For most people it is important to know that when they pass and leave their superannuation to their children, they will not be stung with a large tax bill as result. But depending on who is receiving the benefit and the amounts that make up your total super balance, tax can be an issue.

Superannuation recycling offers a strategic approach to significantly reduce the tax payable on superannuation benefits by adult children on your passing.  In this article, we delve into the concept of superannuation recycling, its benefits, and considerations for superannuation recycling.

 

Super Balance and It’s Subcomponents

Your superannuation balance is comprised of 2 subcomponents: tax-free & taxable.

• The tax-free component usually consists of the member’s after-tax contributions or any non-concessional personal contributions (those where a tax deduction has not been claimed).
• The taxable component consists of the member’s concessional contributions (employer contributions/ super guarantee and personal contributions for which we claim a tax deduction) and the growth and earnings of the superannuation fund.

How are Superannuation Death Benefits Taxed

While death benefits paid to a tax dependant are tax free, amounts paid to adult child will have tax consequences for the beneficiary.

For a non- dependant adult child the tax-free component remains tax free.

Whereas the taxable component when paid to a non-dependant adult child it must be paid as a lump sum and may be taxed at up to 17%.

 

Example

George has a balance of $500,000 consisting of 90% taxable component and 10% tax-free.

On passing, George’s adult children who receive the super benefits would be subject a ‘death tax’ of up to $76,500.

 

Superannuation Recycling Benefits

Superannuation Recycling refers to the process of

1. withdrawing excess pension amounts and then
2. recontributing them as non-concessional contributions.

The purpose of this strategy is to convert a member’s taxable component into a tax-free component, thereby reducing tax liabilities and maximizing the inheritance left to beneficiaries upon the member’s passing.

 

Example Cont….

George has a starting balance of $500,000 consisting of 90% taxable component and 10% tax-free.

George will withdraw an additional $100,000 pension and re-contribute as a tax-free non-concessional contribution. This contribution reduces the ratio of taxable to tax-free components and on passing, this transaction alone will reduce the ‘death tax’ to $61,200, a $15,300 saving.

This strategy can be re-used provided we continue to stay within contribution caps and meet contribution acceptance rules.

The below calculations show the make up of the components within the fund.

	Tax-Free		Taxable		Total
Start	$          50,000	10%	$        450,000	90%	$        500,000
Withdrawal	-$         10,000	10%	-$         90,000	90%	-$       100,000
Close	$          40,000	10%	$        360,000	90%	$        400,000
Start	$          40,000	10%	$        360,000	90%	$        400,000
Contribution	$        100,000	100%	$                   –	0%	$        100,000
Close	$        140,000	28%	$        360,000	72%	$        500,000

 

Additional considerations

Contribution Caps 

It is crucial to be mindful of contribution caps set by the Australian Taxation Office (ATO). Currently, individuals making contributions are subject to specific limits both in age and member balance. Those under 75 and under $1.9 million in super generally have full access to the non-concessional contribution limits.  Staying within the contribution limits is essential to avoid penalties and potential tax implications.

 

Pension Requirements and cashflow 

The ATO set annual drawdown requirements for retirees dictating a minimum requirement that must be withdrawn from the superannuation system. Adding additional withdrawal to re-cycle may create temporary cashflow burdens or effect investment allocation.

 

Seek Professional Advice  

Estate planning and superannuation strategies can be complex, involving legal, financial, and tax considerations. It is highly recommended to seek professional advice from qualified financial planners or tax advisors who specialize in superannuation and estate planning. They can provide tailored guidance and ensure compliance with relevant regulations.

 

Conclusion

Superannuation contribution recycling is a powerful tool for individuals seeking to optimize their member balance for estate planning purposes. By strategically managing non-concessional contributions, individuals can reduce future tax liabilities and leave a more substantial inheritance to their beneficiaries. However, it is crucial to remain aware of contribution caps and eligibility criteria while seeking professional advice to ensure compliance and maximize the benefits of this strategy.

 

How Can Alto Help?

Alto can work with your financial planner to understand if a pension recycling strategy will work for you as well as explain how this impacts your superannuation fund’s tax position.