House of Representatives

Explanatory Memorandum

(Circulated by the authority of the Treasurer, the Hon Scott Morrison MP and Minister for Revenue and Financial Services, the Hon Kelly O'Dwyer MP)

Chapter 3 Transfer balance cap

Outline of chapter

3.1 Schedule 1 to the Treasury Laws Amendment (Fair and Sustainable Superannuation) Bill 2016 (the TLA Bill) imposes a $1.6 million cap (the transfer balance cap) on the amount of capital that can be transferred into the retirement phase of superannuation. The transfer balance cap applies from 1 July 2017 and is intended to limit the extent to which the retirement phase interests of high wealth individuals attract an earnings tax exemption.

3.2 Schedule 1 also introduces additional income tax rules on recipients of certain defined benefit income streams in excess of $100,000 per annum to achieve a broadly commensurate taxation outcome.

3.3 Unless otherwise indicated, all legislative amendments referred in this Chapter are contained in the TLA Bill 2016.

Context of amendments

3.4 This measure forms part of the Government's Superannuation Reform Package announced in the 2016-17 Budget. The measure improves the fairness and sustainability of the superannuation system.

3.5 Individuals' investments in superannuation are generally subject to a concessional earnings tax rate of 15 per cent. The tax is imposed on individuals' superannuation funds. Members benefit through higher after-tax returns. This rate generally applies while the individual is of working age and contributing towards their superannuation (the accumulation phase).

3.6 When an individual accesses their superannuation (for example, because they have retired), they may take their superannuation in the form of a superannuation lump sum, a superannuation income stream such as a pension, or a combination of the two. If they commence a superannuation income stream, income earned on the ongoing investment of the capital that supports the income stream is exempt from tax. This exemption applies to the fund for the benefit of members. Individuals in receipt of a superannuation income stream, and the assets supporting those income streams, are said to be in the retirement phase or pension phase.

3.7 The purpose of the earnings tax exemption is to encourage individuals to save for their own retirement and relieve pressure on Australia's age pension system. However, there is currently no limit to the amount of superannuation an individual can transfer into the retirement phase where it benefits from the tax exemption. As such, the exemption provides a significant tax concession to high wealth individuals with significant superannuation balances and who will almost certainly never be reliant on the age pension. The amendments made by Schedule 1 ensure the superannuation tax concessions are better targeted and reduce the extent to which superannuation is used for tax minimisation and estate planning.

Operation of the existing law

The earnings tax exemption

3.8 The earnings tax exemption is provided for in sections 295-385 and 295-390 of the Income Tax Assessment Act 1997 (ITAA 1997). Those provisions broadly exempt income that a superannuation fund receives in respect of assets it holds to fund its liabilities to provide superannuation income stream benefits to its members.

3.9 A superannuation income stream is an individual's right to receive a series of periodic payments over an identifiable period of time. This includes pensions and annuities. A superannuation income stream benefit is any one of those periodic payments (section 307-70 of the ITAA 1997 and regulation 995-1.01 of the Income Tax Assessment Regulations 1997 (ITAR 1997)).

3.10 Funds can segregate the assets they hold that support superannuation income stream benefit liabilities, with earnings on segregated assets exempt from tax. Alternatively, where assets are not held solely to fund pension liabilities, funds are required to use the proportionate method, where a proportion of earnings on all of a fund's assets are exempt.

3.11 Life insurance companies and Retirement Savings Account (RSA) providers can also have liabilities in relation to superannuation income stream benefits. However, in most cases, the exemptions that apply to those entities use related concepts.

3.12 The earnings tax exemption is discussed in more detail in Chapter 10, including modifications made to the earnings tax exemption for deferred superannuation income streams and transition to retirement income stream (TRIS) products.

Taxation of superannuation income stream benefits

3.13 Most superannuation income stream member benefits are non-assessable non-exempt income to individuals aged 60 or over (section 301-10 of the ITAA 1997). This is because they are wholly from a taxed source (or 'element taxed in the fund') (subsection 307-275(2) of the ITAA 1997).

3.14 A number of superannuation funds provide benefits that contain untaxed elements. These include constitutionally protected funds (section 307-280 of the ITAA 1997) and some public sector defined benefit schemes (section 307-295 of the ITAA 1997). Where the benefit is from an untaxed source, the benefit is assessable to the individual, subject to a 10 per cent tax offset (section 301-100 of the ITAA 1997).

3.15 Similar rules to the above apply in the case of superannuation income stream benefits that are superannuation death benefits paid to dependants. The difference is that the treatment for individuals aged 60 or over (who receive member benefits) is replicated for a younger person if their superannuation death benefits are from a deceased person who was aged 60 or over (Subdivision 302-B of the ITAA 1997).

Summary of new law

3.16 Schedule 1 to the TLA Bill imposes a transfer balance cap from 1 July 2017 to limit the amount of capital individuals can transfer to the retirement phase to support superannuation income streams. This, in turn, limits the amount of superannuation fund earnings that are exempt from taxation.

3.17 An individual's transfer balance cap is $1.6 million for the 2017-18 financial year and is subject to proportional indexation on an annual basis in $100,000 increments in line with the Consumer Price Index (CPI).

3.18 The value of superannuation interests that support superannuation income streams as at 30 June 2017, together with the commencement value of new superannuation income streams that start after that date, count towards an individual's cap.

3.19 If an individual exceeds their transfer balance cap, the Commissioner of Taxation (the Commissioner) will direct an individual's superannuation income stream provider to commute (reduce) their retirement phase interests by the amount of the excess (including excess transfer balance earnings) to rectify the breach. The individual will also be liable for excess transfer balance tax on their excess transfer balance earnings to neutralise the benefit received from having excess capital in the earnings tax exempt retirement phase. Breaches in the 2017-18 financial year attract a single tax rate. The tax rate on excess transfer balance earnings increases for second and subsequent breaches occurring in the 2018-19 financial year or a later financial year.

3.20 The transfer balance cap that applies to child dependants in receipt of a death benefit income stream from a deceased parent is subject to modifications. The modifications generally allow the child to receive their share of the deceased's retirement phase interest without prejudice to the child's future retirement. This recognises that most child dependants are currently required to commute the death benefit income streams by age 25.

3.21 Defined benefit lifetime pensions and certain other superannuation income streams with commutation restrictions are subject to broadly commensurate taxation treatment. An equivalent outcome to the operation of the transfer balance cap is achieved, albeit in a different manner, recognising that commutation restrictions make it impractical for individuals to reduce an excess amount.

3.22 The value of lifetime pensions and other defined benefit income streams is counted towards an individual's transfer balance cap. Excess transfer balance tax is not imposed for a breach of the transfer balance cap that is attributable to certain defined benefit income streams. Excess defined benefit income is instead subject to additional income tax rules.

3.23 For individuals receiving superannuation income streams on 1 July 2017 transitional arrangements will apply if they are in excess of their transfer balance cap by less than $100,000 on 1 July 2017.

3.24 Transitional arrangements also provide capital gains tax (CGT) relief for complying superannuation funds. Complying superannuation funds are able to reset the cost base of assets reallocated or re-apportioned from the retirement phase to the accumulation phase in the period between introduction of the TLA Bill and 1 July 2017. This relief is available for funds in respect of the assets held for individuals who choose to transfer amounts from the retirement phase to the accumulation phase to comply with the transfer balance cap or new TRIS arrangements prior to the commencement of those provisions.

3.25 Where these assets are already partially supporting interests in the accumulation phase (the proportionate method), a superannuation fund choosing to apply CGT relief will be subject to tax on the proportion of the capital gain (if any) that had accrued prior to 1 July 2017. This tax may be deferred until the asset is sold.

Comparison of key features of new law and current law

Detailed explanation of new law

3.26 The transfer balance cap is designed to limit the amount of capital that an individual can transfer to the retirement phase of superannuation. Unlike other balance tests in the TLA Bill, the transfer balance cap does not require an annual revaluation of superannuation assets. The transfer balance cap is directed towards net transfers to the retirement phase and does not value earnings, losses or draw-downs that occur within the retirement phase. [Schedule 1, item 4, sections 294-1 and 294-5 of the ITAA 1997]

3.27 Each individual with superannuation interests in the retirement phase has a personal transfer balance cap reflecting the total amount they can transfer to the retirement phase. To determine an individual's position with respect to their transfer balance cap, these individuals each have a transfer balance account, which tracks the net amounts the individual has transferred to the retirement phase. The Australian Taxation Office (ATO) is be able to provide individuals with information (including information reported to the ATO by superannuation funds and life insurance companies) that it holds at a time about their transfer balance account, which may include their personal transfer balance cap and their transfer balance at a particular time. [Schedule 1, item 4, section 294-10 and subsection 294-15(1) of the ITAA 1997]

The transfer balance account

3.28 The policy intent of the transfer balance cap is achieved by using the structure of a transfer balance account. This section explains when superannuation income streams are added to an individual's transfer balance account (a credit), as well as when the transfer balance account is reduced by amounts removed from the retirement phase (a debit). The purpose of the transfer balance account and the system of credits and debits is to ensure that individuals retain flexibility to manage and change their retirement phase interests.

3.29 The transfer balance account operates in a similar way to a bank account balance or the balance of a general account ledger. Amounts an individual transfers to the retirement phase give rise to a credit (increase) in their transfer balance account. Similarly, certain transfers out of the retirement phase give rise to a debit (decrease) in the individual's transfer balance account. [Schedule 1, item 4, subsection 294-30(2) of the ITAA 1997]

3.30 The balance in an individual's transfer balance account (their transfer balance) at a particular time is determined by looking at the sum of credits in the account at that time less the sum of any debits in the account at that time. [Schedule 1, item 3, subsection 294-30(2)]

Example 3.1 : Determining the balance in your transfer balance account

On 1 July 2017, Melinda has a superannuation income stream of $800,000 with the Blue Superannuation Fund.

In October 2017, Melinda decides she wants to roll-over her superannuation income stream to her self-managed superannuation fund (SMSF), the Ukulele Band Super Fund.

On 10 October 2017, the Blue Superannuation Fund commutes Melinda's superannuation income stream into a superannuation lump sum and sends the amount to the Ukulele Band Super Fund. The Ukulele Band Super Fund receives the amount on the same day and immediately starts a new superannuation income stream for Melinda.

On 10 October 2017, Melinda's transfer balance account recorded the following amounts:

•

a credit for the Blue Superannuation Fund superannuation income stream of $800,000 (dated 1 July 2017), less

•

a debit for the commutation of the Blue Superannuation Fund superannuation income stream for $800,000 (dated 10 October 2017), plus

•

a credit for the Ukulele Band Super Fund superannuation income stream of $800,000 (dated 10 October 2017).

•

The balance in Melinda's transfer balance account is $800,000 at the end of 10 October 2017.

3.31 An individual can transfer amounts to the retirement phase provided it does not cause their transfer balance to exceed their personal transfer balance cap. By comparing the balance of their transfer balance account with their personal transfer balance cap, it is possible to determine how much an individual can transfer to the retirement phase without exceeding the cap (their available cap space).

3.32 An individual breaches their transfer balance cap if their transfer balance exceeds their personal transfer balance cap. Excess transfer balance earnings accrue on the excess transfer balance and are credited to the transfer balance account, compounding the excess until it is rectified.

Diagram 3.1 : Transfer balance, credits, debits and excess amounts

This diagram is a visual representation of an individual's transfer balance account over time. Upward movements in the dotted line represent credits arising in the individual's transfer balance account. Downward movements represent debits.

In this diagram, the individual (in chronological order):

•

starts a small superannuation income stream;

•

starts a larger superannuation income stream;

•

commutes the larger superannuation income stream;

•

starts a new superannuation income stream that results in them exceeding their transfer balance cap; and

•

rectifies the breach by partially commuting a superannuation income stream by an amount slightly larger than their excess transfer balance (including excess transfer balance earnings that arose during the time the individual had an excess transfer balance).

Between specific actions of the individual (that is, the starting of superannuation income stream or the commuting of them), the transfer balance account remains constant (as reflected by the horizontal movements above). Investment gains and losses and payments made to comply with the minimum drawdown requirements during these periods are not taken into account. When the transfer balance account is in excess, however, excess transfer balance earnings are generally credited to the individual's transfer balance account daily.

At a particular time, an individual can start a superannuation income stream with their available cap space, which is represented as the distance by which the personal cap line exceeds the dotted line.

3.33 It is possible for an individual's transfer balance account to have a negative transfer balance if the debits in their account exceed the credits. This could arise if investment earnings meant that a superannuation income stream is worth more when it is commuted from retirement phase than its initial value when it commenced. A negative transfer balance means an individual can commence a new superannuation income stream that does not exceed their personal transfer balance cap because the negative transfer balance absorbs the value by which the commuted superannuation income stream was greater than the transfer balance cap (see Example 3.13).

When an individual has a transfer balance account

3.34 An individual's transfer balance account is created when credits first arise in the account. Generally, this is when they first receive a superannuation income stream that is in the retirement phase. [Schedule 1, item 4, subsection 294-15(2) of the ITAA 1997]

3.35 As noted above, the colloquial concept of the retirement phase of superannuation is not new. However, the concept is now incorporated into the taxation law and is relevant to superannuation providers' earnings tax exemptions (see Chapter 10). [Schedule 11, item 1, sections 307-75 and 307-80 of the ITAA 1997]

3.36 An individual generally starts to be a recipient of a retirement phase superannuation income stream when they start a superannuation income stream and superannuation income stream benefits are payable to them. [Schedule 1, item 4, subsection 294-20(1) of the ITAA 1997]

3.37 For individuals that are receiving retirement phase superannuation income streams on 1 July 2017, their transfer balance account begins on that date. [Schedule 1, item 4, paragraph 294-15(2)(a) of the ITAA 1997]

3.38 For individuals with deferred superannuation income streams, it is not necessary that benefits be currently payable to the individual. It is sufficient that the benefits will become payable and the deferred superannuation income stream is in the retirement phase. [Schedule 1, item 4, subsection 294-20(2) of the ITAA 1997]

3.39 An individual's transfer balance account is generally a lifetime account and only ceases on their death. [Schedule 1, item 4, section 294-45 of the ITAA 1997]

3.40 However, a modification generally applies to cease a child's transfer balance account that is created when the child started to receive a death benefit income stream as a child recipient (see paragraphs 3.266 to 3.294). The child may start a new transfer balance account if they later start to receive superannuation income stream benefits other than as a child recipient.

The transfer balance cap

3.41 This section sets out the interaction between the general transfer balance cap and an individual's personal transfer balance cap. An individual's personal transfer balance cap begins as the general transfer balance cap at the time they first have a transfer balance but is then modified by the proportional indexation of their cap.

3.42 The general transfer balance cap is $1.6 million for the 2017-18 financial year and is subject to indexation in $100,000 increments on an annual basis in line with the CPI. [Schedule 1, item 4, subsection 294-35(3) of the ITAA 1997]

3.43 At the time an individual first commences a retirement phase superannuation income stream, the individual's personal transfer balance cap will equal the general transfer balance cap for that financial year.

Example 3.2 : Starting to have a personal transfer balance cap

Amy first commences an $800,000 retirement phase superannuation income stream on 18 November 2017. A transfer balance account is created for Amy at that time. Amy's personal transfer balance cap is $1.6 million for the 2017-18 financial year.

Allen first becomes entitled to a superannuation income stream benefit on 15 July 2021. A transfer balance account is created for Allen at that time. In 2021-22, the general transfer balance cap has indexed to $1.7 million. Allen's personal transfer balance cap is $1.7 million for the 2021-22 financial year.

Proportional indexation of the personal transfer balance cap

3.44 Where an individual starts to have a transfer balance account and has not used the full amount of their cap, their personal transfer balance cap is subject to proportional indexation in line with increases in the general transfer balance cap. [Schedule 1, item 4, subsections 294-35(1) and (2) of the ITAA 1997]

3.45 Proportional indexation is intended to hold constant the proportion of an individual's used and unused cap space as the general cap increases. Indexation is only applied to an individual's unused cap percentage. This is worked out by finding the individual's highest transfer balance at the end of a day at an earlier point in time, comparing it to their personal transfer balance cap on that day and expressing the unused cap space as a percentage. The transfer balance cap is intended to limit the amount that can be transferred to the retirement phase. Therefore, once a proportion of cap space is utilised, it is not subject to indexation, even if the individual subsequently removes capital from their retirement phase. If this were not the case, individuals could continue to 'top up' the amount they can have in retirement phase contrary to the policy intent. [Schedule 1, item 4, section 294-40 of the ITAA 1997]

3.46 The purpose of proportional indexation is to provide equitable treatment to all individuals over time. It also recognises the expected benefit gained by individuals from commencing a retirement phase account at an earlier time.

Example 3.3 : Proportional indexation

Further to Example 3.2, Amy's transfer balance account is credited by $800,000 on 18 November 2017. As Amy has not made any other transfers to her retirement phase account, her highest transfer balance is $800,000. At that time, she has used 50 per cent of her $1.6 million personal transfer balance cap.

Assuming the general transfer balance cap is indexed to $1.7 million in 2020-21, Amy's personal transfer balance cap is increased proportionally to $1.65 million. That is, Amy's personal transfer balance cap is increased by 50 per cent of the corresponding increase to the general transfer balance cap. As such, Amy can now transfer a further $850,000 to the retirement phase without breaching her personal transfer balance cap.

Example 3.4 : Proportional indexation and the highest balance

On 1 October 2017, Nina commences a superannuation income stream with a value of $1.2 million. On 1 January 2018, Nina partially commutes her superannuation income stream by $400,000 to buy an investment property.

Nina's transfer balance on 1 October 2017 was $1.2 million and, on 1 January 2018, it is $800,000 (Nina's account is debited in respect of the $400,000 partial commutation, see paragraphs 3.105 to 3.111).

In 2020-21, assume the general transfer cap is indexed to $1.7 million. To work out the amount by which her personal cap is indexed, it is necessary to identify the day on which Nina's balance was at its highest. In this case, the highest balance was $1.2 million and the day on which she first had this balance was 1 October 2017. Nina's personal cap on that date was $1.6 million. Therefore, Nina's unused cap percentage on 1 October 2017 is 25 per cent.

To work out how much her personal cap is indexed, Nina's unused cap percentage is applied to the amount by which the general cap has indexed $100,000 (the indexation increase). Therefore Nina's personal transfer balance cap in 2020-21 is $1.625 million.

In 2022-23, assume the general transfer balance cap is indexed to $1.8 million. As Nina has not transferred any further amount into the retirement phase, her unused cap percentage remains 25 per cent. Her personal transfer balance cap is now $1.65 million (25 per cent of the indexation increase of $100,000).

In this year, Nina decides to transfer the maximum amount she can into the retirement phase. This will be her personal cap for the 2022-23 year ($1.65 million) less her transfer balance of $800,000. This means Nina transfers another $850,000 into the retirement phase without exceeding her transfer balance cap.

Once Nina has used all of her available cap space, her transfer balance cap will not be subject to further indexation. This is the case even if Nina later partially commutes her superannuation income stream and her transfer balance falls below her transfer balance cap.

3.47 A modified transfer balance cap applies to a child dependant that receives a death benefit income stream from a deceased person (see paragraphs 3.266 to 3.294). The above rules generally do not apply to these transfer balance caps.

Indexation of the general transfer balance cap

3.48 New indexation rules are inserted into the ITAA 1997 to provide a framework for indexing amounts in increments. [Schedule 11, item 6, section 960-285 of the ITAA 1997]

3.49 The general transfer cap is indexed in $100,000 increments in line with CPI. [Schedule 11, items 5 and 6, item 10A in the table in section 960-265 and item 3 in the table in subsection 960-285(7) of the ITAA 1997]

3.50 The general transfer balance cap is indexed by being multiplied by the indexation factor and rounding down to the nearest $100,000. The indexation factor is determined by dividing the CPI number for the quarter ending 31 December in the prior financial year by the number for the base quarter (ending 31 December 2016). [Schedule 11, item 6, subsections 960-285(1), (2), (3) and (5) of the ITAA 1997]

3.51 The indexation factor is rounded to 3 decimal places. [Schedule 11, item 6, subsection 960-285(6) of the ITAA 1997]

3.52 The general transfer balance cap does not index where the indexation factor is one or less than one. [Schedule 11, item 6, subsection 960-285(4) of the ITAA 1997]

Credits to an individual's transfer balance account

3.53 The value of an individual's transfer balance account changes according to the credit and debit entries made to the account. A credit reduces the amount of available cap space an individual has. This section sets out when and how a retirement phase income stream, including a death benefit income stream, is credited to an individual's account.

Table 3.1 : Summary of credit events

3.54 Generally, a credit arises in an individual's transfer balance account when an individual becomes the recipient of a superannuation income stream that is in the retirement phase. That time is when the superannuation income stream begins to attract an earnings tax exemption for the superannuation income stream provider.

3.55 The following amounts are credited towards an individual's transfer balance account:

•

the value of all superannuation interests that support superannuation income streams in the retirement phase the individual is receiving on 30 June 2017;

•

the commencement value of new superannuation income streams (including new superannuation death benefit income streams and deferred superannuation income streams) in the retirement phase on or after 1 July 2017;

•

the value of reversionary superannuation income streams at the time the individual becomes entitled to them, although the time the credit arises is deferred (see paragraphs 3.79 to 3.82); and

•

excess transfer balance earnings that accrue on excess transfer balance amounts.

[Schedule 1, item 4, subsection 294-25(1) of the ITAA 1997]

3.56 The value of a superannuation interest is worked out under section 307-205 of the ITAA 1997 and the regulations made under that section.

