Private ruling: Allocation of amount from reserve to member's account
Published: July 2012

Ruling: Q1: If, on converting an existing pension (the Existing Pension) that meets the standards set out in sub-regulation 1.06(6) of the Superannuation Industry (Supervision) Regulations 1994 to a new pension (the New Pension): a) the value of the assets of a self managed superannuation fund (the SMSF) that support the Existing Pension exceeds the amount of the lump sum that is allowed to be converted under paragraph (g) of that sub-regulation; and b) the excess amount is allocated to a reserve of the SMSF, will the excess amount be considered to be a concessional contribution for the recipient of the New Pension when the excess amount is allocated out of that reserve to be used, together with the amount of the converted lump sum, to commence the New Pension? Advice No.

Relevant facts and circumstances: Your advice is based on the facts stated in the description of the scheme that is set out below. If your circumstances are significantly different from these facts, this advice has no effect and you cannot rely on it. The fact sheet has more information about relying on ATO advice. A regulated self managed superannuation fund (the SMSF) with a corporate trustee (the Trustee) has two members. The trust deed' (the Deed) under which the SMSF was established states that: FORMS OF PENSION Without limiting anything in this Deed, the Trustee and a Beneficiary may agree that the whole or any part of any amount payable to a Beneficiary under this Deed will be paid in one or more of the following forms: (a) a Lifetime Pension; (b) an Allocated Pension; (c) a Defined Pension; (d) a Life Expectancy Pension; and (e) subject to the Superannuation Industry (Supervision) Act 1993 (the SIS Act), any other form of pension that the Trustee chooses to make available at the relevant time. In the early 2000's a member of the SMSF (the Pension Recipient) commenced a pension (the Existing Pension). According to the 'Pension terms and conditions' agreed between the Trustee and the Pension Recipient: (a) the capital amount of the Existing Pension was a specified amount; (b) the pension amount is fixed at a specified amount per annum, subject to variation and adjustment only by the CPI factor; (c) the Existing Pension is payable by the SMSF for the life of the Pension Recipient; and (d) on the death of the Pension Recipient the Existing Pension will revert to the spouse of the Pension Recipient. The Existing Pension is a defined-benefit pension that does not meet the standards in sub-regulation 1.06(2) of the SISR but otherwise falls within the provisions of sub-regulation 1.06(6) of the SISR. The Pension Recipient wishes to commute the Existing Pension and commence an account based pension (the New Pension) with 100% of the balance of the Pension Recipient's account with the SMSF. The reason provided for the proposed commutation is that this will reduce the complexity involved in preparing the financial statements and income tax return for the SMSF due to the complex nature of the Existing Pension. The following submissions have been made to the ATO: · Under sub-regulation 292-25.01(4) of the Income Tax Assessment Regulations 1997 (the ITAR), an allocation from a 'reserve' is a concessional contribution unless one of the exceptions stated therein applies. An amount allocated from a reserve to enable a superannuation fund to discharge its liabilities in respect of a superannuation income stream is an exception under paragraph (b) of that sub-regulation. · As the proposed allocation in this case is to purchase the New Pension, it should be eligible for exclusion from the application of the concessional contributions cap. · Subsection 295-385(3) of the Income Tax Assessment Act 1997 (the ITAA 1997) defines 'segregated current pension assets' as assets that are "invested, held in reserve or otherwise dealt with at that time solely to enable the fund to discharge all or part of its liabilities (contingent or not) in respect of superannuation income stream benefits payable by the fund at that time'. · Consequently, the commutation of one income stream to directly purchase another income stream would suggest that all the assets backing the existing pension can be rolled over to purchase the new pension without giving rise to a contribution.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 292-15 | Income Tax Assessment Act 1997 Section 292-20 | Income Tax Assessment Act 1997 Section 292-25 | Income Tax Assessment Act 1997 Subsection 292-25(3) | Income Tax Assessment Regulations 1997 Regulation 292-25.01 | Income Tax Assessment Regulations 1997 Sub-regulation 292-25.01(4) | Income Tax Assessment Regulations 1997 Paragraph 292-25.01(4)(b) | Income Tax Assessment Regulations 1997 Sub-sub-paragraph 292-25.01(4)(b)(ii)(B) | Superannuation Industry (Supervision) Act 1993 Section 115 | Superannuation Industry (Supervision) Regulations 1994 Sub-regulation 1.03(1) | Superannuation Industry (Supervision) Regulations 1994 Sub-regulation 1.06(2) | Superannuation Industry (Supervision) Regulations 1994 Sub-regulation 1.06(6) | Superannuation Industry (Supervision) Regulations 1994 Paragraph 1.07B(1)(c) | Superannuation Industry (Supervision) Regulations 1994 Sub-regulation 1.07B(3) | Superannuation Industry (Supervision) Regulations 1994 Sub-regulation 1.07B(4) | Superannuation (Excess Concessional Contributions Tax) Act 2007 Section 4 | Superannuation (Excess Concessional Contributions Tax) Act 2007 Section 5 | Taxation Administration Act 1953 Schedule 1, Section 375-55 | Taxation Administration Act 1953 Schedule 1, Subsection 359-5(1)

