From 1 July 2017, SMSF members are limited to having $1.6 million (i.e. Transfer Balance Cap for 2016/2017) in their retirement pension account (i.e. Account Based Pensions (ABP)) where ordinary and statutory income (investment income) derived from assets supporting the pension are exempt from tax. Amounts in excess of $1.6 million can be retained in the accumulation phase or paid as lump sum superannuation benefit. Investment income from assets retained in the accumulation phase will be taxed at a maximum of 15%. Amounts above $1.6 million that remain in the retirement pension account will attract excess transfer balance tax.
Investment income derived from assets supporting a Transition to Retirement Income Stream (TRIS) will no longer be tax exempt from 1 July 2017 and will be taxed at 15%. This is because a TRIS will no longer be treated as a pension in the retirement phase. A TRIS also does not count towards the $1.6 million transfer balance cap since it is not classed as a retirement income stream.
Due to these superannuation law changes, transitional Capital Gains Tax (CGT) relief rules were introduced to provide relief for SMSF members who have had to reduce their ABP or comply with the TRIS reform.
The CGT relief provisions preserve the tax exemption on capital gains accrued, but not yet realised, on CGT assets held in ABPs and TRISs prior to 1 July 2017. The relief ensures that only capital growth post 1 July 2017 is taxed. The CGT relief applies differently depending on whether the SMSF has segregated assets or unsegregated assets. Below is a flowchart that demonstrates the segregated CGT relief.
Segregated: An SMSF will have segregated assets if the SMSF trustees have specified which assets of the SMSF will support a member’s retirement pension account and accumulation account. The assets that support only the member’s retirement pension account are treated as segregated current pension assets.
Deemed segregated: An SMSF that is 100% in pension phase is deemed segregated. As the SMSF’s assets are held solely to meet liabilities to pay a retirement pension, all of the assets are treated as segregated current pension assets.
An SMSF trustee can choose to apply for CGT relief for some or all of an SMSF’s assets that cease being segregated current pension assets, if all of the following conditions are met:
- The SMSF is a complying superannuation fund at all times during the pre-commencement period. The pre-commencement period begins on 9 November 2016 to just before 1 July 2017.
- The asset was a segregated current pension asset on 9 November 2016.
- The asset was held throughout the pre-commencement period.
- The asset stops being a segregated current pension asset on, or before, 30 June 2017 (i.e. the cessation time). The cessation time occurs when the asset is transferred back to the accumulation phase or when the SMSF adopts the proportionate method to calculate the exempt current pension income for the SMSF.
The segregated CGT relief is not automatic. SMSF trustees must elect for the relief to apply to the asset, using the Capital Gains Schedule, on or before the SMSF is required to lodge its 2016/2017 income tax return. A register of assets, to which CGT relief have been applied, should be created and retained as part of the SMSF’s records.
Below is the impact for trustees electing to apply the CGT relief at 30 June 2017 for a SMSF with segregated and deemed segregated pension assets:
- The asset of the SMSF is deemed to have been sold and immediately repurchased at the cessation time.
- The CGT discount period on the asset is reset to the cessation time.
- The asset’s cost base is reset to it’s market value at the cessation time.
- Any capital gain or loss on the deemed sale is disregarded as the asset at the time of the deemed sale was a segregated current pension asset.
- The trustee cannot defer any capital gain arising from the reset since the gain is disregarded.
- A subsequent capital gain or loss on any future CGT event will be determined based on the difference between the sale price and the reset cost base of the asset.
- The exempt income will be determined based on whether the SMSF is using the segregated or unsegregated method of calculating the exempt component at the time of the future CGT event.
The SMSF trustee(s) must apply the above provisions correctly to ensure that segregated assets coming out of segregated pension phase into accumulation phase are only taxed on capital gains accruing from 1 July 2017, if the fund remains a segregated fund for tax purposes from 1 July 2017.
If the fund converts to an unsegregated fund as of 30 June 2017, then it is important that all eligible assets of the fund are reset to their market values at 30 June 2017 so as to ensure that future reduced exempt Current Pension Income percentage only applies to Capital Gains accruing on eligible assets from 1 July 2017.