What is a re-contribution strategy?
A recontribution strategy is a way to minimise tax payable on either super benefit paid before 60 years or paid to a beneficiary after death by withdrawing and then recontributing to super.
How does the re-contribution strategy work?
The re-contribution strategy involves withdrawing a lump sum or income stream by paying any necessary tax on the withdrawal and re-contributing these funds into superannuation as a non-concessional contribution. By re-contributing as a non-concessional and increasing tax-free component member can ensure that the beneficiaries will pay less tax.
Benefits of re-contribution strategy:
- Income tax perspective: The main objectiveof this popular strategy is to convert all or part of a Member’s Taxable Component into a Tax-Free Component. A recontribution strategy is beneficial when a member reached to preservation age and expecting to receive a superannuation income stream. Pension paid before 60 years from taxable component will be taxed at a marginal rate reduced by 15% tax offset and lump sum payment will be taxed at 15% plus medicate levy (2%) so effectively 17% so re-contribution strategy will help to reduce the tax burden. However, lumpsum withdrawal up to $205,000 for 2018-19 or $200,000 for 2017-18 (low rate cap) will not be taxable.
- Death payments: After the death of a member, a superannuation benefit paid to dependant will not be taxable, however, on the other hand, if this is paid to non-dependant, a taxable component will be taxed at 15% plus medicate levy (2%) so effectively 17%. In such cases also recontribution strategy will help to reduce tax liability in the hands of recipients by reducing taxable component.
Who can use this strategy?
To use a re-contribution strategy, a member must:
- meet a condition of release to withdraw the super balance as a lump sum or income stream and
- be eligible to contribute in to super.
Example
Harry has retired from work at the age of 58. His superannuation benefit is $550,000 which is fully taxable. Say, Marginal tax rate is 37%.
- No re-contribution:
Commence an accountbased pension (ABP) using $550,000 of capital. He withdraws 4% of the account balance.
His liability is $22,000 x 37% = $8,140.
Medicare levy at 2% is $22,000 x 2% = $440
Total tax liability = $8,580
Tax offset = 15% x $22,000 = $3,300
Overall tax liability is $5,280 ($8,580-$3,300)
- With re-contribution:
Assume Harry has withdrawn $195,000 before commencing the pension and re-contributed as a non-concessional contribution. There is no tax implication on lump sum withdrawal as the taxable component does not exceed his low rate cap.
After re-contribution strategy, the components of the fund are as follows.
Account balance = $550,000
Tax-free component = $195,000
Tax-free proportion = $195,000/$550,000 = 35.45%
If he has withdrawn 4% ($22,000) as above, the tax effects are calculated as follows:
- The tax-free portion of $22,000 is $7,800 ($22,000 x 35.45%). The balance is the taxable component – $14,200.
- Tax on taxable component $5,254 (14,200 x 37%)
- Medicare levy at 2% = $284
- Tax offset is 15% of taxable component = $2,130
- The tax payable is $5,254+$284-$2,130 = $3,408
So, when we compared with first case where re-contribution strategy was not used, the tax liability was $5,280. He saves $1,872 by using re-contribution strategy.