Reasons for decision: Summary: An amount to be allocated out of a reserve of the SMSF meets the requirements of paragraph 292-25.01(04)(b) of the ITAR if the sole purpose of allocating that amount is to fund part of the New Pension to be commenced by the Pension Recipient. That amount is not a concessional contribution of the Pension Recipient for the purposes of section 292-25 of the ITAA 1997. | Detailed Reasoning - Detailed reasoning: For the purposes of the excess contributions tax (ECT) regime, concessional contributions are defined in section 292-25 of the ITAA 1997. Generally, the concessional contributions of an individual are those contributions that are paid to a superannuation fund for the benefit of that individual and included in the fund's assessable income [subsection 292-25(2)]. The object of Division 292 of the ITAA 1997 on 'excess contribution tax' is to ensure that the amount of concessionally taxed superannuation benefits which an individual receives results from contributions made gradually over the course of the individual's life. As a result, unless specifically excluded, contributions by or on behalf of an individual are counted as either concessional or non-concessional contributions of the individual depending, generally, on whether the contribution is included in the assessable income of the superannuation fund into which the contributions are paid. Under subsection 29-20(1) of the ITAA 1997, an individual has excess concessional contributions for a financial year if the amount of the individual's concession contributions for the year exceeds the individual's concessional contributions cap for that year. If an individual has excess concessional contributions, pursuant to section 292-15 of the ITAA 1997, the individual is liable to pay excess concessional contributions tax imposed under section 4 of the Superannuation (Excess Concessional Contributions Tax) Act 2007 . Pursuant to section 5 of this Act, the amount of the tax is 31.5% of the individual's excess concessional contributions. Section 292-25 of the ITAA 1997 provides guidance on what a concessional contribution is. Generally, it is a contribution made by or for a taxpayer to a complying superannuation fund that is assessable income of the fund. Concessional contributions include: · employer contributions, including those made under a salary sacrifice arrangement; · personal contributions by an eligible person which are claimed as an income tax deduction; · notional taxed contributions in respect of defined benefits; · other amounts that are included in the assessable income of the superannuation fund (for example the shortfall component of superannuation guarantee charge paid to a fund by the Australian Taxation Office); · any amount of the taxable component of a directed termination payment that is in excess of $1 million; and · an amount allocated by a complying superannuation fund in accordance with the conditions specified in the ITAR [subsection 292-25(3) of the ITAA 1997] Concessional contributions do not include: · a rollover superannuation benefit from a complying fund (even if the amount rolled over includes an untaxed element that is included in the fund's assessable income); · personal contributions not claimed as an income tax deduction; · an amount transferred from a foreign superannuation fund; · the tax-free component of a directed termination payment; · the taxable component of a directed termination payment that is less than $1 million (if this $1 million has not already been reduced by any taxable component(s) of any transitional termination payment(s) or directed termination payment(s) made previously to or on behalf of the taxpayer); and · contributions made to a constitutionally protected fund. Sub-regulation 292-25.01(4) of the ITAR applies, with exceptions, to determine whether an amount that is allocated from a reserve is a concessional contribution for the purposes of subsection 292-25(3) of the ITAA 1997. Relevantly, paragraph 292-25.01(4)(b) of the ITAR excludes an amount that is allocated from a reserve from being treated as a concessional contribution if: (i) the amount is allocated from a reserve used solely for the purposes of enabling the fund to discharge all or part of its liabilities as soon as they become due, in respect of superannuation benefit income stream benefits that are payable by the fund at that time; and (ii) any of the following applies: (A) … (B) on the commutation of the income stream, except as a result of the death of the primary beneficiary, the amount is allocated to the recipient of the income stream, to commence another income stream, as soon as practicable; (C) … There is no definition of 'reserve' in the ITAA 1997 or the ITAR 1997. Sub-regulation 1.03(1) of the SISR provides that: reserves , in relation to a superannuation entity, means reserves maintained under section 115 of the Act. Section 115 of the SIS Act states that: (1) A trustee of a superannuation entity may maintain reserves of the entity. (2) Subsection (1) does not apply if the governing rules of the entity prohibits the maintenance of reserves. The meaning of 'reserve' for the purpose of the SIS Act was discussed in Re VBN and Australian Prudential