The legislation allowing couples to divide their superannuation on the breakdown of their marriage was introduced in response to widespread concern that superannuation was not able to be dealt with as property of a marriage under the Family Law Act 1975.
The new law, which came into effect on December 28, 2002, only applies to married couples. It will generally not apply to separated/divorced couples who finalised their property settlement before December 28, 2002, nor to de facto relationships.
While the new law may seem like a blessing to some, there can be significant tax consequences if careful consideration is not given to how super will be split between the member spouse and non-member spouse.
How the new rules work
The separation process
Following the breakdown of marriage, couples may split their superannuation in any proportion, unless the withdrawal value is less than $5,000. This can be achieved in one of two ways:
• a binding financial agreement, that is, couples agree on how the super will be split; or
• settlement through the Family Court, via a court order.
A copy of the agreement or court order is given to the trustee, who then provides the member and non-member with a payment split notice. Upon receipt of the notice, the non-member has 28 days to decide how they want to receive their payment.
Payment options fornon-members
The non-member has three options for receiving their payment. (Note: these payment options may not apply to certain funds, such as a defined benefit fund.)
1. Creation of a new interest in the same fund (unless the governing rules of the fund do not allow this).
2. Roll over of benefits to a fund of the non-member’s choice.
3. Receive a lump sum payment, provided the non-member has met a condition of release. The non-member may also take a lump sum if the member only had unrestricted non-preserved benefits.
Preservation, ETPs and othertax consequences
In deciding how the super assets should be split, it is important to carefully examine the tax consequences. This is where the planner can add value in the settlement process.
Preservation:The preservation components of the member’s super will be split proportionately. For example, if the member’s preservation components are $50,000 preserved and $50,000 unrestricted non-preserved, the non-member will receive $25,000 preserved and $25,000 unrestricted non-preserved.
Eligible Termination Payment(ETP) components: Member:The member’s fixed ETP components, such as undeducted contributions, will be split proportionately. If the member has a significant level of pre-1983 service, it may not be tax effective to split their super assets. In this case, it may be worthwhile considering the tax saving of splitting other asset(s).
Non-member:Regardless of how the non-member elected to receive their payment, a deemed ETP will arise for the non-member that is equal to their payment. The non-member will be entitled to receive a proportion of the member’s fixed ETP components, but they do not inherit the member’s eligible service period, that is, the start date.
ETP thresholds:The splitting of the member’s benefit will not reduce their tax-free ETP threshold. As the non-member’s benefit will be assessed against the non-member’s ETP threshold, there is in effect the potential to create a second ETP threshold. This could effectively reduce lump sum tax overall, especially if the non-member has little or no super.
RBLs:Any payment made to the member or non-member will be measured against their own RBLs. This may provide an advantage if the member has an excess benefit problem. For example, the member has $1 million in benefits, which is in excess of their lump sum RBL. In allocating assets, the member retains some of the non-super assets and $500,000 of their super assets are allocated to the non-member. The advantage is that the member no longer has an excess benefit problem and has non-super assets to satisfy their immediate needs.
Superannuation surcharge:Where a surcharge assessment is issued after a split, in respect of a period before the split, the surcharge liability will be deducted from the member’s remaining account balance. No surcharge liability will be applied to the non-member in respect of the benefit.
CASE STUDY
Let’s look at a surcharge case study that highlights the need for financial planning advice.
Chris recently left his employer of five years and received an employer ETP of $120,000, rolled over to his super fund. His superannuation is valued at $200,000 and his former spouse Laura has been allocated $100,000.
The surcharge assessment is received by the fund several months later. The maximum surcharge rate of 15 per cent will apply to Chris’ surchargeable contributions. This will include the whole employer ETP of $120,000 (all post August 20, 1996). A surcharge liability of at least $18,000 will be deducted from Chris’ remaining benefit.
Had Chris received advice from a financial planner that a surcharge liability is to be expected at a later date, he could have ensured the surcharge tax bill was taken into account in the allocation of his assets.
This case study highlights the importance of offering financial advice to separating couples. And with a divorce rate in Australia of almost 45 per cent, most financial planners can expect to deal with separating clients.
Understanding the new rules and how they might affect your clients is paramount to delivering quality advice that achieves the best outcomes for all parties involved.
Tania Peters is a technical analyst,AMP Technical and ProfessionalServices.
