Super Taxing
An Information Paper on the Taxation of Superannuation and related matters

Canberra

February 1998

Commonwealth of Australia 1998

Print ISBN 0 642 25161 4

MEMBERS OF THE COMMITTEE:

Senator John Watson - Chair - Tasmania

Senator Lyn Allison - Victoria

Senator Stephen Conroy - Victoria

Senator Chris Evans - Western Australia

Senator Alan Ferguson- South Australia

Senator John Hogg - Queensland (until 1 March)

Senator Julian McGauran - Victoria

Senator the Hon. Nick Sherry - Tasmania (from 1 March)

The Committee’s Principal Research Officer, Mr Rod Adams, prepared this paper. The Committee also acknowledges the assistance and advice provided by Mr Emery Feyzeny, Partner, KPMG.

Address: The Senate

Parliament House

CANBERRA ACT 2600

Telephone: (02) 6277 3439

Facsimile: (02) 6277 5719

Preface

This paper provides an overview of the historical and current taxation of superannuation funds and benefits. It does not purport to be definitive, and it does not address some of the finer and more subtle points associated with the payment of benefits.

 In preparing this document the Committee was mindful of the complexity of the current taxation arrangements for superannuation. Accordingly, the Committee engaged the services of Mr Emery Feyzeny, a partner in KPMG. Mr Feyzeny was asked to review the technical accuracy of the material prepared by the secretariat, and to add value to the paper which was done in the area of allocated pensions.

The Committee takes the opportunity of expressing its appreciation for the contributions of professional firms in providing high quality evidence to its various inquiries over the years.

TAXATION ON SUPERANNUATION

This paper has been prepared in response to a need for a better understanding of the taxation regime on superannuation. As well as describing the current law, some emphasis has been given to the relevant history in this area. Given the complexity of the law, references to particular provisions have been kept to a minimum.

At the end of the main paper, one suggested package of reforms (proposed by a private organisation) is outlined. Some comments are then made relating to taxation and the role of superannuation in providing retirement incomes, especially in the light of the universal superannuation scheme now firmly in place in this country.

An appendix has also been prepared describing relevant changes to social security arrangements as they affect superannuation.

How is it described

1. The tax treatment of superannuation in Australia is complex. An excellent independent summary, and perhaps the simplest precis possible, is that by the World Bank which describes it this way:

The tax treatment is complex: contributions, earnings, and benefits are partially taxed and partially deductible, the result of a pragmatic attempt to reduce tax expenditures, especially those benefiting higher-income individuals, while encouraging compliance. Employer contributions are tax deductible up to specific limits that increase with the worker's age. Fund earnings are taxed but at a low rate. Benefits beyond a specified floor are taxed but at a lower rate if the benefit is taken as an annuity rather than a lump sum.

 2. Before entering into the detail, some re-examination of the background to superannuation in this country is appropriate.

Retirement income policy and superannuation

3. During the period of the previous Government, a retirement income policy was developed to address problems arising from an ageing population caused primarily by the "baby boom" generation moving into age pension age in the next two decades. Central to that policy was the introduction of the Superannuation Guarantee (SG).

4. Because the Commonwealth has no express power to make laws on superannuation, it has relied almost exclusively on its taxation power under the Constitution to promote superannuation policy. Especially it has used provisions in the Income Tax Assessment Act 1936 (the Tax Act) to provide incentives for superannuation.

5. The 1992 Superannuation Guarantee Charge (SGC) legislation provides another example of the use of the tax power. This legislation imposes a charge (tax) on employers who fail to make the minimum superannuation guarantee (SG) contributions, rather than requiring the contributions to be made. The level of SG contributions required to be made for the current and coming years is given in the following table.

Table 1: Super Guarantee Contributions

Year	All Employer Payroll Levels
1997-98	6%
1998-99	7%
1999-00	7%
2000-01	8%
2001-02	8%
2002-03+	9%

Note: The maximum contribution base for an individual employee for each quarterly contribution period is $23,630 for 1997/98 (although contributions are only required to be paid on an annual basis).

6. With the advent of award superannuation and the SGC, the then Government needed to increase the level of supervision and regulation of superannuation funds. The principal response was to enact the Superannuation Industry Supervision Act 1993 (SIS) and related legislation, under a combination of the Commonwealth's powers to make laws relating to corporations and to old age pensions. The Second Reading Speech included the following:

Taken together, these Bills will substantially increase the level of prudential protection provided to the superannuation industry, and represent a substantial strengthening of the security of superannuation savings and of the protection of the rights of superannuation fund members.

7. The government continues to rely on its taxation power to confer tax advantages on those funds which comply with the requirements of SIS.

Superannuation taxes and incentives

8. Superannuation savings are taxed at three stages:

• on entry to the particular fund - a contributions tax of 15 per cent, principally on employer contributions;
• an extra contributions tax of up 15 per cent applying to those on adjusted taxable incomes of $73 220 or more;
• on accumulation while in the fund - an earnings tax of 15 per cent (income earned on assets in respect of pensions in the course of payment is exempt of tax), which may be reduced by dividend imputation credits; and
• on exit from the fund; when benefits are received as lump sums - a benefits tax at varying rates, depending upon the amount of the benefit (those benefits above the Reasonable Benefit Limits are taxed at the member's marginal rate plus the Medicare Levy); pensions are included in the recipient's income and taxed at marginal rates.

9. Essentially, what is involved here is a mixture of concessional taxation incentives to encourage the placing of savings into superannuation.