3.57 After a superannuation income stream has commenced, changes in the value of its supporting interest are not counted as credits or debits. That means a superannuation interest that supports a superannuation income stream that increases in value because of investment earnings does not have its growth counted towards the cap. Similarly, a superannuation interest that supports a superannuation income stream that loses value because of investment losses or the drawdown of superannuation income stream benefits does not have that reduction reflected in the individual's transfer balance account.

Example 3.5 : Transfer balance account credits

On 1 August 2017, John starts a pension worth $1 million. At 1 July 2018, the value of the superannuation interest that supports John's pension has grown to $1.1 million because of investment earnings. By 1 January 2030, John has drawn-down the full value of the superannuation interest that supported his pension.

At all times, John has a transfer balance of $1 million reflecting the credit that arose on 1 August 2017.

3.58 The Government will review the impact of the transfer balance cap amendments if there is a macroeconomic shock that substantially affects retirement incomes (see paragraphs 3.102 to 3.103).

3.59 For the purposes of determining whether an individual is a retirement phase recipient of a superannuation income stream and the credit that arises in their transfer balance account for the superannuation income stream, it is assumed that:

•

the rules or standards under which the superannuation income stream is provided will be complied with; and

•

the superannuation income stream remains in the retirement phase, even if it later leaves the retirement phase because of non-compliance with a commutation authority (see paragraphs 3.191 to 3.197).

[Schedule 1, item 4, section 294-50 of the ITAA 1997]

3.60 These assumptions ensure that the creation of a transfer balance account and a transfer balance credit are not invalidated because these subsequent events mean there is no longer a superannuation income stream in the retirement phase. A debit arises if an income stream ceases to be superannuation income stream in the retirement phase (see paragraphs 3.136 and 3.138 to 3.143).

3.61 Modifications apply to working out the amount of credits that arise in relation to capped defined benefit income streams (see paragraphs 3.214 to 3.246).

Excess transfer balance earnings

3.62 An individual in excess of the transfer balance cap will benefit from earnings on that excess capital while they are in excess of the cap. Consistent with the policy intent, these earnings should be removed from the retirement phase. Recognising the difficulty with attributing actual earnings to specific amounts of capital, this section sets out the process for determining an amount of notional earnings ('excess transfer balance earnings') on excess capital.

3.63 An individual has an excess transfer balance when the balance of their transfer balance account exceeds their personal transfer balance cap on a particular day. [Schedule 1, item 4, section 294-30 of the ITAA 1997]

3.64 Excess transfer balance earnings accrue on excess transfer balances. Excess transfer balance earnings accrue daily and are generally credited towards an individual's transfer balance account. This means excess transfer balance earnings compound daily until the breach of the transfer balance cap is rectified or the Commissioner issues a determination. [Schedule 1, item 4, item 3 in the table in subsection 294-25(1) and subsection 294-235(1) of the ITAA 1997]

3.65 The rate at which excess transfer balance earnings accrue is based on the general interest charge. [Schedule 1, item 4, subsection 294-235(2) of the ITAA 1997]

3.66 The daily rate is worked out as follows:

[90 Day Bank Accepted Bill yield + 7 percentage points] / The number of days in the year


3.67 The 90-day Bank Accepted Bill yield is the benchmark indicator for short-term interest rates. For example, during the 2015-16 financial year, the general interest charge averaged 9.2 per cent per annum. The indicator is published by the Reserve Bank of Australia.

3.68 A Treasury portfolio minister may vary the daily rate downwards by legislative instrument. [Schedule 1, item 1, subsections 294-235(2) and (3) of the ITAA 1997]

Example 3.6 : Excess transfer balance earnings

On 1 August 2018, Andrew's SMSF starts a pension for Andrew worth $2 million. Andrew has a personal transfer balance cap of $1.6 million. On 1 August 2018, Andrew has an excess transfer balance of $400,000. Andrew realises his mistake 30 days later and decides to make a partial commutation of the pension to remove the excess.

Over the course of the 30-day period, Andrew's transfer balance account is credited with excess transfer balance earnings of $3,036 (all examples in this Chapter assume an annual excess transfer balance earnings rate of 9.2 per cent). This brings Andrew's transfer balance account up to $2,003,036.

Andrew calculates his excess transfer balance at the end of the 30-day period and, on that day, makes a partial commutation in return for a superannuation lump sum of $403,036. Andrew receives a debit for that amount in his transfer balance account. This brings his transfer balance account back in line with the $1.6 million transfer balance cap. Andrew cannot transfer any further amounts to the retirement phase.

3.69 Excess transfer balance earnings continue to accrue but are no longer credited to an individual's transfer balance account once the Commissioner has issued a transfer balance determination (see paragraphs 3.144 to 3.152). This means the excess transfer balance earnings that arise during this period do not contribute to an individual's excess transfer balance. This allows the Commissioner's determination to identify a fixed excess transfer balance that must be removed from the retirement phase. However, excess transfer balance earnings will start to be credited to a transfer balance account again if an individual receives another credit in their transfer balance account (for starting a new superannuation income stream). [Schedule 1, item 1, subsection 294-25(2) of the ITAA 1997]

3.70 Excess transfer balance tax is payable on accrued amounts of excess transfer balance earnings whether or not those amounts have been credited to, or debited from, an individual's transfer balance account. Excess transfer balance tax is assessed for the excess transfer balance period during which an individual was in breach of their transfer balance cap (see paragraphs 3.203 to 3.213).

3.71 An excess transfer balance is disregarded if it is less than $100,000, is caused by existing superannuation income streams on 30 June 2017, and the individual rectifies the breach within 6 months (see the discussion of transitional provisions at paragraphs 3.315 to 3.318).

3.72 Capped defined benefit income streams do not give rise to an excess transfer balance and are not subject to excess transfer balance tax. Instead, capped defined benefit income streams are subject to additional income tax rules to achieve a taxation outcome broadly commensurate to that of the transfer balance cap (see paragraphs 3.214 to 3.265).

Credits arising from death benefit income streams

3.73 This section sets out how death benefit superannuation income streams are treated under the transfer balance cap. References in this explanatory memorandum to a death benefit are references to a superannuation death benefit as defined in subsection 995-1(1) of the ITAA 1997. This section also outlines some amendments to the death benefit provisions of the law that are made to facilitate the introduction of the transfer balance cap.

When a death benefit may be paid as a death benefit income stream

3.74 Where an individual has a superannuation interest when they die, superannuation providers (for example, fund trustees) are required to cash the remaining interest from the superannuation system as soon as practicable (see Superannuation Industry (Supervision) Regulations 1994 (SISR 1994) regulation 6.21 and Retirement Savings Accounts Regulations 1997 (RSAR 1997) regulation 4.24.

3.75 Generally, the trustee of the superannuation fund will pay the deceased's remaining superannuation interests (accumulation and retirement phase interests) as a death benefit lump sum to a beneficiary of the deceased. This money is cashed out of the superannuation system.

3.76 A superannuation provider is allowed to pay a death benefit as a superannuation income stream (rather than a lump sum) if the beneficiary is a dependant of the deceased member (see subregulation 6.21(2A) of the SISR 1994 and subregulation 4.24(3A) of the RSAR 1997). A dependant is a person who is:

•

a spouse of the deceased,

•

a child of the deceased (less than 18 years of age, financially dependent or has a disability), or

•

a person who was in an interdependency relationship with the deceased.

3.77 The value of a death benefit income stream that is paid to a dependant will be credited to the dependant's transfer balance account. This value may include investment gains that accrued to the deceased's superannuation interest between the time that person died and the death benefit income stream became payable to the beneficiary.

3.78 A death benefit beneficiary will need to manage their affairs to ensure that a death benefit income stream does not result in them exceeding their transfer balance cap. If a death benefit income stream in combination with the individual's own superannuation income stream results in a beneficiary exceeding their transfer balance cap, they will need to decide which superannuation income stream to commute. Importantly, a superannuation death benefit cannot be held in an accumulation interest as this contravenes the regulatory requirement to cash the benefit out of the system as soon as practicable.

Example 3.7 : Inclusion of a death benefit income stream in the beneficiary's transfer balance account

On 17 August 2017, Harry commences a $500,000 superannuation income stream. Harry has a transfer balance of $500,000.

Harry's wife, Sally, dies on 30 November 2018, leaving superannuation interests of $288,000. On 15 July 2019, Sally's superannuation fund advises Harry that he is the sole beneficiary of Sally's superannuation interest.

The superannuation fund cashes the death benefit (now worth $290,000) in the form of a death benefit income stream to Harry from 1 August 2019. This increases Harry's transfer balance account to $790,000 on that date, which is still below his transfer balance cap. Harry does not need to take any further action.

Example 3.8 : Death benefit income stream where beneficiary spouse has not used all their transfer balance cap

As at 1 July 2017, Leonie and her husband Garry are both being paid superannuation income streams from the Wanderers Super Fund. Each has a superannuation interest of $1 million to support their superannuation income streams. They each have a transfer balance of $1 million.

On 31 October 2018, Garry passes away leaving $800,000 in superannuation interests. Garry's superannuation income stream was not reversionary so the trustee of the Wanderers Super Fund takes into consideration all the possible beneficiaries of Garry's superannuation interest.

On 15 January 2019, the trustee of the Wanderers Super Fund contacts Leonie and advises her that, as Garry's only dependant, she is eligible to receive a death benefit income stream. Leonie requests some time to get some financial advice before deciding whether she wants to receive Garry's superannuation interests as a death benefit income stream.

Leonie's financial advisor identifies that, if Leonie was to receive the $800,000 death benefit income stream in addition to her own $1 million superannuation income stream, she would exceed her transfer balance cap by $200,000.

Leonie may either:

•

receive from Garry's superannuation interest a $600,000 death benefit income stream and a $200,000 death benefit lump sum. The $200,000 death benefit lump sum would need to be cashed out of the superannuation system; or

•

receive from Garry's superannuation interest an $800,000 death benefit income stream and partially commute her own superannuation income stream by $200,000. The $200,000 lump sum Leonie would receive from the commutation could be retained in superannuation in an accumulation interest.

Under either option, Leonie will have a transfer balance account with a balance of $1.6 million, fully exhausting her transfer balance cap.

Example 3.9 : Death benefit income stream where beneficiary has no transfer balance account

Meredith and her husband Matthew are both retired. Matthew has commenced a superannuation income stream with $1 million and Meredith has no superannuation interests.

Matthew passes away and his superannuation fund pays his $800,000 superannuation income stream to Meredith.

Meredith is eligible to receive the full $800,000 as a death benefit income stream. Her transfer balance account starts when she becomes the recipient of the death benefit income stream and her transfer balance account is credited with the $800,000.

Example 3.10 : Death benefit income stream where beneficiary spouse has used all their transfer balance cap

Kurt and his wife Katherine are retired. In July 2017, Katherine commences a superannuation income stream with $1 million and Kurt commences a superannuation income stream with $1.6 million. Kurt has exhausted his transfer balance cap.

On 31 October 2018, Katherine passes away, leaving Kurt as the sole beneficiary of her remaining superannuation interests, now worth $800,000.

At this time, the superannuation interest that supports Kurt's superannuation income stream has a value of $1.4 million (the value of both individual's superannuation interests have been reduced over time by the drawdown of superannuation income stream benefits). However, as Kurt started the superannuation income stream with the full value of his transfer balance cap he cannot transfer further amount into the retirement phase without reducing his transfer balance first.

Kurt may take Katherine's superannuation interest of $800,000 as a death benefit lump sum, which would have to be cashed out of the superannuation system.

Alternatively, he could partially commute $800,000 of his superannuation income stream, retaining it in the accumulation phase, and take a death benefit income stream of $800,000. Kurt would still have his original superannuation income stream in the retirement phase (now supported by a superannuation interest of $600,000) and would also have $800,000 in accumulation. If Kurt chose this option, he would not need to cash any of Katherine's superannuation interest out of the superannuation system as a death benefit lump sum.

Modifications for reversionary superannuation income streams

3.79 Reversionary superannuation income streams are different from other death benefit income streams because they revert to the beneficiary immediately on the death of the member (rather than at the discretion of a superannuation provider). That is, the next superannuation income stream benefit payment (whenever that may be) is payable to the beneficiary. The beneficiary must still be someone who is eligible to receive a death benefit income stream (see paragraph 3.76). The credit that arises in the beneficiary's transfer balance account is the value of the supporting superannuation interest at the time it becomes payable to the beneficiary. This is consistent with the general rules outlined above.

3.80 A modification applies to defer the time the credit arises in the beneficiary's transfer balance account for reversionary superannuation income streams. The deferred time is twelve months after the superannuation income stream benefits first become payable to the beneficiary. This gives the new beneficiary sufficient time to adjust their affairs following the death of the member before any consequences - for example, a breach of their transfer balance cap - arise. [Schedule 1, item 4, paragraph (b) of column 3 in item 2 of the table in subsection 294-25(1) of the ITAA 1997]

Example 3.11 : Credits for reversionary superannuation income streams

John has a reversionary pension worth $1 million at the time of his death on 1 August 2017. The pension reverts to John's wife, Heather, and payments from the pension continue to be made to their joint bank account. Heather already has her own pension and a transfer balance account with a balance of $800,000.

In September 2017, Heather is advised that, in August, she became the recipient of John's pension. Heather is advised that, unless she acts, the combined value of the two pensions will cause her to breach her transfer balance cap. Heather has a number of options to respond to the situation. She can fully commute either pension or she can undertake a partial commutation of her pension for the amount of the potential excess, $200,000.

On 1 December 2017, Heather makes a partial commutation of her pension and receives a superannuation lump sum of $200,000. On that date, a debit arises in her transfer balance for that amount bringing her transfer balance down to $600,000.

The $1 million credit in respect of the reversionary pension arises in Heather's transfer balance account on 1 August 2018. Heather has not breached her transfer balance cap. The value of the credit that arises in Heather's transfer balance account will be the value of the superannuation interest when it started to be paid to her on John's death ($1 million) regardless of the value of the reversionary pension on 1 August 2018.

3.81 The deferral that applies to the time a credit arises also applies for individuals receiving a reversionary superannuation income stream on 30 June 2017. Where a reversionary superannuation income stream is payable to a beneficiary on 30 June 2017, the credit for this arises on the later of 1 July 2017 or 12 months after the superannuation income stream benefits became payable to that beneficiary. [Schedule 1, item 4, paragraph (b) of column 3 in item 1 of the table in subsection 294-25(1) of the ITAA 1997]

3.82 The variation in timing gives effect to the policy objective that beneficiaries of reversionary superannuation income streams should have 12 months after becoming entitled to the superannuation income stream to arrange their financial affairs. Where the reversionary superannuation income stream benefits became payable before 1 July 2016, the beneficiary will have had at least 12 months to adjust their affairs when these amendments begin to apply on 1 July 2017.

Death benefit income stream must also be in the retirement phase

3.83 The Government will amend the SISR 1994 and RSAR 1997 provisions that allow for payment of death benefit income streams to require that the superannuation income stream also be in the retirement phase. This aligns the regulatory provisions with the introduction of the transfer balance cap and ensures that any death benefit income stream paid to an individual must be within their transfer balance cap.

3.84 The Government will release the amendments to the SISR 1994 and RSAR 1997 for public consultation.

3.85 For a detailed discussion on when a death benefit income stream ceases to be in the retirement phase, see paragraphs 3.198 to 3.202.

Roll-over of death benefits

3.86 To facilitate the payment and roll-over of death benefit income streams for eligible beneficiaries, the taxation definition of a 'roll-over superannuation benefit' is amended to allow a superannuation lump sum death benefit to be rolled over. [Schedule 1, item 5, paragraph 306-10(a) of the ITAA 1997]

3.87 This will ensure that a death benefit that is rolled over will receive taxation treatment consistent with that of member benefits that are rolled over. In particular, it is not treated as a superannuation contribution and it is considered non-assessable non-exempt income (see section 306-5 of the ITAA 1997).

3.88 This amendment only applies where the beneficiary of the deceased member's superannuation interest is a dependant eligible to receive a death benefit income stream under the regulatory rules.

3.89 This amendment provides more flexibility for dependants receiving death benefits, allowing them to rollover lump sums to their choice of fund.

3.90 Where the beneficiary is not eligible to receive a death benefit income stream, the death benefit is excluded from being a roll-over superannuation benefit. The existing regulatory rules provide that these beneficiaries can only receive a death benefit lump sum cashed out of the superannuation system.

3.91 The Government will amend the ITAR 1997 to ensure that death benefits paid to beneficiaries not eligible to receive a death benefit income stream under the regulatory rules continue to not be included within the meaning of roll-over superannuation benefit. The Government will release the amendments to the ITAR 1997 for public consultation.

3.92 These changes do not alter the requirement that a deceased individual's superannuation interest cannot remain in the accumulation phase. That is, if a superannuation income stream provider is not allowed to pay the amount as a death benefit income stream, the amount must be cashed out of the superannuation system as a death benefit lump sum as soon as practicable.

3.93 Further, because the deceased member's superannuation interest remains subject to compulsory cashing under the regulatory rules it cannot be mixed with the beneficiary's own superannuation interest.

Example 3.12 : Roll-over of death benefits

Inger and Fredrick are married and are members of an APRA regulated superannuation fund. Fredrick has not yet started a superannuation income stream in his own right and has a small accumulation phase interest of $50,000. Fredrick decided not to start a superannuation income stream with the $50,000 because he does not want to make regular drawdowns on his superannuation interest.

On Inger's death, the superannuation fund trustee decides that Fredrick should receive a death benefit lump sum from Inger's superannuation interest worth $900,000. The superannuation fund explains that Frederick may either have the death benefit lump sum cashed out of the superannuation system or rolled-over to a new superannuation fund to be paid as a death benefit income stream.

Fredrick decides that he would rather take a death benefit income stream and a change to a superannuation fund that better suits his needs. Fredrick decides to roll-over his accumulation interest and the death benefit to a new fund.

When these amounts are received by the new fund they immediately commence a death benefit income stream with the $900,000 and place the $50,000 into an accumulation interest per Fredrick's instructions. The new fund recognises that, as the $900,000 is a death benefit, it cannot be mixed with Fredrick's own superannuation interest and cannot be held in an accumulation interest.

3.94 Section 390-10 of Schedule 1 to the TAA 1953 broadly requires that, where an individual's superannuation interest is rolled over, the superannuation provider that originally held the superannuation interest is required to provide the receiving superannuation provider with a roll-over superannuation benefit statement contain particulars as to the superannuation interest and the individual. The roll-over superannuation benefit statement is an approved form.

3.95 The approved form requirements for roll-over superannuation benefit statements will be updated, as soon practicable, to ensure that death benefits that are rolled over are notified to the receiving fund and continue to receive death benefit treatment under both the regulatory and income tax provisions.

3.96 As a consequence of including a death benefit in the meaning of roll-over superannuation benefit, subsections 307-5(3), (3A) and (3B) of the ITAA 1997 are repealed [Schedule 1, item 6, subsections 307-5(3), (3A) and (3B) of the ITAA 1997]

3.97 These subsections previously had the effect of turning a superannuation death benefit into a superannuation member benefit for taxation purposes where a death benefit income stream was commuted after the time prescribed in paragraph 307-5(3)(c) (generally 6 months). Where the death benefit income stream was paid to a spouse, this had the effect of including the commuted amount in the meaning of a roll-over superannuation benefit if the commuted amount was paid to another superannuation fund.

3.98 As death benefits are now included in the meaning of roll-over superannuation benefits, these subsections are no longer necessary and their repeal ensures that a superannuation death benefit will always receive death benefit taxation treatment.

Transfer balance account debits

3.99 This section sets out when an individual's transfer balance account will receive a debit. An individual's transfer balance account is debited when they commute capital from the retirement phase of superannuation. This facilitates roll-overs and ensures that an individual's transfer balance reflects the net amount of capital an individual has transferred to the retirement phase of superannuation. An individual's transfer balance account also receives a debit for certain other events that reduce the value of the individual's retirement phase interests. [Schedule 1, item 4, sections 294-75 and 294-80 of the ITAA 1997]

3.100 Superannuation income stream benefit payments that reduce the value of a superannuation interest that supports a superannuation income stream (pension drawdowns) are not debited from the individual's transfer balance. This reflects the expectation that, once an individual has utilised their cap, the value of the individual's retirement phase assets will eventually decline as the individual uses this income to support themselves in their retirement. This ensures the benefit of the retirement phase earnings exemption is limited appropriately to support individuals during their retirement.

3.101 Just as investment gains are not credited towards an individual's transfer balance account, investment losses do not give rise to debits.

3.102 During consultation on the amendments, stakeholders raised concerns about the potential impact of a macroeconomic shock that reduces the value of individuals' retirement phase interests. Stakeholders were concerned that, under the amendments, individuals that have already used their transfer balance cap would be prevented from replenishing their retirement phase interests for their investment losses.

3.103 The Government will review the impact of the transfer balance cap in the event of a macroeconomic shock that substantially affects retirement incomes. The review would be expected to seek advice from the Council of Financial Regulators to understand the magnitude and financial market implications of the macroeconomic shock and actuarial advice from the Australian Government Actuary to inform what response, if any may be required. This approach is consistent with the Government's response to the Review of Retirement Incomes, announced in the 2016-17 Budget, that advice from the Australian Government Actuary will be sought in the event of a significant economic shock in relation to whether changes should be made to minimum drawdown requirements.

3.104 This section describes the general rules for debiting the transfer balance account. Modifications apply to debits in relation to capped defined benefit income streams (see paragraphs 3.237 to 3.243).

Table 3.2 : Summary of debit events

Debits for commutations

3.105 A superannuation income stream may be reduced by commuting it into a superannuation lump sum. A superannuation lump sum (other than a death benefit lump sum) arising from a commuted superannuation income stream may be retained in the superannuation system. Retained superannuation lump sums are held in the accumulation phase where earnings are generally taxed at 15 per cent. Alternatively, a superannuation lump sum may be paid outside the superannuation system to the individual personally.

