This article walks you through a transition to retirement example and the transition to retirement rules.
A transition to retirement pension income stream is an income stream commenced using your some or all of your superannuation savings while you are still working, but after you have reached your superannuation preservation age.
Your superannuation preservation age signifies the first time you are able to access your superannuation savings. However, depending on your situation, access to your superannuation savings may be limited.
The initial intention of a Transition to Retirement Pension was to allow people to have partial access to their superannuation savings, so that they could reduce their working hours as they near retirement. The Government hoped that this would result in people working for longer and reduce the cost to them of providing social security benefits.
While many people do use the Transition to Retirement provisions for this reason, an unintended loop-hole has also risen – allowing them to continue working full-time, but reducing tax payable along the way.
Transition to Retirement Example
An example of a Transition to Retirement Pension is simple.
A pension is commenced with some or all of your superannuation balance while you are still working and you are required to draw an income of between 4% and 10% of the account balance, as calculated on 1 July of each year.
If the income stream is commenced part-way through the year, then the income amounts are pro-rata.
While under age 60, the ‘taxable portion‘ of your income stream is taxed at your marginal tax rate; however you do receive a 15% offset on this amount (no offset is received for taxable-untaxed component). The ‘tax-free portion’ of your income stream is received tax free. Ask your superannuation provider if you are unsure of the tax components that make up your income stream.
Once aged 60 or over, all income is received tax free, except for the taxable (untaxed) component, which is taxed at your MTR, minus a 10% offset. Click here to read an article for people who want to access their super over age 60 and still work.
Now, moving onto an example of how the unintended loop-hole has provided a Transition to Retirement Strategy tax benefits.
Transition to Retirement Strategy Example
For the purposes of our Transition to Retirement Strategy example we will assume the following:
- The Income Year is 2016/2017
- You are aged 57
- You are an employee
- Your salary is $80,000 p.a.
- Your Concessional Contribution cap is $35,000 p.a.
- You have a superannuation accumulation balance of $375,000 (50% Taxable Component/ 50% Exempt Component)
- The expected income earnings within your superannuation account is 4% p.a.
- In the TTR Strategy, you draw an income equal to the amount salary sacrifice (which also meets the minimum standard requirements)
- SG Contributions are not relevant in our example and have not been included
Note: If you are under the age of 60 – the taxable/ exempt component ratio is important in determining the benefits of the strategy.
The table below is an example of the benefits associated with a Transition to Retirement (TTR) Strategy. This same transition to retirement strategy can be employed within a SMSF:
|No TTR Strategy||With TTR Strategy|
|Salary||$80 000||$80 000|
|Salary Sacrifice||$0||$25 000|
|Paid Salary||$80 000||$55 000|
|TTR Pension Income||$0||$25 000|
|Assessable TTR Pension Income||$0||$12 500|
|Taxable Income||$80 000||$67 500|
|Tax on Income (incl. Medicare)||$19 147||$14 835|
|Less TTR Pension Offset||$0||$1 875|
|Net Tax Payable||$19 147||$12 960|
|Net Income||60 853||67 040|
|Contributions Tax on S/Sac||$0||$3 750|
|Super Earnings Tax||$2 250||$0|
|Overall Benefit of TTR Strategy||-||$4 687 p.a.|
IMPORTANT: New superannuation rules will see earnings within a TTR Pension taxed in the same manner as an accumulation account and a reduction in the Concessional Contribution cap from 1 July 2017. This can impact the tax benefit of a transition to retirement strategy and the example given, above.
I have elaborated below where I felt it was necessary on the Transition to Retirement example, above.
Assessable TTR Pension Income
As mentioned in the assumptions, your superannuation balance consists of a Taxable Component and an Exempt Component. The ratio of these components will vary between everyone and will change on a daily basis while in Accumulation phase. Essentially, the Exempt component consists of after-tax super contributions (i.e. Non Concessional Contributions/ Contributions where a tax deduction has not been claimed).
Once you commence an income stream, such as a TTR Pension, the ratio of components becomes static for the life of the income stream and all draw downs from your pension account must be made proportionately.
The Exempt component portion of each income pension payment is received tax free.
The Taxable component portfolio of each income pension payment is taxable, together with all other income your receive for the year, less a tax offset (discussed below).
Therefore, in our transition to retirement example, because we assumed the superannuation balance was 50% taxable and 50% exempt, only $12,500 of the $25,000 annual pension payment that we have chose to receive will be assessable.
TTR Pension Offset
Any portion of superannuation pension income that is made up of the ‘Taxable’ (taxed) component receives a tax offset equal to 15% of the Taxable income received. The ‘untaxed’ component will not receive a rebate. I believe this is due to a previous Government’s promise (Keating?) to ‘refund’ Contributions Tax upon retirement. Contributions Tax of 15% is imposed on all deductible (Concessional) contributions.
Therefore, in our example above, a 15% rebate ($1,875) is received in respect of the Taxable portion of the pension income received throughout the year ($12,500).
Contributions Tax is payable on any contributions made to superannuation where a tax deduction has been claimed (Concessional Contributions).
Salary Sacrifice Contributions are Concessional Contributions, as your employer claims a tax deduction for making the contribution on your behalf.
The current Contributions Tax rate is 15% and is paid from your superannuation member balance.
Therefore, Contributions Tax of $3,750 ($25,000 x 15%) has been included in our calculations to give a full picture of all taxes involved.
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Super Earnings Tax
In Accumulation Phase of superannuation, all income received from your superannuation investments is taxed at 15%.
In Pension Phase all income received from your superannuation investments is received tax free.
Therefore, using our example above, where we have assumed your superannuation account earns income of 4% p.a. on $375,000 ($15,000 p.a.), your Super Earnings Tax of $2,250 in Accumulation Phase will not exist once a TTR Pension has commenced, thus a saving of $2,250 p.a.
Furthermore, all realised capital gains are received tax free in Pension Phase compared to up to 15% in Accumulation phase, which provides an added benefit that we did not include in our calculations. We did not include this because CGT is not necessarily paid every year, but only in those years where an asset has been sold and a gain realised.
However, it is important to note that superannuation changes from 1 July 2017 (as a result of the 2016 budget) will see all earnings within a TTR Pension account taxed at the same rate as accumulation phase.
Click here for a guide to Tax on Superannuation.
Transition To Retirement Disadvantages
The main disadvantage associated with a transition to retirement pension is that you are required to have two accounts within your superannuation account – an accumulation account and a pension account. An accumulation account will be used to accept superannuation guarantee contributions from your employer and maybe salary sacrifice contributions, while your TTR pension account will be providing you with pension income. It is necessary to have two accounts, because a pension account is unable to accept contributions. This is the only disadvantage, but apart from keeping an eye on two accounts, it’s not really a disadvantage. The advantages generally far outweigh the disadvantages.