Expert SMSF insights
What are the new 'Total Super Balance' rules?
By Anthony Cullen
- How the TSB is calculated
- What has changed
- Market value and your entitlements
Just when you thought you understood Total Super Balance, they change the rules.
By now, most people are returning to work and the enjoyment of the festive season is quickly becoming a distant memory. If you haven’t already, I suspect in the not too distant future you’ll shift thought to contribution strategies which need to be implemented over the coming months. One key aspect of any such strategy will be a member’s Total Superannuation Balance (TSB). Relying on, or waiting for, information from the end of the prior financial year can become frustrating but is a fact of life since the reform.
Assume you’ve received the necessary information, what is it actually telling you? The impact on super contributions are varied depending on, amongst other criteria, a member’s TSB. In relation to the concepts considered in this article, a member’s TSB is measured as at 30 June each year and may impact on what can and can’t be done in the subsequent year. For example, as the 2018/19 financial accounts are completed for a fund, the member’s TSB at 30 June 2019 will need to be considered in relation to what you are planning for the 2019/20 financial year. In addition to potential age/work test restrictions, various thresholds exist that impact on different contribution options, per table 1 below.
Table 1 – Impact on different contribution strategies
Recently retired unable to take advantage of work test exemptions in relation to voluntary contributions if member’s TSB exceeds this threshold.
Unable to use catch up concessional contributions if member’s TSB exceeds this threshold.
Can make 3 years of non-concessional contributions in one year without exceeding their non-concessional contributions cap if a member’s TSB is below this threshold.
$1.4m < $1.5m
Can make 2 years of non-concessional contributions in one year without exceeding their non-concessional contributions cap if a member’s TSB is above $1.4m and less than $1.5m.
$1.5m < $1.6m
No bring forward period and the general non-concessional contributions cap (currently $100,000) applies if a member’s TSB is equal to or greater than $1.5m but does not exceed $1.6m.
$1.6m and above
For some members, the way their TSB is calculated has changed in recent times. But before we look at these changes, let’s revisit the original calculation and some aspects of this calculation that are often overlooked but are still relevant. In accordance with s.307.230 ITAA 1997, The original incarnation of TSB was calculated as:
Accumulation phase value: includes Transition to Retirement Income Streams (TRIS) that are not in retirement phase. Section 307.205 of the ITAA 1997 also states the value of an interest is either:
- If specified in the regulations, that value or a method for determining that value, or
- The total value of the benefits that would become payable if the individual voluntary caused the interest to cease at that time.
We will revisit the concept of voluntarily causing an interest to cease in the last dot point above later in the article.
Retirement phase value: it would be easy to fall into the trap of thinking this would be the value of any retirement phase pensions. Whilst this may be true for many members, it should not be the default approach in all situations.
The retirement phase value is based on the member’s Transfer Balance Account (TBA) or modified transfer balance account. If a member has only ever had an Account Based Pension (ABP) and has never exceeded their Transfer Balance Cap (TBC), their modified balance will be the value of their ABP interests as at 30 June from the previous financial year.
However, be mindful of the following:
- Complying defined benefit and flexi pensions: The value associated with these types of pensions is the total credits less any debits associated with that particular interest in the member’s TBA.This will be the case even for those fixed term pensions that have expired since 1 July 2017, as they will still have a recorded credit value in their TBA
- Market Linked Income Streams (MLIS):Although existing MLIS as at 30 June 2017 were classified as Capped Defined Benefit Income Streams (CDBIS) which resulted in special values for TBC purposes at that time, when it comes to the TSB calculation, you ignore any associated entries in the TBA and use the account balance of the interest (in a similar way that you record the value of an ABP)
- Notional earnings: If an individual has ever exceeded their TBC there would have been notional earnings calculated on this excess.These notional earnings are added to their TBA as a credit and will be included in their TSB calculations.
Structured settlement contributions: This is the value of any structured settlement contributions, regardless of when the contribution was made. Not to be confused with the debit value that may have been determined for structured settlement contributions as at 30 June 2017 for TBC purposes.