3.106 An individual that commutes a superannuation income stream is entitled to a debit in their transfer balance account equal to the value of the superannuation lump sum. The debit is applied regardless of whether the commuted amount is retained within the superannuation system or is paid out. [Schedule 1, item 4, item 1 in the table in subsection 294-80(1) of the ITAA 1997]

3.107 Because the debit reflects the value by which the superannuation interest that supports the superannuation income stream has been converted to a superannuation lump sum, the amount of a debit applied for a full commutation may exceed the balance of the individual's transfer balance account (or even their transfer balance cap). The debit could be higher (due to growth) or lower (due to drawdowns or losses) than the commencement value of the superannuation income stream. Where the value of the superannuation interest that supports the superannuation income stream has increased, recognising this increase in the commutation debit effectively allows an individual to start a new superannuation income stream up to the value of the fully commuted superannuation income stream without exceeding their transfer balance cap. This ensures an individual who rolls-over their superannuation income stream has the same transfer balance position as if they had not performed the roll-over.

Example 3.13 : Commutation debits

On 1 July 2017, Taylor purchases a pension worth $1.6 million. On 1 June 2018, the superannuation interest that supports the pension is valued at $1.7 million because of investment earnings. Taylor fully commutes the pension on this day and receives a $1.7 million superannuation lump sum. Taylor's transfer balance account is debited by $1.7 million to reach a balance of - $100,000. Taylor is entitled to start a new pension worth up to $1.7 million without breaching his transfer balance cap.

3.108 An individual may also make a partial commutation of a superannuation income stream. A partial commutation is recognised in the same way. The individual receives a debit for the value of the superannuation lump sum they receive.

Partial commutations and minimum draw-down requirements

3.109 To facilitate the ability for individuals to make partial commutations and receive a debit for the full value of that commutation against their transfer balance account, consequential amendments will be made to the SISR 1994 and RSAR 1997. These amendments will ensure that partial commutations cannot be counted towards the minimum annual payment requirement for superannuation income streams.

3.110 This ensures consistency with the objective of superannuation, which is to provide income to support retirement, and ensures that the benefit of the retirement phase earnings exemption is limited appropriately. Without this change, individuals who had reached their transfer balance cap would be able to cycle their minimum superannuation income stream benefits back into the retirement phase without breaching the cap. This would effectively allow minimum drawdown payments to be made from accumulation phase interests, which is inconsistent with the objective of the minimum drawdown requirements.

3.111 The Government will release the amendments to the SISR 1994 and RSAR 1997 for public consultation.

Structured settlement debits

3.112 A debit also arises with respect to a structured settlement an individual receives and contributes towards their superannuation interests. A structured settlement is a payment for a personal injury the individual has suffered and is defined in section 292-95 of the ITAA 1997 in the context of the excess non-concessional contributions regime. [Schedule 1, item 4, item 2 in the table in subsection 294-80(1) of the ITAA 1997]

3.113 The personal injury payment must be in the form of a structured settlement, an order for a personal injury payment or lump sum workers compensation payment. Two legally qualified medical practitioners must certify that the individual is unlikely to ever be able to be gainfully employed in a capacity for which they are reasonably qualified as a result of the injury.

3.114 Subject to the modification in paragraph 3.115, the contribution must be made to a superannuation fund within 90 days (or a longer period allowed by the Commissioner, see paragraphs 5.59 to 5.60) of the payment being received or the structured settlement or order coming into effect, whichever is later. The individual must notify the superannuation provider that the contribution is being made under this exemption before, or when, making the contribution. [Schedule 3, item 3, paragraph 292-95(1)(b) of the ITAA 1997]

3.115 A modification applies to structured settlements an individual received before the start of the excess non-concessional contributions regime on 10 May 2006. The modification removes the requirement that the individual make the contribution within 90 days and the requirement that the individual notify their superannuation provider. This reflects that it was not necessary to comply with these requirements before the start of the excess non-concessional contributions regime. [Schedule 1, item 4, subsection 294-80(2) of the ITAA 1997]

3.116 The debit arises at the time the individual contributes the structured settlement amount or the time the individual first has a transfer balance account, whichever is later. The debit that arises is the value of the contribution. It is not necessary to link the contribution to any particular amount of capital in the retirement phase.

Example 3.14 : Structured settlements

Alice, 42, is seriously injured in a car accident. She undertakes legal proceedings against the driver and is awarded a court ordered structured settlement of $4 million due to the severity of her injuries.

Alice contributes the $4 million into her superannuation fund and immediately commences a superannuation income stream with the amount, notifying the fund and the Commissioner of this contribution. A credit and a debit of $4 million arise in her transfer balance account on the same day. Alice's transfer balance account is now nil. Alice is entitled to start another superannuation income stream worth up to $1.6 million without exceeding her transfer balance cap.

Alice never had an excess transfer balance because the transfer balance is only measured at the end of a day. Similarly, Alice's transfer balance cap is subject to full indexation in the future as she has never had a transfer balance greater than nil at the end of a day.

Replenishment debits

3.117 There are a limited number of events that may result in an individual losing some or all of the value in their superannuation interests. These include family law payment splits, fraud and void transactions under the Bankruptcy Act 1966. In these specific circumstances, an affected individual is able to notify the Commissioner in the approved form of the event and receive a debit in their transfer balance account. There is no time limit within which the Commissioner needs to be notified. [Schedule 1, item 4, items 3 and 4 in the table in subsection 294-80(1), and sections 294-85 and 294-90 of the ITAA 1997]

Fraud

3.118 Where the superannuation interest that supports an individual's superannuation income stream is reduced because of a loss suffered by the superannuation income stream provider as a result of fraud or dishonesty, and the offender is convicted, the individual is able to notify the Commissioner and receive a debit in their transfer balance account which reflects the amount by which the superannuation interest was reduced. [Schedule 1, item 4, item 3 in the table in subsection 294-80(1) and subsections 294-85(2) to (4) of the ITAA 1997]

3.119 Though uncommon, sometimes superannuation is the target of fraudulent or dishonest activities that can result in losses suffered by the superannuation provider. If this loss is brought home to the individual member in respect to their retirement phase interests, and another person is convicted of fraud or dishonesty, the member is entitled to a debit equal to their loss.

Example 3.15 : Debits for fraud

James is a member of Cyclist Superannuation Fund. James has $2 million in superannuation and, on 1 July 2018, commenced a superannuation income stream with $1.6 million, leaving the remaining $400,000 in accumulation. James' transfer balance account on 1 July 2018 is $1.6 million.

During the 2018-19 financial year, Cyclist Superannuation Fund invested its pension portfolio in a managed fund called Investments Galore based on financial advice given to the fund by Simon.

In the 2019-20 financial year, it becomes apparent that Investments Galore was a front company set up by Simon to siphon investment income offshore. The money Cyclist Superannuation Fund invested in Investments Galore is lost and the superannuation interest that supports James' superannuation income stream is reduced by $400,000.

Cyclist Superannuation Fund is never able to recover the money it lost. Nevertheless, in 2020-21, Simon is convicted of fraud in relation to Investments Galore.

James notifies the Commissioner in the approved form that the superannuation interest that supports his superannuation income stream was reduced by $400,000 because of the fraudulent loss that resulted in Simon's conviction. $400,000 is debited against James' transfer balance account to bring his balance to $1.2 million. James can use the $400,000 he had remaining in accumulation to replenish his retirement phase interests.

Bankruptcy and void transactions

3.120 Where the superannuation interest that supports an individual's superannuation income stream is reduced because of payments required to comply with the Bankruptcy Act 1966, the individual is able to notify the Commissioner and receive a debit in their transfer balance account which reflects the amount by which the superannuation interest was reduced. [Schedule 1, item 4, item 3 in the table in subsection 294-80(1) and subsections 294-85(5) to (7) of the ITAA 1997]

3.121 Generally, superannuation interests cannot form part of a bankrupt estate. However, there are very specific circumstances where some superannuation contributions can form part of the bankrupt estate and are made available to the trustee in bankruptcy.

3.122 An example of where a superannuation contribution can form part of a bankrupt estate is where out of character contributions were made to superannuation with the intent to defeat creditors or to stop the amount otherwise becoming part of the bankrupt estate (see for example section 128B of the Bankruptcy Act 1966). In these circumstances, the contributions may be required to be transferred from superannuation to the bankrupt estate.

Example 3.16 : Debits for void transactions

In the 2018-19 financial year, Tim runs his own business and, because he is getting close to retirement, contributes to his superannuation fund the maximum amount of contributions allowed, being $25,000 of concessional contributions and $300,000 of non-concessional contributions (utilising the three-year bring forward). Previously, Tim only made yearly concessional contributions of $5,000 and no non-concessional contributions.

On 1 July 2019, Tim retires and commences a superannuation income stream using the total value of his superannuation interests, $1 million. His transfer balance is now $1 million.

Shortly after this, Tim files for bankruptcy and, notwithstanding Tim's claim that the additional funds were for his retirement, it is determined that the sum of $320,000 contributed in the 2018-19 financial year was an out of character contribution made to defeat the creditors of his business (see paragraphs 128B(1)(c) and (3)(b) of the Bankruptcy Act 1966). The trustee of Tim's superannuation fund pays $320,000 to the bankrupt estate as required under the Bankruptcy Act 1966.

Tim notifies the Commissioner in the approved form that the superannuation interest that supports his superannuation income stream has been reduced by $320,000 because of the payment to comply with the Bankruptcy Act 1966. Tim's transfer balance account is then debited $320,000 reducing his transfer balance account to $680,000.

Family Law payment splits

3.123 There are circumstances where, following a divorce or other relationship breakdown, superannuation interests may be split as part of the division of property. Under Part VIIIB of the Family Law Act 1975, this may occur as a result of a court order or by the agreement of the parties. Most commonly, one party (the member spouse) will be required to provide a proportion of their superannuation interests to the other party (the non-member spouse).

3.124 Family law payment splits that occur prior to the individual commencing a superannuation income stream will not affect the individual's transfer balance account as the division occurred prior to the interest entering the retirement phase.

3.125 There are two ways in which a family law payment may affect the superannuation income stream of an individual. Depending on the way the split is given effect to, the appropriate outcome is provided for under either the general debit rules or specific replenishment debit rules.

Application of general rules

3.126 Generally, the member spouse will partially commute their superannuation income stream, receive a superannuation lump sum and pay this amount to the non-member spouse. In these circumstances, a debit will arise in the member-spouse's transfer balance because of the commutation. A replenishment debit does not need to arise in these circumstances. [Schedule 1, item 4, item 1 in the table in subsection 294-80(1) of the ITAA 1997]

3.127 If the non-member spouse uses the proceeds of the member spouse's superannuation lump sum to start a new superannuation income stream, the new income stream will give rise to a credit in their transfer balance account. Again, this arises under the general rules outlined above.

Example 3.17 : Application of general rules to a payment split

On 1 October 2017, Nancy commenced a superannuation income stream with the value of $1 million. This means Nancy's transfer balance account is credited $1 million.

On 30 September 2018, as part of finalising her divorce, Nancy needs to transfer $500,000 of her superannuation to her ex-husband Michael. Nancy partially commutes her superannuation income stream by the $500,000 and transfers it to Michael's superannuation fund.

Nancy's transfer balance account is debited by $500,000 meaning her transfer balance is now $500,000.

Michael uses $200,000 of the amount he receives to start his own superannuation income stream. He receives a $200,000 credit in his transfer balance account.

Application of replenishment debit rules

3.128 In some uncommon cases, the family law payment split may have the effect of splitting the superannuation income stream benefits attached to the member spouse's superannuation income stream. That is, the member spouse will retain complete ownership of the superannuation interest but a portion of each superannuation income stream benefit (or payment) they receive will be directed to the non-member spouse.

3.129 The member spouse is entitled to a debit in their transfer balance account equal to the value of the superannuation interest that the non-member spouse is effectively entitled to. [Schedule 1, item 4, item 4 in the table in subsection 294-80(1), subsection 294-90(2) and paragraph 294-90(3)(a) of the ITAA 1997]

3.130 The non-member spouse receives a credit in their transfer balance account equal to the full value of member spouse's superannuation interests they are partially entitled to. To address the overvaluation of the non-member spouse's credit, they also receive a debit to reflect the member spouse's retained entitlement. [Schedule 1, item 4, paragraph 294-90(3)(b) of the ITAA 1997]

3.131 Either spouse must notify the Commissioner in order for their debits to arise. It is not necessary for each spouse to make a separate notification. The debit arises at the time the payment split becomes operative under the Family Law Act 1975 or when the individual starts to have a transfer balance account, whichever is later. [Schedule 1, item 4, subsections 294-90(1) and (4) of the ITAA 1997]

Example 3.18 : Application of the payment split debit rules

Bradley is a member of Guild Workers Superannuation Fund. On his retirement on 2 February 2015, Bradley starts to receive a pension valued at $1.6 million. This is the only superannuation interest that Bradley has.

On 1 July 2017 Bradley's transfer balance account is $1.6 million. Bradley's wife, Angie, has not retired and does not have a transfer balance account.

In 2020, Bradley and Angie get divorced and Bradley is required by the family law court orders to split 50 per cent of his superannuation with Angie. However, the rules of Bradley's pension are that it is not capable of being commuted until 10 years after it first commenced. Therefore, it is determined that the family law payment split should apply to the monthly pension payments with Bradley receiving approximately $4,000 and Angie receiving approximately $4,000 per month, commencing 1 October 2020.

Bradley notifies the Commissioner that 50 per cent of the pension payments he receives from his lifetime pension are being paid to Angie as a result of the family law payment split.

Bradley's transfer balance account is debited by $800,000 being the proportion of all the pension payments to be paid to Angie. This means Bradley's transfer balance is now $800,000.

As Angie has started to receive a superannuation income stream, she begins to have a transfer balance account on 1 October 2020. Her account is immediately credited with $1.6 million. This reflects the overall value of the superannuation interest supporting the superannuation income stream to which Angie is now partially entitled.

To correct the inappropriate credit Angie has received, a replenishment debit is also applied to Angie's transfer balance account. The debit is $800,000, Bradley's remaining portion of the pension. Angie's transfer balance is now $800,000.

In both cases, the debit of $800,000 for Bradley and Angie are applied to their transfer balance accounts with effect from 1 October 2020. Both have a transfer balance account at $800,000. This reflects their effective interest in the pension.

Consequences for future debits

3.132 Generally, family law payment splits that apply to a portion of each superannuation income stream benefit are done this way because the superannuation income stream of the member spouse cannot be commuted.

3.133 Where these circumstances change and the superannuation income stream of the member spouse is later commuted, both the member spouse and non-member spouse will receive a superannuation lump sum because a superannuation income stream of which they were the retirement phase recipients is commuted. Consequently, both the member spouse and the non-member spouse will receive a debit for the value of the superannuation lump sum they receive in their transfer balance account (in relation to a superannuation income stream that is not a capped defined benefit income stream). [Schedule 1, item 4, item 1 in the table in subsection 294-80(1) of the ITAA 1997]

3.134 Where an individual receives a debit for the commutation of a capped defined benefit income stream or a different type of debit arises - because of fraud, bankruptcy or because the income stream ceases to be in the retirement phase - the amendments operate to modify the debit to take into consideration the debit that has already applied in respect of the family law payment split. [Schedule 1, item 4, section 294-95 of the ITAA 1997]

Example 3.19 : Future consequences of a payment split

Further to Example 3.18, under the rules of Bradley's pension it is allowed to be commuted 10 years after its commencement.

On 2 February 2025, Bradley decides to commute his pension in full and 50 per cent of the superannuation lump sum (now worth $1.2 million) resulting from the commutation is paid to Angie under the terms of the family law payment split.

A debit of $600,000 arises in Bradley's transfer balance account because of the superannuation lump sum he receives from the commutation. A debit of $600,000 also arises in Angie's transfer balance account for the superannuation lump sum she receives from the commutation. As a result both Bradley and Angie have transfer balances of $200,000 ($800,000 - $600,000).

Both may recommence a pension worth up to $1.4 million.

Debits following a determination

3.135 This section sets out two additional types of debits that may arise during the process of the Commissioner acting to reduce an individual's excess transfer balance.

3.136 Firstly, where a superannuation income stream provider does not comply with a commutation authority, the provider may lose the earnings tax exemption associated with the relevant superannuation income stream (see paragraphs 3.191 to 3.197). A debit equal to the value of the superannuation income stream arises to reflect that the income stream is no longer in the retirement phase. [Schedule 1, item 4, item 5 in the table in subsections 294-80(1) of the ITAA 1997]

3.137 Secondly, there may be circumstances where an individual has insufficient superannuation interests available to rectify an excess transfer balance. In these circumstances, a debit arises to write-off the excess transfer balance (see paragraphs 3.189 and 3.190). [Schedule 1, item 4, item 7 in the table in subsections 294-80(1) of the ITAA 1997]

Debits for when a superannuation income stream fails to meet the pension or annuity standards

3.138 In certain circumstances a superannuation income stream may cease to be a superannuation income stream because it has failed to comply with the rules or standards under which it is provided.

3.139 The most common of these circumstances is where the superannuation income stream provider fails to pay the minimum amount of superannuation income stream benefits required under the regulatory rules.

3.140 Where this occurs, the superannuation income stream provider is taken not to have been paying a superannuation income stream during the income year. Therefore, for that income year, the income stream ceases to be a superannuation income stream that is in the retirement phase and ceases to be eligible for the earnings tax exemption.

3.141 Because the income stream is no longer in the retirement phase, no debit will arise in the individual's transfer balance account if they choose to fully commute the income stream.

3.142 For the superannuation interest to once again be eligible for the earnings tax exemption it must be commuted in full and a new superannuation income stream that complies with the standards started. To enable this to happen, a debit arises in the individual's transfer balance account. The debit arises at the end of the superannuation income stream provider's income year in which the income stream ceased to be a superannuation income stream. The debit arises at this time because in most cases it is only once the income year has ceased that it can be determined whether the superannuation income stream has met the standards. [Schedule 1, item 4, item 6 in the table in subsection 294-80(1) of the ITAA 1997]

3.143 The value of the debit is for the value of the superannuation interest that supports the income stream at the end of the superannuation income stream provider's income year.

Excess transfer balance determinations

3.144 This section sets out the consequences and processes that apply if an individual exceeds the transfer balance cap and receives a determination from the Commissioner

3.145 The Commissioner may make an excess transfer balance determination (a determination) where an individual has an excess transfer balance in their transfer balance account. [Schedule 1, item 15, section 136-10 in Schedule 1 to the Taxation Administration Act 1953 (TAA 1953)]

3.146 The purpose of the determination is to advise the individual of their excess transfer balance and to crystallise the amount of the individual's excess. The individual's excess transfer balance is crystallised because further excess transfer balance earnings that accrue after a determination is issued will not be credited towards the individual's transfer balance account. This is the first step in the process of removing capital the individual has in the retirement phase to bring their transfer balance account in line with their transfer balance cap. [Schedule 1, items 13 to 15, Part 3-20 (heading), Division 113 (heading), and sections 136-1 and 136-5 in Schedule 1 to the TAA 1953]

3.147 Where an individual has already taken steps to rectify their breach and has removed their excess transfer balance, it is not necessary for the Commissioner to issue a determination. Though the individual may not receive an excess transfer balance determination, they are still liable for excess transfer balance tax (see paragraphs 3.203 to 3.213).

3.148 If the Commissioner issues a determination, it must state the amount of the individual's excess transfer balance as at the date the determination is issued. The amount that must be removed is called the 'crystallised reduction amount' and is the sum of transfer balance credits relating to superannuation income streams in the retirement phase and excess transfer balance earnings that remain in excess of the individual's transfer balance cap at the date of the determination. [Schedule 1, item 15, subsection 136-10(3) in Schedule 1 to the TAA 1953]

3.149 The crystallised reduction amount is the value by which the individual's superannuation income streams must be commuted to bring their transfer balance account back in line with their transfer balance cap.

3.150 The Commissioner may amend or revoke a determination at any time to take into account additional information that comes to his or her attention. [Schedule 1, item 15, subsection 136-10(4) in Schedule 1 to the TAA 1953]

3.151 The determination will include a notice that outlines the default commutation authority that the Commissioner intends to issue if the individual does not make an election to commute a different superannuation income stream. This is intended to help an individual understand what steps the Commissioner will undertake if they do not make an election or choose to reduce a superannuation income stream themselves. [Schedule 1, item 15, subsections 136-10(6) and (7) in Schedule 1 to the TAA 1953]

3.152 This default commutation notice sets out the superannuation income stream provider and superannuation income stream from which it is intended the crystallised reduction amount will be commuted. Where there is more than one superannuation income stream provider or more than one superannuation income stream, the notice will state the amount by which each superannuation income stream is intended to be commuted, the sum of which cannot be more than the crystallised reduction amount.

Example 3.20 : Excess transfer balance determinations and default commutation notices

On 1 July 2018, Bec commences a superannuation income stream of $1 million from the superannuation fund her employer contributed to (Master Superannuation Fund). On 1 October 2018, Bec also commences a $1 million superannuation income stream in her SMSF, Bec's Super Fund.

On 1 July 2018, Bec's transfer balance account is $1 million. On 1 October 2018, Bec's transfer balance is credited with a further $1 million bringing her transfer balance account to $2 million. This means that Bec has an excess transfer balance of $400,000.

On 15 October 2018, the Commissioner issues an excess transfer balance determination to Bec setting out a crystallised reduction amount of $401,414 (excess of $400,000 plus 14 days of excess transfer balance earnings). Included with the determination is a default commutation authority which lets Bec know that, if she does not make an election within 60 days of the determination date, the Commissioner will issue a commutation authority to Master Superannuation Fund requiring the trustee to commute her $1 million superannuation income stream by $401,414.

