You only have two months to plan for the CGT relief on super pensions

With the deadline for the new superannuation rules set to take effect from July, retired Australians should focus on a strategy to claim capital gains tax relief on investments such as property that become partly taxable as a result of the new rules.

And the transfer from super savings from a pension to an accumulation account must be done by June 30. 

CGT relief is available for self-managed super funds (SMSFs) to provide temporary relief from certain capital gains that might arise as a result of individuals complying with the transfer balance cap, and Transition to Retirement Income Stream (TRIS) reforms, commencing on 1 July 2017, says the Australian Taxation Office website.

CGT relief allows profitable investments in super pensions, currently tax-free, to have their cost bases reset to a higher value.

The transfer balance cap is $1.6 million at the moment, and it limits the amount of capital individuals can transfer to the retirement phase of their superannuation accounts. This in turn, limits the amount of superannuation fund earnings that are exempt from taxation, says the ATO.

Retirees who will be affected by the rule change are those who have, or are deemed to have, a pension interest in a total super balance that exceeds $1.6 million, as well as anyone with profitable investments in transition to retirement income streams (TRISs). From July the earnings generated by TRISs will no longer be tax free.

CGT relief could be worth many tens of thousands of dollars to retirees or TRIS holders. It's also an entitlement that many might delay or forgo because of the complexity. But not using the opportunity of the concession window could lead to regret down the track, says an article in The Australian Financial Review.

If you haven't already drafted a plan, now is the time, says self-managed super strategist Darren Kingdon of Kingdon Financial Group. 

An action plan should involve being aware of the capital gains that exist for each investment you own in a super pension and where the new rules will oblige you to transfer assets to an accumulation account. Once in accumulation, assets will be either fully or partly taxed, albeit concessionally.

The plan should also involve having an estimate of the additional tax that will need to be paid because pension assets will no longer be tax free and the impact this will have on a retiree's overall income. 

Earnings on assets rolled to an accumulation account will be taxed at 15 percent and capital gains at either 10 percent or 15 percent, depending on how long they are held for. 

An action plan will require being aware of the procedures that need to be  followed in order to implement CGT relief, a task not helped by the fact that important documents, such as an approved form on which the assets in question must be recorded, are not yet available.

Investments should be assessed on an asset-by-asset basis, says Kingdon in the post in AFR. For investment property and interests in investments owned through trusts, up-to-date valuations will be needed.

To illustrate how CGT relief might work, a 65 years-plus retired reader asks about his $4 million SMSF pension portfolio that is broadly made up of two $2 million commercial property units that are wholly dedicated to paying a pension. The properties each cost about $1 million.

Even though the reader will only be allowed to have $1.6 million of investments in a pension account from July 1, he expects both properties will remain in super because stamp duty will prohibit him from moving them elsewhere, even if he wanted to.

The reader asks if he will be able to commute property A to an accumulation account after having its tax base reset to $2 million under the CGT relief rules shortly before midnight on June 30.

And, in the case of property B, can he designate 80 percent of its value, or $1.6 million, as being in the pension phase and 20 percent, valued at $400,000, as being in accumulation phase and reset the cost base to $2 million as at June 30? And how would this property be taxed if, in two years' time, it was sold for $3.5 million?

Unfortunately, says Kingdon, it is not possible under Tax Office guidelines for an SMSF to partially segregate a single asset in the manner described for property B. Tax accountant Gordon Cooper of Cooper and Co says this is because you can't split the ownership of a single asset within the same legal entity.

In order to trigger an entitlement to CGT relief for both assets, a "cessation event" must occur between November 9, 2016  and  June 30, 2017.  

In order to claim CGT relief and reset the value of each property from $1 million to $2 million, the reader will need to commute the total excess of $2.4 million back to an accumulation account on or before June 30 and use what is known as the proportionate method to calculate tax for the remainder of the 2016-17 financial year, and in future years. 

This approach locks in the CGT relief to $2 million. If property B is later sold for $3.5 million, the notional $1.5 million gross capital gain is reduced to $1 million under the one-third CGT discount available to SMSF assets owned for more than one year, or one year beyond the CGT reset date.

But that's not the only calculation that must be performed.

Under the current rules, 100 percent of the $4 million pension is exempt from tax. Under the new rules, because only $1.6 million of $4 million is in tax-free pension phase  – or 40 percent – and 60 percent will be in a taxable accumulation account, this proportion will apply to any future CGT liability.

It means 60 percent of the $1 million gross gain, or $600,000, will be added to the fund's taxable income. It will be taxed at 15 per cent, resulting in a $90,000 tax bill. Without the CGT relief, the notional gains will be $2.5 million, discounted to $1.675 million. With 60 per cent or just over $1 million taxable, the tax liability will be around $151,000.