A superannuation fund usually benefits an individual upon retirement. In Australia, a super fund is a tax-effective investment vehicle you can utilize during retirement.
The tax system enables you to lower (concessional) fund earnings and contributions tax rates as well as get tax-free withdrawals upon attaining the preservation age and meeting the condition of release.
Remember, only under extraordinary circumstances (like a serious health condition) can one access the super fund early.
While the complex nature of the Superannuation tax legislation requires the assistance of independent professional advice, it is also crucial for you to generally understand how super taxation in Australia occurs.
Taxation of super usually occurs in three different stages:
- Contributions: when money enters the fund.
- Investment earnings: when the fund invests the money it holds and earns an investment income.
- Super benefits: when money is withdrawn from the fund.
Taxation on contributions
As discussed in an earlier article, Superannuation contributions are categorized into two: concessional or non-concessional contributions.
Concessional contributions are usually contributions that make an individual (like an employer) to receive a tax deduction. Sometimes, these kinds of contributions are known as "before-tax" contributions.
The list of Concessional contributions entails salary sacrifice contributions, superannuation guarantee (SG) contributions, contributions that are claimable as a personal tax deduction, and other employer contributions. Note that these contributions are taxed within the super fund.
The taxable component is a crucial element for computing withdrawals’ tax payable even it doesn’t affect the superannuation fund’s tax payable.
Non-concessional contributions, on the other hand, are the kinds of contributions where no one receives a tax deduction. Such kinds of funds are usually not taxed within the fund.
Your personal circumstances and contribution type will determine the tax amount that your super contributions will pay.
Taxation of investment earnings
Investment income gained from the assets that back pensions is usually exempt. The Australian government proposed in the 2016 federal budget (that becomes effective on July 1) the abolishment of investment income exemption for the retirement phase account where the balance is more than $1.6 million.
How is it assessed?
A 15% tax rate is usually applied on the rest of the investment income that the super fund generates.
Some of permissible deductions against the super fund income include superannuation fund Expenses like investment management expenses, insurance premiums, and administration expenses
If the fund pays Life insurance premiums, it will be deductible from the fund’s assessable income; however, if the individual member directly pays the same premium, it may not be tax deductible.
Tax on benefits paid
Calculating Taxation of benefits is usually very complex and depends on whether the benefits are:
- received as a lump sum or a pension
- paid to a dependent or non-dependent
- received for retirement, death or disability
Tax liability of benefits can also be affected by other factors such as undeducted contributions level and components like amounts transferred out of the small business sale. A lump sum superannuation payout is known as an ‘eligible termination benefit.’
How death benefits are taxed
In case an individual dies, the super balance, known as 'super death benefit,' is given to a nominated beneficiary.
The Super death benefits tax amount that a beneficiary is supposed to pay usually depends on:
- The super component
- dependant for tax purposes
- Whether the superannuation fund is withdrawn as an income stream or lump sum.
- Only a lump sum super death benefit can be given to non-dependants.
How super withdrawals are taxed
If you want to generate a regular income for yourself, you can take the income stream that your super generates in case you are eligible to access the super. You can also choose whether to withdraw part or all of your benefit as a lump sum amount.
Super income streams
Pensions and annuities are sometimes referred to as Super income streams.
Only those who are over 60 years are given a tax-free relief on their income; otherwise, any individual who is below 60 years has to pay tax on the super pension.
Lump sum withdrawals
Withdrawal for individuals who are aged over 60 years is usually tax-free. Untaxed funds, like government super funds, are usually dealt with different rates.
Tax on withdrawals is usually leveled when an individual accesses the super before reaching the age of 60 years. There is often a $205,000 low rate withdrawal threshold that is tax-free – a lifetime limit that is indexed annually. The returnable tax-free portion – as it will be returned to the individual tax-free – does not form part of the threshold.
Depending on whichever is lower, either a marginal rate or a 17 % rate will be applied to the amounts that exceed the low rate threshold.
For lumpsum withdrawals, either a 22% rate or marginal tax rate (whichever is lower) will be applied on the lump sum when a person is below the preservation age. However, accessing the super before one reaches the preservation age is usually limited. When you want to obtain your super as a lump sum, you will need to get financial advice since the strategy might not necessarily fit your case.
Withdrawal and re-contribution strategies of your Super
Some People minimize the future tax that non-dependant beneficiaries would pay through using a withdrawal and re-contribution strategy on their super after retirement.
The withdrawal components will be proportional to the super balance components when withdrawals are made from the super.
For instance, if 80% of the fund balance is the taxable component and 20% tax-free component, then the withdrawals will be received in the same manner – 80% taxable component and 20% tax-free component. Meaning, you cannot make withdrawals from a single super component.
A withdrawal and re-contribution strategy entail a strategy where an individual withdraws money in a lump sum from superannuation account and later re-contributes the funds back as tax-free non-concessional (after-tax) contributions.
Crucial concepts when taxing a superannuation fund
- Tax File Number
Remember, when saving and investing, your super is the most tax effective way. But, for that to be achieved, you will need to have a Tax File Number (TFN). If you lack that number, you will have to pay more amount of tax – which could be up to 47% on the employer’s SG contributions and before tax balance.
- Taxable income
With regard to a superannuation fund, a taxable income is usually assessable income of the fund minus the necessary deductions. Concessional (i.e., taxable) contributions received net discounted capital gains, and investment income is what an assessable income involves. Undeducted contributions (not claimable as a deduction) and exempt income don’t form part of the assessable income.
- Tax rates
A superannuation fund’s taxable income is usually at a 15% tax rate. Therefore, a 30 % tax rate is usually applied for members who have a taxable income that is more than $250,000 (which was $300,000 before 1 July 2017).
- Tax credits
In a case where the dividend income is part of the taxable income, the imputation credits linked to that dividends will be part of either the assessable or exempt fund income.
Those imputation credits will gain the fund tax credit which will be taken as if the fund is the one paying credit for the tax paid. In case the credits are more than the tax liability of the fund, the difference is usually refundable.