The reasonable benefit limits

10. The reasonable benefit limits (RBLs) determine the maximum amount of lifetime superannuation benefit and similar benefits that a person is entitled to receive on a concessionally taxed basis. This system has applied since 1 July 1990. All retirement payments are generally included, such as payments from superannuation funds, approved deposit funds, superannuation pensions, annuities and ex gratia payments made by employers on termination of employment (the so called "golden handshakes").

11. The purpose of the RBLs is to limit the amount of concessionally taxed superannuation benefits received by a person. From 1 July 1990 to 30 June 1994 the reasonable benefits system was based on a person's Highest Average Salary (HAS). Prior to July 1990, the Tax Act provided that for the income of a private sector superannuation fund to be exempt from tax, it must provide benefits that were reasonable. The Taxation Office determined the level of benefits that were considered reasonable.

12. The RBLs system does not restrict the overall amount of benefits that a person may receive. Where a person receives a lump sum benefit in excess of the lump sum RBL, the excess component is taxed at the highest marginal rate. In the case where the pension RBL is exceeded by the payment of a complying pension or annuity, the pension may continue to be paid, but the excessive amount (the amount in excess of the person's pension RBL) is not eligible for the 15 per cent pension or annuity rebate (see paragraph 29).

13. There are two RBLs, the lump sum and the pension RBL. The pension RBL applies where at least 50 per cent of the total benefits received, or more than 50 per cent of the person's pension RBL amount, is taken in the form of pension or annuity which meets the prescribed pension and annuity standards. Otherwise the lump sum RBL will apply.

14. Since 1 July 1994, the pension and lump sum RBLs have been flat dollar amounts indexed to Average Weekly Ordinary Time Earnings (AWOTE). The relevant figures for 1997/98 are $454 718 and $909 435 for lump sum and pension RBLs respectively. The lump sum RBL is reduced by two and a half per cent for each year that a recipient is below 55 years of age.

15. There is a raft of provisions covering transitional RBLs, and matters related to the detail of what is included in RBLs, which will not be covered in this paper.

Historical development

16. Until the late 1970s, no taxes were paid on entry to a superannuation fund and both employee and employer contributions were tax deductible. Neither were taxes paid on accumulation, with earnings of superannuation funds being exempt. Taxes on exit were only imposed upon five per cent of any lump sum and, if pensions or annuities were taken, tax was paid on those income streams at each recipient's own marginal rates.

17. Changes to the deductibility of employee contributions since 1975-76 have been many and varied, and in some cases the deduction has been replaced with a more limited rebate arrangement. Employer contributions remain tax deductible, subject to age based limits (see paragraph 45 below).

18. Successive governments have made significant changes to the taxation of superannuation, most notably in 1983, 1988, 1994 and finally in the 1996 Budget.

First major change was in 1983

19. In 1983 there existed two fundamental structural problems in the taxation of superannuation:

• contrived tax minimisation arrangements which were greatly encouraged by the existing taxation regime; and
• even in the case of genuine retirement benefits, the taxation of lump sums was much more generous than that of pensions and annuities.

20. Prior to 1 July 1983, only five per cent of the amount received as a lump sum payment on termination of employment was taxed. This was virtually an open invitation to minimise tax, by maximising the lump sum on termination at the expense of salary.

21. The full amount of pensions and annuities was included in assessable income, reduced by the deductible amount. (The deductible amount was broadly equal to dividing the undeducted purchase price (UPP) of the pension or annuity by the relevant term. It was rare to see substantial UPPs in relation to pensions).

22. In response to these problems, the Hawke Government introduced the eligible termination payment (ETP) taxation arrangements with effect from 1 July 1983. Instead of including only five per cent as assessable income, the full amount was included subject to a maximum marginal rate of 30 per cent. Contributions by employees and the self employed on or after 1 July 1983 which did not attract a tax deduction (known as undeducted contributions) were exempt from tax. To avoid retrospectivity, the new rules only applied to lump sums attributed to service after 30 June 1983, the old rate applying to sums attributed to service pre-1 July 1983.

23. To further encourage the preservation of benefits forgenuine retirement, the 30 per cent tax on the first $55 000 of the post-30 June 1983 component was reduced to 15 per cent where the recipient had attained the age of 55. No changes were made to the treatment of pensions and annuities. This increased their relative attractiveness and reduced the scope for contrived arrangements.

24. The 1983 changes, by substantially increasing the assessable amount of lump sum benefits, had the effect of increasing Commonwealth revenues. However, these revenues were not available to the then government, but to future governments when the accumulated benefits were received by retirees.

Then in 1988

25. Effective from 1 July 1988, the Hawke Government reduced the tax on the post-1983 component from 30 to 15 per cent, at the same time imposing a 15 per cent tax on all contributions (other than undeducted contributions) and earnings of superannuation funds. This changed the government's collection from 30 per cent on fund decreases to 15 on fund increases and 15 per cent on fund decreases. (Benefits decrease funds while contributions and earnings increase them.)

26. Accordingly, the total tax was reduced to 27.75 per cent. However, 15 per cent became available to the current government. (Logically, the 15 per cent on the first $55 000 was reduced to zero.)

27. The balance between lump sums and pensions/annuities was disturbed by the reduction in the tax on lump sum benefits. Hence the government phased in a 15 per cent rebate to apply to the post-1983 portion of a pension or annuity commencing after 1 July 1988, and after age 55. Also, income earned on assets set aside to provide pensions and annuities was exempted from the 15 per cent tax. (This actually improved the tax position relative to lump sums.) The result is rebateable pensions and annuities, which must be purchased with an ETP (but see paragraphs 30 to 32 below).

