Does a TRIS add value? | Accurium

Does a TRIS add value

Is a transition to retirement income stream still worthwhile? 

To access superannuation, an individual needs to meet a condition of release.

One of the conditions of release is attaining preservation age which entitles a person to access their superannuation in the form of an income stream, with a restriction that a maximum of up to 10% of balance can be accessed as pension payments.

Such income streams are commonly referred to as transition to retirement income streams (TRIS). They have been a powerful structure in financial planning since their advent in July 2005. However, with progressive reduction of the concessional contributions cap since 1 July 2007 and with the removal of earnings tax exemption on TRIS from 1 July 2017, many have questioned whether TRIS continue to have merit in financial planning.

This article takes you through some of the common applications of TRIS and highlights that TRIS can continue to add strategic value.

What is a TRIS?

A TRIS at its simplest form is an income stream which consists of preserved funds in part or in full. While one can be commenced when an individual reaches their preservation age, their TRIS is still preserved unless they meet another condition of release, typically retirement, which entitles them for a full release of their super benefits, including commencing an unrestricted account-based pension or purchasing a lifetime annuity.

Preservation age

Preservation age depends on a person’s date of birth and is gradually increasing to 60 for those born on or after 1 July 1964. Those born before 30 June 1962 have already reached their preservation age when they turned 57.

Table 1: Preservation age
Date of birth  Preservation age 
Born before 1 July 1962 Already reached preservation age 
1 July 1962 to 30 June 1963 58
1 July 1963 to 30 June 1964 59
On or after 1 July 1964 60

Taxation of TRIS payments

TRIS payments are taxed to the individual based on the tax components of the pension payments.

Table 2:Taxation of TRIS pension payments

Tax components 

From preservation age and under 60 

60 or over 

 Tax-free component  Tax-free  Tax-free
 Taxable component - element taxed  Taxed at marginal tax rate (MTR) with a 15% offset  Tax-free

Where the individual turns 60 in a financial year, pension payments arising from the taxable component received before they turn 60 are taxed at MTR with a 15% offset. Pension payments received on or after the day the individual turns 60 are tax-free.

Payment restrictions of a TRIS

A TRIS has to pay a minimum of 4% with a maximum limit of 10% of the commencement value. An individual can choose pension payments anywhere between their minimum and maximum payment limit. Where a TRIS is commenced part way through the financial year, the minimum is pro-rated but the maximum is not. If a TRIS is commenced on or after 1 June, no payment is required in that financial year. The payment limit is then re-calculated based on the income stream account balance at the start of each financial year.

Earnings tax exemption

From 1 July 2017, a TRIS is no longer considered to be a retirement phase income stream. This means that earnings of a TRIS are taxed at the same rate as accumulation phase – maximum of 15%.

Transfer balance cap

As a TRIS is not considered to be a retirement phase income stream, commencement of a TRIS does not give rise to a credit towards an individual’s transfer balance account for the purposes of the transfer balance cap ($1.6 million in 2019-20). However, once the TRIS is considered to be a retirement phase income stream, the value at that time gives rise to a credit for the purposes of the transfer balance cap. Please note, different rules apply when an owner of a TRIS dies and a death benefit income stream is paid to a beneficiary.

When does a TRIS cease and become a retirement phase income stream?

It is important to understand when a TRIS ceases and events which cause it to be a retirement phase income stream. Once a TRIS ceases and it is considered to be a retirement phase income stream, it no longer has a maximum payment limit of 10%. It is also eligible for earnings tax exemption at that time with a credit for transfer balance cap purposes.

A TRIS ceases when a person:

  • Turns 65
  • Meets the retirement condition of release
  • Meets the Total and Permanent Disablement condition of release 
  • Meets the terminal medical condition of release 
  • Dies and has nominated a reversionary beneficiary

A TRIS will move automatically into the retirement phase as soon as the individual reaches age 65. For the other conditions of release listed above, an individual needs to notify and/or apply to their super provider for the TRIS to move into the retirement phase. In these cases, the TRIS will move into the retirement phase at the time the provider is satisfied that a condition of release is met.

