Personal superannuation contributions overview

Adding your own contributions to your super fund is a simple and effective way to boost your superannuation.

Personal super contributions are amounts an individual contributes to their super fund from their after-tax income. These contributions are in addition to any compulsory super contributions an individual’s employer makes on their behalf and do not include super contributions made through a salary-sacrifice arrangement.

Personal contributions are non-concessional (after-tax) contributions that count towards a person’s non-concessional contributions cap unless they have claimed a tax deduction for them.

While employees generally can’t claim a tax deduction for personal super contributions, they may be eligible for a super co-contribution.

Those who are under the age of 65 can make personal after-tax contributions to their super fund if they’re not working. Those who are 65 years of age or over can only make personal after-tax super contributions if they aren’t yet 75 years of age and have been gainfully employed for at least 40 hours over 30 consecutive days during the financial year.

Some people may be eligible to claim a tax deduction for contributions made to their super if they are not an employee. This includes people who get their income from:

• a personal business (self-employed)

• investments (including interest, dividends, rent and capital gains)

• government pensions or allowances

• super

• partnership or trust distributions

• a foreign source

SMSF investment in a private company or business

Self-managed super funds (SMSFs) are allowed to invest a private company or business provided the business is operated for the sole purpose of providing retirement benefits for fund members and it is allowed under the trust deed.

SMSF trustees must take into account the sole purpose test when determining whether purchasing a private company or business is appropriate. The sole purpose test means your fund needs to be maintained for the sole purpose of providing retirement benefits to your members or to their dependants if a member dies before retirement.

Under the sole purpose test, the SMSF is eligible for concessional tax treatment. However, trustees who contravene the sole purpose test (i.e. provide a pre-retirement benefit to someone) could lose the fund’s concessional tax status and trustees could face severe civil and criminal penalties.

When trustees are considering investing in an entity that carries on a business, they must ensure their SMSF complies with their investment strategy, arm’s length transactions and the rules surrounding related parties.

SMSF trustees must ensure they do not cross the line between investing in a business and using their SMSF to run a business. Some indicators that the SMSF has crossed the line include those where:

• the trustee employs a family member

• the ‘business’ is an activity commonly carried out as a hobby or pastime

• the business carried on by the fund has links to associated trading entities

• there are indications the fund’s business assets are available for the private use and benefit of the trustee or related parties.

SMSF’s looking to invest in a private company or business must ensure their SMSF trust deed permits the investment; the SMSF has a written and up-to-date investment strategy and investments are made in line with the strategy.

Trustees must also ensure investments are made and maintained on an arm’s length basis; assets are not acquired from related parties (unless they are an exception) and the transaction does not breach the in-house asset limit.

Increased focus on SMSF compliance

The Australian Tax Office (ATO) is taking a more serious approach to SMSF non-compliance over the coming year.

The Tax Office has found that more than an acceptable number of SMSF trustees are lacking transparency and are operating of the system, i.e. not lodging SMSF annual tax returns and/or not undergoing an annual independent audit.

Compliance issues, such as regulatory contraventions reported through auditor contravention reports are a growing problem. The 2015 income year saw 22,000 auditor contravention reports reported for 8,200 funds.

The ATO is urging trustees to engage with the Tax Office by self-correcting and rectifying compliance issues through the early engagement and voluntary disclosure service and/or from targeted mail outs.

The Tax Office’s approach will focus on more intensive compliance activities and enforcement outcomes, especially for those trustees who:

• Are deliberately not complying with their obligations

• Are not willing to engage with the ATO, and

• Are adopting aggressive income tax positions, such as dividend stripping arrangements.

Managing SMSF losses

Carrying forward significant capital losses can be a viable strategy for trustees wanting to offset gains and achieve tax savings in the near future.

This kind of strategy is suitable in circumstances where it is likely that younger members may join the fund or when members are considering switching back to the accumulation phase.

One way SMSF trustees can carry forward capital losses is to set up a small accumulation balance once their assets are realised at a loss.

Funds with assets which support pension and accumulation liabilities can use the unsegregated method to claim ECPI (exempt current pension income), as capital losses on unsegregated assets can be carried forward each year, even when a fund is completely in pension phase.

Trustees that realise losses may also want to consider whether having an unsegregated fund may be more beneficial than a segregated fund. Segregated funds hold separate asset pools specific to members or pension and accumulation balances. Unsegregated funds have one large asset pool and all members share the combined investment returns.

