Super wealth tax by another name

The proposed new tax on member superannuation balances above $3 million was not foreshadowed and has created a great deal of angst for the SMSF sector. Grant Abbott explains how the measure could be applied and some associated problems that have already been identified.

The government released a new superannuation policy in February calling for better targeted superannuation concessions. Under the proposal, essentially a super wealth tax, from 1 July 2025, fund members whose total superannuation balances exceed $3 million at the end of the financial year will be subject to a wealth tax of 15 per cent based on a proportional increase in member balances across all super funds.

As expected, this has created huge concerns in the SMSF industry. For the most part, it is this sector that has the bulk of the $3 million-plus member accounts, although there are a number of industry and retail superannuation fund members who will be affected as well. Defined benefit super funds for public servants are another big story.

The big concerns are:

1. The $3 million threshold is not going to be indexed and will probably go down over time –witness what has happened to Division 293, the high-income-earner super tax.

2. Members with reasonable-sized superannuation account balances will not be aggressively using super now to build wealth as a good investment or two will find them hard captured by the super wealth tax regime once they are retired.

3. Confidence in super is again the loser. With the 2017 reforms, where pension balances above $1.6 million were forced from tax-free to a 15 per cent accumulation tax regime, and now a super wealth tax, it seems to be death by a thousand cuts. Plus, with the forecast budgeted cost for super concessions to be higher than the total age pension payments in the coming years, we can expect a lot more changes at the top end of town. Who can blame Australians for not investing in super for the long term when there are so many amendments to the system?

4. The introduction of an accruals taxation regime based on the increase in a member’s wealth is so far removed from the current personal and superannuation tax regime with its foundations on assessable income and not unrealised capital gains.

Accruals taxation is not new in Australia

I remember providing advice as a young tax consultant to a number of multinational clients that were caught up in the controlled foreign company (CFC) and controlled foreign trust (CFT) provisions introduced in Australia in 1990.

The CFC regime was designed to discourage Australian residents from shifting income or capital to low-tax or no-tax jurisdictions. The CFC regime taxes Australian shareholders on their pro rata share of accrued income and gains derived by a CFC or CFT in which they hold a controlling interest.

They are a very detailed set of rules and extremely complex. If this complexity translates to the super Continued on next page

Continued from previous page wealth tax, then SMSF administration software providers, accountants and SMSF auditors will be spending the next two years dreading the day of implementation.

Reasonable benefit limits kept super down

Prior to 1 July 2007 it was virtually impossible to build large wealth in an SMSF courtesy of reasonable benefit limits (RBL), which had been in place for many decades. RBLs were applied to limit the amount of concessional superannuation benefits individuals could receive over their lifetime. There were two types of RBLs – a lump sum RBL and a higher pension RBL that required at least 50 per cent of assets tied up in a non-commutable pension. For the financial year ending 30 June 2005, the lump sum RBL was $678,149 and the pension RBL was $1,356,291. Importantly, any excess amount was taxed at the highest marginal tax rate. In effect there was no incentive to make super contributions that might take a member above their RBLs.

The Simpler Super reforms

The Howard government introduced the

Simpler Super regime in the 2006 budget to take effect from 1 July 2007. There were so many changes all encouraging building tax-free or concessionally taxed wealth in superannuation. It was the absolute high point of super and in the lead-up to 30 June 2007 over $50 billion was contributed to SMSFs as non-concessional contributions.

I was in the United Kingdom at the time and called Australia the world’s retiree tax haven – a country where you could live a great life, with great services and pay no tax on retirement income, and for the smart few, get a tax refund. No one outside of Australia ever believed that story.

Chart 1: ATO statistics

Chart 1 shows SMSF assets and the proportion of SMSFs by asset range. Over 20 per cent of SMSFs have more than $2 million in assets and importantly 60 per cent of all SMSF assets. If that is not a target, I don’t know what is.

Let’s review some of the important changes that led us to where we are today.

1. Removal of RBLs: the Simpler Super measures abolished RBLs. This caught many by surprise because some of the older-style lifetime complying and market-linked pensions had restrictions on commuting and still do. You read often about the problems of legacy pensions. But with no RBLs there were suddenly no limits and we can see the result in Chart 1.

2. Tax-free super: from 1 July 2007 there was a tax exemption for members receiving lump sums and pension payments over age 60. Prior to that date, lump sums were taxed at 15 per cent and pension payments were assessable income, but received a 15 per cent tax offset. This is the tax-haven side of the equation.