Proportioning rule

While the earnings of a TRIS at the product level or within the SMSF are taxed in the same way as accumulation, it is still considered to be an income stream. Therefore, pension payments are received in the same proportion of tax components as at commencement. Earnings are also applied to the tax components in the same proportion as at commencement. The proportioning rule effectively means that the proportion of tax components backing the TRIS are fixed based on the proportion at commencement.

Strategic applications of TRIS

Given that a TRIS enables up to 10% of a client’s superannuation balance to be accessed prior to retirement, financial advisers find many strategical applications of commencing a TRIS. These include simply accessing some of the superannuation savings, using the income stream to accelerate accumulation of retirement savings, replacing lost income when reducing working hours and estate planning considerations, all which we will consider below.

TRIS income swap strategy

A TRIS income swap strategy involves commencing a TRIS while working and using the TRIS pension payments as additional income to allow for salary sacrifice or personal deductible super contributions. This is one of the most popular use of TRIS enabling an acceleration of retirement savings. Generally, this strategy would be used by a person less than 65 years old who does not meet the retirement condition of release and does not have enough disposable income to maximise their concessional contributions cap.

Example – TRIS income swap strategy

Anjali, aged 60, is working full time, earning $100,000 p.a. To date, she has not been making voluntary super contributions as she has minimal surplus cashflow. She has a super balance of $200,000.

Table 3 looks at the application of a TRIS income swap strategy and how Anjali can receive identical disposable income but simultaneously also increase her retirement savings. 

Table 3: TRIS income swap strategy1
 

No income swap strategy

Income swap strategy

Salary  $100,000 $100,000
Superannuation Guarantee $9,500 $9,500
Salary sacrifice / personal deductible super contributions  Nil $15,500
Contributions tax $1,425 $3,7502
TRIS pension payments Nil $9,403
Taxable income $100,000 $84,5003
Tax including Medicare Levy $25,717 $19,620
Take home pay $74,283 $74,283
Net contributions to super $8,075 $21,2504
Net additional super funds Not applicable $3,7725

A TRIS income swap strategy would typically involve consolidating accumulated savings with the TRIS balance from time to time to maximise the strategy in future years.

Using the TRIS income swap strategy, Anjali was able to increase her retirement savings by $3,772 in the first year. Assuming that Anjali retires at age 65, using the income swap strategy over five years could provide a significant boost to her retirement savings.

While the above example highlights the income swap strategy for an employee, similar dynamics exist for a self-employed person, except for the fact that their available concessional contributions cap is not being consumed by super guarantee (SG) contributions.

Use of TRIS income swap strategy based on different levels of income

The value of a TRIS income swap strategy differs based on an employee’s income. The higher income they earn, the more the concessional contributions cap ($25,000 in 2019-20) is being consumed by 9.5% SG, which results in a comparatively lower amount which can be voluntarily contributed. Therefore, the efficacy of the income swap strategy usually reduces the more the individual earns.
 
Table 4 looks at the value of the income swap strategy for individuals aged over 60 in similar circumstances to Anjali where they don’t have enough surplus disposable income and need the TRIS payments to supplement concessional contributions to have the same level of disposable income. Any surplus income due to the 4% minimum payment on the $200,000 TRIS balance is contributed as a non-concessional contribution.
 
Table 4: Value of TRIS income swap strategy of different levels of income.
Income    Net additional super funds due to income swap strategy 
$75,000    $3,629
$100,000    $3,772
$125,000    $3,543
$150,000    $2,580
$200,00    $1,920

What if Anjali was over preservation age but under 60?

