As that old saying goes, “prevention is better than cure”. Trustees should make every effort not to fall foul of the rules that apply to minimum pension payments for SMSF as stipulated in the Superannuation Industry Supervision (SIS) Regulations. If trustees slip up, it’s not the end of the world. But getting it right in the first place will save a lot of trouble.
For trustees, it means either understanding what their minimum amount is, or getting the right professional advice about it. It’s calculated on 1 July each year and is linked to your age and pension account balance. For example, for those under 64, it’s four per cent of your pension account balance; for those between 65 and 74, it’s five per cent of their pensions’ account balance. Using the later example, an SMSF member with a $400,000 pension account would have to pay a minimum pension of $20,000.
Under the SIS Regulations, earnings on super fund assets in the pension phase are tax free – including capital gains. But this tax-free status is at risk when minimum pension payment rules are breached.
In these instances the ATO will assume the super income stream stopped for income tax purposes at the beginning of that financial year, and any payments made will be considered lump sums for the purposes of tax and SIS Regulations. What this effectively means is that the fund will not be allowed to treat income or capital gains as exempt current pension income (ECPI) for that year. In short, trustees are likely to pay more tax.
For funds finding themselves in this position, getting professional advice is a priority; it’s the medical equivalent of seeing a doctor when you have a hacking cough that won’t go away.
It’s important to note that since January 2013, the ATO has exercised more lenient treatment on pensions where a small under-payment occurred (with this treatment backdated to 1 July 2007). What this effectively did was to give the ATO the discretion to exempt funds from losing their tax-free status even if the rules were breached in a minor way.
So what are the circumstances where the ATO looks kindly minimum on a fund’s failure to meet the minimum pension payment and allows them to claim ECPI?
In broad terms the mistake should be minor and unintentional; the ATO takes a grim view of those funds it believes tried to deliberately circumvent the rules.
For example, a small underpayment (not exceeding 1/12th of the minimum payment) and where the fund is compliant in all other respects of the SIS Regulations is unlikely to earn the wrath of the ATO. A failure to pay that was clearly outside the control of the fund is also likely to get a good hearing.
The ATO also looks favourably on those funds that act promptly to rectify the situation when they realise an under-payment has been made. In these cases acting promptly typically means 28 days, so it’s essential that funds (and their professional advisers) are right across the details of their pension payments.
For funds that meet these conditions, the ATO is more than likely to allow the fund to continue to claim the tax exemption on pension asset earnings, and the taxable component and tax-free component of the pension account do not need to be recalculated. In addition, any payments are still considered pension payments rather than lump sum payments.
The ATO also allows funds to self-assess – provided they are not repeat offenders and the error falls within the conditions outlined above. Auditors have the discretion of not reporting a breach to the ATO unless they are concerned about a fund’s financial position or whether it affects the interests of a fund member/s.
However, there is one instance where auditors don’t have discretion – in a fund’s first year of operation. If a breach occurs then it must be reported to the ATO.
Making sure the superannuation pension rules are complied with is key to maximising the benefit of your SMSF in retirement phase. It is easy to fall foul of the pension rules but this can be avoided with some simple planning and good advice. Ultimately, it is far easier to make sure your SMSF pension is being paid properly in the first place rather than depending on the kindness of the ATO to exercise its very narrow window of discretion to look past minor pension mistakes.
Jordan George, head of policy, SMSF Association