When a pensioner starts a pension from their superannuation fund, one of the requirements is that the trustee must ensure that they pay the minimum pension each financial year.
In the case of a transition to retirement pension, the pension payment must meet the minimum pension requirement but must not exceed 10 per cent, which is the maximum payment that can be paid.
Failure of a trustee to comply with the minimum or maximum pension payment requirements could result in the Australian Taxation Office ruling that the pension had come to an end at the beginning of the financial year in which the payment error occurred.
If the ATO takes a hard line view, the consequences for the fund could be disastrous, because:
• If the fund is taken not be in pension mode because the fund trustee failed to pay the required pension, then the income of the fund continues to be assessed in the normal manner.
• If more than one pension comes to an end as a result of failing to pay the required pensions, the taxable and tax-free components of those pensions may merge with each other, forming one interest. This may have the effect of making it more difficult to be able to pay death benefits to dependants in a tax-effective manner.
• Transition to retirement pensions (TRIS) operate under strict rules and benefit payments are only able to be made, when the TRIS is operating. If the trustee breaches the payment rules by incorrectly paying a pension, then the pension ceases. This means that any pension payment made during the year are made in breach of the superannuation rules and potentially threatens the complying status of the fund.
Fortunately, the ATO does not always take a hard line to the underpayment of pensions, and since 2013 has used its "general powers of administration", to put in place a solution, where the amount of the under payment is not excessive and the trustee takes corrective action within certain time frames. In these cases, the trustees are able to disregard the short payments and treat the pensions as if they had continued in the normal way.
How does this process work:
• If the amount of the short payment is small (less than one 12th of the required pension payment)?; and
• This is the first time that the trustee has underpaid the pension?; and
• The underpayment of the pension was due to an honest mistake or circumstances outside the control of the trustee?; and
• Within 28 days of becoming aware of the shortfall, the trustee either makes a catch-up pension payment, or reclassifies an existing pension payment so that it is treated as belonging to the previous pension period?
Then, if the trustee is able to satisfy the above conditions, the pension is automatically deemed to continue. This means that the trustee will continue to calculate the exempt pension income as if the pension was in place and the various components making up the pension will continue to be held separate from the rest of the fund and other pensions.
The next question is what happens if the short payment is greater than one 12th of the total pension payment required or the trustee has failed to pay the minimum pension more than once?
Here, unfortunately you cannot just self assess that the pension should be deemed to have continued. Rather, you will need to apply to the Australian Taxation Office in writing requesting its discretion to treat the pension as if it had continued.
Once again, in order to apply for the ATO’s discretion, the trustee will need to show that the underpayment occurred because of an honest mistake or as a result of circumstances outside of the trustees control.
Some examples of where the ATO has exercised its discretion in the past included:
• The trustee had good-quality pension documentation and a payment history that demonstrated that the pension had been in existence for many years and that the short payment in the current year was simply due to an error.
• The trustee of the fund was a corporate trustee with a single director. The trustee fell ill during the year and as a result failed to make the last of the scheduled pension payments.
These examples fall into a category where the errors were outside the trustees control or a legitimate error had occurred and it is not surprising that the ATO exercised its discretion in these cases.
However, a recent development that appears to have emerged is that if a trustee can clearly demonstrate that a pension was in place and had been in place for a number of years, then the ATO is also more likely to exercise its discretion to deem a pension to have continued where an error had occurred.
The type of evidence that you will be looking to provide would include that the trustee had good-quality pension documentation and clear evidence that pension payments have been made over a number of years.
Unfortunately, the ATO does not adopt the "general administrative" position in situations where the trustee accidentally over pays a TRIS. The tax situation for the pensioner in this case can be far worse from an income tax perspective for the pensioner than it would have been if the trustee had underpaid a pension.
So what to do in this situation, given the ATO does not have a solution in place, in my view you once again request the ATO discretion, demonstrating that the pension was a legitimate pension that had been in place for a number of years. The best way to do this is by providing the ATO with good-quality pension documentation and evidence that the pension has been regularly paid.
So, if you make an error in paying your pension, you have two options. If the pension has been underpaid by less than one 12th of the pension requirement and the error has not occurred before you can treat the pension as if it continues without having to approach the ATO.
If the pension payment error is an overpayment or you do not meet the requirements to automatically treat the pension as if it continues, then you will need to apply for discretion with the ATO.
In my view, where the pension is a legitimate pension that has been run for a period of time, it will always be worthwhile requesting that the ATO exercise its discretion.
Mark Wilkinson, director, Wilkinson Super