To claim ECPI in an unsegregated fund, an actuarial certificate is required each financial year. Since the fund will have a small accumulation balance, the income earned will not be entirely tax-free. However, the cost of paying a small amount of tax and obtaining an actuarial certificate may be offset by tax savings in the future which are obtained from carrying forward the capital loss.

The importance of diversification in an SMSF

Self-managed super funds (SMSFs) that are not well diversified are quite risky investments since they aren’t as protected as they could be against shocks and volatility in the market.

Diversification aims to maximise an individual’s return by investing in different asset classes that react differently to the same event. Although it does not guarantee avoiding a loss, diversification is an important component of reaching long-term financial goals while minimising risk.

Diversification can control a super fund’s risk, as the better performing asset classes will help offset the others that aren’t performing very well. It also provides the super fund with the opportunity for long-term growth, as the portfolio is exposed to asset classes with strong growth potential.

SMSF trustees that don’t have the appropriate blend of different asset classes in their fund risk their portfolio experiencing increased and unnecessary volatility. Well-diversified SMSFs include all the major asset classes including cash, fixed interest, shares and property.

The first step to ensuring an SMSF is properly diversified is to consider the exposures the fund currently has to the major asset classes and assess how diversified the fund is. Trustees must then engage in the process of working out which asset classes the fund requires to be properly diversified.

For many SMSFs, the idea is looking to invest in other asset classes that could help improve the fund’s diversification. These may include assets that have a negative or low correlation with one another.

Those concerned about the diversification of their fund need to review their fund according to their investment strategy to assess whether it makes sense to increase diversification. However, it is important to work out any capital gains tax consequences before selling down any assets to buy investments to improve a fund’s diversification.

Getting started with an SMSF

Starting a self-managed super fund (SMSF) may be a good idea for those after more control over investment choices and fund running costs.

However, those considering an SMSF need to ask themselves some key questions such as:

• if they can do a better job investing their super than the trustees of their existing super fund

• if an SMSF will be cost-effective compared with large super fund options

• if they are ready to take responsibility for the fund’s investment strategy

An SMSF can have no more than four members. All members must be trustees of the SMSF or directors of the trustee company (if a corporate trustee is in place).

Those who are an undischarged bankrupt or have been convicted of an offence involving dishonesty are considered disqualified persons. Such people cannot become an SMSF trustee.

SMSFs are regulated by the ATO, so those in charge need to meet compliance obligations such as lodging annual returns, storing fund documents, preparing paperwork and signing an SMSF trustee declaration.

Before trustees can arrange for their employer (or themselves) to make super contributions to the SMSF, the fund needs to be established. This includes:

• drafting a trust deed

• appointing trustees and admitting members

• applying for the fund to be regulated by the Superannuation Industry (Supervision) Act 1993

Those in charge will also need to draft an investment strategy and invest their super in accordance with that plan.

Those wanting their employer’s superannuation guarantee contributions to be paid to the SMSF need to check if they have fund choice.

Those who have fund choice must complete a standard choice form (SCF) outlining the SMSF’s details and give this to their employer.

The SMSF must have an electronic service address (ESA) which enables it to receive an electronic contribution data message from an employer. SMSF members who are self-employed do not need an ESA.

SMSF trustees also have to decide what happens to their super benefits from their previous super fund. Trustees can arrange to transfer those benefits to their SMSF via the ATO or arrange partial transfer using a form available from the previous fund. Before transferring existing super benefits, it is important to consider the implications the transfer may have on any life insurance cover from the previous fund.

Considerations for purchasing a property through an SMSF

It is vital for those with a self-managed super fund (SMSF) to carry out all the necessary checks before purchasing a property in their SMSF, especially when borrowing is involved.

Investment strategy
The SMSF’s investment strategy must be considered. If the purchase of a property will cause the fund’s other investments to be out of alignment, trustees should consider amending the investment strategy before purchasing a property.

Resources
Trustees need to consider whether the fund will have the resources to purchase the property. For example, will the SMSF purchase the property using its available resources or would it be wiser to purchase a property of greater value using borrowed funds.

Structure
Once trustees have decided on the property to be purchased, the next step is to consider the structure in which the property will be owned. For example, SMSF trustees can own the property or organise to for their SMSF to own units in a unit trust that will own the property.

Borrowing
After deciding on the structure in which the SMSF trustee will own the property, the next decision is often whether the fund will enter into an SMSF limited recourse borrowing arrangement (LRBA). Trustees should determine whether the borrowing will be from a bank, another financial institution or a related party. The amount available for purchase under the borrowing also needs to be determined.

