • 3 year averaging provisions to apply from 1 July 2007 • Only those under 65 will be able to bring forward the next 2 years’ contributions ($450,000 contribution in one year) • No work test required

  5. Undeducted contributions Examples of averaging provisions (under age 65)

  6. Undeducted Contributions • Contributions in excess of cap taxed at top marginal rate! • Original proposal was to tax only earnings on contributions • ATO will have discretion to reduce taxable amount for genuine inadvertent breaches • Super funds prohibited from accepting more than the caps • If already contributed more than $1m since 10 May, have until 1 July 2007 to withdraw without penalty

  7. Exemptions to the cap “The proceeds from the disposal of assets that qualify for the small business capital gains tax (CGT) exemptions (that is, the 15-year exemption and the $500,000 retirement exemption) up to a lifetime limit of $1 million (indexed).” • Intention appears to be that the business asset has been held for 15 years, however not stated clearly • Also applies to assets that would have qualified if were not pre CGT assets if held 15 years • Also exempt: proceeds from a settlement for an injury resulting in permanent disablement

  8. Case Study: Sam and Helen’s farm • Helen (61), Sam (64) have owned their farm for 13 years • Plan to sell and retire in 1 year – September 2007 • Bought $1M, will sell for $2.5M • Held through family discretionary trust • Distribution history: Sam – 50% Helen - 20% 10% each to 3 adult kids • Controlling shareholder the entire way through • On sale, intended to put proceeds into super for retirement income stream

  9. Case Study: Sam and Helen’s farm NB: this is based on our interpretation – outcome still unclear • Option 1: CGT Retirement Exemption • They do not qualify for the 15 year exemption, so use the CGT Retirement Exemption • $500,000 CGT Exempt component can be rolled over to super • Make the same income distributions in that year to ensure there is a controlling individual • Helen and Sam are CGT Concession Stakeholders • Distribute $1,000,000 cap gain to Sam, $500K to Helen

  10. Case Study: Sam and Helen’s farm • Sam: $1,000,000 cap gain • 50% discount $500,000 • Retirement exemption $500,000 • Taxable capital gain = $0 • Helen: $500,000 cap gain • 50% discount $250,000 • Retirement exemption $250,000 • Taxable capital gain = $0

  11. Case Study: Sam and Helen’s farm Sam and Helen’s super fund $1,550,000 able to be contributed to super $950,000 remains outside

  12. Case Study: Sam & Helen’s farm NB: this is based on our interpretation – outcome still unclear • Option 2: 15 year exemption • Put off retirement/sale for a year to September 2008 • Farm now owned 15 years • For the next 2 years continue trust distributions as usual • Controlling individual entire 15 years • 15 year CGT concession applies • $1.5M capital gain entirely disregarded • Sam is 66, Helen is 63 • Sam must have met work test in year of contribution

  13. Case Study: Sam & Helen’s farm Sam and Helen’s super fund in 2 years’ time: Total contributions to super: $2.5million

  14. Deductible contributions • Age-based limits to be abolished from 1 July 2007 • Replaced with new annual concessional contribution limit of $50,000 per person (all ages) • Indexed to AWOTE but only if increase is greater than $5,000 and in $5,000 amounts • Contributions over concessional limit: • Deductible but taxed at 46.5% • Levied on the individual, not the fund • Count towards the undeducted contributions cap • Transitional period for those 50 and over • Maximum concessional contribution of $100,000 to 2011/2012

  15. Deductible contributions • Self-employed & unemployed (under 65) to receive 100% deduction for contributions • Will not be limited to the ‘$5,000 + 75%’ rule • Simplification of ‘eligible person’ test • Self-employed can be eligible for co-contribution from 1 July 2007 • 10% or more income must come from carrying on business, eligible employment or combination of both • Income = assessable income – business expenses

  16. Deductible contributions • Work test for those 65+ will remain • Will still need to meet work test of 40 hours gainful work over 30 consecutive days • Ability to make deductible contributions to super until age 75 (previously 70) • Provided the above work test has been met • Applies to employer and self-employed contributions • Additional 5 years for employees to salary sacrifice • Starts 1 July 2007

  17. Deductible contributions • Should I salary sacrifice or make deductible contributions above my concessional contribution limit? • Example • Mark salary sacrifices an extra $50,000 over his concessional contribution limit • He also made an undeducted contribution of $450,000 • Result: the $50K taxed at 46.5%: $23,250 • $50,000 counts towards his UDC cap - taxed again at 46.5%: $23,250 • Total tax paid: $46,500 = 93%

  18. Deductible contributions For the 2006/2007 financial year only • Closing opportunity to double the MDC • Employed by 2 or more unrelated employers (82AAT) ; e.g. • Multiple company directorships • Contract services to different employers • Employed but also eligible to make deductible contributions under the 10% rule (82AAC) • Employer can contribute up to aged based limit • Individual able to claim personal tax deduction for contributions up to aged based limit • 82AAC & 82AAT not linked by associate test

