A pension must be a series of payments
As we approach the end of the financial year, trustees and advisers will be turning their attention to those SMSFs that are in pension phase to ensure they meet their minimum pension payments for the 2016 financial year. However, for SMSFs with members in pension phase who are also contributing to the fund there is a hidden trap of which practitioners need to be aware, as an error could cost the fund its ability to treat its earnings as exempt pension income.
It is common practice for a member to commence a pension on 1 July and make only one payment by 30 June the following year to meet the minimum pension requirement. In addition, it is often the case the member will be contributing to the fund with either concessional or non-concessional contributions during the financial year. Then, to maximise the tax efficiency of the fund, the original pension will be commuted back to the accumulation account on 1 July the following year and a new pension commenced which combines both the original pension and the contributions.
However, by commuting the original pension at 1 July so that the new contributions can be added, you have a situation where the original pension has not met the definition of a superannuation income stream. This is because for there to be an income stream ("pension") there must be a series of periodic payments and TR 2013/5 tells us that "…a liability to make a single payment for one year will not satisfy as a liability to pay a member a series of payments and thus will not satisfy as an income stream."
Therefore if your clients are adopting the strategy of commuting a pension, adding contributions and then starting a new pension each year then you should ensure there have been a series of payments before commuting a pension. The question then to be considered is: can a series be just two payments? We would advocate ensuring there are three or more payments to remove any element of doubt.
It should be noted the Tax Ruling tells us that a liability to make a single payment each year for a number of years can satisfy as a liability to pay a member a series of payments. Therefore, if there is no intention to commute a pension after a period of 12 months or less, the approach of making a single payment at year end will suffice.
Author
David Burrows
Director
David's wealth of business experience and a clear vision for the future has enabled Baumgartner Super to establish itself as a market leader.
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