The federal government may claim that halving the concessional contributions cap will affect only a small number of the country's high net worth earners. But SMSF advisers say the new rules affect the ability of many Australians to boost their superannuation balances to a level at which they can live comfortably in retirement.
One such group is that of working mothers who may have held off building their superannuation balances while raising their children, says SMSF specialist adviser at Eureka Financial, Andrew Jones. "Women typically have lower super balances and given they are coming off a lower base already they will have a hell of a job to get those balances to the required limit."
Other likely victims are the self-employed who tend to contribute to super in irregular large chunks, as well as those who planned to top up their super by transferring assets into their SMSF, says Multiport technical services director Philip La Greca. "They are going to have to do that in much smaller chunks now, and will have to do a cost-benefit analysis to see how the costs of doing so will affect the tax-savings over the long term."
But those most commonly affected will be the hundreds of thousands of employees who have been paying down their mortgages and funding their children's education, with the aim of maximising their contributions in the last 10 years or so leading up to retirement. That objective has now been seriously thwarted by the new limits, says the director of The Professional Super Advisers, Kevin Smith. "Those aged 50 or so who have finally got to the stage where they can put some money into their super have now left it a bit too late to make their run," he says.
Many of these people will have been caught out by the assumption that paying off the family home as quickly as possible was an important retirement strategy, says BluePoint Consulting principal Tony Bates. "That's certainly been the common wisdom - that's the way the tax laws have presented themselves and the rise in residential prices has supported that too. But that's now meant that many baby boomers have left themselves short on their superannuation balances."
The new limits have compounded the effects of the sharemarket rout in the past two years, points out Jones. "The changes to the caps couldn't have come at a worse time," he says. People have seen their balances ravaged by the global financial crisis and it is at times like this you want people to be putting more money into their super, not less, but the policy is pushing people the other way.
Aside from limiting the possibility of future contributions, for many the new caps have called into question current contribution arrangements.
Given that the new contribution caps seem likely to include the super guarantee, the chance of exceeding the caps and incurring a penalty tax rate is high. For some on high incomes the new caps mean that merely making super guarantee contributions will push them into excess. Capel & Associates principal Richard Capel says a number of his SMSF clients are senior executives whose annual super guarantee contribution will break them "clean through" the new contribution levels. "Their employers are having to completely rework their remuneration package in light of these changes."
More commonly it will be those using salary sacrifice strategies, especially in conjunction with transition to retirement pensions, who will be most affected by the changes. Those who had been salary sacrificing up to $100,000 in the case of those over 50, or up to $50,000 if under 50, will now have to cut back the amount they sacrifice. The flow-on effect will be a higher in-hand salary and thus a bigger tax bill, says Jones. "We've calculated that someone over 50 who was earning $100,000 and sacrificing their income into super, will now be up for an extra tax bill of $4000 a year," he says.
With a larger portion of their salary left in hand, trustees will also no doubt need to cut back on the pension they take from their super. Indeed, according to La Greca, this flow-on effect may well be a roundabout means for the government to reduce the attractiveness of the popular transition to retirement (TTR) pension strategy. "There were lots of rumours around that the government wanted to kill TTR off, because it does seem to have been used by many as a way of maximising their wealth rather than easing into retirement. They didn't, but in a way they will have succeeded in curtailing it because attacking the cap means it defeats the purpose (of TTR) if you draw down more of the pension than you need." La Greca says those at most risk of accidentally exceeding their caps are those who receive year-end bonuses that have been automatically salary sacrificed into their super. "People are going to have to keep very close track of their contributions. And when you think that the traditional way of handling SMSFs is much like handling a tax return - well down the track - there is a lot of potential for making wrong assumptions. Advisers are going to have to be very careful to ensure their clients don't fall foul of the new rules."
Beware of compounding tax penalty on excess contributions
The impact of an excess concessional contribution may well go beyond the 31.5 per cent penalty tax on the excess, points out Heffron associate Leigh Mansell. "A lot of trustees and even advisers don't realise that any excess concessional contributions count towards the non-concessional contribution," she says.
While the cap on non-concessional contributions is still $150,000 a year, and $450,000 over a rolling three-year period, the danger for those riding close to the limit is that an excess concessional contribution may inadvertently trigger a bring forward, leading to them exceeding the non-concessional contribution as well, Mansell says. In these cases, as well as the penalty tax of 31.5 per cent on the excess concessional contribution, the excess non-concessional contribution will attract penalty tax of 46.5 per cent. "All up then, penalty tax of 78 per cent could apply - and that's on top of the normal contribution tax of 15 per cent."