Elections

3.153 Where an individual has more than one superannuation income stream, they may elect the income stream or streams that are commuted or partially commuted. The total amount of the commutations specified in the individual's election must equal the crystallised reduction amount. [Schedule 1, item 15, section 136-20 in Schedule 1 to the TAA 1953]

3.154 The individual must make the election in the approved form to the Commissioner within 60 days from the date the determination was issued (or such further time as the Commissioner allows). [Schedule 1, item 15, subsection 136-20(4) in Schedule 1 to the TAA 1953]

3.155 The individual's election is irrevocable and the Commissioner will issue commutation authorities in accordance with the election. [Schedule 1, item 15, subsection 136-20(5) in Schedule 1 to the TAA 1953]

3.156 If the superannuation income stream the individual wishes to have commuted is the same superannuation income stream included in the default commutation notice issued by the Commissioner, it is not necessary for the individual to make an election.

Notifying the Commissioner of transfer balance debits

3.157 After receiving a determination, an individual may advise the Commissioner, in the approved form, of a debit that has arisen in their transfer balance account. A debit may arise where a superannuation income stream of the individual has been fully or partially commuted after the determination was issued. Advising the Commissioner of these amounts allows the Commissioner to determine whether the individual still has an excess transfer balance and whether there is a requirement to issue a commutation authority. [Schedule 1, item 15, section 136-25 in Schedule 1 to the TAA 1953]

3.158 The individual must notify the Commissioner in the approved form that the debit has arisen before the individual makes an election and before the end of the 60-day period in which they are allowed to make the election.

Example 3.21 : Transfer balance debits notified after a determination

Further to Example 3.20, Bec became aware that she had exceeded her transfer balance cap on 12 October 2018 and put in place instructions with the accountant that manages Bec's Super Fund to partially commute her superannuation income stream by $500,000.

On 20 October 2018, the superannuation income stream provided by Bec's Super Fund is partially commuted, with $500,000 being placed in an accumulation interest within the fund.

As the debit from the partial commutation arises after the Commissioner issued the determination, Bec notifies the Commissioner in the approved form that a debit of $500,000 arose in her transfer balance account on 20 October 2018.

Bec's transfer balance on 15 October 2018 was $2,001,414 ($2 million plus 14 days of excess transfer balance earnings on an excess of $400,000). After the applying the debit of $500,000, Bec's transfer balance is $1,501,414 on 20 October 2018.

As Bec no longer has an excess transfer balance in her transfer balance account the Commissioner is not required to issue a commutation authority. However, Bec is still liable for excess transfer balance tax (see paragraphs 3.203 to 3.213)

Objections

3.159 Where an individual is dissatisfied with an excess transfer balance determination that has been issued to them, they may object against the determination under the standard objection regime for taxation matters, Part IVC of the TAA 1953. An individual may wish to lodge an objection if the Commissioner did not know about, or did not take into account, certain debits that arose before the Commissioner issued the determination or otherwise made an error in making the determination. [Schedule 1, item 15, subsection 136-15(1) in Schedule 1 to the TAA 1953]

3.160 The individual has 60 days from the date the determination was served on them to lodge an objection against the determination (see paragraph 14ZW(1)(c) of the TAA 195 3).

3.161 The default commutation notice included with the determination does not form part of the taxation decision to which the individual can object. [Schedule 1, item 15, subsection 136-15(2) in Schedule 1 to the TAA 1953]

3.162 This is because the default commutation notice is only intended to inform the individual of the superannuation income stream(s) in respect of which the Commissioner intends to issue a commutation authority if the individual does not make an election. The individual can choose a different superannuation income stream to be commuted by making an election as discussed in paragraphs 3.153 to 3.156.

3.163 An excess transfer balance determination is included in section 14ZVA of the TAA 1953 to limit objection rights against later excess transfer balance tax assessments to grounds that neither were - nor could have been - grounds for objection against the determination. This prevents the Commissioner from having to apply resources to addressing the same objection grounds twice. [Schedule 1, items 11 and 12, paragraphs 14ZVA(b) and (c) of the TAA 1953]

3.164 The Administrative Decisions (Judicial Review) Act 1977 is amended to ensure that that Act does not apply to excess transfer balance determinations and other decisions the Commissioner makes in relation to the transfer balance cap. Individuals are instead entitled to object to these decisions under Part IVC of the TAA 1953 as this provides a more appropriate review and remedy process for individual affected by transfer balance decisions. [Schedule 1, item 1, paragraph (gab) in Schedule 1 to the Administrative Decisions (Judicial Review) Act 1977]

Commutation authorities

Issuing of commutation authorities

3.165 The second step in managing breaches of the transfer balance cap is for the Commissioner to issue a commutation authority to the superannuation income stream provider to ensure that an individual's transfer balance is brought back to their transfer balance cap. [Schedule 1, item 15, sections 136-50 and 136-55 in Schedule 1 to the TAA 1953]

3.166 The Commissioner is required to issue a commutation authority if a determination has been issued to an individual and the individual has not notified the Commissioner that they have subsequently received debits equal to the crystallised reduction amount stated on the determination (the commutable amount). [Schedule 1, item 15, subsection 136-55(1) in Schedule 1 to the TAA 1953]

3.167 If the individual has made a valid election for a different superannuation income stream to be commuted then the commutation authority issued by the Commissioner must be in accordance with the individual's election. [Schedule 1, item 15, subsection 136-55(2) in Schedule 1 to the TAA 1953].

3.168 If the individual's election would not result in the commutable amount being commuted because it applied to a lesser amount, the Commissioner must issue additional commutation authorities in addition to those specified in the election. [Schedule 1, item 15, subsection 136-55(3) in Schedule 1 to the TAA 1953]

3.169 Where the individual has not made an election to commute a different superannuation income stream, the Commissioner will issue commutation authorities consistent with the default commutation notice. [Schedule 1, item 15, paragraph 136-55(5) in Schedule 1 to the TAA 1953]

3.170 The Commissioner is also required to issue a commutation authority to the superannuation income stream provider specified in the default commutation notice if the amount the individual elects to have commuted falls short of the commutable amount. [Schedule 1, item 14, subsection 136-55(4) in Schedule 1 to the TAA 1953]

3.171 Each commutation authority issued by the Commissioner must contain:

•

the superannuation income stream that the superannuation income stream provider is required to fully or partially commute;

•

the amount by which the superannuation income stream is to be commuted (the reduction amount);

•

the date issued; and

•

any other relevant information.

[Schedule 1, item 15, subsection 136-55(5) in Schedule 1 to the TAA 1953]

3.172 The total of all reduction amounts stated in all commutation authorities must not exceed the commutable amount. [Schedule 1, item 15, subsection 136-55(6) in Schedule 1 to the TAA 1953]

3.173 The Commissioner may vary or revoke a commutation authority at any time before the Commissioner receives a response from the superannuation income stream provider. [Schedule 1, item 15, section 136-60]

3.174 The Commissioner may also issue further commutation authorities where the initial authority was insufficient to achieve the required reduction or the superannuation income stream provider has not complied with the original commutation authority. [Schedule 1, item 15, section 136-65 in Schedule 1 to the TAA 1953]

Complying with commutation authorities

3.175 A superannuation income stream provider is required to comply with commutation authorities issued to it by commuting the identified income stream by the reduction amount stated in the commutation authority. [Schedule 1, item 15, section 136-80 in Schedule 1 to the TAA 1953]

3.176 Where the maximum available release amount of the identified superannuation income stream is less than the reduction amount stated in the commutation authority, the superannuation income stream provider is required to commute the superannuation income stream in full.

3.177 The 'maximum available release amount' is defined in section 131-45 in Schedule 1 to the TAA 1953 and means the total amount of all superannuation lump sums that could be paid from the superannuation interest at that time.

3.178 The superannuation income stream provider is required to reduce the superannuation income stream within 60 days of when the commutation authority is issued.

3.179 A superannuation income stream provider should make reasonable efforts to consult with the individual on whether they wish the amount by which the superannuation income stream is fully or partially commuted to remain within superannuation or, where the individual meets a relevant condition of release, whether they wish it to be paid to them as a superannuation lump sum.

3.180 Where the amount remains in superannuation, the amount will no longer be in the retirement phase and the superannuation income stream provider may need to create an accumulation interest for the individual, if one does not already exist. In determining how to deal with an amount that remains in superannuation, the superannuation income stream provider should consult with the individual member and where this is not possible continue to act in the interests of the member. This may require the superannuation income stream provider to set up an accumulation interest without the consent of the member. Superannuation providers may choose to nominate a default accumulation interest in the Product Disclosure Statement that is issued to members on commencement of an income stream.

3.181 Where a superannuation income stream provider transfers an amount into an accumulation interest to comply with a commutation authority, the superannuation income stream provider will be subject to the requirement to disclose significant events in section 1017B of the Corporations Act 2001. This requirement will assist an individual who has not consented to a transfer to locate the amount.

3.182 Where the amount is paid out of superannuation, the amount will be a lump sum superannuation benefit. For the majority of individuals 60 years of age or over the superannuation lump sum will not be taxable. In certain circumstances, the superannuation lump sum will be included in the individual's assessable income and taxed at the individual's marginal income tax rate with a tax offset applying where relevant (see Division 301 of the ITAA 1997).

3.183 To facilitate the creation of new accumulation phase interests where required, the Government will amend the Corporations Regulations 2001 to allow a superannuation income stream provider to transfer an interest without an eligible application to the superannuation income stream provider.

3.184 The Government will release the amendments to the Corporations Regulations 2001 for public consultation.

Example 3.22 : Complying with commutation authorities

Milla has superannuation interests with two superannuation funds, Major Superannuation Fund ($1 million) and Investments Super ($2 million). Before going on an overseas trip, Milla sent instructions to her superannuation funds to commence superannuation income streams as follow:

•

$1 million in Major Superannuation Fund, and

•

$600,000 in Investments Super.

However, due to a miscommunication, both superannuation funds start superannuation income streams of $1 million on 20 March 2018, meaning Milla exceeded her transfer balance cap by $400,000 on this date.

On 30 March 2018, the Commissioner issues a determination to Milla stating that she has a crystallised reduction amount of $401,009 ($400,000 excess plus 10 days of excess transfer balance earnings). The determination includes a default commutation authority notice that provides that unless Milla elects otherwise, the Commissioner will issue a commutation authority to Major Superannuation Fund in the amount of $401,009.

Milla has already left for overseas and therefore is not aware of the determination.

On 29 May 2018, the Commissioner issues a commutation authority to Major Superannuation Fund. Major Superannuation Fund tries to contact Milla to find out what she wants. However, as Milla is still overseas, she is still uncontactable.

Major Superannuation Fund considers that, in the absence of Milla's direction, it is in her best interest that the amount remains in superannuation. Major Superannuation Fund partially commutes Milla's superannuation income stream by $401,009 and transfers this amount to an accumulation interest for Milla. Major Superannuation Fund then issues Milla with a new product disclosure statement for her new account.

3.185 There are two circumstances where a superannuation income stream provider is not required to comply with a commutation authority. The first circumstance arises where the superannuation income stream is a capped defined benefit income stream (see paragraphs 3.224 to 3.321). The second circumstance is where the individual who has been issued the determination has died. [Schedule 1, item 15, subsection 136-80(2) and (3) in Schedule 1 to the TAA 1953]

3.186 Where a superannuation income stream provider is issued a commutation authority, they are required to notify the Commissioner and the individual in the approved form of:

•

the amount by which the superannuation income stream has been commuted; or

•

that the superannuation income stream provider has not complied with the commutation authority because the superannuation income stream is a capped defined benefit income stream.

[Schedule 1, item 15, sections 136-85 and 136-90 in Schedule 1 to the TAA 1953]

3.187 The superannuation income stream provider must also notify the Commissioner if they have not complied with the commutation authority because the individual has died. [Schedule 1, item 15, subsection 136-85(2) in Schedule 1 to the TAA 1953]

3.188 The notices must be given within 60 days after the commutation authority was issued. [Schedule 1, Part 1, item 15, subsections 136-85(3) and 136-90(2) in Schedule 1 to the TAA 1953]

Non-commutable excess transfer balance amounts

3.189 In certain circumstances, the Commissioner is required to notify an individual that they have a non-commutable excess transfer balance. This situation may arise where the individual has an excess transfer balance and has no remaining account-based superannuation income streams to be commuted. [Schedule 1, item 15, section 136-70 in Schedule 1 to the TAA 1953]

3.190 Where the Commissioner issues a notice in this situation, a debit for the remaining excess balance identified in the notice is applied to the individual's transfer balance account. This is to recognise that, although the individual still has an excess transfer balance, they no longer have any superannuation income stream or their only remaining superannuation interests are non-commutable. This effectively writes off the remainder of the excess so that excess transfer balance earnings do not continue to accrue. [Schedule 1, item 4, item 7 in the table in subsection 294-80(1) of the ITAA 1997]

Example 3.23 : Non-commutable excess transfer balance

Marney has superannuation interest with two superannuation funds: $500,000 in her SMSF, MM Super Fund, and a defined benefit interest with Government Employees Superannuation Fund.

Marney, who had turned 63 during the year, decides to retire on 1 December 2017 and commences a superannuation income stream in MM Super Fund of $500,000. Her transfer balance therefore is $500,000 on this date.

The rules of Government Employees Superannuation Fund however, provide that a pension is not payable until Marney turns 65.

On 30 May 2019, when Marney turns 65, she starts to receive a capped defined benefit income stream from Government Employees Superannuation Fund.

The value of Marney's pension from Government Employees Superannuation Fund is $1.6 million (see paragraphs 3.224 to 3.231 for modified valuation rules for capped defined benefit income streams).

On 30 May 2019, Marney's transfer balance is $2.1 million. Marney's transfer balance cap is $1.6 million (as the general cap has not yet indexed) and Marney has an excess transfer balance of $500,000.

On 9 June 2019, the Commissioner issues a determination to Marney with a crystallised reduction amount of $501,262 and a default commutation notice identifying MM Super Fund. The crystallised reduction amount includes $1,262 of excess transfer balance earnings that were credited to Marney's transfer balance account between 30 May and 9 June 2019.

On 13 August 2019, the Commissioner issues a commutation authority to MM Super Fund for $501,262 as Marney has not elected a different superannuation income stream to commute.

The balance of Marney's superannuation income stream in MM Super Fund is $380,000 due to superannuation income stream payments and some negative returns over the last two years. On 15 August 2019, MM Super Fund commutes Marney's superannuation income stream in full moving the $380,000 back into an accumulation interest. MM Super fund notifies the Commissioner and Marney of this in the approved form.

On 15 August 2019, a debit for the full commutation of $380,000 arises in Marney's transfer balance account, reducing her transfer balance to $1,721,262 and her excess transfer balance to $121,262.

Although Marney still has an excess transfer balance after the debit is applied, the Commissioner is aware that Marney's only other superannuation income stream is a capped defined benefit income stream.

On 20 August 2019, the Commissioner issues a non-commutable excess transfer balance notice to Marney for the amount of $121,262 meaning a debit for that amount arises on that date and Marney's transfer balance again equals her cap of $1.6 million. Excess transfer balance earnings cease to accrue.

Consequences of not complying with a commutation authority

3.191 Where a commutation authority has been issued in respect of a superannuation income stream and the superannuation income stream provider is required to comply with the authority but has failed to do so, the income stream will not be in the retirement phase. [Schedule 11, item 1, subsection 307-80(4) of the ITAA 1997]

3.192 The consequence of the superannuation income stream not being in the retirement phase is that the income stream will no longer qualify for the earnings tax exemption in Subdivision 295-F of the ITAA 1997.

3.193 The superannuation income stream will cease to be in the retirement phase from the start of the financial year in which the superannuation income stream provider failed to comply with the commutation authority and all later financial years. This means that an earnings tax exemption cannot be claimed in respect of the superannuation income stream for that financial year (the year in which the commutation authority was not complied with) or any later financial year.

3.194 A debit arises in the individual's transfer balance account for the value of the superannuation interest that supports the superannuation income stream that has ceased to be in the retirement phase because the superannuation income stream provider has failed to comply with the commutation authority. The debit arises at the end of the period in which the superannuation income stream provider was required to comply with the commutation authority. Generally, this will mean that the individual no longer has an excess transfer balance at this time. [Schedule 1, item 4, item 5 of the table in subsection 294-80(1) of the ITAA 1997]

3.195 If the individual wishes to again have a superannuation income stream in the retirement phase - and have it qualify for the earnings tax exemption - they will need to commute the superannuation income stream in full and start a new superannuation income stream. The individual will not get a debit for this commutation as the superannuation income stream will not be in the retirement phase at this time and a debit has already arisen with respect to the income stream.

Example 3.24 : Consequences of non-compliance

On 15 January 2019, Craig commences a $3 million superannuation income stream in his SMSF, Cormac Super Fund. Craig's transfer balance account is $3 million and he has a $1.4 million excess transfer balance on this date.

On 20 January, the Commissioner issues a determination to Craig stating his crystallised reduction amount as $1,401,765 ($1.4 million excess plus 5 days of excess transfer balance earnings). Craig does not have any other superannuation income streams and therefore Craig does not make an election.

On 13 April 2019, the Commissioner issues a commutation authority to Cormac Super Fund requiring the trustee to partially commute Craig's $3 million superannuation income stream by $1,401,765.

Craig does not think he should have to commute his superannuation income stream and therefore, as trustee of Cormac Super Fund, chooses not to comply with the commutation authority.

On 14 May 2019, as Cormac Super Fund has failed to comply with the commutation authority, Craig's $3 million superannuation income stream ceases to be in the retirement phase with effect from 1 July 2017. Consequently, Cormac Super Fund is not eligible to claim any earnings tax exemption in respect of this superannuation income stream for the 2017-18 income year or a later income year.

When Craig's superannuation income stream ceased to be in the retirement phase, a debit arises in Craig's transfer balance cap for the value of the superannuation interest that supported the superannuation income stream. In this case, the debit is $3 million.

Therefore, Craig's transfer balance account on 14 May 2019 is $1,765 ($3,001,765 less $3,000,000). Craig is entitled to commute his superannuation income stream and start a new superannuation income stream in the retirement phase with up to $1,598,235.

3.196 A superannuation income stream provider does not fail to comply with a commutation authority if:

•

it commuted the superannuation income stream by the maximum available release amount; or

•

it was not required to comply with the commutation authority because the identified superannuation income stream was a capped defined benefit income stream or because the relevant individual had died.

3.197 The requirement to comply with a commutation authority is also a regulatory provision for SMSFs. [Schedule 1, item 7, subparagraph 38A(ab)(iii) of the Superannuation Industry (Supervision) Act 1993]

Death benefit income streams that are not in the retirement phase

3.198 As discussed in paragraphs 3.83 to 3.85, the regulatory rules that allow for the payment of a death benefit income stream to eligible beneficiaries are being changed to also require that the death benefit income stream be in the retirement phase.

3.199 As death benefits cannot remain in the accumulation phase, any amount that cannot be used to pay a death benefit income stream in the retirement phase must be cashed out as a death benefit lump sum. This ensures that the superannuation income stream provider does not contravene the compulsory cashing regulatory rules. This effectively limits the value of a death benefit income stream to the amount available under the beneficiary's transfer balance cap.

3.200 A death benefit income stream would cease to be in the retirement phase if the superannuation income stream provider is required to comply with a commutation authority but has failed to do so.

3.201 Where this happens, the individual will get a debit in their transfer balance account because the death benefit income stream ceases to be in the retirement phase (see paragraph 3.136). Using this debit, an individual could recommence a death benefit income stream in the retirement phase up to the value of the individual's unused transfer balance cap. The amount above their transfer balance cap would need to be cashed out as a death benefit lump sum.

Example 3.25 : Superannuation death benefit income stream that ceases to be in the retirement phase

Sasha and Ivan have a SMSF, Siberia Superannuation Fund, in which they have both commenced a superannuation income stream of $1.2 million each.

On 15 April 2018, Ivan passes away. Ivan's superannuation income stream reverts to Sasha on his death. Sasha chooses not to commute any amounts from the reversionary superannuation income stream.

Twelve months later, on 15 April 2019, a credit for the reversionary superannuation income stream arises in Sasha's transfer balance account. Her transfer balance on that day is $2.4 million.

An excess transfer balance determination, followed by a commutation authority, is issued to commute $800,000 of the reversionary superannuation income stream. However, for various reasons, no action is taken.

This means that the reversionary superannuation income stream ceases to be in the retirement phase and, therefore, no longer met the regulatory rules that allow it to be paid out as a death benefit income stream on that date.

The Siberia Superannuation Fund must pay this death benefit to Sasha as a death benefit lump sum.

Alternatively, to the extent that Sasha has space in her transfer balance account (after the debit that arose when the reversionary superannuation income stream ceased to be in the retirement phase - see paragraph 3.133), the Siberia Superannuation Fund may commence a new superannuation death benefit income stream but the value must not cause Sasha to exceed her transfer balance cap again.

3.202 A similar situation may arise if the death benefit income stream ceases to be a superannuation income stream because it has failed to comply with the rules or standards under which it is provided (see paragraphs 3.138 to 3.143).

Excess transfer balance tax

3.203 The consequences of exceeding the transfer balance cap for the first time are intended to be restorative, rather than punitive. In addition to removing the excess transfer balance from the retirement phase, an individual is subject to a tax on the excess transfer balance earnings accrued while the individual was in excess of the cap. The excess transfer balance earnings are calculated for the period from the date the individuals transfer balance first exceeds their transfer balance cap to the date of the rectification (when their transfer balance is no longer in excess). For first breaches the tax rate is intended to broadly replicate the tax outcome if the excess capital had been in the accumulation phase. Therefore, the tax rate is set at 15 per cent for breaches in 2017-18. From 2018-19, the tax rate is also 15 per cent for a first breach, and increases to 30 per cent for second and subsequent breaches.

