By – Uday Mitra
In Part I, I discussed certain concepts that apply to the rules of the relationship between superannuation and taxation. Now, I will discuss certain concepts before taxation rules relevant to superannuation.
Compulsory Contributions v Salary-sacrifice Contributions
Compulsory contributions are contributions that employers make under the Superannuation Guarantee laws for their employees. The rate of contributions currently is 9.5% of the total salary or wages paid to an employee. This 9.5% rate is scheduled to continue until the 2020/21 financial year and is due to increase to 12% from the 2025/26 financial year. No Superannuation Guarantee contributions are required for self-employed persons.
Salary-sacrifice contributions arise where an employer makes contributions for an employee in excess of the compulsory contributions required for that employee, at their request. In such a case, a particular employee’s gross salary before income tax is reduced by the additional contributions made for the employee. Hence, these extra contributions are known as ‘salary-sacrifice contributions.’
As per superannuation and taxation regulations, these salary-sacrifice contributions are the same as compulsory Superannuation Guarantee contributions. Salary-sacrifice contributions are a very powerful tool in reducing an employee’s total tax liability on gross salary income before tax.
Employer Contributions v Member Contributions
Employer contributions are contributions made by an employer for an employee. These include Superannuation Guarantee contributions, salary-sacrifice contributions and other contributions made under an employer’s own scheme. Examples of the last category of employer additional contributions are frequently found in cases of public (i.e. government) sector and large corporate employer superannuation arrangements.
Member contributions are made by members for their own benefit. An example is contributions made by self-employed persons who do not receive from the employer. Other examples include contributions by employees who contribute under a “contributory” scheme operated by their employers.
In many cases, self-employed persons operate through incorporated companies where they are the sole shareholders. Here, the companies contribute for their shareholder/employees. These contributions are employer contributions, even though in effect, the members arrange their companies to make contributions out of their self-employment income. Many medical practitioners adopt this practice.
Concessional v Non-concessional Contributions
The concept of concessional and non-concessional contributions is the taxation treatment of contributions. Concessional contributions are contributions for which the contributor obtains a deduction in calculating their taxable income. For example, employers receive tax deductions for their Superannuation Guarantee and any other types of contributions. Hence, all employer contributions are ‘concessional contributions’. Similarly, most self-employed person contributions are concessional contributions.
Own Contribution v Spouse Contribution
Own contributions refer to contributions made by a member for their own benefit. Generally, employer and self-employed persons’ contributions fall into this category. Spouse contributions are contributions are made by a member for the benefit of their spouse. A husband may make contributions for the benefit of their wife, and vice versa. Contributions can be made for a child under 18 years of age too.
As I noted in Part I, a superannuation fund is established for the sole purpose of paying benefits to a member upon the member’s retirement from employment and any other gainful employment. Except in certain specified circumstances, a superannuation fund cannot pay benefits to a member or their dependants before the member so retires. The rules allow benefits to be paid to a member upon the member reaching age 65, whether or not the member has so retired. Further, benefits can be paid to a member’s dependants if the member dies before retirement.
Benefits can also be paid in certain other circumstances, such as temporary disablement due to sickness or injury, and total and permanent retirement, before the member retires.
Lump Sum Benefits v Income (Pension) Benefits
A superannuation fund may pay retirement benefits either lump sum or in regular income payments. Or partly lump sums and partly regular income streams. These regular income streams are known as ‘pensions.’
A principal objective of providing tax concessions for superannuation is to encourage retirees to take pensions rather than lump sums. Receiving pensions is more tax-effective than taking lump sums.
Preserved Benefit v Non-preserved Benefit
Superannuation rules prevent a superannuation fund from paying benefits before a member retires after reaching a specified retirement age. Amounts accumulated in a superannuation fund for a member are classified into two broad categories: ‘preserved benefit’ and ‘non-preserved benefit’.
A preserved benefit is part of a member’s total accumulated amount that cannot be paid before the member retires, or the member meets any of the other ‘conditions of release’ for payment of the benefit. The age so specified is known as the ‘preservation age.’ This preservation age is 55 years for a person who was born before 1 July 1960, and 60 years for a person who was born after 30 June 1964. Transitional ages of 56 to 59 to persons born during the intervening period.
A member’s total accumulated amount less the preserved benefit component is known as ‘non-preserved benefit.’ A non-preserved benefit can be paid upon a member’s retirement from gainful employment at any time.
Relationship between Superannuation and Taxation
In 2016 Federal Budget article, I noted that the Government was proposing to make certain changes to the taxation rules of superannuation. These changes are aimed at improving the net budgetary position.
In Part I, I noted the award superannuation as from 1986 introduced and recognised that these employer contributions were a part of the wages outcome negotiated with unions. Thus, since 1986, employer contributions have assumed the character of ‘deferred wages’.
Cash salaries or wages received by employees are taxed as the salaries or wages are earned by employees, but no income tax imposed on employees on that part of the salaries that take the form of employer superannuation contributions. The Government does not collect tax from employees on these contributions (i.e. deferred wages) at the time the wages are paid.
Since the Government foregoes income tax revenue at the time these contributions are made, superannuation tax concessions have a detrimental effect on the tax revenue collected from year to year.
In subsequent articles, we will discuss the effects on tax revenue from the superannuation tax concessions by the Government and their impact on various income groups.
Uday Mitra is a practising chartered accountant and tax adviser.