3. Introduction of estate planning accounts: prior to 1 July 2007 it was a mandatory requirement under Superannuation Industry (Supervision) regulation 6.21 for a member over age 65 to take all of their benefits from the fund as a lump sum or by way of a pension. On 1 July 2007, this changed so that the only mandatory requirement was to pay superannuation benefits out on death. So an SMSF member with $2 million in the fund, and plenty of income outside of super to live on, could run their super account as an estate planning vehicle and not take a pension. Hold and grow in a concessionally taxed environment.

4. Limited recourse borrowing: this was not used to a great extent but trustees of an SMSF could get instalment warrants over stocks and implement

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Continued from previous page related-party nil interest loans over large commercial property assets. For those lucky enough to apply these strategies, SMSF balances sky-rocketed.

Super wealth tax

The Treasury paper shows how the proposed accruals system will work with the following example.

Warren is 52 with $4 million in superannuation at 30 June 2025. He makes no contributions or withdrawals. By 30 June 2026 his balance has grown to $4.5 million. This means Warren’s calculated earnings are:

$4.5 million - $4 million = $500,000

His proportion of earnings corresponding to funds above $3 million is:

($4.5 million - $3 million) ÷ $4.5 million = 33%

Therefore, his tax liability for 2025/26 is:

15% × $500,000 × 33% = $24,750

Why have they chosen the increase in member balances and not taxable income in the fund attributable to members with super balances above $3 million?

Simple, industry super funds don’t have the software to easily determine the proportion of taxable income attributed to a member’s account, but they have member balances at the start and end of the income year already in their systems.

The problems

There are a number of serious problems I can see straight off the bat and more will emerge from the darkness up until implementation date.

a) Six tax levels

Already we have a 15 per cent tax on the taxable income referable to a member’s accumulation account, a nil tax on that part of the fund relative to pension income, a 15 per cent concessional contributions tax on high-income members, an add back and reassessment of a member’s personal tax for excess concessional contributions less a 15 per cent offset, and now a 15 per cent member tax on the proportional increase in super wealth above $3 million, plus a 45 per cent tax on excess non-concessional contributions above the member’s threshold. Are you dizzy yet? b) Valuations

One of the big issues SMSF trustees and auditors will face is getting regular valuations of all assets. Importantly, assets such as private companies and also residential and commercial properties will need to be valued at year end to determine a member’s superannuation balance.

c) Tax adjustments to balances

Industry and retail superannuation funds provide for accrued capital gains and other taxes when preparing member balance statements. SMSFs do not, but I suggest that post 1 July 2025 they will as well.

d) Death benefit problems

A member’s death will not stop the calculation of the super wealth tax. As we saw in the recent Ellisal case, a member’s death benefits may be held within the fund for three years post death if they are subject to litigation. This means the executor of the deceased member’s estate will have to pay the super wealth tax up to the date of withdrawal from the system.

Likewise, where a reversionary pension is paid to a spouse on the death of a member, this will increase the spouse’s superannuation balance and may make them eligible for the super wealth tax. Hopefully the final legislation will include the ability to back out the capital transferred by the pension so as not include it as wealth.

e) Partial-year withdrawals

Members and their advisers will be using the strategy of withdrawing member benefits once they hit the $3 million mark or alternatively on 28 June each year. How will the measure accommodate a build-up post last year’s member balance, then a withdrawal before year end?

f) A stand-alone charge

The tax on balances over $3 million is to be levied to the member in the year after the assessment by the tax commissioner. It looks as though it is a stand-alone determination such that it is assessed and paid by the member or taken from the member’s account. If the individual in question has carry-forward capital or tax losses, then they are out of luck.

g) Variability of markets

Asset markets go up and down. We know what happens under the proposed tax when superannuation assets increase in a year. But if they go down, any loss is carried forward not back, unlike eligible companies, which can carry back tax losses.

The solutions

At this stage of the game, although I really don’t think there will be much change, we should all let the associations do their lobbying work. Certainly the Succession, Asset Protection and Estate Planning Advisers Association will be making a submission to government.

In the meantime, there are a range of solutions, including the use of a family protection trust. This is a multigenerational family wealth protection trust, either discretionary or fixed, that limits distributions to the lineal descendants and bloodline of the family protection appointor.