Management
Once the SMSF has purchased an asset like property, trustees need to consider what would happen in the event of the death of a member. For example, the property may need to be sold or transferred to beneficiaries. Or, if a surviving spouse is to be the recipient of the death benefits, then the funds could remain in the SMSF to provide a pension to the surviving spouse.

Liquidity
When determining what would happen in the event of the death of a member, trustees should also consider other events, such as the disability of a member. Planning for this should take place at the time of purchase, as SMSFs can incur significant financial difficulties if a member becomes disabled.

End-of-year super strategies

With the end-of-financial year looming, there are some key strategies you can utilise to maximise your nest egg ahead of 30 June.

Maximise super contributions
Review your contribution types and amounts to ensure you have maximised (not exceeded) your contribution caps for the financial year. The non-concessional contributions cap for 2015/16 is $180,000 or $540,000 over three years for those under 65 at 1 July 2015. From 1 July 2017, a $500,000 lifetime non-concessional contributions cap is proposed to take effect. The concessional contributions cap is currently at $30,000 and $35,000 for those aged 49 or over at 30 June 2015. The lifetime CGT cap is $1,395,000.

Split contributions with your spouse
You can split up to 85 per cent of your 2015 concessional contributions with your spouse providing they are not over 65 years or have reached their preservation age and retired. If you split contributions they must be made before 30 June. This strategy will be increasingly important under the budget’s announcements to introduce a $1.6 million lifetime cap that can be held within the zero tax pension environment.

Make a spouse contribution
You can claim a tax offset of 18 per cent on super contributions of up to $540 per year where your spouse’s assessable income, total reportable fringe benefits amounts and reportable employer super contributions is less than $13,800. The tax offset for eligible spouse contributions cannot be claimed for super contributions that you made into your own fund, then split to your spouse.

LRBA deadline extended

The ATO has extended its 30 June 2016 deadline to 31 January 2017 for SMSF trustees to review limited recourse borrowing arrangements (LRBA) for non-arm’s length income.

The Tax Office issued the Practical Compliance Guide 2016/5 in April to provide guidance for SMSF trustees to ensure LRBA arrangements are on terms that are consistent with an arm’s length dealing. The extension follows several individual requests to the ATO for further time, highlighting the need for additional ATO guidance.

SMSF trustees with a LRBA that is not maintained at arm’s length by 31 January 2017 will be subject to the top marginal tax rate as income will be treated as non-arm’s length income (NALI). The ATO is set to provide further practical guidance to assist SMSF trustees to make decisions about whether the NALI rules apply to their arrangements.  

The ATO will not select an SMSF for an income tax review purely because it has an LRBA for 2014-15 income years and prior, provided that:

• the SMSF trustee ensures that any LRBAs that their fund is on terms consistent with an arm’s length dealing, or is alternatively brought to an end by 31 January 2017; and

• payments of principal and interest for the year ended 30 June 2016 must be made under LRBA terms consistent with an arm’s length dealing by 31 January 2017.

Splitting super with your spouse

Since change is an inevitable part of Australia’s superannuation system, trustees and taxpayers should always be aware of and on the lookout for tax-saving strategies to prevent the consequences of unforeseen super changes.

One such strategy, which is not only straightforward but also highly-effective, is splitting superannuation with your spouse.

Splitting super with your spouse involves one partner (usually the older and higher earner) instructing their super fund once a year to transfer 85 per cent of their concessional (before-tax) contributions made that year to their partner’s super account. The receiving spouse must be between 55 and 65 years of age if not retired or under 55 years old if retired. The partner splitting their contributions can be of any age. Non-concessional contributions (after-tax) cannot be transferred.

The spouse-splitting strategy can be extremely useful and can create many advantages.  For example, it can enable a couple to maximise the amount that could be withdrawn tax-free if either of them ceased working between their preservation age and 60.

It can also help a couple to withdraw more from their accounts. Individuals aged between 55 and 60 can only withdraw the first $185,000 of the taxable component tax-free, therefore, having two large funds means a couple could withdraw $370,000 tax-free between them.

If a couple found it to be appropriate, the older contributing spouse could also work until they were 75 to continue the spouse-splitting strategy if the younger spouse passed the work test. This would keep the older spouse in a lower marginal tax bracket, who would then be able to fund some household expenses through tax-free withdrawals from the receiving spouse’s super.

Another potential benefit in moving one spouse’s superannuation to their partner’s account is that it provides protection against future changes that may restrict lump sum withdrawals or create a tax on higher balances. Two separate superannuation accounts also offer more flexibility than keeping the majority of superannuation savings in the name of just one partner.