This year’s federal budget was a little weird. There was nothing to write about as far as any announcements directly involving the superannuation industry so it was an early night for yours truly. And, of course, we didn’t expect any measures aimed at the industry given all of the angst Division 296 has caused over the past three-and-a-half years.
This analysis is all based on the surface value of what Treasurer Jim Chalmers handed down on 12 May, but now some of the dust has been allowed to settle since that night, we are discovering the true implications for the superannuation sector and some of them are really ugly.
However, not all of it was bad news, so let’s start with the positives. The really good outcome for superannuation is the change to the 50 per cent discount allowable against an asset held for 12 months will not apply to super funds. That really is such a relief for taxpayers as it unequivocally confirms the position of super funds as the most tax-effective savings vehicle available to Australians.
This carve-out may also have provided a clearer path forward for those people who will be ‘in scope’ for the Division 296 tax. How so? It may have ended the argument as to whether to invest inside the super environment or outside of the definitive tax advantage mentioned above.
But that’s the extent of the good news. The bad news comes in the form of the government’s decision to impose a minimum 30 per cent tax on discretionary trusts. This doesn’t seem to be such a big deal at face value, but as it stands actually has the possibility of having a massive impact on the superannuation sector.
The reason being is this measure has to be examined with estate planning in mind. To this end, trusts do play an integral role for many Australians when looking to effectively allocate death benefits in a responsible manner.
In this context it is testamentary trusts that are used initially as part of an estate planning strategy. A decision to employ one is usually made when the member in question is a little worried a substantial amount of inheritance money will be mindlessly frittered away by the recipient. As such, they employ the added access safety net of a trust structure.
That’s all well and good, but this is where one particular budget announcement bites here. The testamentary trust is ‘transitioned’, if that is the right description, to a discretionary trust to facilitate the distribution of the death benefits.
Up until now this practice has been fine as tax has then been levied on the beneficiary at their marginal tax rate when they get the money into their bank account.
However, from 1 July 2028, a 30 per cent minimum tax will be applied at the trust level before any distributions are even made. In addition, the new impost will not prevent the individual from paying tax on this source of income, but there are some rules to mitigate this element of the measure.
Here, if the individual’s personal marginal tax rate is already higher than 30 per cent, they will have to pay additional tax on the trust distribution. If the person’s marginal rate is lower than 30 per cent, they won’t receive a refund for the excess tax.
Already discussions are taking place as to whether testamentary trusts can be used in conjunction with fixed rather than discretionary trusts from 1 July 2028 onwards. Sounds okay, but there is a very important downside to this approach.
Fixed trusts apply a fixed entitlement to the income and capital of the structure and so offer no discretion to trustees to vary allocations. More importantly, discretionary trusts separate legal ownership from personal ownership of assets. It means, for example, creditors of the beneficiaries will not have any access to the assets held in the trust. Fixed trusts do not provide this level of protection.
It may mean in future years individuals formulating a superannuation estate plan will have to make a choice between tax effectiveness stemming from a fixed trust and asset protection provided by a discretionary trust.
As usual, the devil will be in the detail and we are yet to be provided with this.