28. These 1988 arrangements could not apply to unfunded benefits which remained taxed under the 1983 rules with no rebate applying. Similarly the 1994 changes, which are examined next, were to only apply to funded arrangements.

The 1994 changes

29. The first measure was simply to apply the 15 per cent rebate to all rebateable pensions and annuities, irrespective of their commencement date, and to the whole of the taxable amount. The rebate is payable after age 55 and the effect is to increase the attractiveness of pensions and annuities as opposed to lump sum ETPs.

30. The second measure involved a change in the definition of UPP (undeducted purchase price). Until 30 June 1994, the definition of UPP in relation to rebateable pensions included contributions made before 1 July 1983 for which no deduction or rebate was available and contributions made after 1 July 1983 for which no deduction was available.

31. The new definition of UPP (from 1 July 1994) simply included contributions made after 1 July 1983 for which no deduction was available and can be seen as an equity measure in reducing an overly generous provision. Those taxpayers disadvantaged by this measure were more than compensated by the first measure, namely the extension of the 15 per cent rebate to the whole of the pension.

32. The definition of UPP in relation to rebateable annuities had been different. A rebateable annuity is an annuity purchased wholly with ETP moneys, that is an ETP was rolled over to purchase the annuity. The new definition included only the undeducted contributions component rolled over to purchase the annuity (not all the components rolled over to purchase the annuity, except the post-1983 component, as previously). Undeducted contributions are member contributions made after 30 June 1983 for which no deduction was available.

33. Accordingly, from 1 July 1994 the same UPP amount applied to rebateable pensions and annuities.

1996 Budget initiatives

Spouse contributions

34. From 1 July 1997, a taxpayer will be entitled to an 18 per cent income tax rebate for superannuation contributions of up to $3 000 a year, which are made for the benefit of his or her spouse.

35. The contributing partner is entitled to an annual tax rebate of $540 if the non-earning partner receives less than $10 800 a year. The rebate cuts out when the non-earning partner makes more than $13 800 a year.

36. This measure provides a significant incentive and opportunity for couples to maximise their joint superannuation entitlement. Couples can potentially double their RBLs and receive a $540 tax rebate each year to do it (see paragraph 12 for RBL limits). There are also potential tax savings, such as the earnings being taxed at a maximum of 15 per cent and potentially no taxation on benefits up to $90 474. (In 1997/98, on retirement, generally, the first $90 474 of the post 30 June 1983 component of benefits is tax-free). If there are two superannuation benefits, couples can effectively double up on the $90 474 threshold.

The surcharge tax

37. A further initiative announced in the 1996 Budget was that a superannuation contributions surcharge tax of 15 per cent would apply to certain employer contributions and deductible personal contributions. The surcharge currently phases in at adjusted taxable income levels (see paragraph 8) of $73 220 (including super), and the full 15 per cent applies at levels above $88 910.

38. This Committee conducted an inquiry into this surcharge and produced a report in March 1997. The Committee also reported in November 1997 on a series of Bills amending and expanding the application of the surcharge .

Co-contribution proposal

39. The employee and government co-contribution proposals announced in the 1995 Budget have been abandoned by the present Government. Essentially these proposals would have introduced a minimum employee superannuation contribution of three per cent through industrial agreements and awards on a phased-in basis of one per cent per year from 1997/98. The government would make capped, means-tested superannuation contributions to match those made by employees, and the self-employed out of their after-tax income.

1997 Budget announcement of the savings rebate

40. A tax rebate will apply from 1 July 1998 to member (undeducted) superannuation contributions, all net personal income from savings and investments, or a combination of both up to annual cap of $3 000. The rate of the rebate will be seven and one-half per cent from 1 July 1998, increasing to 15 per cent from 1 July 1999.

Employee choice of superannuation fund

41. The necessary legislation to implement the Government's announced policy of introducing employee choice of superannuation fund was introduced into Parliament on 4 December 1997. While this is not an issue directly relating to taxation, employee choice of fund will have the effect of further developing sophistication and competition in the industry.

42. Accordingly, the matter of choice is relevant when taxation and other incentives for superannuation savings are under examination. It needs to be remembered that until the mid-1980s, superannuation had little appeal, or relevance, for the majority of Australians. The introduction of award based superannuation followed by rollover funds, which allowed the tax sheltering of "between jobs" super payouts until retirement, were key steps in changing perceptions. Then, the introduction of the Super Guarantee regime made superannuation a widespread entitlement, and a matter of interest for all employees.

43. The main attraction of superannuation for individuals is that it provides a disciplined, convenient and tax effective way of saving for retirement that most people would find difficult to achieve outside the super framework.

Taxing contributions

44. Different taxation treatment applies to contributions made by fund members themselves and those made by their employers.

Contributions made by employers

45. Contributions made by employers to provide superannuation benefits to their employees are tax deductible within certain limits, dependent on the person's age as follows (figures are for 1997/98).

Member's Age Maximum Deduction

Under 35 years $ 10,232

35 to 49 $ 28,420

50 years and over $ 79,482

46. Prior to the 1996 Federal Budget, an employer with ten or more employees could elect to use a standard contribution limit per employee for deduction purposes ($27,170 for 1996/97). In the 1996 Budget, the Government announced the abolition of this standard contribution to limit the deduction to age based limits, with allowance for pre-Budget contributions.

