Aside from your home, the most valuable asset you are likely to own, and potentially be able to pass on to your next generation, is your superannuation. The challenge is that once your kids leave home, their financial dependence on you, at least according to the law, pretty much ends.
This means that on your death they will pay more tax on any benefit they receive from your super fund. In fact, they will pay as much as 17%, the equivalent of $17,000 for every $100,000 they receive from the taxable component of your fund.
You may not be aware, but your super fund value is categorised into two key components.
The taxable component and the tax-free component.
The amount in each of these components will in part depend on how you made contributions into your fund over the course of your life.
Which is where the opportunity to improve the inheritance for your children lies.
The benefit of more tax-free component
One way that can help to reduce the tax paid by your children is to maximise your tax-free component before you retire and commence a pension.
The more you have in the tax-free component of the fund less tax that is paid by your children, as superannuation benefits tax is only payable on the taxable component.
This can generally be achieved in two ways. The first is to put more money into your super fund from assets you own outside.
The other is to complete a superannuation recontribution.
A superannuation recontribution is achieved by withdrawing an amount of money from your super fund, according to your available contribution caps, and then re-contributing the money back into the same super fund as a tax-free contribution.
Michael is 64 and about to fully retire from work. His only contributions to superannuation for the last three years has been by his employer’s compulsory superannuation guarantee (SG), $9,500 in this financial year. He is considering all options to optimise his super fund for retirement and for the potential of passing on his benefits to his two adult children, aged 23 and 25.
Michael is a widower and has just over $510,000 in super, with $395,000 of this being a taxable component.
If Michael was to die today, his beneficiaries are likely to pay tax on the $395,000 taxable component which could cost them as much as 17% in tax and Medicare levy, costing them approximately $67,150.
Instead, a withdrawal and recontribution could be implemented for Michael to maximise the use of his contribution caps before he commences his pension. An amount of $300,000, could be withdrawn, split proportionally across the taxable and tax-free components, and then recontributed back into the fund.
|Before Recontribution||After Recontribution|
|Taxable component (Final)||$395,000||$162,647|
|Tax-free component (Final)||$115,000||$347,353|
|Tax payable (at 17%)||$67,150||$27,650|
|Net Benefit Payable||$442,850||$482,350|
Once finalised, if Michael should die, the strategy could result in a saving of over $39,500 in tax and Medicare for his non-financial dependant beneficiaries.
At the time of the contribution, Michael could also have withdrawn an additional amount to maximise his concessional contributions and obtain a personal tax deduction.
In addition to the above tax saving, by increasing the tax-free proportion of his super fund he could also be insulating it against any future changes to superannuation law, which may alter the zero-tax rate payable on pension income.
When to do a super recontribution
A withdrawal and recontribution can be quite tricky and is not going to be suitable for everyone. For this reason, you should always seek advice from a superannuation specialist before undertaking these types of transactions to ensure it is suitable and implemented appropriately to avoid issues in your retirement and when it comes time to pass it on to your kids.
Even though most people can benefit from a change in the tax-free component of their super fund, there are other facts to consider including:
- Spouse – if the primary beneficiary of your super is your spouse then you need to consider the amount of benefits you are each likely to use as part of your retirement and whether a reversionary pension to your spouse is going to be used for this reason. Larger super funds tend to be more suited as the likelihood that benefits will remain after retirement needs have been met to pass onto the children beneficiaries is higher.
- Future contributions – the recontribution will maximise contribution caps available to you at the time and for the next few years. If an inheritance, asset sale or another event may result in additional free capital which could be contributed to super, then you may wish to compare the benefit of the strategy versus the potential ability to increase to the total value of assets in super.1
- Size of fund – the greater the size of the fund (upwards of $500,000), when considering the strategy, the greater the likelihood that there will be sufficient funds remaining to pass on.
There are several conditions that need to be met before being able to withdraw monies from super which need to be considered. The timing of the implementation of this type of strategy is important as are other aspects of super rules such as the new pension transfer balance cap.
For more information on super recontribution and retirement planning
If you are considering the impact of your succession planning and how to structure your superannuation effectively to deliver for your retirement and to maximise the benefit passed to your children, you need to speak with a specialist.
An RSM retirement specialist can assist you with the evaluation of the efficiency of your super’s current succession and retirement planning, and provide you with a solution tailored to your circumstances and needs.
For more information about retirement and superannuation succession planning contact an RSM retirement specialist.
1 Future superannuation contributions after age 65 and before 75 are subject to a work test.