When people start a pension they take advantage of receiving a tax free income attributed to their pension balance. It’s called exempt current pension income, which includes any income from the income producing assets, such as bank interest, dividends, distributions, rental property income. When Super Fund doesn’t have any member in pension, any income plus concessional contributions are usually taxed at 15%. However, starting the pension and moving the balance in pension mode will give trustee an advantage of zero percent tax on income earned from “pension money”. Though, the concessional contributions will always be taxed at 15%.
To work out a percentage of exempt pension income there are two methods are used: segregation method and actuarial percentage method. In order to use the segregation method, assets, attributed to the pension balance, need to be segregated. Segregation can be done by separating pension assets from non-pension (accumulation) assets, which means having the separate bank accounts as well. The income from assets underlying the pension balance will be going towards pension member balance and pension should be paid from pensioner’s segregated bank account. There will be some work around the expenses and their split between the pensioner and other members. The second and much easier from accounting point of view method of determine of exempt pension income is obtaining an actuarial certificate. To do so, the financials are sent to the actuary and then the percentage stated in actuarial certificate is applied to split taxable and tax free portion of income.
The actuarial certificate will not be required and 100% of Super Fund income is the exempt from tax only when the whole amount of super fund’s balance is in pension stage. This means that all members who have any balances must have a pension and all balances must be the pension balances. However, if any contributions or roll-overs are added to the fund during the year, they can’t be added to the existing pension. In that case, pension will have to be commuted, and then restarted again with a new balance.
In order to use the tax free advantage of the pension money, one of the legislation requirements is to take the minimum pension calculated as a percentage of pension account balance at 30 June last financial year. The percentage is based on the pension member age.
The Super Fund can lose it’s exempt pension income advantage if minimum pension has not been taken during the financial year. The super income stream will be taken to have ceased at the start of that income year for income tax purposes. The amount of pension taken during that year will need to be taken as a lump sum, not a pension.
If in the following year member will be willing to have the pension and meet the minimum pension requirements, they will have to revalue the assets at market price, commence a new pension and recalculate the minimum required for that year.
When no more than one- twelfth of required minimum annual pension is underpaid because of trustee’s genuine mistake or matters outside of the control of the trustee, ATO allows paying the catch up amount within 28 days trustee becomes aware of underpayment. In these circumstances, trustees are allowed to self-assess their entitlement to the pension concession and to treat the SMSF as having continuously paid a super income stream. This generous ATO concession is a good way out for the trustees which failed to meet the minimum pension requirement for the year. However, it’s unlikely will be granted more than once.