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TBC Legislative Deficiency Needs Fixing

The Transfer Balance Cap (TBC) limits the value of assets backing pensions that receive a tax break on investment income. For Account Based Pensions, this means that on 01/07/2017 the amount in excess of the limit ($1.6m) had to be rolled back to accumulation or withdrawn. Some pensions – including SMSF legacy pensions – can’t be commuted and so the concept of a Capped Defined Benefit Income Stream (CDBIS) was introduced. Here, when the total annual income stream payments from the CDBIS exceeds $100,000 p.a. (the defined benefit income cap) additional tax is payable via the personal tax system.

The problem is that market-linked income streams (MLIS) in some ways look like a CDBIS (i.e. non-commutable) and in other ways look like an account-based income stream. The Parliamentary legislation draftsperson did not think through the ramifications – especially as a MLIS is the only type of product a SMSF can use to restructure an old legacy lifetime or life expectancy contracts. Treasury has fixed the TBC debit/credit problem with legislation with a retrospective operational date. However, they have not fixed the problem of more than $1.6m being rolled over from (say) a Section 1.06(2) legacy lifetime pension to a MLIS. Post 01/07/2017 commenced MLIS are not treated as a CDBIS but valued at their account balance. There is no way to fix the excess transfer balance tax assessment that will result.

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Treasury needs to fix this legislative oversight. The most simple solution is to recognize that the Reasonable Benefit Limit rules that motivated the original requirements are no longer relevant and, in many ways, have been replaced by the TBC requirements. So, being allowed to convert to a modern ABP is logical. They can then receive exactly the same limit for tax advantages i.e. be limited to the $1.6m investment income tax exemption.

Is there another solution? One possibility would be to only allow $1.6m of the MLIS to enjoy tax exemption. We already have that proportional exemption with a legacy pension. The assets backing the pension are higher (because of adequacy requirements) than the exemption percentage (based on best estimates of the pension liability).

Is any industry body willing to seek a solution to this issue with the regulator/government? These retirees are now advancing in age and it’s grossly unfair to trap them in adverse tax circumstances with a complexity that even the parliamentary draftsperson was clearly not across.

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