3.204 Excess transfer balance tax is applied to an individual's accrued amount of excess transfer balance earnings over a period the individual had an excess transfer balance. Excess transfer balance earnings are taxable regardless of whether the Commissioner issued a determination or commutation authority to rectify the excess, or the individual rectified the excess on their own initiative. [Schedule 1, item 4, section 294-230 of the ITAA 1997; and sections 1, and 3 to 5 of the Superannuation (Excess Transfer Balance Tax) Imposition Bill 2016]

3.205 The standard rate of excess transfer balance tax is 15 per cent. Although based on a notional earnings rate rather than actual earnings, this tax is intended to neutralise the advantage the individual receives from the superannuation provider's earnings tax exemption. This reflects that, but for the individual's breach, the excess amount on which excess transfer balance earnings are calculated would have been in the accumulation phase and the earnings taxed at 15 per cent. [Schedule 1, item 4, section 294-225; and subsection 5(1) the Superannuation (Excess Transfer Balance Tax) Imposition Bill 2016]

3.206 A tax rate of 30 per cent applies to additional excess transfer balance tax assessments the individual receives. An individual who exceeds their transfer balance cap after receiving an earlier assessment most likely believes their actual earnings will exceed the excess transfer balance earnings rate. Imposing a higher rate of taxation is designed to discourage such behaviour. That is, the higher rate includes a deterrent effect in addition to a restorative effect for subsequent breaches of the transfer balance cap. [Section 5 of the Superannuation (Excess Transfer Balance Tax) Imposition Bill 2016]

3.207 However, throughout the 2017-18 financial year, all excess transfer balance tax is assessed at a rate of 15 per cent. In addition, an assessment that applies to an excess transfer balance period beginning before 1 July 2018 does not count as an earlier assessment for the purposes of increasing subsequent assessments to a 30 per cent rate. [Subsection 5(2) of the Superannuation (Excess Transfer Balance Tax) Imposition Bill 2016]

3.208 Excess transfer balance earnings generally compound daily while the individual has an excess transfer balance. However, once the Commissioner issues a determination to the individual, notional earnings are no longer credited to the individual's transfer balance account. To account for this, an adjustment is made to the tax calculation to include amounts of excess transfer balance earnings that would have arisen but for the determination. [Schedule 1, item 4, paragraph 294-230(3)(b) of the ITAA 1997]

Example 3.26 : Excess transfer balance tax

Further to Example 3.6, on 1 July 2019, Andrew starts a second pension worth $1 million. Andrew had no available cap space, meaning he has breached his cap for a second time and has an excess transfer balance of $1 million.

60 days later, the Commissioner issues a determination to Andrew identifying a crystallised reduction amount of $1,015,236 ($1 million excess plus 60 days of notional earnings).

65 days after issuing the determination, the Commissioner issues a commutation authority to Andrew's superannuation fund.

10 days after the Commissioner issues the commutation authority, Andrew's superannuation fund complies with the authority and makes a partial commutation of Andrew's pension, paying Andrew a lump sum of $1,015,236.

Notional earnings accrue to Andrew during the 60-day period before the determination and the subsequent 75-day period before the fund partially commuted the pension.

The Commissioner assesses Andrew for excess transfer balance tax as follows (amounts do not add up due to rounding):

Excess	Period	Excess transfer balance earnings
$400,000	30 days (see Example 3.6)	$3,036
	Tax (at 15 per cent):	$455
$1,000,000	60 days	$15,236
$1,015,236	75 days	$19,372
	Subtotal:	$34,609
	Tax (at 30 per cent):	$10,383

3.209 The Commissioner will issue an excess transfer balance tax assessment imposing the tax liability after the breach has been rectified. An excess transfer balance tax assessment is due and payable 21 days after the Commissioner issues the assessment. [Schedule 1, item 4, section 294-240 of the ITAA 1997]

3.210 If the Commissioner issues an amended excess transfer balance tax assessment, the additional amount of assessed excess transfer balance tax is due and payable 21 days after the Commissioner issues the amended assessment. [Schedule 1, item 4, section 294-245 of the ITAA 1997]

3.211 Where the amount of excess transfer balance tax is not paid by the required time, the general interest charge will start accruing on the unpaid amount. [Schedule 1, item 4, section 294-250 of the ITAA 1997]

3.212 Where an individual is dissatisfied with an excess transfer balance assessment, they may object under Part IVC of the TAA 1953 (see paragraph 3.164 and section 155-90 in Schedule 1 to the TAA 1953).

3.213 Excess transfer balance tax is imposed on individuals that exceed their transfer balance cap in order to discourage both inadvertent and wilful non-compliance with the amendments. Furthermore, schemes designed to exceed an individual's transfer balance cap for the purpose of producing a tax benefit are subject to the general anti-avoidance rules in Part IVA of the Income Tax Assessment Act 1936. Part IVA may also apply to other schemes that seek to circumvent the transfer balance cap, for example washing assets through the retirement phase.

Capped defined benefit income stream modifications

3.214 Modifications apply in relation to certain defined benefit income streams. Defined benefit superannuation income streams differ from more common account-based superannuation interests that reflect member contributions. Many defined benefit superannuation income streams are subject to commutation restrictions, which make the application of the general rules infeasible.

3.215 The modifications include modified valuation rules for certain defined benefit income streams. A further modification prevents an individual from having an excess transfer balance to the extent the excess is attributable to certain defined benefit income streams. [Schedule 1, item 4, sections 294-120 and 294-125 of the ITAA 1997]

3.216 Superannuation income stream benefits to which these modifications apply are subject to additional income tax rules (see paragraphs 3.247 to 3.265).

3.217 The purpose of these modifications is to provide broadly commensurate taxation treatment to certain non-commutable superannuation income streams while recognising that it is inappropriate to require individuals to undertake commutations.

3.218 The scope of the rules is limited to certain defined benefit income streams that commenced prior to 1 July 2017 and lifetime pensions that commence at any time.

Capped defined benefit income streams

3.219 These modifications apply to certain non-commutable superannuation income streams referred to as capped defined benefit income streams. The concept of a capped defined benefit income stream does not depend on the concept of a defined benefit interest. Rather, the definition is based on a list of superannuation income stream products that are subject to commutation restrictions under the SISR 1994 or the RSAR 1997. Additional superannuation income streams may be prescribed under the ITAR 1997. [Schedule 1, item 4, section 294-130 of the ITAA 1997]

3.220 There are two categories of superannuation income streams the definition applies to:

•

lifetime pensions that are covered regardless of when the pension started; and

•

certain other superannuation income streams that are only covered if the income stream existed on 30 June 2017.

Lifetime pensions

3.221 Only lifetime pensions are subject to the modifications both in relation to existing superannuation income streams and new income streams that start on or after 1 July 2017. Lifetime pensions are often provided to Commonwealth, State and Territory public office holders, and military and civilian employees. Most of these schemes are closed to new members. However, existing members are entitled to receive pensions in the future. The extension of the modifications to these pensions reflects that, while the pension itself may not have started before the application of these amendments, the pension is part of a long-standing arrangement to which there is an existing legal entitlement. [Schedule 1, item 4, paragraph 294-130(1)(a) and item 1 in the table in subsection 294-130(1) of the ITAA 1997]

Capped defined benefit income streams existing on 30 June 2017

3.222 In addition to lifetime pensions, a number of other superannuation income streams are eligible for the capped defined benefit income stream modifications because they existed prior to the application of these amendments. This application is limited to superannuation income streams that are subject to commutation restrictions under the rules of the superannuation income stream and the SISR 1994 (or RSAR 1997) , which apply to the following:

•

lifetime pensions and annuities;

•

life expectancy pensions and annuities;

•

market-linked pensions and annuities.

[Schedule 1, item 4, paragraph 294-130(1)(b) and items 2 to 7 in the table in subsection 294-130(1) of the ITAA 1997]

3.223 Life expectancy and market-linked products are collectively referred to as term pensions and term annuities, as appropriate.

Valuation of capped defined benefit income streams

3.224 Modifications apply to the valuation of capped defined benefit income streams. The rules allow an individual to determine the special value of a capped defined benefit income stream. This special value amount only applies for the purposes of an individual's transfer balance account. However, the transfer balance account is used to determine an individual's eligibility in relation to other areas of the law, for example, to make catch-up concessional contributions (see Chapter 8). [Schedule 1, item 4, subsection 294-135(1) of the ITAA 1997]

3.225 Lifetime pensions and annuities that are capped defined benefit income streams are valued by multiplying the annual entitlement by a factor of 16. The purpose of this rule is to provide a simple valuation rule based on general actuarial considerations. This means that a defined benefit pension that pays $100,000 per annum would fully exhaust the $1.6 million transfer balance cap in the 2017-18 financial year. [Schedule 1, item 4, subsection 294-135(2) of the ITAA 1997]

3.226 The use of a single factor of 16 is consistent with the general transfer balance cap. The general transfer balance cap is set at $1.6 million regardless of the age or gender of a retiree, the earnings they are able to achieve on their assets or the rate at which these are drawn down. Using variable age-based factors would produce anomalous outcomes. For example, lower factors for older individuals would result in the individual having more cap space than their younger counterparts despite having lower life expectancy. It would also be inconsistent to use a single threshold above which income streams are subject to additional tax, while using different valuation factors.

3.227 Term pensions and term annuities are valued according to the superannuation income stream's annual entitlement multiplied by the number of years (rounded up to the nearest whole number) remaining on the term of the product. [Schedule 1, item 4, subsection 294-135(3) of the ITAA 1997]

Annual entitlements

3.228 An individual's annual entitlement to a superannuation income stream is worked out by reference to the first payment the individual is entitled to receive after the valuation is required. The first payment is annualised based on the number of days in the period to which the payment refers. Subsequent increases to the income stream benefit relative to the first payment due to indexation are not relevant to the calculation of the annual entitlement. [Schedule 1, item 4, subsection 294-135(2) of the ITAA 1997]

3.229 This can be expressed in the following formula:

[first payment / days in period] * 365 = annual entitlement


Example 3.27 : Annual entitlements and valuation

On 30 June 2017, Sarah is the recipient of a lifetime pension. Under the terms of the pension, Sarah is entitled to receive $2,000 every fortnight. Sarah's first payment is $2,000 and is referrable to a 14-day period. Her annual entitlement is worked out as follows:

[$2,000 / 14] * 365 = $52,142.86


Applying the multiplication factor of 16, Sarah's pension has a special value of $834,285.71. A credit arises in Sarah's transfer balance account for this amount.

Example 3.28 : Valuation of term products

Grant purchases a market-linked pension in January 2017. The term of the pension is five years. At 30 June 2017, the pension has an annual entitlement of $100,000. The remaining term is rounded up to five years. The pension has a special value of $500,000.

Credit and debit amounts arising from capped defined benefit income streams

3.230 The modified valuation rules are used to determine the amount of credits and debits that arise in relation to capped defined benefit income streams.

3.231 When a capped defined benefit income stream causes a credit to arise in an individual's transfer balance account, the amount of the credit is the superannuation income stream's special value (see Example 3.27).

Debit value

3.232 The debit amount that arises in relation to a capped defined benefit income stream is worked out by reference to the superannuation income stream's debit value.

3.233 The debit value of a lifetime pension or annuity is the residual of its special value, taking into account previous associated debit amounts (other than debits for payment splits). This ensures that the total debits an individual receives in relation to a lifetime pension or annuity they fully commute will equal the amount of credits associated with the superannuation income stream. [Schedule 1, item 4, subsection 294-145(5) of the ITAA 1997]

Example 3.29 : Debit value of lifetime pensions and annuities

Mark starts a lifetime pension that has a special value of $1 million. The debit value of the pension at this time is $1 million.

Later, a debit of $300,000 arises in relation to the pension. From this time, the debit value of the pension is $700,000.

3.234 The debit value of a term product is the superannuation income stream's special value at the relevant time. This valuation will incorporate the ordinary decline in value of a term product, regardless of whether associated debits have previously arisen. [Schedule 1, item 4, subsection 294-145(6) of the ITAA 1997]

Example 3.30 : Debit value of a term product

Further to Example 3.28, Grant's pension has an initial debit value of $500,000.

On 30 June 2018, Grant's pension has an annual entitlement of $90,000. The remaining term of the pension is four years. The pension has a debit value of $360,000.

Table 3.3 : Summary of special valuation rules for capped defined benefit income streams

Additional capped defined benefit income streams under regulations

3.235 The ITAR 1997 may prescribe additional superannuation income streams that are subject to the additional capped defined benefit income stream rules. If the regulations prescribe additional superannuation income streams, they will also prescribe modified valuation rules and debit value rules in relation to the new income streams. [Schedule 1, item 4, subsections 294-130(2), 294-135(4) and 294-130(7) of the ITAA 1997]

3.236 Regulations may prescribe certain superannuation income streams as capped defined benefit income streams where it would be inappropriate to require individuals to undertake commutations, consistent with the intent of the defined benefit income stream treatment in paragraph 3.217. This may include, for example, where the fund rules, or the contract, do not permit commutation, or where the commutation value is unreasonably low when compared to the actual value of the superannuation income stream to the member.

Transfer balance debits

3.237 The transfer balance debit that arises for a full commutation of a superannuation income stream equals the superannuation income stream's debit value at that time. [Schedule 1, item 4, paragraph 294-145(1)(a) of the ITAA 1997]

Example 3.31 : Transfer balance debit for full commutation

Further to Example 3.29, Mark later makes a full commutation of his lifetime pension. A debit of $700,000 arises in Mark's transfer balance account.

Further to Example 3.30, on 30 June 2018, Grant fully commutes his pension. A debit of $360,000 arises in Grant's transfer balance account.

3.238 The transfer balance debit that arises for a partial commutation (or similar event) is a proportion of the superannuation income stream's debit value. The proportion is worked out by subtracting from 1 the special value of the capped defined benefit income stream immediately after the commutation divided by the special value of the income stream immediately before that time. [Schedule 1, item 4, paragraph 294-145(1)(b) of the ITAA 1997]

3.239 This transfer balance debit can be expressed in the following formula:

debit value * [1-(special value after event /special value before event)] = debit amount


Example 3.32 : Debit amount for partial commutation

In August 2017, Kyle starts a lifetime pension with a special value of $1.6 million. Kyle's annual entitlement is $100,000. At this time, the debit value of the pension is also $1.6 million.

On 1 July 2018, Kyle's lifetime pension is indexed and he starts to receive $105,000 per annum. The special value of the pension at this time is $1.68 million. The indexation does not affect Kyle's transfer balance account.

In September 2018, Kyle makes a partial commutation of 25 per cent of his pension. Following this commutation, Kyle's annual entitlement is $78,750. The special value of the lifetime pension at this time is $1.26 million.

Kyle receives a debit in his transfer balance account for the following amount:

$1.6 million * [1-($1.26 million/$1.68 million)] = $400,000


The debit value of the pension is reduced by $400,000.

In January 2021, Kyle fully commutes the pension. A debit of $1.2 million arises in his transfer balance account at this time. The total amount of debits Kyle has received ($1.6 million) equal the credit that was applied when the pension commenced.

3.240 Transfer balance debits for bankruptcy and fraud that arise in respect of capped defined benefit income streams are worked out in the same way as debits for partial commutations. It would be unlikely for a debit of this kind to arise in relation to a capped defined benefit income stream because of the guaranteed nature of the member's entitlement. [Schedule 1, item 4, subsection 294-145(2) of the ITAA 1997]

3.241 The transfer balance debit that arises in relation to a capped defined benefit income stream that is subject to a family law payment split (see paragraphs 3.128 to 3.134) is worked out by applying the superannuation income stream's debit value. [Schedule 1, item 4, subsection 294-145(3) of the ITAA 1997]

3.242 Transfer balance debits that arise for payment splits that apply to a capped defined benefit income stream do not reduce the debit value of the income stream. These debits do not reflect a decline in value of the superannuation interest and the consequences of a payment split for a future debit are provided for under the payment split debit provisions. [Schedule 1, item 4, paragraphs 294-95(a) and 294-145(5)(b) of the ITAA 1997]

Example 3.33 : Payment split of capped defined benefit income stream

Terri starts to receive a lifetime pension with a special value of $1.6 million on 1 July 2018.

In 2020 Terri and her husband Beau get divorced and Terri is required by the family law court order to provide 50 per cent of her superannuation to Beau. However, as Terri's lifetime pension is non-commutable, the 50 per cent family law payment split applies to her monthly pension payments.

Terri notifies the Commissioner that 50 per cent of the pension payments she receives are to be paid to Beau as a result of the family law payment split.

A debit is applied to Terri's transfer balance account for the proportion of pension payments that became payable to Beau, so her transfer balance account is $800,000.

As Beau has commenced to be in receipt of a superannuation income stream, his transfer balance account is credited with the special value of $1.6 million and then debited for the proportion of the lifetime pension that remains with Terri meaning his transfer balance account is $800,000.

The debit value of the lifetime pension for each individual remains $1.6 million.

In 2022, the rules of the superannuation fund that provides Terri's lifetime pension change such that the pension can now be commuted. Terri decides to commute her lifetime pension in full with 50 per cent of the lump sum that arises from the commutation being paid to Beau.

The debit that arises in Terri's transfer balance account is 50 per cent of the debit value, $800,000. Terri's transfer balance account is now nil and she can commence income streams up to her transfer balance cap.

Fifty per cent of the debit value also arises as a debit in Beau's transfer balance cap - he also can now commence new superannuation income streams up to the value of his transfer balance cap.

3.243 The debit that arises because a capped defined benefit income stream ceases to be in the retirement phase - or for an arrangement that fails to be a purported superannuation income stream because of a failure to comply with the regulatory standards - is equal to the debit value of the income stream. [Schedule 1, item 4, subsection 294-145(4) of the ITAA 1997]

Modification of excess transfer balance

3.244 If an individual has any capped defined benefit income streams, a modification applies when working out whether the individual has an excess transfer balance.

3.245 An individual will not have an excess transfer balance account to the extent their excess would otherwise be attributable to capped defined benefit income streams. This ensures that an individual cannot breach their transfer balance cap if they only have capped defined benefit income streams. [Schedule 1, item 4, section 294-140 of the ITAA 1997]

3.246 The extent to which an excess is attributable to capped defined benefit income streams is worked out by reference to an individual's capped defined benefit balance. This balance is a sub-account of the individual's transfer balance account and includes all debits and credits that relate to capped defined benefit income streams. That is, the capped defined benefit balance reflects the net amount of capital an individual has transferred to the retirement phase in respect of capped defined benefit income streams. [Schedule 1, item 4, subsection 294-140(3) of the ITAA 1997]

Example 3.34 : No excess transfer balance

On 1 August 2017, Jane starts to receive a lifetime pension with a special value of $3 million. $3 million is credited to Jane's transfer balance account and Jane's capped defined benefit balance.

Although Jane's transfer balance exceeds her $1.6 million transfer balance, Jane does not have an excess transfer balance because the excess is entirely attributable to her capped defined benefit income stream. Excess transfer balance earnings do not accrue to Jane. Jane is not required to reduce her retirement phase interests. However, Jane is subject to additional income tax rules in relation to her defined benefit income (see paragraphs 3.247 to 3.265). These rules provide a broadly commensurate taxation treatment of her lifetime pension as if she had an account-based superannuation income stream of the same value.

Example 3.35 : Reduced excess transfer balance

Further to Example 3.34, on 1 January 2018, Jane purchases a superannuation income stream for $200,000. The superannuation income stream is not a capped defined benefit income stream.

$200,000 is credited to Jane's transfer balance account, which increases to $3.2 million. Jane now has an excess transfer balance of $200,000 being the amount by which her transfer balance account exceeds her capped defined benefit balance.

Jane will be forced to commute the $200,000 superannuation income stream and will be subject to excess transfer balance tax. If the new superannuation income stream is insufficient to fully remove the crystallised reduction amount ($200,000 plus notional earnings), any remaining excess will be written-off (see paragraphs 3.189 and 3.190).

Additional income tax rules for excess defined benefit income

3.247 Excess capped defined benefit income streams do not cause an individual to breach their transfer balance cap. Broadly commensurate taxation treatment is achieved by subjecting these arrangements to additional income tax rules. An individual is subject to additional income tax consequences in respect of capped defined benefit income streams to the extent that that income exceeds a separate defined benefit income cap. [Schedule 1, item 32, section 303-1 of the ITAA 1997]

3.248 The purpose of the additional income tax rules is to ensure that different schemes are subject to broadly commensurate tax changes under the package. A lower contribution cap, combined with the transfer balance cap, means that some accumulation members will be subject to higher taxation. Higher taxation of defined benefit income over $100,000 per annum ensures that these schemes are subject to broadly commensurate tax outcomes. The net present value of the additional lifetime tax paid by high balance accumulation members is estimated to be comparable to the net present value of the additional lifetime tax paid on unfunded defined benefit income over $100,000 per annum.

3.249 An individual's defined benefit income is the superannuation income stream benefits they receive from capped defined benefit income streams. [Schedule 1, item 32, subsection 303-2(2) of the ITAA 1997]

3.250 Defined benefit income is taxed differently under Divisions 301 and 302 of the ITAA 1997 depending primarily on the age of the beneficiary. Concessional tax treatment is provided for income to which sections 301-10, 301-100, 302-65 or 302-85 of the ITAA 1997 apply. These provisions generally apply if the recipient is aged 60 or over, or to death benefits a dependant receives from a deceased person aged 60 or over.

The defined benefit income cap

3.251 An individual's defined benefit income cap for a financial year is generally equal to the general transfer balance cap for the corresponding financial year divided by 16. [Schedule 1, item 32, subsection 303-4(1) of the ITAA 1997]

Example 3.36 : The defined benefit income stream cap

For the 2017-18 financial year, the defined benefit income cap is generally $100,000 (the $1.6 million general transfer balance cap divided by 16).