47. Employer contributions (whether deductible or not) are included as income of the relevant superannuation fund and are taxed at 15 per cent.

Contributions made by members of funds

48. Different taxation treatment applies to member contributions depending on whether the member's employer or spouse also makes contributions. Members who attract no employer or spouse contributions, or only small amounts of employer support, qualify as eligible persons, able to make tax deductible personal superannuation contributions. There are tests applying to the question of 'employer support'.

49. An eligible person for these purposes is able to make deductible contributions of the first $3 000 plus 75 per cent of those contributions above $3 000 up to the same age limit totals as listed above for employers.

50. Members with employer support are not entitled to any taxation concessions for superannuation contributions unless their annual income is below $31 000. For incomes below $27 000, there is a maximum rebate of $100 based on maximum rebateable contributions of $1 000 which reduce by 25 cents in dollar of income over $27 000, so that the rebate is fully phased out at incomes of $31 000 and above.

The 15 per cent surcharge

51. This surcharge was effective from 20 August 1996 and originally applied to those contributions made by, or on behalf of, individuals whose annual income (defined to be taxable income plus employer and tax deductible personal contributions) exceeded $70 000. The surcharge was phased in over the income range $70 000 to $85 000, the rate increasing by 0.001 per cent for each $1 above $70 000. From 1997/98 the annual income range will be indexed to movements in average weekly earnings; for 1997/98 the income range is $73 220 to $88 910.

1997 Budget initiative

52. A 15 per cent rebate, limited to $450 per year on personal after tax contributions, is to be phased in over a two year period commencing 1 July 1998 (see paragraph 40).

Taxation of superannuation fund income

53. A complying superannuation fund benefits from a concessional rate of taxation of 15 per cent on its income, which includes the taxable contributions as outlined in the above paragraphs, and investment income (including any realised capital gains of the fund). However, tax is not payable in respect of income on assets supporting pensions in the course of payment. Such a fund must:

• be a regulated superannuation fund for the purposes of the SIS Act;
• comply with the conditions of the SIS Act and Regulations; and
• not have been deemed non-complying by the Insurance and Superannuation Commission (ISC).

54. Complying funds can take advantage of any franking credits in respect of Australian company dividends received, even though they do not pay tax at the full rate. However, a complying superannuation fund must pay tax at 47 per cent on certain types of non-arm's length income and certain private company dividends (collectively referred to as "special income"), if it derives that type of income.

55. A fund which does not qualify as a complying fund is taxed at 47 per cent on its income.

Taxing benefits - lump sums

56. Benefits from superannuation funds may be paid as lump sums or by way of pension or annuity. The taxation treatment varies in each case. Lump sums are generally paid as eligible termination payments (ETPs).

57. This next main part of the paper deals with the broader aspects relating to the taxation treatment of lump sum benefits including the concept of an ETP, then turns to the individual components of ETPs. It is appropriate first, however, to examine the matter of rollovers.

Rollovers

58. Rollovers allow persons in receipt of an ETP to defer paying tax on the amount received. In most cases, a taxpayer who is entitled to an ETP can elect to roll over all or part of the payment into a complying superannuation fund, approved deposit fund or eligible annuity. Any part of the payment that is rolled over in the approved manner is not subject to income tax at the point of rollover. The institution to which the rollover payment is made may be liable for contributions tax and surcharge tax on all or part of the rollover payment.

59. A subsequent payment to the taxpayer from the rollover fund, whether as an ETP or as a pension or annuity income stream, will generally be assessed as income. The relevant rate of tax may vary according to the original composition of the payment (that is, before the rollover).

Eligible termination payments (ETPs)

60. An ETP is a payment made in respect of a taxpayer in consequence of the termination of any employment of the taxpayer. Such payments include retirement, termination and similar payments, superannuation fund payments (except those in the form of a pension or annuity), and approved deposit fund payments.

61. At the simplest level, there are two categories of ETPs - those which deal with superannuation and like payments and those which do not. The main examples of non-superannuation type payments include "golden handshakes" and other severance payments, contractual termination payments, payments in lieu of unused sick leave, and payments in compensation for loss of office or employment. Also included are payments in lieu of notice of termination, and payments by transfer of property (e.g. a parcel of shares) to the taxpayer.

62. However, eligible termination payment has become something of a generic term which is confusing in some commentaries and analyses. While lump sum payments from superannuation funds are ETPs, so are certain other payments (such as golden handshakes) from employers on resignation or retirement, payments from approved deposit funds (ADFs), commutations of pensions or annuities and the residual capital value of pensions and annuities.

63. 'Eligible termination payment' is defined in section 27A(1) of the Tax Act. The definition covers nearly four pages, but the key distinction is between paragraph (a) and the rest of the definition. Paragraph (a) deals with any payment made in respect of the taxpayer in consequence of the termination of any employment of the taxpayer, other than what are essentially payments relating to superannuation. Paragraph (b), and those following, deal with payments from superannuation funds and related payments.

64. The fact that ETPs are defined in the Tax Act indicates that they are essentially instruments designed to assist with the special tax treatment associated with particular types of payments. There can be some confusion arising out the fact that some of the special rules relating to ETPs apply to payments which have no connection with the termination of employment. Also, there are special rules applying to payments which are similar in character to ETPs, but which are excluded from the definition of eligible termination payment under the Tax Act.

65. The following sections describe the taxation aspects of the types of components that may be part of a relevant ETP at least related to superannuation.