  19. Deductible contributions Fred is 53, director of his own company • TO 30 JUNE 2007 • Company makes $105,113 deductible contribution • Receives other income as dividends, not salary: meets 10% rule • Personally contributes $138,484 to receive $105,113 personal tax deduction • Total deductible contributions: $210,226 • FROM 1 JULY 2007: • Company makes $100,000 deductible contribution (taxed @15%) • Fred can claim 100% tax deduction for any of his contributions (meets 10% rule), but all will be taxed at 46.5% AND count towards his UDC cap

  20. Other taxable contributions • Transfers from overseas funds • Can elect to have the growth in the overseas fund treated as a taxable contribution - all taxed at 15% • Other benefits treated as undeducted contributions and count against the undeducted contribution cap • Transfers from untaxed schemes • First $1 million transferred treated as taxable contribution • Transferring fund will withhold tax at 45% for amounts above $1 million • This amount treated as exempt component and not taxed further

  21. Reasonable benefits limits • Reasonable Benefit Limits (RBL) to be abolished from 1 July 2007! • All pensions in place on 1 July 2007 will become non-excessive • Consider rolling excessive AP’s back to accumulation phase • No work test issues • Recommence pension 1 July 2007 – fully rebatable or tax free • Consider rolling back TAPs if still within first 6 months • Delay commencing pensions that will crystallise excess benefits

  22. Payment rules – taxation Taxed Source *Exempt component will comprise: pre-July 1983, CGT exempt, concessional & post-June 1994 invalidity components **Refers to low tax free threshold that will be reset at $140,000

  23. Payment rules • Pre-July 1983 component • Calculated on value of benefits @ 30 June 2007 • Super funds have until 30 June 2008 to calculate • Will become fixed component that will not change in future • Form part of new exempt component & UPP • No crystrallisation for employer ETP’s • Continue to be calculated on termination of employment • Clients able to make UDC prior to 30/6/2007 will increase pre component

  24. Payment rules • Pre-July 1983 component – example • ESD: 1 January 1975 • Pre/post: $500,000 • Components @ 30/6/2007 • Pre (3103 days) $130,719 • Post (8766 days) $369,281 • Total $500,000 • Contribution of $200,000 prior to 30/6/2007 • Pre (3103 days) $183,006 • Post (8766 days) $316,994 • Undeducted $200,000 • Total $700,000

  25. Payment rules • From 1 July 2007, payments from super must be drawn down proportionately from exempt & taxable components • To apply to lump sums & pensions • For example, wont be able to choose to withdraw only taxable amount when over 60 (may want to for estate planning purposes) • Wont be able to withdraw UDCs alone • Low rate threshold for 55+ • Set at $140,000 on 1 July 2007 & indexed to AWOTE in $5,000 amounts

  26. Payment rules – death benefits Lump Sums • *Dependant is the Tax Act definition: spouse, child under 18, financial dependant, interdependency relationship • Death benefits can be paid as pension to dependant from accumulation phase • If to dependant child – must be paid as tax free lump sum when child turns 25 unless permanently disabled

  27. Payment rules – death benefits • Pensions • Reversionary pension taxed based on age of primary & reversionary beneficiary • If PB >= 60 Pension tax free • If PB < 60 & RB >= 60 Pension tax free • If PB< 60 & RB < 60 Pension taxed as is (rebate if 55+) • Pension not able to revert to non-dependants • Must be paid as lump sum where 15% tax will apply on taxable component

  28. Payment rules – death benefits • Issues to consider • How much to insure through super? • No RBL’s but tax still payable by non-dependant • Currently non-dependants may also receive untaxed element taxed @ 30% • No mention if this will still apply • Recontribution strategies still valid to increase exempt component • Funds still need to track components post age 60 • Appears that exempt & taxable component will reduce proportionately

  29. Case Study: Alice’s estate plan • Alice is a 60 year old widow, retired • $850,000 allocated pension reverted from deceased husband 3 years ago (all post 83) • 2 adult independent children • Estate planning concerns – to minimise tax • What are her options and the advantages and disadvantages? • It is June 2007 and the changes have been enacted as announced

  30. Case Study: Alice’s estate plan • Option 1: do nothing • 16.5% tax paid on lump sums to children on her death - $140,250 tax to pay if she dies now • Option 2: recontribution strategy of total balance pre 1 July 2007 • June 2007: withdraw full balance and recontribute • Will pay $117,878 lump sum tax • Option 3: recontribution strategy up to UDC limits: • June 2007: withdraw $135,590 and recontribute • July 2007: withdraw $450,000 and recontribute • July 2010: withdraw remainder and recontribute • Advantages: all is now undeducted contributions – no tax to pay on her death • Disadvantages: she will need to recommence new pensions, if she’s never worked the UDCs will be preserved until she turns 65

