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Super changes aimed at inheritance rorts

Coalition super plans will block a rort.

Coalition super plans will block a rort. Photo:AAP

The Turnbull government’s proposal to cap the non-concessional payments wealthy Australians make into super at $500,000, backdated to July 1 2007, has seen highly public warfare erupt in Coalition ranks. It’s also opposed by Labor as being “retrospective.”

But one of the drivers for the reform is the need to block a little understood inter-generational tax avoidance scheme known as “re-contribution”.

The key to the rort is the ability to change the tax status of the funds inside big super balances.

Under the superannuation guarantee arrangements, people can make concessional contributions of up to $35,000 a year, or $30,000 for those under 50, which are taxed at 15 per cent on the way into the fund.

Concessional balances built big accounts

To make a contribution of $35,000 at the current rate of 9.5 per cent of salary allowed under the super guarantee scheme, you need to be earning about $368,400 a year.

 

Some super balances have grown tall. Photo:Getty

Some super balances have grown tall. Photo:Getty

That’s big bikkies and helps people on very high incomes build a hefty super balance. But for those who were earning a motza back in the early years of the century, things were even better.

For a few years they were allowed to make concessional contributions of up to $100,000 a year, so there are some very significant concessionally taxed super accounts out there.

After-tax contributions have also been hefty

There’s another way the wealthy have been able to build hefty super balances and that’s through non-concessional contributions.

People with lots of cash to spare have been able to make non-concessional, or after-tax, payments into their superannuation funds of up to $180,000 every year, or one-off hits of $540,000 every three years.

The Costello free kick

Back in 2006, then Treasurer Peter Costello allowed those in a position to do so the right to make a one-off non-concessional $1 million contribution to super over that financial year.

Peter Costello opened the flood gates. Photo:AAP

Peter Costello opened the flood gates. Photo:AAP

He also declared all super earnings in pension phase to be tax free for those over 60, making super the investment vehicle of choice for anyone looking for a tax shelter.

This attraction will remain even if the proposed super reforms taxing earnings in pension funds over $1.6 million at 15 per cent go through Parliament. That’s because that 15 per cent on high balances is less than investments are typically taxed at outside super.

Earlier this year, then Assistant Treasurer and now Revenue and Financial Services Minister, Kelly O’Dwyer, made the observation that super “is not intended to be a support for the accumulation of wealth to pass down to subsequent generations”.

The super inheritance tax

But that’s just what has been happening and people have been gaming the super system to achieve it.

Some plan for a tax-free super gain for the kids. Photo:AAP

Some plan for a tax-free super gain for the kids. Photo:AAP

On death, super balances can be paid to dependents tax free. But super paid to non-dependent heirs, such as children over 18, is taxed at their marginal tax rate, or 17c in the dollar, whichever is less.

Here’s how the rort works

The tax is only paid on balances built up with concessional payments. Payments from non-concessional balances are tax free as it’s considered that tax was paid on these before the funds were contributed.

This distinction has spurred a tax avoidance arrangement. People with big concessional balances have paid these out to themselves as lump sums.

They then recontribute these back into super as non-concessional payments. That gives them a big tax-free super balance to live on and when they die this is passed to their non-dependent children and heirs tax-free.

This is the government’s solution

The proposed super changes will hit these plans by capping non-concessional balances at $500,000 and backdating the move to July 1 2007.

That will severely limit the ability of those with big super balances to convert their funds to the non-concessional classification and avoid super’s inheritance tax.

Under the reform proposals, concessional caps will be cut to $25,000 a year from July 2017.

 

 

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