Concessional contributions: Ticking all the boxes

Harry Rips explains the best way to make the most of personal concessional contributions.

A personal concessional contribution can be a powerful tax minimisation tool for clients who are eligible. A common example of using a personal concessional contribution effectively is offsetting capital gains tax (CGT) on the sale of an investment or property.

Who is eligible?

The ability to claim a deduction for a personal contribution is generally restricted to clients who meet the contribution rules and are self-employed or not working.

If a client is an employee, they need to meet the ‘10 per cent test’ to be eligible to claim a deduction. The 10 per cent test determines whether less than 10 per cent of total assessable income, reportable fringe benefits (RFBs) and reportable employer superannuation contributions (RESCs) are attributable to employment related activities.

The 10 per cent test only applies if the client is considered an employee under the ‘employment activity test’. This test looks at whether an individual engages in an activity that results in being treated as an employee for superannuation guarantee (SG) purposes.

The 10 per cent test

When determining whether a client meets the 10 per cent test, all amounts of assessable income, RFBs and RESCs attributable to employment are included.

Assessable income from employment includes:

• Salary or wages;
• Allowances or commissions;
• Employment termination payments; and
• Workers compensation or income protection payments (in some cases).

RFBs are benefit amounts payable in respect of employment that exceed $2,000 for the fringe benefits tax year, grossed up and included on the employee’s payment summary.

RESCs are contributions made by an employer, where the employee has influenced the way the contribution is made or the size of the contribution.

Common examples include salary sacrifice and other voluntary employer superannuation contributions.

Tips and traps

Here are some common tips and traps when making personal concessional contributions:

• From age 65, the member must meet the work test at some point in the financial year prior to making the contribution. Contributions can only be made until 28 days after the end of the month in which the member turns 75;
• Take care not to breach the concessional contribution cap of $25,000 for those under 50 and $50,000 for those 50 or over on the last day of the financial year. Check with the clients’ superannuation fund, because simply asking the client may not be sufficient if they do not understand which contributions count towards the cap;
• Lodge a valid notice to claim a deduction with the superannuation fund before the earlier of:
• — The day the client lodges their tax return for the financial year the contribution was made, or
• — The end of the next financial year;
• The notice must be lodged before commencing a pension, rollover or withdrawal from the fund;
• Clients must receive a confirmation of the notice from the superannuation fund;
• It is important to be informed about the client’s employment activities, since being an employee for SG purposes for a single day during the financial year can result in the application of the 10 per cent test;
• An employee must meet the 10 per cent test even if their employer does not provide SG support (eg, SG is not payable where salary is less than $450 in a calendar month, although the 10 per cent test still applies);
• Some business owners may consider themselves self-employed, but they must meet the 10 per cent test since they are employees under the SG Act (eg, company directors who receive director’s fees);
• Individuals engaged under a contract wholly or principally for their labour must meet the 10 per cent test;
• A non-resident may be able to make personal deductible contributions, but income attributable to employment activities engaged in outside Australia is not included in the 10 per cent test;
• Sole traders are at an advantage when calculating the 10 per cent test, since gross income is included in assessable income before deductions.

Meeting the 10 per cent test

As the 10 per cent test looks at the proportion of employment income to total income, strategies that increase total income can assist the client to meet the 10 per cent test.

The following strategies may be useful as they increase assessable income:

• Trigger a taxable capital gain by selling an asset;
• Increase dividends, rent or interest (if possible);
• Make a lump sum withdrawal from superannuation if the client is between age 55 and 60. The taxable component of the withdrawal increases assessable income, which helps to meet the 10 per cent test. The client will not pay tax on the withdrawal if they are within the low rate cap ($160,000 in 2010-11), since a tax offset applies to ensure no tax is payable. Note however some tax concessions (eg, low income tax offset) may be affected;
• Commence an income stream if the client is between age 55 and 60. The taxable portion of an income stream payment is included in assessable income, which helps to meet the 10 per cent test. The client then receives a 15 per cent tax offset to reduce tax payable;
• If the client is a beneficiary of a family trust, consider increasing trust distributions;
• If the trust distribution includes assessable capital gains, the income is actually double counted which can assist in increasing assessable income. The client then receives a deduction to ensure it’s not double taxed.

Case study

Tim, aged 58, ended employment on 1 September, 2010, having earned $16,000 from employment activities.

Tim wishes to retire and has $400,000 in superannuation, which is 100 per cent taxable component. During the financial year he sells a property and triggers a taxable capital gain, which after the 50 per cent discount creates taxable income of $80,000.

Tim would like to make a personal concessional contribution to offset the tax payable on the capital gain, but he does not meet the 10 per cent test ($16,000 / $96,000 = 16.6 per cent).

Tim’s adviser recommends that he withdraws and re-contributes $160,000 into superannuation. The adviser’s basis is twofold:

• A greater proportion of Tim’s superannuation balance will be tax free, thereby reducing tax on income payments until he turns 60; and
• The re-contribution increases assessable income which helps Tim meet the 10 per cent test ($16,000 / $16,000 + $80,000 + $160,000 = 6.25 per cent).

Tim can now make a personal concessional contribution to offset the CGT on the sale of the property.

Conclusion

Personal concessional contributions can be an effective tax minimisation strategy, but care needs to be taken to tick all the boxes to claim a deduction.

Advisers need to check whether they meet the employment activity test, the 10 per cent test (if applicable), contribution rules, contribution caps and notice requirements.

Strategies such as withdrawing superannuation lump sums or pensions, or increasing assessable income from other sources, can help to meet the 10 per cent test and creates a number of strategies that allow advisers to add value.

Harry Rips is a technical consultant at Count Financial.