So, what’s changed?
With the introduction of Treasury Laws Amendment (2018 Superannuation Measures No. 1) Act 2019, in some situations, we now need to consider additional details to determine a member’s TSB;
The purpose behind this change was to limit the possibility of individuals attempting to manipulate their TSB by either withdrawing benefits and then lending them back to the fund via a Limited Recourse Borrowing Arrangement (LRBA) or choosing to lend to the fund rather than contributing.
Schedule 3 of the Act outlines how these new measures are to be applied, and in what circumstances. Firstly, these new provisions only apply to borrowings that arise under contracts entered into on or after 1 July 2018. However, the refinancing of older loans after this date will continue to be grandfathered if the new borrowing is secured by the same asset/s and does not exceed the outstanding balance of the old borrowing.
An amount will only be attributed to the individual if at least one of the following applies:
- They have satisfied one of the following conditions of release:
- Terminal medical condition
- Permanent incapacity
- Attaining age 65
- The lender is an associate of the superannuation fund
It is entirely possible that you will need to record an outstanding loan amount against one member of an SMSF and not others. For example, an SMSF (with two members) enters into a new borrowing arrangement with a commercial lender and one of the members is 65 (M1) and the other is 54 (M2). In this scenario, M1’s TSB will include an attributed amount from the loan, whereas M2’s will not. However, if the loan was from a related party, both members would need to factor in their respective attributable portion of the loan in the calculation of their own TSB, as follows:
The timing of these changes has resulted in an update on how to complete the relevant information in an SMSF’s 2019 annual return. For further information about this please refer to our previously released article here. These changes will necessitate the need to keep track of, and differentiate between pre and post 1 July 2018 loans, as well as related party and other loans.
Historically, one strategy that was often implemented in relation to LRBAs was to set up a LRBA with the members as the lenders. In subsequent years, subject to contribution caps, the members would utilise the debt forgiveness provisions to make further contributions. Greater care may be needed with such strategies going forward, as the value of the loan may limit or remove the ability for the members to make contributions (including debt forgiveness) once it is included in their TSB.
Can we influence a member’s TSB?
Two full financial years have passed since the reforms were introduced on 1 July 2017. After a couple of years of contributions and growth you may find members getting closer, or exceeding, some of the thresholds listed in Table 1 above. As a result, you may encounter more members wanting to explore opportunities to reduce their TSB to keep them below a particular threshold. We are starting to field questions about the allocation of earnings to different members and the use of reserves, along with other creative ways of potentially influencing a member’s TSB.
Allocation of earnings
SIS regulation 5.03 requires that the trustees of an accumulation fund (not to be confused with an accumulation account or retirement phase pension account) must determine the investment returns to be allocated to a member’s benefits. In additional to this, the allocation must be fair and reasonable between all members of the fund, and the various kinds of benefits of each member. This task is simple for those using suitable software programs as it is generally calculated automatically.
Many trust deeds also have a similar clause requiring the allocation of earnings to be fair and reasonable. Where a deed may allow greater discretion on the trustee’s behalf, it must be remembered that where there is a conflict between the law and the deed, the law will prevail.
Trustees who wish to allocate earnings in a different manner should be able to substantiate and justify their approach. Allocating a lower amount of earnings, simply to reduce a member’s TSB, is unlikely to be an acceptable approach and could result in forced amendments to the financial accounts and financial penalties.
Use of reserves
According to the ATO’s SMSF Regulator’s Bulletin 2018/1 (SMSFRB 20108/1), there are very few circumstances which would justify the trustees of an SMSF holding reserves in the fund. In this same bulletin, the ATO also expressed concerns around using general reserves to manipulate a member’s balance and more specifically, their TSB. This could be achieved, for example, by allocating earnings to the reserve rather than to the members of the fund.
The bulletin covers reserves that the ATO deem appropriate as well as those that may lead to further investigations. Suffice to say, the idea of using a reserve to reduce the amount of earnings allocated to a member’s account in order to produce a lower TSB, is likely to be scrutinised and questions being asked about compliance with the sole purpose test.