3.252 An individual's transfer balance account is not relevant to working out the defined benefit income cap or the amount (if any) of the individual's additional income tax liability.

3.253 An individual's defined benefit income cap is reduced if they:

•

first become entitled to concessional tax treatment in respect of defined benefit income part-way through a financial year (for example, because they turn 60 during the year); or

•

they are also entitled to other defined benefit income that is not subject to concessional tax treatment (for example because they receive death benefits and member benefits in certain circumstances).

3.254 Only defined benefit income that is subject to concessional tax treatment can count towards the cap. If the individual first becomes entitled to that treatment part-way through a financial year, their defined benefit income cap is reduced proportionately. [Schedule 1, item 32, subsection 303-4(2) of the ITAA 1997]

3.255 The reduction is achieved by multiplying the defined benefit income cap by the following amount:

[1 + days remaining in the financial year] / days in financial year


Example 3.37 : Part-year defined benefit income cap

Chris receives defined benefit income in the form of superannuation income stream member benefits from a taxed source. Chris' 60th birthday is 12 September 2017 (one-fifth of the way through the year). Chris becomes entitled to concessional tax treatment on this date.

Chris' defined benefit income cap for the 2017-18 financial year is worked out as follows:

[$1.6 million / 16] * [(1 + 291) / 365] = $80,000


3.256 A separate reduction applies if an individual receives defined benefit income that is not subject to concessional tax treatment under sections 301-10, 301-100, 302-65 or 302-85 of the ITAA 1997. Such non-concessional defined benefit income is used to reduce the cap but cannot contribute towards an individual's excess amount. The existing tax treatment for these types of income continues to apply. [Schedule 1, item 32, subsection 303-4(3) of the ITAA 1997]

Example 3.38 : Cap reduction for non-concessional income

Brian, aged 57, receives $90,000 of defined benefit income each year. This consists of $75,000 of superannuation income stream member benefits and $15,000 of dependant death benefits. Brian receives the death benefits because of an entitlement to the superannuation interests of his late wife, Samantha, who was 61 when she died.

These superannuation income streams are from a taxed source. Both have also been valued and credited against Brian's transfer balance account.

Brian is entitled to treat death benefits as non-assessable non-exempt income under section 302-65 of the ITAA 1997 but not his member benefits (see section 301-25 of the ITAA 1997).

Brian's defined benefit income cap for the 2017-18 financial year is consequently reduced by $75,000 (his defined benefit income not covered by the relevant provisions) to $25,000. His dependent death benefits of $15,000 do not exceed his adjusted defined benefit income cap.

3.257 The reduction for non-concessional income is always applied after any proportionate reduction that applies for a part-year period. If both reductions apply, only non-concessional benefits received after the start of the part-year period are included in the second reduction.

3.258 The following example shows the reduction in the defined benefit income cap for a person receiving non-concessional income, who subsequently commences receiving concessional income part way through a year. Their cap is first reduced to reflect the part-year period, and then further reduced to reflect the amount of non-concessional income received after they commenced receiving the concessional income.

Example 3.39 : Applying both reductions to the defined benefit income cap

In 2017-18, Freya, aged 57 and retired, receives taxed source defined benefit income of $60,000 from her defined benefit fund. As Freya is under 60 years of age, her benefits are assessable income and she is entitled to a 15 per cent tax offset on that income.

On 1 January 2018, Freya becomes the beneficiary of a taxed-source reversionary pension, and receives $40,000 of defined benefit income from this source in 2017-18. As her spouse was over 60 years of age when he died, these superannuation income stream benefits are treated as non-assessable non-exempt income.

As she commenced receiving this pension half way through the year, Freya's defined benefit income cap is reduced to reflect the proportion of the year in which the reversionary pension was received. That is, her cap is reduced to around $50,000 (half of $100,000).

Freya's defined benefit income cap is then further reduced by the amount of her defined benefit income received from 1 January 2018. That is, her cap is reduced to $20,000 ($50,000 less $30,000, assuming her $60,000 of defined benefit income was paid evenly over the year).

In 2018-19, assuming she receives the same defined benefit income amounts, Freya's defined benefit income cap will be $40,000 ($100,000 less her $60,000 defined benefit income).

Additional income tax consequences

3.259 Superannuation income streams may be from a taxed or untaxed source, or a combination of the two. The additional taxation consequences are different depending on the source of the excess defined benefit income stream amount. Different rules also apply depending on whether the individual is under 60 years of age.

3.260 Taxed source and tax-free component defined benefit income is considered first and is applied to the defined benefit income cap before untaxed source income. Taxed source superannuation income stream benefits paid to people aged 60 or over are generally non-assessable non-exempt income (section 301-10 of the ITAA 1997). Taxed source death benefits paid to a person aged 60 or over, or where the deceased was 60 or over, are also non-assessable non-exempt income (section 302-65 of the ITAA 1997). The tax-free component of a defined benefit income payment assessed under either section 301-10 or 302-65 is also non-assessable non-exempt income.

3.261 To the extent an individual's taxed sourced or tax-free defined benefit income exceeds their defined benefit income cap, 50 per cent of the amount is included in their assessable income. The 50 per cent inclusion reflects general actuarial assumptions made about the likely return of capital, including the tax-free component of any defined benefit income. Moreover, as the tax-free component of account-based superannuation interests is counted towards the transfer balance cap, it is necessary to include the amount here to ensure broadly commensurate taxation treatment. [Schedule 1, item 32, subsection 303-2(1) of the ITAA 1997]

Example 3.40 : Consequences for taxed source benefits

In the 2017-18 financial year, Frances, aged 62, receives defined benefit income of $160,000 from her funded defined benefit scheme. The defined benefit income cap for the 2017-18 financial year is $100,000 (the $1.6 million general transfer balance cap divided by 16).

Frances' defined benefit income exceeds the income cap by $60,000. Therefore, $30,000 (50 per cent of the $60,000 excess) is included in her assessable income.

3.262 Untaxed source income is considered next. Untaxed source superannuation income stream benefits are generally assessable income subject to a 10 per cent tax offset if the recipient is aged 60 or over or, in the case of a death benefit, the recipient or the deceased was aged 60 or over (sections 301-100 and 302-85 of the ITAA 1997). Excess untaxed source defined benefit income, however, is not entitled to the tax offset and is assessable at the individual's full marginal rate.

3.263 Excess untaxed source defined benefit income is worked out by applying the individual's untaxed defined benefit income stream payments to any amount remaining in their defined benefit income cap (after having applied taxed source and tax free component defined benefit income). Any amount that exceeds the cap is not entitled to the tax offset. [Schedule 1, item 32, section 303-3 of the ITAA 1997]

Example 3.41 : Consequences for untaxed source benefits

In 2017-18 Gordon, aged 65, receives defined benefit income of $140,000 from his unfunded defined benefit scheme. His pension income is taxed at marginal rates, subject to a 10 per cent offset.

However, the amount of any tax offsets Gordon is entitled to receive is reduced by an amount equal to 10 per cent of the excess of his untaxed source defined benefit income over the defined benefit income cap. His pension income offset is therefore effectively capped at $10,000.

That is, Gordon's offset entitlement of $14,000 (10 per cent of his $140,000 pension income), is reduced by $4,000 (10 per cent of $40,000 - the excess of his pension income over the income cap).

3.264 Some superannuation income streams contain both taxed elements and untaxed elements.

Example 3.42 : Hybrid defined benefit pensions

Paul, who is 61, has a hybrid defined benefit pension and receives $180,000 of defined benefit income in 2017-18. His pension comprises $85,000 from an untaxed source, $75,000 from a taxed source and $20,000 is a tax free amount.

The combined taxed source and tax free amount of $95,000 is counted towards Paul's $100,000 defined benefit income cap. $5,000 of the untaxed source income is also counted towards the cap, exhausting it. The remaining $80,000 of untaxed source income is denied a tax offset under section 301-100 of the ITAA 1997. Paul's section 301-100 tax offset is limited to $500 (10 per cent of the $5,000 counted towards the cap).

The same outcome would occur if the elements were from separate superannuation income streams, regardless of when either income stream was established.

3.265 Further examples of these rules are provided below to demonstrate their interaction with the defined benefit income cap modifications.

Example 3.43 : Death benefits

On 1 October 2017, Naomi, aged 63, becomes the beneficiary of a taxed-source reversionary pension, and receives $80,000 of defined benefit income from this source in 2017-18.

As she commenced receiving this pension part way through the year, Naomi's defined benefit income cap is reduced to reflect the proportion of the year in which the reversionary pension was received. That is, her cap is reduced to around $75,000 (three-quarters of $100,000).

Naomi's defined benefit income from the reversionary pension exceeds her defined benefit income cap by $5,000 ($80,000 less $75,000). Therefore, she will have to include $2,500 (50 per cent of the $5,000 excess) in her assessable income.

Example 3.44 : Death benefits and member benefits

Further to Example 3.39, in 2017-18, Freya's defined benefit income from her reversionary pension exceeds her defined benefit income cap by $20,000 ($40,000 less $20,000).

Therefore, she will have to include $10,000 (50 per cent of the $20,000 excess) in her assessable income for the 2017-18 financial year.

Modifications for child dependants

3.266 This section sets out the modifications that apply where a death benefit recipient is a child. The general rules of the transfer balance cap apply, but the child's cap is generally set by reference to their portion of the deceased parent's retirement phase interests rather than the general transfer balance cap. The child's transfer balance account generally extinguishes when they reach age 25 (which is when they are required to cash out the death benefit income stream). This ensures that children do not exhaust their transfer balance cap before they retire.

3.267 A child recipient that receives a death benefit income stream from a parent is entitled to a modified transfer balance cap. [Schedule 1, item 3, sections 294-170 and 294-175 of the ITAA 1997]

3.268 A child recipient is a deceased person's dependent child that is (subregulation 6.21(2A) of the SISR and subregulation 4.24(3A) of the RSAR):

•

under the age of 25; or

•

between 18 and 25 and financially dependent on the deceased; or

•

has a permanent disability.

3.269 A child recipient is required to commute all of their death benefit income streams and remove the capital from the superannuation system when they turn 25, unless they have a permanent disability (subregulation 6.21(2B) of the SISR). The child's transfer balance account and modified transfer balance cap will generally cease either when they commute all their death benefit income streams at age 25 or the capital is exhausted.

3.270 The exception to this general rule is children with a permanent disability, who are not subject to the cashing out rule. Their modified transfer balance cap will cease when the funds supporting the death benefit income streams are exhausted (unless they also have other superannuation income streams such as a disability pension or an income stream funded by a structured settlement - see paragraphs 3.289 and 3.294).

The child's transfer balance cap

3.271 If the child is only receiving death benefit income streams as a child recipient, the child does not have a personal transfer balance cap set to the indexed value of the general transfer balance cap. Rather, the child's transfer balance cap is generally determined by reference to the value of the deceased's retirement phase interests that they receive. This is achieved through a series of transfer balance cap increments that accrue to the child. [Schedule 1, item 4, subsection 294-185(1) of the ITAA 1997]

3.272 In some rare circumstances, a child recipient may receive their own superannuation income stream - or a death benefit income stream, for example, from an interdependency relationship - in addition to a death benefit income stream they receive from a parent. This is most likely to be the case where the child has a disability or has received a structured settlement.

3.273 If the child recipient receives a death benefit income stream from a parent and has other superannuation income streams, their transfer balance cap is worked out as the sum of:

•

their personal transfer balance cap, worked out according to the general rules (see paragraphs 3.41 to 3.51); and

•

the total amount of transfer balance cap increments the child receives as a child recipient.

[Schedule 1, item 4, subsection 294-185(2) of the ITAA 1997]

Transfer balance cap increments

3.274 The amount of the child's transfer balance cap increments will depend on:

•

whether the child started to receive death benefit income streams before 1 July 2017;

•

if they started to receive them after that time, whether or not the deceased had a transfer balance account just before the time of their death; and

•

if so, whether the deceased had an excess transfer balance in the retirement phase just before the time of their death.

Death benefit income streams that commenced before 1 July 2017

3.275 If a child is receiving death benefit income streams as a child recipient when these amendments begin to apply (because of the earlier death of one or more parents), the child's transfer balance cap increment is $1.6 million. This reflects the amount of retirement phase interests a deceased parent could have had if they had instead died shortly after 1 July 2017. [Schedule 1, item 4, section 294-190 of the ITAA 1997]

Death benefit income streams commenced on or after 1 July 2017 where the deceased parent does not have a transfer balance account

3.276 If the deceased parent did not have a transfer balance account at the time of their death - and the child starts to receive a death benefits income stream on or after 1 July 2017 - the child's cap increment is:

•

if the child is the sole beneficiary of the deceased parent's superannuation interests - the general transfer balance cap; or

•

if the child is not the sole beneficiary of the deceased parent's superannuation interests - the child's proportionate share of the deceased's superannuation interests multiplied by the general transfer balance cap.

3.277 This situation is most likely to arise where the parent dies before they enter the retirement phase. [Schedule 1, item 4, section 294-195 of the ITAA 1997]

Example 3.45 : Child's transfer balance cap increment where deceased parent does not have a transfer balance account - single beneficiary

Joseph dies on 15 November 2019, aged 56, with accumulation assets worth $2 million. His 12 year old daughter Eliza is the sole beneficiary of his estate. As Joseph has not yet retired, he does not have a transfer balance account. As there are no other beneficiaries, the cap increment for Eliza is the general transfer balance cap. Eliza can receive $1.6 million of the $2 million as a death benefit income stream. The remaining $400,000 would need to be paid to Eliza as a death benefit lump sum and removed from the superannuation system where it would most likely be managed by a guardian or held in trust.

Example 3.46 : Child's transfer balance cap increment where deceased parent does not have a transfer balance account - multiple beneficiaries

Emma dies on 6 June 2018, aged 55, with accumulation interests worth $2 million. Emma's two daughters Sana and Chloe are the beneficiaries of her superannuation interests. Emma had a binding nomination that her superannuation interests are to be shared equally between Sana and Chloe.

As Emma did not have a transfer balance account before her death, her beneficiaries are entitled to their proportion of the general transfer balance cap as corresponds with their share of Emma's superannuation interest. Sana and Chloe will each receive a transfer balance cap increment of $800,000 (50 per cent of the 2017-18 general transfer balance cap). Sana and Chloe may each receive a death benefit income stream of $800,000. The remaining $200,000 that each child receives would need to be taken as a death benefit lump sum and cashed out of the superannuation system.

Where the deceased parent does have a transfer balance account

3.278 If the deceased parent did have a transfer balance account, the child beneficiary's transfer balance cap increment is their portion of the deceased parent's superannuation interests that were in the retirement phase that the child received as a death benefit income stream. [Schedule 1, item 4, subsections 294-200(1) and (2) of the ITAA 1997]

3.279 A transfer balance cap increment arises with respect to each death benefit income stream the child receives from a parent. Each cap increment arises when the child starts to receive the death benefit income stream. However, in the case of a reversionary superannuation income stream, the cap increment is deferred for 12 months to align with the modification discussed at paragraphs 3.79 to 3.82. [Schedule 1, item 4, subsection 294-200(6) of the ITAA 1997]

3.280 To be within the cap increment, each death benefit income stream the child receives must be sourced solely from the retirement phase interests of the deceased parent. If a death benefit income stream the child received is not wholly sourced from the deceased parent's retirement phase interests, the child will have an excess transfer balance (unless they also have a cap increment because of the death of another parent or they also have a personal transfer balance cap because they have another non-death benefit income stream).

Example 3.47 : Death benefit wholly sourced from deceased parent's retirement phase interests

Esme dies on 29 July 2019. At this time Esme was being paid a superannuation income stream and had $150,000 in an accumulation phase interest. The value of the superannuation interest that was supporting Esme's superannuation income stream at her death was $750,000.

Esme left two dependants, her child Tiffany (aged 12) and her husband Mustrum.

The trustee of Esme's superannuation fund decided to pay a $750,000 death benefit income stream to Tiffany from the superannuation interest that previously supported Esme's superannuation income stream and a $150,000 death benefit lump sum to Mustrum from Esme's accumulation phase interest. Mustrum elected to receive a death benefit lump sum as he had already started a superannuation income stream to the full value of his transfer balance cap.

As the death benefit income stream paid to Tiffany is solely sourced from Esme's retirement phase interest, the amount of Tiffany's transfer balance cap increment is equal to her death benefit income stream - $750,000.

3.281 If the child's death benefit income stream is wholly sourced from the deceased parent's accumulation phase interests, the transfer balance cap increment for the child's cap is nil. [Schedule 1, item 4, subsection 294-200(3) of the ITAA 1997]

Example 3.48 : Death benefit wholly sourced from deceased parent's accumulation phase interests

Elrond dies on 24 November 2020. Elrond had been receiving a superannuation income stream, however, the superannuation interest that supported it was exhausted a few years earlier. Elrond still had $500,000 in an accumulation phase interest just before he died.

Elrond's daughter, Arwen, seeks some financial advice in respect of her father's superannuation interest. She is advised that if she was to request a death benefit income stream, because it would be solely sourced from Elrond's accumulation phase interest, her transfer balance cap increment would be nil, making the whole amount in excess of her transfer balance cap.

Therefore Arwen instead requests that the $500,000 be paid to her as a death benefit lump sum.

3.282 Similarly, if the child's death benefit income stream is only partly sourced from the deceased parent's retirement phase interests the amount of the child's cap increment will equal only this part. The part of the death benefit income stream paid to the child that is sourced from the deceased parent's accumulation phase interest will exceed the child's transfer balance cap (unless they also have a cap increment because of the death of another parent or they also have a personal transfer balance cap because they have another non-death benefit income stream) [Schedule 1, item 4, subsection 294-200(4) of the ITAA 1997]

Example 3.49 : Death benefit partly sourced from deceased parent's retirement phase interest and partly from accumulation phase interest

Sam dies on 9 June 2019. At this time, Sam was being paid a superannuation income stream and had $350,000 in an accumulation phase interest. The value of the superannuation interest that was supporting Sam's superannuation income stream at his death was $750,000. Sam left two dependants, his child Junior, aged 5, and his wife, Sybil.

Sybil seeks financial advice in respect of Sam's superannuation interest as she wants to maximise the amount of any death benefit income stream paid to Junior because of his young age.

Sybil is advised that if the whole of Sam's superannuation interest were paid as a death benefit income stream to Junior, it would exceed the transfer balance cap increment that he would receive. This is because it would be partly sourced from Sam's accumulation phase interest.

Sybil requests that a death benefit income stream of $750,000 from Sam's retirement phase interest be paid to Junior and a death benefit income stream of $350,000 be paid to herself from Sam's accumulation phase.

As the death benefit income stream paid to Junior is solely sourced from Sam's retirement phase interest the amount of Junior's transfer balance cap increment is equal to his death benefit income stream - $750,000

Sybil had not previously been paid a superannuation income stream, therefore the $350,000 death benefit income stream she receives from Sam's accumulation interest does not exceed her transfer balance cap.

3.283 Generally, an amount is considered to be sourced from the deceased parent's retirement phase interest if it can be shown that the amount (that is, the interest that supports the child's death benefit income stream) came from superannuation interests that supported superannuation income streams payable to the parent just before their death (their retirement phase interest).

3.284 Where the deceased parent had both retirement phase and accumulation phase interests, the deceased parent's superannuation income stream provider will need to specify the degree to which death benefit income streams payable to child beneficiaries are sourced from the retirement phase interests and accumulation phase interests (if any). This will provide the basis for determining the cap increments of the child beneficiaries.

3.285 Earnings that accrue on a deceased person's retirement phase interest after their death up until a death benefit income stream is paid are considered to be part of the deceased person's retirement phase interest. Therefore, to the degree that they are included in a death benefit income stream payable to a child they are considered to be sourced from the deceased parent's retirement phase interest. The child's transfer balance cap increment for the death benefit income stream will include these accrued earnings. Superannuation income stream providers should still endeavour to pay death benefits as soon as practicable however, as required by the regulatory rules. [Schedule 1, item 4, subsection 294-200(7) of the ITAA 1997]

3.286 However, these earnings do not include an amount paid from a life insurance policy or from a reserve. The amounts are considered to form part of the deceased parent's accumulation phase interest. [Schedule 1, item 4, subsection 294-200(7) of the ITAA 1997]

Example 3.50 : Child's cap increment where deceased parent has a transfer balance account - multiple beneficiaries

Damien dies on 23 March 2018, aged 70, with retirement phase interests worth $1.3 million and accumulation phase interests of $400,000. Damien's two children, Alyssa, 15, and Zali, 13, are his sole superannuation beneficiaries. Damien leaves advice that his superannuation interests are to be evenly divided between his two children.

Consistent with Damien's advice, the trustee of Damien's superannuation fund pays Damien's retirement phase interests to Alyssa and Zali as $650,000 death benefit income streams. As each of the death benefit income streams payable to Alyssa and Zali are sourced solely from Damien's retirement phase interest, each child receives a transfer balance cap increment of $650,000.

They each receive $200,000 from Damien's accumulation phase interests as death benefit lump sums that are cashed out of the superannuation system.

Example 3.51 : Inclusion of investment earnings in transfer balance cap increment

Further to Example 3.50, assume that, between the time of Damien's death and the time Alyssa and Zali received their death benefit income streams, earnings of $4,000 accrued to Damien's retirement phase interest. Each child could start a $652,000 death benefit income stream that is accommodated under a transfer balance cap increment.