Components of an ETP

Early retirement, redundancy and invalidity

66. Concessional tax treatment is given to payments under approved early retirement schemes, bona fide redundancy and invalidity.

An ETP will qualify for concessional tax treatment as a bona fide redundancy payment if the payment is made in consequence of the dismissal of the taxpayer from employment because of bona fide redundancy.

67. Up to a certain limit, payments under early retirement schemes and bona fide redundancy payments made on or after 1 July 1994 are tax-free and are not ETPs. However, any excess is an ETP and taxed accordingly.

68. Invalidity payments made after 30 June 1994 are exempt from tax.

Concessional components - pre 1 July 1994

69. This is that part of an ETP which consists of, or is attributable to, a bona fide redundancy payment, an approved payment or an invalidity payment, made before 1 July 1994. The relevance of this since 1994 is, of course, in relation to a payment made now of a rolled over ETP made before 1 July 1994.

70. This concessional component is taxable to the extent that five per cent of that component is included in assessable income and taxed at marginal rates.

Undeducted contributions

71. No tax is payable on undeducted contributions. These are member contributions made to a fund after 30 June 1983 for which no taxation deduction was allowable. Certain member contributions to a superannuation fund are eligible for a rebate of tax (see paragraphs 48 to 50). Such rebateable contributions qualify as undeducted contributions in this context. Note that undeducted contributions retain their identity if rolled over.

Pre-July 1983 component

72. This is the proportion of an ETP relating to eligible service before 1 July 1983, of which five per cent is included in assessable income and taxed at marginal rates.

Post-June 1983 component

73. This component is determined after the determination of all the other components, and is equal to the total of the ETP reduced by all those other components. The post-June 1983 component is included in full in the taxpayer's assessable income for the year of payment, to the extent that the component has not been rolled over. However, the rate of taxation may be concessional, depending on the age of the recipient and whether or not the payment was made from a taxed source.

74. A payment is from a taxed source if:

• it is made by a superannuation fund that is a resident fund and not a constitutionally protected fund, or by an ADF, which is taxable;
• it is a commutation or residual capital value payment relating to a pension or annuity where the provider is taxable; or
• it is attributable to the taxed element of an earlier ETP.

 Post 1983 - tax rate on taxed and untaxed element

75. In some cases, the post June 1983 component may contain both taxed and untaxed elements. (Note that the trustee of a taxed fund may elect to have all or part of a payment treated as though it is from an untaxed source.)

76. The rate of tax on the post-June 1983 component depends on the age of the taxpayer and, if aged over 55, on the amount of the component. For 1997/98, the tax rates are limited to maximum amounts set out in Table 2 below.

Excessive component

77. This is the amount that exceeds the member's lump sum RBL (see paragraphs 10 to 15). It is taxed at the top marginal rate of tax, plus Medicare Levy, regardless of the taxpayer's level of income.

Summarising the taxation of lump sum benefits

78. The relevant breakdown of components of ETPs and their taxation rates is set out in the table below.

Table 2: Tax Treatment of ETP Components

Component	Assessable amount	Taxed at	Able to roll over (Y/N)
Post-June 1994 invalidity	0%	0%	Y
Concessional component (pre-July 1994 bona fide redundancy/ approved early retirement/invalidity payments which have been rolled over)	5%	marginal*	Y
Non-qualifying component of an immediate annuity	100%	marginal*	N
Excessive component	100%	47%	N**
Pre-July 1983	5%	marginal	Y
Post-June 1983 - pre age 55 years - taxed element - untaxed element - post age 55 years - taxed element $0-$90,474*** balance - untaxed element $0-$90,474*** balance	100% 100% 0% 100% 100% 100%	20%* 30%* 0% 15%* 15%* 30%*	Y Y Y Y Y Y
Undeducted contributions	0%	0%	Y

* Plus Medicare levy.

 ** The ATO is the sole determinant of whether a benefit is excessive or not. This determination only takes place subsequent to a cash benefit having been received at which time it can no longer be rolled over. However, if a person suspects that a benefit may be excessive then it can be rolled over, in which case the ATO determination is deferred.

 *** This threshold is allocated between the two components and is indexed annually (figure is for 1997/98).

Other termination payments

79. The taxation of termination payments in relation to long service leave and annual leave is detailed in the following table.

Table 3: Termination Payments

		Maximum Rate of Tax*
Payment Type	% to be Included as Assessable Income	Resignation, Retirement Payments	Redundancy, Invalidity and Early Retirement Scheme Payments
Long Service Leave - Pre 16-8-78 - 16-8-78 to 17-8-93 - Post 17-8-93	5% 100% 100%	Marginal Rate 30% Marginal Rate	Marginal Rate 30% 30%
Annual Leave - Accrued to 17-8-93 - Post 17-8-93	100% 100%	30% Marginal Rate	30% 30%

* Medicare levy to be added.

Taxation of annuities and pensions

80. Pensions are regular incomes paid by superannuation funds, and annuities are regular incomes paid by life insurance companies and Friendly Societies. A pension or annuity is an annual amount payable during the remainder of the life of the recipient, or for a fixed period. 'Pension' is generally, but not necessarily, descriptive of payments relating to past service.

81. Allocated pensions and allocated annuities are relatively recent innovations. They are very similar in nature and consequently, all future reference will be limited to allocated pensions.

