Explanatory Memorandum
(Circulated by authority of the Treasurer, the Hon Josh Frydenberg MP)Chapter 5 Segregated current pension assets
Outline of chapter
5.1 Schedule 5 to the Bill amends the ITAA 1997 to allow superannuation trustees to choose their preferred method of calculating exempt current pension income when they have member interests in both accumulation and retirement phases at one time, but only retirement phase interests at another time, during an income year.
5.2 These amendments provide superannuation trustees with greater choice in how they calculate exempt current pension income and minimise the complexity and cost in a fund's reporting.
5.3 All legislative references in this Chapter are to the ITAA 1997 unless otherwise stated.
Context of amendments
Existing law
5.4 Income that a superannuation fund derives from assets that is used to discharge its liabilities in respect of superannuation income stream benefits that are in retirement phase is exempt income. This type of income is known as exempt current pension income. Currently under the ITAA 1997, there are two methods for calculating exempt current pension income, the segregated method and the proportionate method.
Segregated method
5.5 If a fund has segregated current pension assets, then the exempt current pension income must be calculated by the segregated method under section 295-385. Under subsection 295-385(3), assets of a superannuation fund are segregated current pension assets when assets are held separate from any other assets the fund holds and used for the sole purpose of discharging the liabilities of superannuation income stream benefits of retirement phase income streams. These assets are held separately from any assets the fund holds supporting accumulation phase interests.
5.6 When using the segregated method, the fund's exempt current pension income is equal to the value of the ordinary and statutory income derived from the funds segregated current pension assets. If all of a fund's assets are supporting superannuation income streams that are in retirement phase (that is, the fund has no unallocated reserves and no amount of assets in excess of the amount actuarially determined to be necessary to discharge its liabilities in respect of any defined benefit pensions) at any point in an income year the fund is required to use the segregated method to calculate exempt current pension income for the period or periods of time that the fund was fully in retirement phase.
Proportionate method
5.7 To the extent that a fund does not have segregated current pension assets, then the fund's exempt current pension income must be calculated by the proportionate method under section 295-390.
5.8 Under the proportionate method the fund's exempt current pension income is calculated based on the proportion of the fund's total liabilities ('average value of superannuation liabilities') that are current pension liabilities ('average value of current pension liabilities'). If a fund has segregated current pension assets for any period of time in the income year then the liabilities in respect of which those segregated current pension assets are held cannot be included in a fund's average value of current pension liabilities or the fund's average value of superannuation liabilities.
5.9 The formula to calculate exempt current pension income using the proportionate method is:
5.10 Where a superannuation fund discharges part of its current pension liabilities from current pension assets and part from other assets then under the current law the fund must use the segregated method to calculate part of its exempt current pension income and the proportionate method to calculate the remainder. Income that is exempted under the segregated method cannot be exempted using the proportionate method.
5.11 A fund using the proportionate method will be required to change its calculation method if the fund's assets are held solely to discharge liabilities in relation to retirement phase interests for part of the income year. In this situation, the fund will calculate its exempt current pension income using the proportionate method for the first part of the income year and segregated for the other part.
Determining which method to use
5.12 A trustee is required to use the segregated method when a fund is fully in retirement phase at any time in an income year. A fund is fully in retirement phase when all of the fund's assets are held solely to discharge liabilities in relation to retirement phase interests. If a fund is fully in retirement phase at any time in the income year then the fund must calculate its exempt current pension income using the segregated method for that period.
ATO Law Companion Ruling 2016/8
5.13 On 8 March 2017, the ATO finalised Law Companion Ruling 2016/8 Superannuation reform: transitional CGT relief for complying superannuation funds and pooled superannuation trusts (LCR 2016/8). In LCR 2016/8, the ATO set out the view that where a fund's assets are held solely to discharge liabilities in relation to retirement phase interests for any part of the income year, those assets are segregated current pension assets for that period. In accordance with that view, the fund must use the segregated method to calculate its exempt current pension income for that part of the income year. Assets of a fund will not be segregated current pension assets where they are held in an unallocated reserve or are used to support defined benefit pensions where the assets are in excess of the amount actuarially determined to be necessary to discharge its liabilities in respect of those pensions.
5.14 Currently, this leads to unnecessarily complicated compliance obligations. Rather than being required to use different methods to calculate exempt current pension income for different periods in the same income year, it may simplify compliance obligations if, in such circumstances, trustees could choose to apply the proportionate method for the whole of the income year based on a single actuary's certificate.
Summary of new law
5.15 The Bill amends section 295-385 so that superannuation trustees can choose to treat all of the funds assets as not being segregated current pension assets for an income year if all of the fund's assets are held solely to discharge liabilities in relation to retirement phase interests for part of that income year.
Detailed explanation of new law
5.16 Schedule 5 to the Bill amends the definition of segregated current pension assets in section 295-385 of the ITAA 1997 so that trustees can choose to treat all of a funds assets as not being segregated current pension assets in certain circumstances.
5.17 Specifically, a superannuation trustee can choose to treat all of the fund's assets as not being segregated current pension assets if all of the fund's assets are held solely to discharge liabilities in relation to retirement phase interests for part, but not all, of the income year. [Schedule 5, item 1, sections 295-385(8)-(10)].
5.18 By choosing to treat a fund's assets as not being segregated current pension assets, a trustee can use the proportionate method when calculating all of the fund's exempt current pension income for the year. It is expected that allowing this choice will minimise the complexity for trustees and reduce the associated reporting costs for funds.
5.19 In line with current industry practice trustees will choose which method to use and calculate its exempt current pension income before submitting the fund's income tax return. This choice is not a formal election and does not have to be submitted to the ATO. However, it is expected that trustees will keep a record of any choice they make and the details of the calculation they use. The general rules for amending income tax returns will apply in relation to calculations of exempt current pension income meaning that if a fund makes an error they are able to amend their return after it has been lodged.
5.20 If the trustee for an eligible fund does not make a choice then, consistent with the existing law, the fund's ECPI will be calculated using the segregated method for any period of the income year where all of the interests in the fund are in retirement phase for some, but not all of the financial year.
5.21 In practice a trustee will only be able to exercise this choice if all of the interests in the fund are in retirement phase for some, but not all of the income year and all of the income derived from the fund's assets is supporting retirement phase income stream benefits payable from an allocated pension, market linked pension or an account-based pension.
Application and transitional provisions
5.22 The Bill commences on the first 1 January, 1 April, 1 July or 1 October after the day this Act receives Royal Assent and the amendments will apply to the 2021-22 income year and later income years. [Schedule 5, item 2]