Where the deceased parent has an excess transfer balance

3.287 A child's transfer balance cap increment is reduced if their deceased parent had an excess transfer balance just before their death. The child's cap is reduced by their proportionate share of their parent's excess transfer balance. However, the cap increment is not reduced to the extent the child received their entitlement to the deceased's retirement phase interests as a death benefit lump sum and not as a death benefit income stream. [Schedule 1, item 4, subsection 294-200(5) of the ITAA 1997]

Example 3.52 : Parent's excess transfer balance

Jonathan commenced a pension worth $1.8 million. Jonathan has a personal transfer balance cap of $1.6 million. His transfer balance is $1.8 million meaning he has an excess transfer balance of $200,000. Shortly after Jonathan commenced his pension Jonathan passed away. The superannuation interest that supported Jonathan's pension at the time of his death is $1.7 million (it has reduced in value due to pension payments Jonathan had drawn down).

On his death in February 2018, Jonathan's son, Callum, aged 16, is Jonathan's sole beneficiary.

If Callum were to commence a $1.7 million death benefit income stream, his transfer balance cap increment would be reduced from $1.7 million to $1.5 million because of the application of his father's excess transfer balance. This would result in a $200,000 excess transfer balance for Callum.

Callum instead starts a $1.5 million death benefit income stream. Callum takes the remaining $200,000 as a death benefit lump sum cashed out of the superannuation system.

A credit of $1.5 million arises in Callum's transfer balance account. Callum receives a transfer balance cap increment of $1.5 million and this is not reduced because the amount of the lump sum Callum receives from Jonathan's retirement phase interests equals the amount of Jonathan's excess transfer balance.

Example 3.53 : Parent's excess transfer balance - reversionary superannuation income stream

Thomas commenced a pension worth $1.8 million. Thomas has a personal transfer balance cap of $1.6 million. His transfer balance is $1.8 million meaning he has an excess transfer balance of $200,000. Shortly after Thomas commenced his pension Thomas passed away. The superannuation interest that supported Thomas' pension at the time of his death is $1.7 million (it has reduced due to investment losses).

On his death in February 2018, Thomas' pension reverts to his son, Bruce, aged 16.

A credit for $1.7 million will arise in February 2019, 12 months after the pension reverts to Bruce. A transfer balance cap increment of $1.5 million (the value of the $1.7 million pension less Thomas's $200,000 excess transfer balance) will also arise for Bruce in February 2019.

If Bruce does nothing, he will have a $200,000 excess transfer balance in February 2019. Bruce will need to partially commute his reversionary pension and take a death benefit lump sum of $200,000 out of the superannuation system.

Where both parents die

3.288 Where both of a child's parents die, the child's transfer balance cap is the sum of amounts worked out in relation to each parent.

Example 3.54 : Child's transfer balance cap increment where both parents die

Further to Example 3.53, shortly after Thomas' death, Bruce's mother, Martha, also dies. Martha had not retired and did not have a transfer balance account. Martha had accumulation interests worth $4 million of which Bruce is the sole beneficiary.

Bruce receives a transfer balance cap increment equal to the general transfer balance cap of $1.6 million. Bruce's temporary transfer balance cap is now $3.1 million.

Bruce keeps his father's reversionary pension worth $1.7 million. He can also start a new death benefit income stream worth $1.4 million from his mother's accumulation interests. The remaining $2.6 million must be cashed out of the superannuation system and provided to Bruce as a death benefit lump sum.

Where child already has a transfer balance account

3.289 There may be some rare circumstances where a child has a transfer balance account and a personal transfer balance cap either before or after they start to receive death benefit income streams as a child recipient. In those circumstances, the child's transfer balance cap is increased by the sum of cap increments discussed above.

3.290 To ensure credits and debits a child recipient receives in relation to transfer balance cap increments do not affect the indexation of the child recipient's personal transfer balance cap, these amounts are disregarded under the transfer balance cap calculation. This modification only applies for the purposes of calculating the child recipient's transfer balance cap, including their access to proportional indexation. [Schedule 1, item 4, paragraph 294-185(2)(b) of the ITAA 1997]

Example 3.55 : Increasing an existing transfer balance cap

On 1 August 2017, Barbara received a structured settlement of $5 million as a result of a debilitating injury she suffered. On 1 September 2017, Barbara contributes the settlement amount into her superannuation and, combined with her existing $400,000 of accumulation phase interests, starts a superannuation income stream worth $5.4 million.

Barbara starts to have a transfer balance account and transfer balance cap on 1 September 2017. Her transfer balance cap is $1.6 million. Her transfer balance account is credited $5.4 million for the new superannuation income stream and is debited by $5 million for the structured settlement contribution. At the end of 1 September 2017, her transfer balance is $400,000 and she has $1.2 million of available cap space.

On 1 January 2018, Barbara's father, Jim, dies. Jim had a $1.8 million superannuation interest that was supporting a pension paid to him (Jim's superannuation interest had grown due to investment earnings - he was not in excess of his transfer balance cap at the time of his death). The pension was not a reversionary pension and it ceased on Jim's death. Barbara, Jim's sole beneficiary, was paid a new $1.8 million death benefit income stream from Jim's retirement phase interest.

On 1 January 2018, Barbara's transfer balance cap is increased to $3.4 million (her $1.6 million transfer balance cap plus the $1.8 million cap increment from the value of Jim's retirement phase interests). A credit of $1.8 million arises in her transfer balance account. Barbara's transfer balance is now $2.2 million while her available cap space is still $1.2 million.

For the purposes of proportional indexation, Barbara's highest transfer balance is $400,000 (her credit of $1.8 million for the death benefit income stream is disregarded). Assuming no further changes, she will be entitled to 75 per cent any future indexation of the general transfer balance cap.

Ceasing the child recipient's transfer balance account

3.291 The child recipient's transfer balance account generally ceases when they are forced to commute their death benefit income streams at the age of 25. Alternatively, if all of the child's death benefit income streams (that they receive as a child recipient) cease before that time, their transfer balance account generally ceases at that time.

3.292 If the child is not required to cash out their death benefit income streams at the age of 25 because they have a permanent disability, their transfer balance account ceases when the relevant death benefit income streams are exhausted or otherwise cease.

3.293 In any of the above cases, once a child recipient's transfer balance account ceases, their entire position with respect to the transfer balance account is reset. When they subsequently retire, they can start a new transfer balance account and have a new transfer balance cap based on the general transfer balance cap at that time. [Schedule 1, item 4, section 294-180 of the ITAA 1997]

3.294 A child recipient's transfer balance account does not cease if they have received any superannuation income streams other than as a child recipient at any time before they cease to be a child recipient (whether they were a child recipient at that earlier time or not). [Schedule 1, item 4, paragraph 294-180(1)(c) of the ITAA 1997]

Example 3.56 : Ceasing a child's transfer balance account

Further to Example 3.54, Bruce does not have a disability and must commute his superannuation income streams and take a death benefit lump sum out of the superannuation system when he turns 25. At this time, his transfer balance account ceases.

Bruce retires many years later and is subject to the general rules. He commences his own superannuation income stream, starting a new transfer balance account. His new personal transfer balance cap is set equal to the amount of the general transfer balance account in that financial year.

Example 3.57 : Where a child recipient's transfer balance account does not cease

Further to Example 3.55, Barbara's transfer balance account will not cease because she received a credit for her $5.4 million superannuation income stream before she exhausted her $1.8 million death benefit income stream.

Consequential amendments

Reporting obligations for life insurance companies

3.295 Life insurance companies will now be required to report to the Commissioner information relating to certain life insurance policies. Specifically, exempt life insurance policies that provide for annuities that are superannuation income streams in the retirement phase, and complying superannuation life insurance policies that are held by an individual. [Schedule 1, items 21 and 25, sections 390-1 and 390-20 in Schedule 1 to the TAA 1953]

3.296 The reporting requirement is to allow for information about annuities and immediate annuities to be given to the Commissioner for the purpose of administering the superannuation legislation. The reporting requirement is similar to that which already exists for member information statements for superannuation providers.

3.297 The information must be given in the approved form and the Commissioner may determine by legislative instrument both the period to which the information relates and the date by which the information must be provided.

3.298 Individuals will be able to ask a life insurance company to give them the same information that is given to the Commissioner. They will also be able to make a complaint to the Superannuation Complaints Tribunal that a decision by the life insurance company to set out an amount in respect of them was unfair or unreasonable. This is consistent with the existing treatment for statements given by superannuation providers to the Commissioner. [Schedule 1, items 8, 9, and 22 to 24, paragraphs 15CA(1)(c) and (2)(c) of the Superannuation (Resolution of Complaints) Act 1953, and paragraph 390-15(1)(b) and subsections 390-15(2), (3) and (4) in Schedule 1 to the TAA 1953]

Income tax withholding and reporting

3.299 A consequential amendment is made to ensure that the Pay-As-You-Go Withholding regime applies to superannuation income stream benefits that are defined benefit income. The Pay-As-You-Go Withholding regime applies to income stream payments that are included in the assessable income of the recipient (sections 12-1 and 12-80 in Schedule 1 to the TAA 1953). [Schedule 1, item 33, subsection 12-1(4) in Schedule 1 to the TAA 1953]

3.300 Superannuation income stream providers may not know whether defined benefit income they pay to members is assessable income because they may not know if the member receives other defined benefit income.

3.301 Ensuring the withholding regime applies provides certainty to providers in relation to both their withholding obligations and associated reporting obligations. Importantly, reporting obligations apply to withholding payments even if the amount required to be withheld is nil. The reporting obligations, in turn, are important to the effective administration of these amendments.

3.302 The Commissioner will consult separately on the administrative aspects of these amendments, including if any changes are required to withholding schedules.

Other consequential amendments

3.303 An individual is not entitled to an income tax deduction for an amount of excess transfer balance tax. [Schedule 1, Part 1, item 2, section 26-99 of the ITAA 1997]

3.304 Excess transfer balance tax is included in the table of liabilities that attract general interest charge. [Schedule 1, item 10, item 15B of the table in subsection 8AAB(4) of the TAA 1953]

3.305 Consequential amendments are made to various provisions in the TAA 1953 to include excess transfer balance within the assessment and tax liability framework. This includes clarifying that excess transfer balance tax cannot be self-assessed. [Schedule 1, item 16 to 20, paragraph 155-5(2)(h), Note 1 to subsection 155-15(1), subsection 155-30(3), item 38BC in the table in subsection 250-10(2) in Schedule 1 to the TAA 1953]

3.306 Notes are added to provisions in Divisions 301 and 302 of the ITAA 1997 (about the income tax treatment of superannuation income stream member benefits and death benefits) that link to the new rules for excess defined benefit income. [Schedule 1, items 26 to 31, sections 301-10, 301-90, 301-100, 302-65, 302-80 and 302-85 of the ITAA 1997]

3.307 New definitions are inserted into the dictionary definitions of the ITAA 1997. [Schedule 11, item 7, subsection 995-1(1) (definitions of 'assessed excess transfer balance tax', 'capped defined benefit income stream', 'child recipient', 'crystallised reduction amount', 'debit value', 'defined benefit income', 'defined benefit income cap', 'default commutation notice', 'excess transfer balance', 'excess transfer balance determination', 'excess transfer balance earnings', 'excess transfer balance period', 'excess transfer balance tax', 'general transfer balance cap', 'member spouse', 'retirement phase recipient', 'rounding amount', 'special value', 'superannuation income stream provider', 'transfer balance', 'transfer balance account', 'transfer balance cap', 'transfer balance credit' and 'transfer balance debit') of the ITAA 1997]

Application and transitional provisions

Application provisions

3.308 The amendments in Schedule 1 to the TLA Bill commence on the first 1 January, 1 April, 1 July or 1 October to occur after the day the amendments receive Royal Assent. [Item 2 in the table in section 2 of the TLA Bill]

3.309 The amendments made by Schedule 1 generally apply on and after 1 July 2017. [Schedule 1, item 34 and subitem 36(1), section 294-10 of the Income Tax (Transitional Provisions) Act 1997 (IT(TP) 1997)]

3.310 The amendments that relate to life insurance company reporting obligations apply in relation to exempt life insurance policies and life insurance policies held on and after 30 June 2017. [Schedule 1, subitem 36(2)]

3.311 The amendments made by Part 2 of the TLA Bill (about additional income tax rules for defined benefit income) apply in relation to the 2017-18 financial year and later financial years. [Schedule 1, subitem 36(3)]

3.312 Similarly, the new indexation rules apply in relation to the 2017-18 financial year and future financial years. [Schedule 11, item 9]

3.313 New definitions that support the transfer balance cap generally apply from 1 July 2017. However, the 'defined benefit income', 'defined benefit income cap' and 'rounding amount' definitions apply to the 2017-18 financial year and later financial years. [Schedule 11, item 9]

3.314 The Superannuation (Excess Transfer Balance Tax) Imposition Bill 2016 commences on the same day as Schedule 1 to the TLA Bill and applies from 1 July 2017. [Section 2 of the Superannuation (Excess Transfer Balance Tax) Imposition Bill 2016]

Transitional relief

3.315 There are transitional rules to support individuals in bringing their income streams below the transfer balance cap, as well as transitional relief from capital gains tax to support funds in restructuring their affairs.

3.316 Transitional rules apply to transfer balance cap breaches of less than $100,000 that occur on 30 June 2017. Such breaches do not give rise to notional earnings or an excess transfer balance tax liability if they are rectified within 6 months. [Schedule 1, item 34, section 294-30 of the IT(TP) Act 1997]

3.317 The rationale for this relief is that it may be difficult for individuals with existing superannuation income streams to predict their retirement phase balances as at 30 June and ensure they are not in breach of their $1.6 million transfer balance cap. Small breaches of less than $100,000 are likely to be unintentional.

Example 3.58 : Transitional relief for small excess - excess identified by member

On 1 January 2017, Ian has an account-based pension worth $2 million. Following the enactment of the transfer balance cap legislation, Ian partially commutes his pension on 15 June 2017 and receives a superannuation lump sum of $400,000.

The superannuation interest that supports the pension increases in value by $10,000 by 30 June 2017 because of market volatility. The value of the superannuation interest supporting Ian's pension on 30 June 2017 is $1.61 million. A credit arises in Ian's transfer balance account for that amount on 1 July 2017. Ian has an excess transfer balance of $10,000.

On 1 August 2017, Ian makes a partial commutation of the pension and receives a debit of $10,000. Because Ian has rectified the breach of his transfer balance cap, and the excess was less than $100,000, no notional earnings accrue to Ian, and he is not liable for excess transfer balance tax.

Example 3.59 : Transitional relief for small excesses - excess identified by Commissioner

On 30 June 2017, Richard has an account-based pension worth $1.7 million. On its annual member contribution statement, Richard's fund reports that Richard's pension had a value of $1.7 million on 30 June 2017.

The ATO receives the member contribution statement on 31 October 2017. On 15 November 2017, the Commissioner issues a determination to Richard advising him of the excess, and that he will need to remove the $100,000 in excess plus the earnings on the excess transfer balance. On 15 December 2017, Richard requests that his fund partially commute his retirement phase interests to reduce it by the amount specified in the determination. Richard notifies the Commissioner in the approved form that he has rectified the breach. There are no further consequences for Richard

3.318 This transitional rule only affects excess transfer balance earnings. It does not allow an individual that has exceeded their transfer balance cap to gain any benefit from the indexation of the general transfer balance cap.

Calculating transfer balance for 30 June 2017

3.319 The concept of an individual's total superannuation balance is relevant for a number of other amendments in the TLA Bill. The calculation of an individual's total superannuation balance incorporates the individual's transfer balance. It may be necessary to calculate an individual's total superannuation balance on 30 June 2017, before they have a transfer balance account or a transfer balance. To facilitate this, an individual's transfer balance on 30 June 2017 is the sum of transfer balance credits that arise at the start of 1 July 2017 (because of existing superannuation income streams), taking into account any payment split debits that may apply to those income streams. [Schedule 1, item 35, section 307-230 of the IT(TP) Act 1997]

Transitional CGT Relief

3.320 Part 3 of Schedule 1 to the TLA Bill amends the IT(TP) Act 1997 to provide transitional CGT relief for superannuation funds that adjust their asset allocations before 1 July 2017. The relief ensures that tax does not apply to unrealised capital gains that have accrued on assets that were used to support superannuation income streams up until that time.

3.321 Where individuals need to commute superannuation income streams to transfer amounts from the retirement phase to the accumulation phase to comply with the transfer balance cap, earnings on assets supporting these commuted balances will become taxable. Similarly, where individuals have a TRIS, earnings on assets supporting these superannuation income streams will become taxable from 1 July 2017 as they will no longer be in the retirement phase.

3.322 The object of the provisions is to provide relief for complying superannuation funds from the tax consequences for capital gains accumulated before 1 July 2017, where these gains would have been exempt income if realised prior to a commutation being made to comply with the transfer balance cap or the change to the treatment of TRIS. [Schedule 1, item 34, section 294-100 of the IT(TP) Act 1997]

Interaction with CGT provisions in Parts 3-1 and 3-3 of the ITAA 1997

3.323 The CGT relief arrangements will allow complying superannuation funds that choose to apply the relief to reset the cost base on assets that are reallocated or re-proportioned from the retirement phase to the accumulation phase prior to 1 July 2017. [Schedule 1, item 34, subsections 294-110(3) and 294-115(3) of the IT(TP) Act 1997]

3.324 The relief is provided by deeming the superannuation fund to have sold and reacquired the relevant asset for market value. This deemed transaction triggers CGT event A1 under section 104-10 of the ITAA 1997 and results in the reacquired asset having its cost base set at its current market value. This will ensure that, when these assets are sold after 1 July 2017, capital gains only arise in relation to capital growth that accrued to those assets after the application of CGT relief. That is, tax will only be applied to gains that accrue once the asset is no longer supporting superannuation interests in the retirement phase (or is supporting them to a reduced extent). [Schedule 1, item 34, subsections 294-110(3) and 294-120(3) of the IT(TP) Act 1997]

3.325 As the superannuation fund is taken to have sold and then reacquired the asset, applying CGT relief would reset the 12-month eligibility period for the CGT discount. A superannuation fund is not required to apply CGT relief.

3.326 Any subsequent events that could affect the asset's cost base under Parts 3-1 and 3-3 of the ITAA 1997 apply to the reset cost base amount. For example, if the asset was real property and subsequent to the application of CGT relief, further costs are incurred in maintaining, repairing or insuring the property, those costs are able to be added to the reset cost base (see paragraph 110-25(4)(b) of the ITAA 1997).

General conditions for CGT relief

3.327 CGT relief applies differently and is subject to different conditions depending on whether the superannuation fund segregates assets to support its current pension liabilities or whether it applies the proportionate method. The following conditions apply to both methods.

3.328 The relief applies to reallocation or re-proportioning made during the pre-commencement period for the TLA Bill - the period from the introduction of that Bill into the House of Representatives until 30 June 2017 - in relation to assets a complying superannuation fund held throughout that period. [Schedule 1, item 34, section 294-105, and paragraphs 294-110(1)(c) and 294-120(1)(c)of the IT(TP) Act 1997]

3.329 The superannuation fund must choose to apply the relief if they wish to do so. The superannuation fund must make this choice and notify the Commissioner in the approved form on or before the day the trustee is required to lodge the fund's 2016-17 income tax return. A choice to apply the relief cannot be revoked. [Schedule 1, item 34, paragraphs 294-110(1)(e) and 294-120(1)(e), and subsections 294-110(2) and 294-115(2) of the IT(TP) Act 1997]

Application of general anti-avoidance provisions

3.330 The CGT relief arrangements are only intended to support movements or re-proportioning of assets and balances necessary to support compliance with the transfer balance cap and changes to the TRIS. It would be otherwise inappropriate for a fund to wash assets to obtain CGT relief or to use the relief to reduce the income tax payable on existing assets supporting the accumulation phase. Schemes designed to maximise an entity's CGT relief or to minimise the capital gains of existing assets in accumulation phase - by creating the circumstances in which the choice may be made - may be subject to the general anti-avoidance rules in Part IVA of the Income Tax Assessment Act 1936.

3.331 Where a member requests commutation of their superannuation income stream and the trustee of the superannuation fund and the member are at arm's length, it is reasonable for the trustee to assume that the commutation was not intended to maximise CGT relief in a way unrelated to ensuring compliance with the transfer balance cap or changes to TRIS arrangements.

3.332 The circumstances of individual members affected by the transfer balance cap will vary. In some cases, commutations may exceed the amount of the member's excess transfer balance (for example, where the fund holds a single asset). However, funds should not use commutations of superannuation income streams as a mechanism to cycle new assets into the retirement phase.

Segregated current pension assets

3.333 CGT relief applies to assets that are segregated current pension assets solely supporting a superannuation fund's superannuation income stream benefit liabilities (see subsection 295-385(3) of the ITAA 1997). Under subsection 295-385(3), the superannuation fund must have an actuary's certificate certifying the fund's segregated current pension assets can support the fund's superannuation income stream benefit liabilities.

3.334 Some superannuation funds' assets are currently considered segregated under subsection 295-385(4) of the ITAA 1997 without the need to obtain an actuary's certificate if all of their superannuation income stream benefit liabilities at a time are prescribed in the regulations. The regulations broadly prescribe account-based superannuation income stream products (see regulation 295-385.01 of the ITAR 1997).

3.335 Where a superannuation fund chooses (and is eligible) to apply CGT relief because it has reallocated assets from the segregated pension assets pool to the segregated non-current assets pool and the liabilities in respect of the segregated pension assets pool remain solely in relation to account based superannuation income stream products, the fund can continue to use subsection 295-385(4), meaning they will not need an actuary's certificate in order to determine their exempt current pension income.

3.336 Where a superannuation fund is not able to reallocate assets to the segregated non-current assets pool, for example because it only has a single large value asset that must then support both retirement and accumulation phase liabilities, the superannuation fund can only use the proportionate method.

