We have progressively seen the Government make minor and technical amendments to the 2017 super reform measures to remove anomalies, correct unintended consequences and generally improve the quality of the laws. One area that has require such amendments has been to address excess transfer balance amounts that have arisen from previous capped defined benefit income streams (CDBIS) that were commuted as re-purchased after 1 July 2017.
For SMSFs, both market linked pensions and defined benefit income streams that existed prior to 1 July 2017 were treated as CDBIS for transfer balance cap purposes. These pensions required a special value calculation to determine the amount to be applied against an individual’s transfer balance cap.
For many of these pensions paid from within a SMSF, it was prudent to consider a commutation and repurchase of the income stream to remove it from the CDBIS rules, resulting in the value being reassessed against the market value of the pension, not a formula-based special value (that was inflated against the current value).
There were however legislative issues within the SIS Regulations which did not provide for a debit value of the commutation (now resolved) and for any mechanism to deal with excess amounts above a personal transfer balance cap. Until now.
Legislative fix
The exceptions rectify the problem by enabling pension recipients that were commenced after 1 July 2017 to undertake a commutation to resolve excess transfer balance amounts.
The exceptions allow commutations to occur to comply with commutation authorities, which would require recipients to now address excess amounts above the transfer balance cap for certain products specified in subsection 294-130(1) of the ITAA 1997 – that is, market linked pensions (MLPs), and life expectancy pensions. Previously, the exceptions within the SIS Act & SIS Regulations did not permit for such commutations to occur, resulting in these retirement phase recipients not being able to address excess transfer balance amounts (and be unable to comply with the TBC rules).
The measures contained in Treasury Laws Amendment (Allowing Commutation of Certain Income Streams) Regulations 2022 (‘the new Regulations’) rectify this issue by inserting exceptions that enable recipients of the affected products that were commenced on or after 1 July 2017 to undertake commutations to resolve excess transfer balance amounts.
Individuals who were previously recipients of a capped defined benefit income stream (including a person who was previously a recipient of a lifetime annuity or lifetime pension) and commuted a lump sum to directly purchase an affected product on or after 1 July 2017 can now commute up to the amount that they are in excess of the transfer balance cap from the commenced income stream.
Within the SMSF context, the common scenarios include:
- Defined benefit income streams that were commuted to purchase a MLP; and
- MLPs (as a CDBIS) that were commuted and repurchased as new MLPs
Importantly, the commutation can only occur in response to a commutation authority that is issued after the ATO has determined the excess transfer balance for the individual.
Let’s take a look at the following example to understand how these new Regulations will apply:
Example – MLP commutation
Steven had a MLP at 30 June 2017 and was treated as a capped defined benefit income stream (CDBIS) as part of the introduction of the transfer balance cap measures. This pension had a value of $2.4 million using the special value on 1 July 2017. This did not create an excess transfer balance (of $800,000) at the time because the product was a CDBIS.
On 1 July 2018, Steven decided to commute his previous MLP and purchase a new MLP – this was done to remove the pension from the CDBIS rules and be assessed for TBC purposes based upon the purchase price, rather than the special value.
Under the new Regulations, the debit and credit for the commutation and repurchase will arise in his transfer balance account on the date that the new Regulations commence (the debit will be applied first).
A special value of $2.1 million is attributed as the commutation value of the old MLP (CDBIS) for Steven’s transfer balance cap. The purchase price of the new MLP was $1.8 million, being the underlying account balance of the MLP at that time.
The result of this is that Steven will then have an excess transfer balance amount of $500,000 that he previously was unable to resolve (prior to the new Regulations coming into effect):
|
Event |
DR | CR | BALANCE |
| 01/07/2017 – MLP #1 (CDBIS) | $2,400,000 | $2,400,000 CR | |
| 01/07/2018 – MLP #1 commutation | $2,100,000 | $300,000 CR | |
| 01/07/2018 – MLP #2 | $1,800,000 | $2,100,000 CR | |
| Transfer balance cap | ($1,600,000) | ||
| Excess transfer balance | $500,000 | ||
The Commissioner will then issue a determination to Steven of his excess transfer balance amount – this will also include the deemed earnings that accrue after the Regulations commence. Steven will not have accrued any transfer balance credits for deemed earnings between 1 July 2018 and the commencement of the Regulations.
The commutation authority will enable Steven to commute the excess amount as a lump sum from his MLP to an account in accumulation phase, where it can be retained or be paid out as a lump sum.
It should be noted that the ability to conduct such a commutation from these types of income streams may require an amendment to the fund’s governing rules.
Time to review
The fact that these new commutation laws provide an ability to access capital of income streams that previously had not access to capital is a significant outcome. These new Regulations demonstrate that funds with significant MLPs or defined benefit pensions within SMSFs should conduct a review of the current situation – it provides an opportunity to restructure income streams and gain access to amounts above their personal transfer balance cap.