In addition to this, both the inappropriate allocation of earnings and use of reserves could potential lead to Part IVA issues.
Market value and your entitlements - should your voluntary cause your interest to cease
Coming back to comments earlier in the article in relation to TSB being the total value of the benefits that would become payable if the individual voluntary caused the interest to cease at that time.
SIS Reg 8.02B requires the assets of a fund to be recorded at their market value when preparing the fund’s financial accounts and statements. But, does market value always reflect the actual amount a member would receive if they left the fund today?
Let’s look at an example of a single member fund holding $600,000 in cash and a property valued at $1,000,000. The assets would be recorded at that value in the financial accounts and the member’s interest would also reflect this value. This information would also flow through to the member information section (section F) of the fund’s SMSF Annual Return at either items S1 – S3. Assume the member wishes to roll their benefits to another fund. The trustees have been quoted a 6 per cent, all inclusive, commission to sell the property. The property successfully sells for the market value, the agent receives their commission and the fund receives the net value of $940,000.
Ignoring any possibly tax implications for the moment, what value is more representative of the value the member would receive, should they voluntarily cause their benefits to cease? From a TSB point of view, should the member’s benefit be $1.6m or $1.54m. The difference may not seem great, or even material to some, but in the context of Non-Concessional Contributions (NCCs) it’s the difference between being able, or not being able, to make NCCs in the subsequent income year without the potential of triggering an excess contribution determination.
Items X1, X2 and Y in the member record section of the SMSF annual return is where details for TSB are derived. As these labels are used by the ATO to calculate a member’s TSB, and they override a member’s balance reported in items S1 – S3, where appropriate, you should use these labels to report a member balance which is net of reasonable disposal costs. This will then have the effect of reducing the member’s TSB by ensuing their account balance, which is used to calculate their TSB, more accurately reflects what they would receive if they voluntarily left the fund. However, care needs to be taken to ensure you can always substantiate and justify your calculation of ‘reasonable disposal costs’.
Tax effect accounting
When it comes to SMSFs, tax effect accounting has been a divisive concept for as long as I can remember. Changes to legislation and interpretations of legislation have influenced the popularity of tax effect accounting over time. So, is there any merit to using tax effect accounting in the current environment?
Let’s continue with the above example. The trustees are no longer looking to wind the fund up and do not intend to sell the property any time soon. The property was purchased ten years ago with a cost base of $510,000. The fund has no carried forward losses and the sole member is in accumulation phase.
The unrealised capital gain on the property is $490,000. Factoring in the 1/3 discount, this results in unrealised taxable gain of $326,667. Using tax effect accounting, this would result in a Provision for Deferred Income Tax (PDIT) of $49,000. Being recorded as a liability of the fund, this would have the effect of decreasing the member’s balance. Without factoring in a reduction for the selling costs of the property, this alone would be the difference between being able to make or not make an NCC non-concessional contribution in the subsequent income year without potentially triggering an excess contribution determination. Being able to record this information in the accounts will flow through to items S1 – S3 and would not require additional adjustments at X1 – X2.
However, if the selling costs were also considered, the member’s TSB could be as low as $1.497m ($1.6m asset market value - $60,000 selling costs - $43,000 estimate tax on CGT after selling costs). And with this, the prospect of a $200,000 NCC could be considered.
Tax effect accounting is explored further in our article “Your accounting approach can affect caps and entitlements”.
Even if it’s only to confirm your own TSB calculations, obtaining an individual’s TSB details from their myGov account may be important to determine what options are available. Knowing what information is, and can be, used and how it is reported to the ATO is equally, if not more important. Further, with the TSB calculation now being such a crucial factor in retirement strategies, we are seeing a move towards a more frequent processing SMSF administration model as SMSF members grapple with their contribution and pension strategy options whilst trying to avoid unintended cap breaches. You can read more about this emerging industry trend in our article “Is annual processing going the way of the tape cassette”.
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