Lyn Formica, head of education and content for Heffron Consulting, said incorrect language in relation to pension and income streams can lead to incorrect tax treatment, and compliance issues.
Speaking at the SMSF Association national conference, Formica said if the minimum pension requirements are not met, a pension may still legally exist under super law, but can cease to qualify as a super income stream for tax purposes, leading to significant tax consequences.
“When we’re dealing with pension failures, it is important to get the language correct, because otherwise we’re going to get confused,” Formica said.
“A pension is a super law concept. Pensions are in the SIS regulations, and the standards that we need to meet are in the SIS regs, as well. An income stream is a tax law concept. You can have a pension that also qualifies as an income stream. They’re not interchangeable. They’re two separate beasts.”
She continued that a retirement phase, super income stream, is a “special type” of income stream under the tax law and if a member has one, the fund is entitled to exempt current pension income while the recipient has the amount counted towards their transfer balance cap.
“When I’m using the word pensions, I’m talking about a pension under the super law. When I’m using the word income stream, I’m talking about a tax law provision,” she said.
In relation to failing minimum pension standards, Formica said it is usually because the member has failed to pay the required minimum from a pension.
“There’s lots of different types of pensions. I am only talking about two, the retirement phase, account-based pensions and death benefit account-based pensions. There are also complying pensions, market-linked, life expectancy, and flexi pensions but TR2013/5 only applies to account-based pensions,” she said.
“In some situations, the full consequences of failing the pension standards for a complying pension is still a little unclear. In most regards, we think it works the same or very similar, but there’s a few quirks.”
She added that the SIS pension standards may not be thought of as “pension standards” but they are the rules with which funds must comply.
“They’re things like the fact that you can’t add to a pension by way of a contribution or rollover once the pension starts. That’s why we pop our contribution into an accumulation account. Then if the client wants to send that to pension phase, they can start a second pension, or they may stop the existing pension, commute and the proceeds will flop back into the accumulation account, combined with the contribution, then we can start a second pension,” she said.
“Pension payments need to be made at least once a financial year, and the total payments in each year need to be at least that minimum amount. If you’ve got a pension that is allowed to be commuted, then you have got a pro-rata minimum payment rule that has to be met first. And the pension is only transferable on death and only to eligible beneficiaries.”
Furthermore, she said the regulations also state that if the member has a pension that doesn’t comply with the pension standards, then the pension is going to cease to qualify as a super income stream for tax purposes, which can have quite significant tax consequences.
“You still have a pension, though, so you can have a pension that fails the pension standards. It still exists as a pension, but it no longer qualifies as an income stream under the tax law. It is very important to understand that distinction,” she said.