TRIS pension payments were tax-free as Anjali was over 60. If she was under 60, pension payments consisting of taxable component – element taxed are taxable at her marginal tax rate with a 15% tax offset as per Table 2. Broadly, taxation of pension payments for someone under 60 cancels some of the benefit of the TRIS income swap strategy.

However, if Anjali had a significant tax-free component backing the TRIS, then there may still be value in implementing the income swap strategy.

Application of the unused concessional contributions cap in 2018-19

Traditionally, the concessional contributions cap has worked on a use it or lose it basis. However, from 1 July 2018, an individual has been able to accrue unused amounts of the concessional contributions cap for a maximum of five years. The unused amounts can then be used in the following financial years as long as their total super balance at the end of the previous financial year was less than $500,000.

Applying this to Anjali, as she has not been making voluntary contributions to date, her unused concessional contributions cap was $15,500 from 2018-19. This means in 2019-20, the amount she can make as voluntary concessional contributions, allowing for SG of $9,500, is $31,000 ($15,500 + $15,500). Having a higher voluntary concessional contributions cap to work with could allow for a bigger benefit from the TRIS income swap strategy.

Table 5: TRIS income swap strategy with unused concessional contributions
  No TRIS income swap strategy TRIS income swap strategy with unused concessional contributions from 2018-19
Salary $100,000 $100,000
Superannuation Guarantee $9,500 $9,500
Salary sacrifice / personal deductible super contribution Nil  $31,000
Contributions tax $1,425 $6,075
TRIS pension payments  Nil $19,555
Taxable income  $100,000 $69,0006
Tax including Medicare Levy $25,717 $14,272
Take home pay $74,283 $74,283
Net contributions to super $8,075 $34,425
Net additional super funds Not applicable $6,7957

As evident from the above table, with the ability to salary sacrifice the unused concessional contributions cap from 2018-19, the value of the TRIS income swap strategy to Anjali is much higher compared to just salary sacrificing the difference between the standard concessional contributions cap and SG.

Using a TRIS to receive up to 10% as pension payments

Another popular use of TRIS is to simply access up to 10% of TRIS balance as a pension payment. Commonly, this is used to replace lost income when reducing working hours or provide cashflow for any other desired reason.

Going back to Anjali, she reduces her working hours to 4 days a week, now earning $80,000 per annum. With a super balance of $200,000, she can receive up to 10% of her balance to replace the reduced income.

Table 6: Using to replace reduced income
  Full time hours  Part-time hours
Salary $100,000 $80,000
Tax including Medicare Levy $25,717 $18,067
TRIS pension payments Nil $12,350
Take home pay $74,283 $74,283

Using a TRIS for proportioning advantages

As briefly discussed earlier, while a TRIS is not considered to be a retirement phase income stream from a tax perspective and therefore does not receive a tax exemption on earnings, it is still a super income stream. It’s classification as a super income stream means that it continues to operate under the proportioning rules in relation to tax components being fixed at commencement. This proportioning rule can also be of benefit for those with estate planning wishes.

Example – proportioning rule

Anjali, aged 60, sold an investment property and wishes to contribute $300,000 as a non-concessional contribution to benefit from the concessional tax rates in superannuation. Her existing superannuation balance is $200,000, consisting entirely of taxable component.
 
She can use the bring-forward rule to make a non-concessional contribution of $300,000 as her total superannuation balance at 30 June 2019 was below $1.4 million and she has not used the bring-forward rules in the last two financial years. She does not need any income from her superannuation as she has existing surplus income. She is concerned about super death benefit tax whereby her non-dependent beneficiaries pay up to 17% tax on taxable component.
 
A consideration is whether the $300,000 contribution is retained in accumulation phase or whether a TRIS can offer any strategical advantage.
 
If she leaves the funds in accumulation phase, whilst the initial contribution is added to the tax-free component, any future earnings are added to the taxable component. If however, a TRIS is started with the $300,000 contribution, then upon commencement, it will consist entirely of tax-free component. As the TRIS tax components are fixed based on proportion at commencement, this means that any future earnings will be added entirely to the tax-free component.
 