82. An allocated pension is an income stream which can be paid by any complying superannuation fund. The key difference between a complying pension and an allocated pension relates to the manner in which it is measured for RBL purposes. A complying pension, which is required to meet a stringent series of preconditions, is measured against the recipient's pension RBL. An allocated pension is only required to meet minimal conditions, the most significant of which relates to the minimum and maximum amounts of pension which may or must be received in each year of income. Also, whilst a complying pension can only be commuted or have a residual capital value in very limited circumstances, such restrictions are not imposed on an allocated pension. However, as a trade-off, allocated pensions count towards the recipient's lump sum RBL.

83. The tax treatment depends on the date on which the annuity or pension first became payable. Different treatments apply to the determination of the undeducted purchase price (UPP) and the extent to which a rebate is available.

Annuity or pension first payable before 1 July 1983

84. Such income is fully assessable during the year of receipt after deducting the undeducted purchase price (UPP) in relation to the pension or annuity. The UPP means that portion of the cost of the annuity or pension to the recipient for which a deduction or rebate has not been allowed or is not allowable, or which does not qualify for a rebate.

85. Details of the relevant calculations will not be examined in this paper.

Annuity or pension first payable on or after 1 July 1983

86. This income is fully assessable after deducting, in the case of a purchased annuity, the 'deductible amount' in relation to the annuity for that year of income.

87. The 'deductible amount' represents the UPP of the annuity reduced by its residual capital value, if any, and apportioned over the term for which the annuity or pension will be paid or can reasonable expected to be paid. Again the details of the relevant calculations are beyond the scope of this paper.

Tax rebates for annuities or pensions

88. From 1 July 1994, a flat 15 per cent rebate of tax is available to recipients of a 'rebateable superannuation pension'. (This replaces the variable rebateable arrangements as previously existed.)

89. Rebateable superannuation pensions are those paid by complying funds which have been subject to the 15 per cent tax on their income since 1 July 1988, and where the recipient is 55 years or over. A rebateable annuity is one purchased wholly by the rollover of an ETP or ETPs, and is not a superannuation pension.

90. Where the pension or annuity is from a source where tax has not been paid (such as from some government schemes), the rebate is not available. Also, any part of the pension or annuity which exceeds the relevant RBL limit does not qualify for the rebate.

Death benefits

91. A complying superannuation fund which provides death (or disability) benefits may claim a deduction relating to the cost of providing those benefits.

92. A death benefit paid from a fund is tax exempt if paid to a dependent of the deceased member within six months of death or granting of probate, and is within the pension RBL of the deceased member. Death benefits above the pension RBL are taxed as an excessive component of an ETP (see paragraph 77).

93. Death benefits paid to non-dependents from a complying superannuation fund are taxed at a maximum rate of 15 per cent plus the Medicare levy.

REFORM OF THE TAXATION ON SUPER:ACCESS ECONOMICS

94. As part of a report commissioned by the Life Investment and Superannuation Association of Australia (LISA) and the Investment Funds Association of Australia (IFA), Access Economics looked at the taxation of superannuation and proposed a series of reforms.

95. The concern of Access Economics in their paper was, inter alia, to encourage an increase in superannuation savings. The Senate Select Committee on Superannuation, while mindful of the savings issue, is more concerned with the integrity of the superannuation system in the context of providing retirement incomes. However, even in this context it is useful to look at the reforms proposed by Access Economics. They included:

• abolition of the 15 per cent contributions tax (for deductible contributions) , the superannuation fund earning tax, and the proposed government co-contribution (Note: The co-contribution has already been abandoned by the present Government);
• cancellation of the 15 per cent contributions surcharge;
• allowing non-deductible, or partially deductible, contributions full deductibility;
• abolition of RBLs and annual age-related contribution limits;
• allowing the super funds refundable tax credits, to permit them full access to imputation credits on franked dividend income;
• applying income tax at the full applicable rates to all superannuation payouts, whether paid as lump sums or as annuities (the progressive tax structure then works automatically to encourage annuities relative to lump sums);
• applying these reforms prospectively, that is to contributions and earnings from a specified starting date; and
• applying the reforms to both voluntary and compulsory superannuation contributions.

 Flows and stocks

96. The intended effect of the reforms is to encourage an increase in superannuation saving which Access Economics describe as a flow concept - that is, the flow of funds into superannuation.

97. That is to be contrasted to the stock concept which relates to the stock of savings overall. Access Economics is concerned to ensure there is not simply a flow into superannuation out of other forms of savings which could occur as a result of the reforms they propose. Rather Access Economics' objective is to increase the stock.

98. Accordingly, they seek to ensure this flow into superannuation 'is not undermined by taxpayers opting for salary sacrifice into voluntary superannuation out of current income, while maintaining current expenditures by running down stocks of savings accumulated in the past'.

99. Access Economics go on to describe the required set of conditions to protect savings stocks which will not be outlined in this paper. However, they list the following examples of the advantages of their package:

• superannuation fund administration and the superannuation system generally, are both greatly simplified;
• the superannuation tax system is made more fair, and complications between defined benefit and accumulation schemes do not arise, because tax liability is determined on payout; and
• the elements of compulsion remain, together with increasing preservation age, ensuring a minimum level of income saving and reducing scope to 'double dip'.

Comments

100. The Access Economics proposals can fairly be regarded as a unique reform package for assisting superannuation in providing retirement incomes.

101. The reforms proposed are unique in their comprehensiveness overall, and in their concentration on the taxation of benefits, while releasing contributions and fund earnings from the imposition of tax. It is likely that this strategy should promote larger and faster accumulation of superannuation savings. Also, by eliminating RBLs, what can be perceived as discrimination is removed against those who would provide for higher retirement savings and boost national savings in the process.