Mansell says she recently dealt with a case where the concessional contribution excess triggered a non-concessional excess of $160,000, that left unchecked would have given the client an extra tax bill of around $74,000. "We were able to catch that in time, but often the first people know about it is when they get a letter from the ATO (Australian Taxation Office) and there's not much they can do about it. And that was with the previous higher contribution caps - with the new concessional cap there is much less margin for error."
Is super still the best retirement investment vehicle?
Some are suggesting the changes mean that super is now no longer the best, or certainly no longer the only option, for building retirement wealth.
"The parameters have certainly changed," says a director at financial planning strategy firm Strategy Steps, Jennifer Brookhouse. "You do have to think now about whether super is still the right vehicle. And it is certainly a reminder that you should always be investing in a range of structures - because super is an ongoing evolving structure."
The new regime up-ended the post-2007 landscape when it made sense to put as much money into super as possible, says Bates. "There was a brief period from 1 July 2007 until the end of June 2009 when super was simply the best vehicle in which to build retirement wealth. That's certainly not the case any longer. Leaving some money outside of super is now very sensible and suddenly, for instance, the family trust is looking attractive again - especially for 40 to 50 year-olds."
Bates says money invested outside of super can still be a tax-effective vehicle for retirement income. "You can earn $10,000 or so a year from outside of super and still pay very little tax. You get the first $6000 tax free, and then the next $4000 is on the lowest tax bracket."
But Smith says there are still plenty of benefits in using superannuation as a retirement wealth vehicle, especially when taking advantage of the flexibility and control of an SMSF. "The super system is still attractive," he says. "It's just that the honey pot has been halved."
La Greca agrees there is still no better tax vehicle than super. "You're getting a capital tax deduction plus a tax break on your earnings - and the great thing is that you have control over what it goes into."
Brookhouse says exceeding the concessional contribution cap via salary sacrifice with the amount required to pay insurance premiums may be worthwhile for clients in the top two marginal tax brackets. Assuming the premium is tax deductible to the fund, the penalty tax is 31.5 per cent. This compares favourably to clients paying tax at their personal marginal tax rate of up to 46.5 per cent. For those clients who will now need to cut back on salary sacrificing, Brookhouse suggests they commute the income stream and roll it back into the accumulation stage. A new income stream could be restarted with a lower account balance and, therefore, a lower annual pension payment. "Of course they could continue to receive the same level of pension payment and re-contribute the income each year that they don't need as a non-concessional contribution."
Another destination for the excess $25,000 or $50,000 could be a spouse's superannuation fund, Kevin Smith suggests. "If their spouse is getting close to (the preservation age of) 55, then it can be worth putting in is as an after-tax contribution because that way they will have earlier access to that money." In any case, given the constant changes to superannuation legislation, it is always worthwhile making super balances as even as possible across spouses, Smith suggests. "It's all too easy to imagine a scenario down the track where the government will be taxing your income from your super."
What to do with the excess?
Now that concessional contribution caps have been halved, what is the best thing to do with the "excess" money they would otherwise have contributed to their super? Should they contribute the extra money into their super fund as a non-concessional contribution, or is it better invested outside of super?
To test the numbers we asked Optimo Financial to use its Optimo Pathfinder software application to compare the outcome of contributing the excess funds into superannuation, as opposed to investing it in the same sort of investment outside of superannuation. The results showed how dramatically halving the contribution caps has impacted the attractiveness of superannuation as a wealth-building vehicle. Optimo Financial found that under the pre-budget 2009 rules, a person over the age of 50 who took full advantage of the maximum concessional contributions would have been able to accumulate $1,177,598 after 10 years, compared to $972,804 under today's rules - a difference of $205,000.
Even so, there is still a small advantage for those who contribute the now "excess" $50,000 into super rather than investing it outside of super. A trustee who makes a maximum contribution of $50,000 for three years (and $25,000 for the seven years thereafter) and contributes the rest as a non-concessional contribution will still be $50,000 better off than if they had invested the "excess" outside of super.
Those able to direct a lump sum into the superannuation environment are also better off than if they leave the funds outside of super - even if the amount exceeding the concessional cap is contributed as a non-concessional contribution, according to the Optimo model. After 10 years, a couple over the age of 50 who put $400,000 into super as a combination of concessional and non-concessional contributions are better off by $89,000 than if they invested it outside of super.
The savings are a result of income from the asset being taxed at just 15 per cent and capital gains taxed at 10 per cent while in accumulation stage. Once pension stage is reached, capital gains within super are also tax free, which means assets realised within the superannuation environment may attract no taxation.
