Super funds have been allowed to offer many different types of pensions over the years. People like me who have spent all our working lives immersed in super and its various rules have become used to this. But for the vast majority of people, the pension rules can be quite confusing.
Over the next two columns I’ll cover six different pensions that have been permitted since 1994 and the rules that must be followed for each of these. But before we look at specific pension types, it’s important to understand some particular issues about pensions:
- A super fund can only offer and pay a pension if it’s specifically permitted by the super fund’s trust deed.
- Some super fund trustees will provide their prospective pensioner members with a Product Disclosure Statement, which is a document designed to explain the benefits available from a pension.
- Some trustees give a pensioner member a ‘pension agreement’ when the pension commences which details most specific design features of a pension.
In my experience, most SMSF trustees don’t seem to worry about these particular documents. The typical way for an SMSF to note that it has commenced a pension is to make sure there is a trustee minute on file. Because of an Australian Tax Office ruling on income streams released in July this year (read Draft rules have SMSFs up in arms), I believe that in time this attitude will need to change and SMSF trustees will have to begin issuing these documents.
Account-based pensions are the most popular type of pension paid from Australian super funds.
The pension commences when the member deposits some or all of their super money into the pension. This is often called the ‘purchase price’ or initial account balance and is used to work out the amount of income paid in the first year.
The pension’s account balance is increased by net investment earnings (gross earnings less investment) on the pension’s assets.
Each pension payment – or lump sum withdrawal if they’re permitted – reduces the pension’s account balance. Administration expenses also reduce the pension account balance.
Each 1 July, the trustee and member agree on the income to be paid as a pension. This amount can’t be less than the minimum income, which has to be worked out using the net market value of the pension’s assets as at that date.
At a practical level, most SMSF trustees won’t know the market value of their pension assets until many months after 1 July. In many SMSFs the same problem often occurs when a pension commences – the precise purchase price isn’t known for some months after commencement.
Trustees need to make an effort to work out the minimum pension as early as possible and put arrangements in place so they make sure the minimum income is paid each year.
On the whole, these products are very flexible. Prior to age 80, the required minima are quite low and, if required, the whole pension’s account balance can be taken as income if the member and trustee agree.
As many of you will know, the GFC and its lingering effects caused the Government to reduce the minimum required pension payments for the last several years so that funds that had been depleted were not forced to pay out large sums . However, this concession is expected to disappear on 30 June 2012.
It’s helpful to know that most account-based pensions allow the pensioner to commute (that is, stop) the pension in part or full and take out a lump sum payment.
For the remaining ways to pay a pension, read Part Two of this column in Thursday’s Switzer Super Report.
Important information: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. For this reason, any individual should, before acting, consider the appropriateness of the information, having regard to the individual’s objectives, financial situation and needs and, if necessary, seek appropriate professional advice.