  31. Payment rules • Invalidity payments • Extend eligibility for post-June invalidity component to self-employed from 1 July 2007 • Calculation of invalidity component to remain the same • ETP x No. of days from termination date to age 65 No. of days from ESD to age 65 • The younger they are, the higher the invalidity component

  32. Payment rules – employer payments • If not specified in contract as at 9 May 2006, from 1 July 2007 • Not able to roll into super • Exempt component tax free • Tax free treatment of redundancy payments and approved early retirement schemes not changing • Currently $6,783 + ($3,392 x years of service)

  33. Payment rules – employer payments • Transitional arrangements (from 1 July 2007) • If employer ETP specified in existing contract at 9 May 2006 & ETP is paid prior to 1 July 2012 • Will comprise an exempt and taxable component • Can be rolled into super until 1 July 2012 • Amounts above $1M taxed at top MTR plus Medicare • Amounts < $1M treated as taxable contribution but won’t count towards cap

  34. Payment rules - employer payments • Example: Employer ETP for $500,000 all post (non excessive) *Under current & transitional rules could elect to roll the employer ETP where $75,000 would be deducted • Transitional rules more favourable than current rules where ETP is greater then lump sum RBL! • New rules more harsh for ETP’s greater than $140,000

  35. New pensions • Proposed to introduce single set of rules for pension products from 1 July 2007 • Payments of minimum amounts to be paid annually but no maximum limit • Proposed minimum pension payments • Cannot make provision for amount or % to be left when pension ceases i.e nil RCV

  36. New pensions • If commenced under transition to retirement rules • Cannot withdraw more than 10% of account balance • Same non-commutability rules will apply • Pension can only be transferred to one dependant on death or cashed as lump sum to pensioner’s estate • Pension will not be able to revert to non dependant (lump sum only) • Lump sums to multiple beneficiaries – set up separate pensions

  37. Case Study: Terry’s transition to retirement • Terry (60) earns $60,000 & has $200,000 accumulated in super • His after tax income is approx $46,000 • Will continue working full time • What sort of transition to retirement strategy would work for him? • What are some other benefits he might get?

  38. Case Study: Terry’s transition to retirement *Assumes Co-contribution lower threshold - $29,260 (indexed to AWOTE of 4.5%) **Maximum co-contribution available based on UDC of $975

  39. Case Study: Terry’s transition to retirement • Terry is now eligible for a co-contribution • Lower co-contribution income threshold to be indexed to AWOTE from 1 July 2007 • Maximum co-contribution = $1,463 based on UDC of $975 & salary of $30,000 • Pension income does not count towards total income • Terry also increased his eligibility for offsets • Mature age worker offset increased from $350 to $500 • Low income tax offset of $400 now available

  40. Case Study: Terry’s transition to retirement End balances: no salary sacrifice v $30K sacrifice + AP income $393,525 $327,898 Assumptions: Salary and contributions indexed by 2.5% p.a., net earnings on super 8% p.a., 9.4% p.a. on AP, 15% conts tax, income from AP $20 indexed by 2.5%p.a., Co-contribution threshold increased by 4.5%, Super Guarantee not reduced on salary sacrifice

  41. New pensions • Pension investment income & capital gains remain tax free • No restrictions on access to capital • 100% assets tested by Centrelink/DVA • Current Income Test treatment unchanged • How to distinguish income payments from lump sums for amounts taken above minimum? • Under current rules extra payments taken as ETP’s do not count as income but cause recalculation of deductible amount Purchase price – commutations Relevant number

  42. Tax File Numbers • Where TFN not quoted: • Super fund not able to accept undeducted contributions • Taxable contributions taxed at 46.5% • $1,000 threshold for accounts opened before 1 July 2007 • Tax applies 30 June each year • Means members have until 30 June 2008 to quote their TFN • Will be refunded if TFN provided within amended assessment period (usually 4 years) • Employers required to pass on TFNs to a super fund within 14 days of the TFN being quoted • Where benefits paid, only the taxable component taxed at 46.5% - remainder is tax free

  43. Disclaimer Past performance is not a reliable indicator of future performance. Offers of interests in the Challenger Guaranteed Income Plan are contained in the relevant current Product Disclosure Statement (PDS) issued by Challenger Life No.2 Limited: ABN 44 072 486 938 AFSL 234670 which are available on our website www.challenger.com.au and should be considered before making any decision about the product. The information contained in this presentation is current as at 6 September 2006 unless otherwise specified and is intended solely for licensed financial advisers. It must not be passed on to a retail client except where it is included as part of the financial adviser's own advice to their client and is not accredited to Challenger. Any information provided or conclusions made, whether express or implied, do not take into account the investment objectives, financial situation and particular needs of an investor. The taxation and Centrelink illustrations are based on current and proposed law at the time of writing, which may change at a future date. The case studies in this presentation are fictional and used for illustrative purposes only Challenger Life No.2 Limited is not licensed or authorised to provide tax advice. We strongly recommend that an investor seeks professional taxation and social security advice for their individual circumstances.

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