102. However, there is also a perceived inequity in the abandoning of RBLs, and there is a need to be aware of the political sensitivity involved in such a move.

103. Currently, the taxation regime on superannuation does seem to be in danger of no longer being supportive of a comprehensive superannuation system in this country. While it is reasonable that superannuation overall should not be tax exempt, it needs to be remembered that it is the taxation power of the Commonwealth which is used to promote superannuation. The purpose of such promotion, since the early 1990s at least, should have been so as to assist, or at least not inhibit, the development of the universal superannuation arrangements.

104. The effectiveness of current taxation concessions in promoting universal superannuation are questionable, given the increasing complexity of Commonwealth taxation in general and on superannuation in particular.

Conclusion

105. It may be that a comprehensive review of the taxation of superannuation is now warranted. Such a review should be independent of any review of taxation generally.

 References

1. Parliamentary Research Service Background Paper No. 23 of 1994, Supercalifragilisticexpiannuation - A Plain English Guide to Australian Superannuation Arrangements.

 2. CCH Australia Limited, Australia Master Tax Guide 1997.

 3. CCH Australia Limited, Australian Superannuation Law and Practice.

 4. Fifteenth Report of the Senate Select Committee on Superannuation, Super Guarantee - Its Track Record (February 1995).

 5. Seventeenth Report of the Senate Select Committee on Superannuation, Super and Broken Work Patterns (November 1995).

Social Security Changes and Superannuation

Appendix A

Removal of the exemption of superannuation from social security tests

1. Before 20 September 1997, assets held in superannuation and rollover funds were exempt under the Department of Social Security tests for people below pension age. At pension age, amounts held are assessed in the same way as other types of financial investments under the assets test and the income test.

2. From 20 September 1997, superannuation assets are assessed for a person aged between 55 years and age pension age, when that person has been on income support for a total cumulative period of 39 weeks after reaching age 55. The superannuation assets will be assessed in the same way as other financial investments.

3. Under the income test, superannuation assets are now treated as financial investments and added to the value of any other financial investments. The extended deeming rates are then applied to that total to calculate assessable income from financial investments. That income is then added to income from other sources to work out the person's total income.

4. For the assets test, superannuation and rollover amounts will be counted as assets and added to the value of other assessable assets.

5. The assessment of superannuation assets under the income and assets test will not necessarily mean a reduction in a person's rate of social security payment. This is because a person can have assets and income up to a certain amount before their payment is affected. Persons with small or modest amounts of superannuation, and little other income and assets, will not be affected.

6. Legislation for these changes has been approved by Parliament. The Superannuation Committee inquired into these changes in its 20th report tabled in November 1996, Provisions of the Social Security Legislation Amendment (Further Budget and Other Measures) Bill 1996 - Schedule 1.

7. A majority of the Committee recommended at that time that a threshold of $250,000 be applied before the new provisions applied, and that the new provisions only apply to superannuation assets accrued after 20 August 1996, the date of the budget announcement of the changes. However, those recommendations were not adopted by the Government.

8. How persons are affected by the changes to the means test treatment of superannuation depends on their individual circumstances, such as:

• the amount of superannuation they have;
• whether they are receiving a pension or allowance; and
• the amount of other income and assets they have.

9. It is not necessary for a person to have exhausted all their superannuation savings before they can receive social security payments. Also, superannuation assets of a person aged between 55 and age pension age cannot affect their payment until they have been on income support for 39 weeks.

10. Periods on major or full income support payments count toward the accrual of the 39 weeks. These payments include:

Disability Support Pension; Wife Pension; Carer Pension; Supporting Parent Pension; Bereavement Allowance; Widow B Pension; Widow Allowance; Disability Wage Supplement; Mature Age Allowance; Newstart Allowance; Sickness Allowance; Special Benefit; Partner Allowance; Special Needs Pension; Benefit Parenting Allowance; Age Service Pension; Invalidity Service Pension; Partner Service Pension; Carer Service Pension.

11. Payments such as Basic Parenting Allowance and Family Payment do not count toward the 39 weeks.

Comment

12. There has been continued criticism of removing the exemption of super assets from the social security means tests. The change has not been well received. Also, to some extent at least, this policy move by the Government relates to the matter discussed next - the change to early access to superannuation under the hardship rules - which has also been criticised.

Early access to superannuation for social security recipients

13. The Government announced in the 1997-98 Budget that, effective from 1 July 1997, it would be changing the rules relating to the early access to preserved superannuation benefits. These changes affect access on grounds of financial hardship. Formerly, the hardship test allowed individuals to access their superannuation where the Insurance and Superannuation Commissioner determined in writing that the individual was in severe financial hardship. (Persons were also able to obtain access to their benefits on compassionate grounds.)

The Government's changes

14. The subjective tests for hardship were replaced by objective tests requiring applicants to satisfy specific conditions, and by a defined set of criteria for compassionate grounds. In the case of hardship, the new test involves receipt of Commonwealth income support payments for a minimum continuous period.

15. The Government's changes also shifted the responsibility for assessing hardship applications from the Commissioner to individual funds. (The Commissioner was to still decide applications on compassionate grounds, but exercise of this discretion was now confined by a series of objective criteria spelt out in the new regulations.)