3.337 A regulation will be made for the purposes of subsection 295-390(7) to determine liabilities in respect of account based income stream benefits for the proportionate method. This means that superannuation funds who use the proportionate method but whose only superannuation income stream benefit liabilities arise from account based superannuation income stream products will also not be required to obtain an actuary's certificate for the purpose of determining their exempt current pension income.

3.338 To qualify for CGT relief, the relevant asset must be a segregated current pension asset at the start of the pre-commencement period and must cease to be so during the same period. A segregated current pension asset will cease to be segregated as such if:

•

it is transferred to support other liabilities of the superannuation fund, that is it becomes a segregated non-current asset for the purposes of section 295-395 of the ITAA 1997;or

•

the superannuation fund decides to use the proportionate method in relation to the asset.

[Schedule 1, item 34, paragraphs 294-110(1)(a) and (b) of the IT(TP) Act 1997]

3.339 To be eligible to apply CGT relief, the fund must be a complying superannuation fund from the start of the pre-commencement period until the date the asset ceases to be a segregated current pension asset and CGT relief is applied (the cessation time). [Schedule 1, item 34, paragraph 294-110(1)(d) of the IT(TP) Act 1997]

3.340 If the conditions for the relief are satisfied, the superannuation fund is deemed to have sold and reacquired the asset at the time it ceased to be a segregated current pension asset. The cost base of the asset is reset at that time at its market value. [Schedule 1, item 34, subsection 294-110(3) of the IT(TP) Act 1997]

3.341 This deemed transaction triggers CGT event A1 under section 104-10 of the ITAA 1997. However, because earnings on segregated current pension assets are entirely tax-exempt, there are no immediate tax consequences for a fund if a capital gain arises from the CGT event.

Example 3.60 : Applying CGT relief to a segregated asset

Tim and Laura have an SMSF. The fund holds segregated current pension assets to support Tim's $2.6 million superannuation income stream, and segregated non-current assets to support Laura's $1 million accumulation interest.

To comply with the transfer balance cap, Tim partially commutes $1 million of his superannuation income stream back to the accumulation phase during the pre-commencement period. The fund has two options when adjusting the allocation of its assets to its superannuation liabilities that would allow it to claim CGT relief:

•

the fund may continue to use the segregated method and transfer assets between the two segregated asset pools; or

•

the fund may cease to use the segregated method and adopt the proportionate method.

Option 1: continuing to use the segregated method until to 1 July 2017

On 1 March 2017, to give effect to Tim's $1 million commutation, the fund transfers a segregated current pension asset with a present market value of $1 million out of the segregated pool of exempt assets into its pool of segregated non-current assets. The asset is eligible for CGT relief as it has ceased to be a segregated current pension asset within the pre-commencement period.

The CGT cost base for this asset is $750,000, meaning that it has already accrued unrealised capital gains of $250,000. To ensure that this accrued gain is not taxed when the asset is eventually sold, the fund chooses to apply the CGT relief arrangements to this asset. As the trustees of the fund, Tim and Laura record this choice when they submit the fund's income tax return for the 2016-17 income year.

The relief deems the asset to be sold and reacquired for its market value on 1 March 2017. This will reset the cost base for the asset to $1 million. It will also reset the 12 month period for the asset to be eligible for the CGT discount.

CGT event A1 occurs in relation to the deemed sale and gives rise to a capital gain of $250,000. However, as this capital gain arises while the asset is still a segregated current pension asset, the gain is exempt from tax.

Note, as Tim's total superannuation balance is more than $1.6 million the fund will be required to use the proportionate method from 1 July 2017 onwards (see paragraphs 10.51 to 10.56).

The fund sells the asset on 30 March 2018 for $1.15 million. Another CGT event and capital gain arise at this time. Because the cost base of the asset is now $1 million, the fund makes a $150,000 capital gain. The CGT discount applies to the capital gain because the fund held the asset for more than 12 months from the time the transitional CGT relief applied. The taxable proportion will reflect the proportion of the fund's superannuation liabilities that relate to Tim and Laura's accumulation phase interests at that time.

Option 2: adopting the proportionate method prior to 1 July 2017

Alternatively, to give effect to Tim's $1 million commutation, the fund could adopt the proportionate method commencing on 30 June 2017. Under this method, $1.6 million of the fund's total assets (worth $3.6 million) would be considered to be supporting Tim's income stream on this day.

As the asset the fund is seeking to apply relief to was a segregated current pension asset just before the fund adopted the proportionate method, it must use the CGT relief provisions relevant to the segregated method. It cannot use the CGT relief provisions relevant to the proportionate method (even though the fund now applies the proportionate method) because the asset was a segregated current pension asset at the start of the pre-commencement period.

In this case, all of the assets that were segregated current pension assets during the pre-commencement period would be eligible for CGT relief because they all ceased to be segregated current pension assets on 30 June 2017. The fund could choose to apply relief to some or all of these assets.

The relief will reset the cost base for the chosen assets to their current market value immediately before the cessation time (30 June 2017). It will also reset the 12 month period for the assets to be eligible for the CGT discount.

The capital gains generated by the application of the relief would be exempt from tax, as these gains would arise while the assets were still segregated.

If an asset to which the relief applied is sold in a later year, a proportion of any net capital gain will be taxable to the fund. The taxable proportion will reflect the proportion of the fund's superannuation liabilities that relate to Tim and Laura's accumulation phase interests at that time.

Assets subject to the proportionate method

3.342 CGT relief also applies to the assets of a fund that uses the proportionate (or unsegregated) method provided for in section 295-390 of the ITAA 1997.

3.343 To be eligible to apply CGT relief, the fund must be a complying superannuation fund for the duration of the pre-commencement period and must have some superannuation income stream benefit liabilities in the 2016-17 income year. To be eligible for CGT relief, the proportionate method must have applied to the asset throughout the pre-commencement period. That is, throughout the pre-commencement period, the asset was neither a segregated current pension asset nor a segregated non-current asset. [Schedule 1, item 34, paragraphs 294-115(1)(a), (b) and (d) of the IT(TP) Act 1997]

3.344 The fund may choose to reset the cost base of any or all of its assets to their market value as at 30 June 2017.

3.345 The relief provided is similar to the relief for segregated current pension assets. If the conditions for the relief are satisfied, the superannuation fund is deemed to have sold and reacquired the asset on 30 June 2017. The cost base of the asset is reset at that time for its market value. [Schedule 1, item 34, subsection 294-115(3) of the IT(TP) Act 1997]

3.346 This deemed transaction triggers CGT event A1 under section 104-10 of the ITAA 1997. Because the superannuation fund applies the proportionate method, a proportion of any net capital gain that arises from the CGT event is generally taxable in the 2016-17 income year. However, the superannuation fund may make an additional choice to defer the capital gain.

Example 3.61 : Applying CGT relief to fund using proportionate method

Claire and Ashley have an SMSF supported by a single asset with a market value of $3 million. The fund uses the proportionate method to calculate the proportion of income from the asset that is exempt income, with two-thirds of the asset supporting Claire's $2 million superannuation income stream and one-third supporting Ashley's $1 million accumulation phase interest.

To comply with the transfer balance cap, Claire partially commutes $400,000 of her superannuation income stream back to the accumulation phase on 30 June 2017, leaving her with a retirement balance of $1.6 million.

The cost base for the asset, acquired in 2010, is $2.82 million, meaning that it has already accrued unrealised capital gains of $180,000. The fund chooses to apply CGT relief to ensure it does not have to pay CGT in the future for the proportion of the asset that supported Claire's superannuation income stream that was commuted as a result of the introduction of the transfer balance cap.

The asset is eligible for relief under this method as it was subject to the proportionate method for the entire pre-commencement period.

The relief deems the asset to be sold on 30 June 2017, and reacquired immediately afterwards, for its market value. This will reset the cost base for the asset to $3 million. It will also reset the 12 month period for the asset to be eligible for the CGT discount.

CGT event A1 occurs in relation to the deemed sale and a capital gain of $180,000 arises from that event. If the fund does not elect to defer the capital gain, the gain will be brought to account in the 2016-17 income year.

Consequences if capital gain not deferred

The one-third CGT discount applies to the capital gain because the asset was held for more than 12 months prior to the deemed sale. Assuming the fund had no other CGT events or prior year CGT losses, the fund will have a net capital gain for the 2016-17 income year of $120,000 (the $180,000 capital gain less the CGT discount).

Due to Claire's commutation on the last day of the financial year, the fund's average exempt proportion for the 2016-17 year will be slightly less than two thirds. Therefore, just over $40,000 will be included in the fund's assessable income for that year, representing the amount of the gain attributable to the proportion of the fund's asset that was supporting Ashley's accumulation phase interest.

Choice to defer capital gain arising from CGT relief

3.347 Superannuation funds applying the proportionate method have an additional choice to defer a capital gain that arises from the fund choosing to apply CGT relief. The choice to defer does not arise in relation to a capital loss. [Schedule 1, item 34, subsection 294-120(1) of the IT(TP) Act 1997]

3.348 The choice to defer a capital gain must be made at the same time and in the same manner as the choice to apply CGT relief to the asset. The choice cannot be revoked. [Schedule 1, item 34, subsection 294-120(2) of the IT(TP) Act 1997]

3.349 The immediate consequence of the superannuation fund deferring the capital gain is the capital gain is disregarded. This ensures the capital gain is not brought to account in the 2016-17 income year. [Schedule 1, item 34, subsection 294-120(3) of the IT(TP) Act 1997]

Quantifying the deferred notional gain

3.350 The object of the deferral is to bring to account, in a future income year, the amount that would have been brought to account and subject to tax in the 2016-17 income year if the deferral did not occur.

3.351 Simply deferring the capital gain amount would fail to neutralise the effect of changes in the superannuation fund's circumstances (for example, regarding the existence of capital losses and the proportion of assets supporting superannuation income stream benefit liabilities).

3.352 To achieve the above object, a number of adjustments are made when calculating the deferred notional gain in the 2016-17 income year and additional adjustments are made in the year in which the gain is brought to account.

3.353 The deferred notional gain is calculated by hypothesising the net capital gain of the superannuation fund for the 2016-17 income year as if the deferral did not occur and a capital gain arose from the fund's choice to apply CGT relief. [Schedule 1, item 34, paragraph 294-120(4)(a) and subsection 294-120(8) (definition of 'deferred notional gain') of the IT(TP) Act 1997]

3.354 The deferred notional gain is calculated by reference to the net capital gain of the superannuation fund, rather than the capital gain on the relevant asset, to incorporate any CGT discount that applied to the gain (the CGT discount is applied as part of the net capital gain calculation in section 102-5 of the ITAA 1997). The CGT discount will apply to the capital gain if the fund acquired the asset on or before 30 June 2016, 12 months prior to the application of CGT relief.

3.355 In calculating the hypothetical net capital gain of the fund, other capital gains and losses that arose during the income year, and prior year unapplied net capital losses, are disregarded. The purpose of this exclusion is to isolate the impact of the hypothesised gain. Capital losses are not taken into account in calculating the deferred notional gain but may be applied against that amount when it is brought to account in a later income year. [Schedule 1, item 34, paragraphs 294-120(4)(b), (c) and (d) of the IT(TP) Act 1997]

3.356 Once the hypothetical net capital gain amount is calculated, the deferred notional gain can be calculated as the non-exempt proportion of the gain. The non-exempt proportion is the amount of the net capital gain that would have been subject to tax if the deferral did not occur. The non-exempt proportion is worked out as the proportion of the superannuation fund's unsegregated assets that supported superannuation benefit liabilities (other than superannuation income stream benefit liabilities) throughout the 2016-17 income year. [Schedule 1, item 34, subsection 294-120(8) (definition of '2016-17 non-exempt proportion') of the IT(TP) Act 1997]

Example 3.62 : Calculating a deferred notional gain

In Example 3.61, it was shown that, if they did not elect to defer the capital gain, Claire and Ashley's SMSF would include just over $40,000 in its assessable income in relation to the deemed sale of the fund's asset in the 2016-17 income year.

If the fund instead chose to defer the capital gain, the fund's deferred notional gain would be the same amount. The capital gain would be disregarded in the 2016-17 income year and the deferred notional gain would be brought to account in a future year.

Example 3.63 : Disregarding capital losses

Further to Example 3.61, assume the fund had unapplied net capital losses from a prior year of $90,000. If the fund chooses not to defer the capital gain, its net capital gain would be $60,000, calculated by reducing the gain of $180,000 by the net capital loss from a prior year and then applying the one-third CGT discount. Once the exempt proportion for the 2016-17 income year (just under two-thirds) is applied, an amount of just over $20,000 would be included in the fund's assessable income for the 2016-17 income year.

However, if the fund chose to defer the capital gain, its deferred notional gain would still be just over $40,000 because capital losses are disregarded in working out the deferred notional gain. The fund would still have the $90,000 unapplied net capital loss to apply against future capital gains (including the gain that arises when the deferred notional gain is brought to account).

Bringing the deferred notional gain to account

3.357 If the CGT asset is sold or otherwise realised (that is, there is a realisation event) on or after 1 July 2017 the deferred notional gain is brought to account in the income year that the realisation event happens. [Schedule 1, item 34, subsections 294-120(5) of the IT(TP) Act 1997]

3.358 When the deferred notional gain is brought to account, it is brought to account as a deemed capital gain. Consistent with the object of bringing to account the amount of the gain that would be subject to tax in the 2016-17 income year, a number of modifications are made to prevent additional adjustments from applying based on circumstances in the income year the realisation event happens. [Schedule 1, item 34, paragraph 294-120(5)(a) of the IT(TP) Act 1997]

3.359 The capital gain is not associated with any particular CGT event. For the purposes of bringing the deferred notional gain to account, section 102-20 of the ITAA 1997 is disregarded. This is necessary because that section specifies that a capital gain can only arise where a CGT event has happened. [Schedule 1, items 3 and 34, note 7 to section 102-20 of the ITAA 1997 and paragraph 294-120(5)(b) of the IT(TP) Act 1997]

3.360 The deemed capital gain is treated as not being a discount capital gain. This reflects that the CGT discount (if any) that applied to the asset on its deemed sale on 30 June 2017 was already taken into account in calculating the deferred notional gain. This provision does not affect the CGT discount that may be available in respect of the realisation of assets the superannuation fund is deemed to have reacquired on 30 June 2017. [Schedule 1, item 34, paragraph 294-120(5)(c) of the IT(TP) Act 1997]

3.361 A final modification is made to ensure a proportion of the deferred notional gain is not exempt under section 295-390 of the ITAA 1997. This is because only the 2016-17 non-exempt proportion of the net capital gain was included in the calculation of the deferred notional gain. It is therefore not necessary to apply the proportion that applies to the fund in the gain year. [Schedule 1, item 34, subsection 294-120(6) of the IT(TP) Act 1997]

3.362 Section 121-20 of the ITAA 1997 provides that records must be kept for every act, transaction, event or circumstances that can reasonably be expected to be relevant in working out whether a capital gain or loss arises from a CGT event. Records are required to be kept whether the CGT event has already happened or will happen in the future.

3.363 Where a superannuation fund has chosen to defer a capital gain that arises from the fund choosing to apply CGT relief the trustee of the fund will be aware that a CGT event will happen in the future to bring the deferred notional gain to account when the asset is sold or otherwise realised.

3.364 Therefore, the superannuation fund must, at a minimum, keep records of the assets to which CGT relief was applied and the 2016-17 non-exempt proportion of the deferred notional gains for these assets so that when capital gains or losses on those assets are later realised the deferred notional gain can be brought to account in that future income year.

Example 3.64 : Bringing a deferred notional gain to account

Further to Example 3.62, in June 2021, the fund sells the asset for $3.3 million. The general CGT provisions apply to this sale giving rise to CGT event A1 and a capital gain of $300,000. The CGT discount applies to this gain because the asset was held for more than 12 months after CGT relief was applied.

The sale of the asset requires the $40,000 deferred notional gain to be brought to account in the 2020-21 income year as a capital gain.

The fund's net capital gain is just over $240,000 ($200,000 for the discounted capital gain on the sale plus just over $40,000 for the deferred notional gain).

The fund's exempt proportion for the 2020-21 income year is calculated as 50 per cent, which is Claire's remaining income stream as a proportion of the total value of the fund. However this exemption does not apply to the deferred notional gain, as the deferred notional gain amount has already factored in the 2016-17 exempt proportion.

As such, the fund's assessable income for the 2020-21 income year is just over $140,000 (50 per cent of the $200,000 component of the net capital gain plus the deferred notional gain).

Example 3.65 : Choosing not to apply CGT relief

Genevieve and Katia have an SMSF supported by a single asset with a market value of $3 million. The fund uses the proportionate method to calculate the proportion of income from the asset that is exempt income, with two-thirds of the asset supporting Genevieve's $2 million income stream account and one-third supporting Katia's $1 million accumulation account.

To comply with the transfer balance cap, Genevieve partially commutes $500,000 of her income stream account back to the accumulation phase on 30 June 2017, leaving her with an income stream worth $1.5 million.

The cost base for the asset is $2.75 million, meaning that it has already accrued unrealised capital gains of $250,000. However, the fund anticipates having a greater proportion of exempt current pension income by the time the asset will be sold, as Katia is close to retirement. Therefore, if the fund waits until the asset is sold they are likely to pay less CGT than if they apply relief in 2016-17. The fund does not lodge a choice in relation to applying CGT relief; the cost base of the asset remains $2.75 million.

STATEMENT OF COMPATIBILITY WITH HUMAN RIGHTS

Prepared in accordance with Part 3 of the Human Rights (Parliamentary Scrutiny) Act 2011

Treasury Laws Amendment (Fair and Sustainable Superannuation) Bill 2016

3.365 Schedule 1 to the Treasury Laws Amendment (Fairer and Sustainable Superannuation) Bill 2016 is compatible with the human rights and freedoms recognised or declared in the international instruments listed in section 3 of the Human Rights (Parliamentary Scrutiny) Act 2011.

Overview

3.366 When an individual accesses their superannuation (for example, because they have retired), they may take it in the form of a superannuation lump sum or a superannuation income stream such as a pension, or a combination of the two. If they commence a superannuation income stream, income earned on the ongoing investment of the capital amount benefits from an earnings tax exemption. This exemption is available to the fund for the benefit of members. Individuals in receipt of a superannuation income stream, and the assets supporting those income streams, are said to be in the retirement phase.

3.367 Schedule 1 to the Treasury Laws Amendment (Fair and Sustainable Superannuation) Bill 2016 imposes a $1.6 million cap (the transfer balance cap) on the amount of capital that can be transferred to the retirement phase of superannuation. The cap applies from 1 July 2017 and is intended to limit the extent to which the retirement phase interests of high wealth individuals attract an earnings tax exemption.

3.368 Defined benefit lifetime pensions and certain other superannuation income streams subject to commutation restrictions are subject to commensurate taxation treatment. Schedule 1 introduces additional income tax rules on recipients of these defined benefit income streams benefits in excess of $100,000 per annum to achieve a broadly commensurate taxation outcome. An equivalent outcome to the operation of the transfer balance cap is achieved, albeit in a different manner, recognising that commutation restrictions make it impractical for individuals to reduce their benefit by an excess amount.

3.369 The Parliamentary Joint Committee on Human Rights has previously noted that superannuation changes are likely to engage the right to social security in article 9 and the right to an adequate standard of living in article 11 of the International Covenant on Economic, Social, and Cultural Rights.

3.370 Australia's retirement income system consists of three elements commonly referred to as the three pillars: the age pension, compulsory superannuation contributions, and voluntary savings including voluntary contributions to superannuation.

3.371 The first pillar, the age pension, provides a minimum safety net of income in retirement, and is the primary method through which Australia meets its obligations under article 9 of the International Covenant on Economic, Social, and Cultural Rights and article 11 as far as it relates to income in retirement.

3.372 The transfer balance cap falls within the pillars of mandatory and voluntary superannuation contributions.

3.373 Superannuation tax concessions are intended to encourage people to save for their retirement. They are not intended to provide people with the opportunity for tax minimisation or for estate planning. As earnings from retirement phase superannuation interests are tax-free they are a desirable investment choice for individuals. The $1.6 million transfer balance cap reduces superannuation tax concessions to ensure the superannuation concessions are appropriately targeted and sustainable for future generations. It is estimated to affect less than one per cent of Australians with a superannuation interest. A superannuation interest with a value of $1.6 million could purchase a superannuation income stream that provides an annual income of around four times the level of the single age pension.

Human rights implications

3.374 Schedule 1 to the Treasury Laws Amendment (Fair and Sustainable Superannuation) Bill 2016 does not engage any of the applicable rights or freedoms.

Conclusion

3.375 Schedule 1 to Treasury Laws Amendment (Fair and Sustainable Superannuation) Bill 2016 is compatible with human rights as it does not raise any human rights issues.

Superannuation (Excess Transfer Balance Tax) Imposition Bill 2016 - Transfer balance cap (see Chapter 3)

3.376 The Superannuation (Excess Transfer Balance Tax) Imposition Bill 2016 is compatible with the human rights and freedoms recognised or declared in the international instruments listed in section 3 of the Human Rights (Parliamentary Scrutiny) Act 2011.

Overview

3.377 The Superannuation (Excess Transfer Balance Tax) Imposition Bill 2016 imposes excess transfer balance tax for a person who has an excess transfer balance. The overview of the transfer balance cap is explained in paragraphs 3.364 to 3.371.

Human rights implications

3.378 Consistent with the view expressed in paragraphs 3.372 to 3.373, the Superannuation (Excess Transfer Balance Tax) Imposition Bill 2016 does not engage any of the applicable rights or freedoms.

Conclusion

3.379 The Superannuation (Excess Transfer Balance Tax) Imposition Bill 2016 is compatible with human rights as it does not raise any human rights issues.