Regulation Authority (No 5) by Deputy President Forgie and Senior Member Pascoe of the Administrative Appeals Tribunal. In their join decision, the Deputy President and Senior Member considered at paragraph 442 that the word 'reserves' in section 115 of the SIS Act did not have a specialised meaning that differs from its ordinary English meaning. They observed that both standard and specialist dictionaries gave consistent meanings that conveyed the notion of 'actual monetary funds or asset' that were 'put aside to meet future contingencies and demands'. At paragraph 445 they also stated that for the purposes of section 115 of the SIS Act a reserve is normally a specific sum allocated or recognised by an entity as a reserve. Further, the Macquarie Dictionary gives the ordinary meaning of the noun 'reserve' as 'an amount of capital retained by a company to meet contingencies, or for any other purpose to which the profits of the company may be profitably applied…something reserved, as for some purpose or contingency; a store or stock'. The Encyclopaedic Australian Legal Dictionary does not have a meaning for 'reserve' in the taxation context but it does include a meaning for 'reserve fund' as follows: An accounting allocation to a reserve account comprised of a pool of certain assets which are readily realisable and retained for a specific purpose. For example, a sinking fund for the redemption of shares or bonds. The assets usually comprise cash and investment securities. Also known as 'statutory required reserve fund'. 'Reserve' is used with different meanings in separate provisions of the ITAA 1997. It is used in subsection 295-385(3) of the ITAA 1997 in the meaning of segregated current pension assets. Such assets are described in that subsection as being 'invested, held in reserve or otherwise dealt with' ( italics added) 'solely to enable the fund to discharge all or part of its liabilities in respect of superannuation income stream benefits that are payable by the fund'. Relevantly, paragraph 292-25.01(4)(b) of the ITAR 1997 refers to a reserve being used 'solely' for the purpose of enabling the fund to discharge its liabilities in respect of the payment of superannuation income stream benefits. The Macquarie Dictionary defines 'solely' as meaning 'exclusively or only', and the Oxford Dictionary defines it as 'not involving anyone or anything else: only'. It follows then that in order for the reserve to meet the condition prescribed in sub-regulation 292-25.01(4) of the ITAR 1997, it must be used exclusively for that purpose. You have stated that the Pension Recipient intends to commute the Existing Pension, which commenced in the early 2000's and is regulated under sub-regulation 1.06(6) of the SISR, into the New Pension. One of the standards that applies to pensions regulated under this sub-regulation is that: If, under the rules, the pension can be commuted - except if conversion is in relation to a commutation to pay a superannuation contributions surcharge, the conversion to a lump sum is limited to a sum that is not greater than the sum determined by applying the appropriate pension valuation factor under Schedule 1B to the pension as if the commencement day were the day on which the commutation occurs (paragraph (g) Relevantly, sub-regulation 1.06(1A) of the SISR provides that: A benefit that commenced to be paid before 20 September 2007 is taken to be a pension for the purposes of the Act if: … (d) for a benefit that is provided under rules of a superannuation fund that meet the standards of subregulation (2), (6) or (7) - the rules also meet the standards of regulation 1.07B; and … Regulation 1.07B of the SISR applies to the commutation of a pension that meets the standards of sub-regulation 1.06(6) of the SISR. Sub-regulations 1.07B(3) and (4) states that: (3) The contract or rules, meet the standards of this regulation if the contract or rules ensure that the annuity or pension cannot be commuted, in whole or in part, unless: … (a) the annuity or pension has paid, in the payment year in which the commutation is to take place, at least the minimum amount under subregulation (4). (4) For paragraph (3)(c), the minimum amount is calculated using the formula: Minimum annual amount × Days in payment period Days in payment year … You have stated that: In the event that the assets supporting the Existing Pension exceed the maximum commutation amount dictated by regulation 1.06 [of the] SISR, the capital amount that is unable to be commuted will form a reserve of the SMSF. That is, the difference between the permitted lump sum and total Existing Pension assets must be allocated to a reserve… With respect to the exception allowed under paragraph (b) of sub-regulation 292-25.01(4) of the ITAR, you have stated that: …where an allocation is made from a reserve to satisfy a pension liability, in this case to purchase a new pension superannuation income stream… | Detailed Reasoning - Conclusion: Based on the information available and provided that the amount to be allocated out of a reserve of the SMSF meets the requirements of paragraph 292-25.01(04)(b) of the ITAR, we concur with you that the amount so allocated, the sole purpose of which is to fund part of the New Pension to be commenced by the Pension Recipient, is not a concessional contribution of the Pension Recipient under section 292-25 of the ITAA 1997.

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