If we assume that the $300,000 contribution delivers a constant return of 5% each year for the next 5 years, then if Anjali unfortunately passes away after 5 years and a super death benefit is paid to her non-dependent beneficiaries, then starting a TRIS has offered the benefit outline in Table 7.
 
Table 7: Proportioning rule estate planning advantage of TRIS
After 5 years Accumulation phase TRIS 
Tax-free component $300,000 $354,268
Taxable component $82,885 Nil
Super death benefit tax $14,090 Nil
Cumulative pension payments Nil $64,239
 
One disadvantage of commencing a TRIS is that she will be required to receive at least a minimum payment of 4% until she reaches age 65, which could deplete her TRIS balance as Table 7 shows. However, she could overcome this hurdle by contributing any excess savings built up outside super when she has non-concessional contribution cap space available in a future year. To maximise tax-free component, upon recontributing in a future year, she could consolidate her TRIS balance with the recontributed amount.  

Using a TRIS to implement a similar strategy to cash-out and recontribution strategy 

The cash-out and recontribution strategy may be useful from an estate planning perspective when a client is planning to reduce potential super death benefit tax paid by non-dependent beneficiaries. This strategy may be particularly useful for those who have a balance well in excess of $300,000 so that the conversion of taxable component to tax-free component can be proactively maximised. 

Example – TRIS to implement a quasi cash-out and recontribution strategy

Anjali, aged 60, has a super balance of $500,000, consisting entirely of taxable component. She plans to retire when she turns 65. While she does have a spouse, there is a concern around the tax her non-dependent beneficiaries might pay should they both pass away at the same time. Even where her spouse inherits her super balance, there is a concern that the spouse may not be able to effect a recontribution strategy in the future (for example due to either not being able to contribute based on their age and/or restrictions imposed by non-concessional contributions cap).

Anjali commences a TRIS, receives $50,000 (10% of $500,000 commencement balance) as a pension payment and recontributes this to superannuation as a non-concessional contribution. To ensure that recontributed funds remain as tax-free component, she starts a new TRIS with the recontributed funds. She starts a TRIS with the $50,000 contribution, whereby she would need to receive a pro-rata minimum of 4%. In year two, based on account balances on 1 July, she would draw out 10% from her larger, mostly taxable TRIS balance and draw 4% from the smaller, mostly tax-free TRIS and contribute this amount as a non-concessional contribution.

The recontributed amount from year two would then be consolidated with the smaller TRIS and any increase in accumulation phase (from salary sacrifice, personal deductible contributions and SG) is consolidated with the larger TRIS. This arrangement is repeated until she turns 65, whereby she meets a condition of release allowing for full release of her super benefits. At this point Anjali could then do a higher recontribution strategy from the income stream which consists entirely of taxable component, subject to the bring-forward non-concessional contributions cap, at that time.

Using a TRIS to equalise account balances for transfer balance cap purposes

The transfer balance cap ($1.6 million in 2019-20) imposes a restriction on the amount of superannuation savings which can be transferred/retained in retirement phase income streams. Where one member of a couple has a higher super balance which is approaching the transfer balance cap, or where the couple have combined balances exceeding the transfer balance cap, a TRIS could assist to proactively equalise their super balances. 

Example – TRIS to equalise super balances

Anjali’s spouse, Raja, aged 60, has a super balance of $2 million. He continues to work as a full-time IT consultant. They both plan to retire at age 65, and with concessional contributions up to the cap as well as estimated earnings of 4.4% (net of taxes and fees), he is projected to have $2.6 million in his super at age 65. Anjali has $500,000 in her superannuation.

Assuming the transfer balance cap is indexed to $1.8 million in five years time when he retires, if Raja does nothing, he could only transfer $1.8 million into a super income stream (including a lifetime annuity) with the remainder to remain in his accumulation phase or taken as a lump sum. Alternatively, he could do a cash-out and contribution to Anjali’s super account subject to the non-concessional contributions cap.
 