The Committee's reference

16. In June 1997, this Committee was given a reference to examine the Government's changes to early release of benefits, including the changes to the hardship provisions. In its report tabled in September 1997, the Committee recommended several changes to the new rules. These recommendations included:

• extending the definition of income support;
• reducing the required period of receipt of income support payments (Labor Senators specifying a period of 12 weeks);
• adding a subjective test, being the total inability to meet reasonable and immediate family living expenses;
• making the Insurance and Superannuation Commission the appropriate body to assess claims for financial hardship; and
• expanding the criteria under the compassionate grounds provisions, to include a residual discretion for the Insurance and Superannuation Commissioner to release benefits other than in accordance with the listed criteria, where such serious and special circumstances exist so as to justify compassionate consideration.

Subsequent negotiation and changes

17. In the Senate, the Labor Opposition moved for disallowance of the regulations which gave effect to the Government's changes to the early release rules. Following the full Parliamentary period allowed for dealing with the disallowance motion, the Government announced it would be introducing amending regulations which followed, at least in part, the recommendations of the Committee in its report.

18. The changes from the original Budget announcement included:

• a reduction in the period for which an applicant for early release must be in receipt of Commonwealth support payments, from 12 months to six months;
• tightening of the hardship test; and
• more flexibility in the compassionate grounds criteria.

19. Following the Government's announcement that new regulations would be introduced, the motion for disallowance of the former regulations was withdrawn.

Final Comment

20. It is fair to say that the first steps towards integrating the superannuation and the social security systems were not without difficulties. However, future changes may well see closer linkages between these two systems.

APPENDIX B

LIST OF COMMITTEE REPORTS

Super System Survey - A Background Paper on Retirement Income Arrangements in Twenty-one Countries (December 1991)

Papers relating to the Byrnwood Ltd, WA Superannuation Scheme (March 1992) Interim Report on Fees, Charges and Commissions in the Life Insurance Industry (June 1992)

First Report of the Senate Select Committee on Superannuation - Safeguarding Super - the Regulation of Superannuation (June 1992)

Second Report of the Senate Select Committee on Superannuation - Super Guarantee Bills (June 1992)

Super Charges - An Issues Paper on Fees, Commissions, Charges and Disclosure in the Superannuation Industry (August 1992)

Third Report of the Senate Select Committee on Superannuation - Super and the Financial System (October 1992)

Proceedings of the Super Consumer Seminar, 4 November 1992 (4 November 1992)

Fourth Report of the Senate Select Committee on Superannuation - Super - Fiscal and Social Links (December 1992)

Fifth Report of the Senate Select Committee on Superannuation - Super Supervisory Levy (May 1993)

Sixth Report of the Senate Select Committee on Superannuation - Super - Fees, Charges and Commissions (June 1993)

Seventh Report of the Senate Select Committee on Superannuation - Super Inquiry Overview (June 1993)

Eighth Report of the Senate Select Committee on Superannuation - Inquiry into the Queensland Professional Officers Association Superannuation Fund (August 1993)

Ninth Report of the Senate Select Committee on Superannuation - Super Supervision Bills (October 1993)

Tenth Report of the Senate Select Committee on Superannuation - Super Complaints Tribunal (December 1993)

Eleventh Report of the Senate Select Committee on Superannuation - Privilege Matter Involving Mr Kevin Lindeberg and Mr Des O'Neill (December 1993)

A Preliminary Paper Prepared by the Senate Select Committee on Superannuation for the Minister for Social Security, Options for Allocated Pensions Within the Retirement Incomes System (March 1994)

Twelfth Report of the Senate Select Committee on Superannuation - Super for Housing (May 1994)

Thirteenth Report of the Senate Select Committee on Superannuation - Super Regs I (August 1994)

Fourteenth Report of the Senate Select Committee on Superannuation - Super Regs II (November 1994)

Fifteenth Report of the Senate Select Committee on Superannuation - Super Guarantee - Its Track Record (February 1995)

Sixteenth Report of the Senate Select Committee on Superannuation - Allocated Pensions (June 1995)

Seventeenth Report of the Senate Select Committee on Superannuation - Super and Broken Work Patterns (November 1995)

Eighteenth Report of the Senate Select Committee on Superannuation - Review of the Superannuation Complaints Tribunal (April 1996)

Nineteenth Report of the Senate Select Committee on Superannuation - Reserve Bank Officers’ Super Fund (June 1996)

Twentieth Report of the Senate Select Committee on Superannuation - Provisions of the Social Security Legislation Amendment (Further Budget and Other Measures) Bill 1996 - Schedule 1 (November 1996)

Twenty-first Report of the Senate Select Committee on Superannuation - Investment of Australia's Superannuation Savings (December 1996)

Twenty-second Report of the Senate Select Committee on Superannuation - Retirement Savings Accounts Legislation (March 1997)

Twenty-third Report of the Senate Select Committee on Superannuation - Superannuation Surcharge Legislation (March 1997)

Twenty-fourth Report of the Senate Select Committee on Superannuation - Schedules 1, 9 & 10 of Taxation Laws Amendment Bill (No. 3) 1997 (June 1997)

Twenty-fifth Report of the Senate Select Committee on Superannuation - The Parliamentary Contributory Superannuation Scheme & the Judges' Pension Scheme (September 1997)

Twenty-sixth Report of the Senate Select Committee on Superannuation - Super - Restrictions on Early Access: Small Superannuation Accounts Amendment Bill 1997 and related terms of reference. (September 1997)

Twenty-seventh Report of the Senate Select Committee on Superannuation - Superannuation Contributions Tax Amendment Bills. (November 1997)

Super Taxing - An information paper on the Taxation of Superannuation and related matters. (February 1998)