A TRIS could assist Raja to proactively equalise super balances before retirement so that the amounts in his tax-free retirement income structures are maximised. Raja commences a TRIS with his super balance and in an endeavour to equalise super balances as well as convert some of the taxable component to tax-free component, he receives $100,000 pension payment and contributes this to Anjali’s super account. This is repeated each year so that at retirement Raja has been able to reduce his super balance by $500,000 (ignoring indexation of the non-concessional contributions cap) and at retirement, a higher spouse recontribution strategy can be carried out within the bring forward non-concessional contributions cap at that time. The equalisation strategy has also assisted with converting some of his taxable component to tax-free component in Anjali’s account.
 
Generally, a super trustee is required under superannuation law to identify once each financial year, if an individual has multiple accumulation accounts within the same fund8. If it is in the best interests of the member, the trustee is then required to consolidate those multiple accounts to one account. As such, it is recommended that wherever an individual has deliberately set up multiple accumulation accounts with distinct tax components, either the trustee is contacted to ensure that consolidation does not occur or where this is not possible, to avoid any unintended consequences, the recontribution is made to a different superannuation fund separate to their existing fund.

Using a TRIS for Centrelink sheltering strategy

Superannuation in accumulation phase is exempt from Centrelink assessment if the person is under the qualification age for the Age Pension (currently age 67 for anyone born on or after 1 January 1957). Another popular strategy to maximise Age Pension, is to cash-out super savings from the spouse who has reached pension age to their younger spouse, who hasn’t yet reached qualification age for the Age Pension.
 

Example

Raja aged 60, has accumulated super savings of $1 million. His spouse, Anjali, who is five years younger, is retired and she has no superannuation. Raja plans to retire when he reaches age 67, which is his qualification age for the Age Pension. They have no other significant assessable assets and wish to maximise Raja’s pension.

The current Age Pension assets test disqualification limit for a couple who own their home is $863,500. Assuming in 7 years time, the disqualification limit is indexed to $1.045 million (based on approximately 2.8% CPI) and Raja’s super savings with contributions (fully using the concessional contributions cap each year until retirement) and earnings (based on 4% net of taxes and fees) increases to approximately $1.48 million, his assessable assets are well in excess of the disqualification limit. Assuming the non-concessional contributions cap is also indexed to $120,000 on an annual basis in seven years time, while Raja could do a cash-out and recontribution of $360,000 using the future non-concessional bring-forward cap, his assessable assets will still be in excess of the disqualification limit ($1.12 million in assessable assets is greater than $1.045 million Age Pension disqualification limit), which would mean he does not receive the Age Pension when he turns pension age.

A TRIS could assist in proactively considering the sheltering strategy by using the 10% maximum payments from Raja’s account each financial year until retirement to make a spouse contribution to Anjali’s account each year. Raja could reduce his assessable assets by making a spouse contribution up to the annual non-concessional contributions cap for six years and up to the bring-forward amount in the final year, significantly increasing his Age Pension entitlements for a five year period until Anjali reaches pension age.

Footnotes

1.Assumes that employer doesn't reduce Superannuation guarantee (SG) entitlements based on post salary-sacrifice income. It is proposed by Government that from 1 July 2020, an employer can't use salary sacrifice towards SG obligations and neither can they satisfy their SG obligations on post salary sacrifice income.
2.  $25,000 x 15%
3.  $100,000 x $15,500
4.  $25,000 – $3,750.
5.  $21,250 – $8,075 – $9,403.
6. $100,000 – $31,000.
7. $34,425 – $8,075 – $19,555.
8. SIS Section 108A does not apply to SMSFs and pooled superannuation trusts, although a similar rule applies in SMSFs where a member can only have one accumulation interest.