Purpose

The purpose of this Departmental Instruction is to advise of changes to the income stream rules contained in the Veterans' Entitlements Act 1986 (VEA).

Legislation

The amendments are contained in Schedule 2 to the Family and Community Services and Veterans' Affairs Legislation Amendment (Income Streams) Act 2004 (the Act) which received Royal Assent on 13 July 2004.

Effective date

The legislative changes commenced on 20 September 2004.

Previous information

General information on the changes was contained in a Stateline dated 31 August 2004 and titled Changes to the Assessment of Income Streams – Legislative changes, systems development and updated Questions & Answers.

An overview of the initial system changes was provided in information sessions conducted by the Systems Development section in State Offices in October 2004.  This was followed by similar sessions on further changes in February 2005.  The Powerpoint presentations used for these sessions can be found at TRIM Record Number 0482495E.

System changes

Initial system updates required to implement the legislative changes were introduced as Phase One of the New Income Streams Assessment Rules (NISAR) project on 20 September 2004.

Additional system enhancements were introduced in Phase Two of the NISAR project on 27 January 2005.

Background

On 25 February 2004 the Treasurer released the policy paper 'A More Flexible and Adaptable Retirement Income System' , which included a commitment to:

• increased choice and competition in the income streams market; and
• change to assets test exemption for complying income streams.

The Family and Community Services and Veterans' Affairs Legislation Amendment (Income Streams) Act 2004 supports this commitment.

Summary of changes

The Act contains amendments to the Social Security Act 1991 and Veterans' Entitlements Act 1986 (VEA) and can be viewed on the Scaleplus website at: http://scaleplus.law.gov.au/html/c — omact/12/6871/top.htm

The main changes to the VEA were:

•         providing a concession to the new market linked income streams;

•         a reduction of the assets test exemption from 100% to 50%; and

• allowing a choice of term length for life expectancy income streams (including market linked pensions).

Detailed changes

Schedule 2 of the Act deals with amendments to the VEA, which only apply to income streams purchased or acquired on or after 20 September 2004.

This means that complying lifetime and life expectancy income streams purchased or acquired before 20 September 2004 will be classified under the former sections 5JA and 5JB.

The following table describes each of the changes.  Further detail on the major changes follows this list.

Item

Changes to VEA

1

Amends the definition of “asset-test exempt income stream” in subsection 5J(1) to include market linked income streams (section 5JBA).

2

Clarifies the commencement date of a lifetime income stream by slightly changing the words in paragraphs 5JA(2)(d) and (e).

3

Changes the guarantee period of lifetime income streams from 10 years to the primary beneficiary's life expectancy by amending subparagraph 5JA(2)(h)(ii).

4

Subparagraph 5JA(2)(h)(iii) amended to allow the commutation of lifetime income stream if the funds are used to purchase another asset-test exempt income stream.

5

Amends subparagraph 5JA(2)(h)(iv) to allow any superannuation surcharge contribution amount relating to the income stream to be commuted from the income stream.

6

Inserts notes 1A and 1B to paragraph 5JA(2)(h), which direct the reader to more detail on life expectancy period and asset-test exempt income stream.

7 -11

Amends paragraph 5JA(3)(a), and subparagraphs 5JA(3)(b)(i), 5JA(3)(b)(iii) and 5JA(3)(c)(i), following the change in guarantee period for lifetime income streams from 10 years to the primary beneficiary's life expectancy.

12

Amends subsection 5JA(5) to allow for determinations that an income stream is asset-test exempt even where no guidelines have been issued.

13

Inserts a definition of “life expectancy period” in subsection 5JA(7), which is the primary beneficiary's life expectancy on the date of acquisition or purchase, or 20 years, whichever is the shorter.

14

Substitutes subsection 5JB(1) to remove the necessity for the purchaser of a life expectancy income stream to have reached pension age.

15

New paragraph 5JB(1A)(aa) requires that the income stream must be provided to either the primary beneficiary or the person who was the primary beneficiary's reversionary partner on the day the primary beneficiary died.

16

Substitution of paragraph 5JB(2)(a) and insertion of new paragraph 5JB(2)(aa) removes the concession for life expectancies in excess of 15 years.  New requirements are that the contract or governing rules for the income stream must specify a term that complies with subsection (2B) or (2C) and payments must be made at least annually.

17

The repeal and substitution of paragraphs 5JB(2)(d) and (e) makes it clear that the first payment relates to the period commencing on the day that the income stream was purchased or acquired by or for the primary beneficiary.

18 and 20

The repeal and substitution of subparagraphs 5JB(2)(h)(ii), (iii) and (iv), repeal of subparagraph 5JB(h)(v), and insertion of new paragraph 5JB(2)(h)(ivaa) provide for an income stream's contract or governing rules to:

• allow the commutation of life expectancy income stream if the funds are used to purchase another asset-test exempt income stream;
• specify that an income stream cannot be commuted on the death of the primary beneficiary where there is a reversionary partner; and
• allow any superannuation surcharge contribution amount relating to the income stream to be commuted from the income stream.

19

Note 1A to paragraph 5JB(2)(h) is a reminder that the definition of asset-test exempt income stream can be found in section 5J.

21

New paragraph 5JB(2)(i) allows for the transfer of an income stream upon death.

22

New subsections 5JB(2B) and (2C) provide for the term of a life expectancy income stream to be selected from a range based on the primary beneficiary's life expectancy or, if applicable, the reversionary partner's life expectancy.

Detailed information on the application of these provisions is provided later in this Departmental Instruction.

23

Amendment to subsection 5JB(4) allows for determinations that an income stream is asset-test exempt even where no guidelines have been issued.

24

Removes subsection 5JB(6), which is no longer required because it dealt with the interpretation of pension age.

25

The definition for “reversionary partner” has been inserted into subsection 5JB(7).

26

All of the above changes to sections 5JA and 5JB only apply to income streams purchased, or acquired, on or after 20 September 2004.

27

This provision allows for the amendment of asset-test exempt income stream contracts to permit commutation.  Such commutations are only permitted if the funds are transferred directly to the purchase of a market-linked income stream.

These changes to the contract will not alter the asset-test exempt status of the income stream.

28

Inserts new section 5JBA, which sets out the requirements for an income stream to receive an asset-test exemption as a market linked income stream.

Detailed information on this provision is provided later in this Departmental Instruction.

29

This transitional provision allows for the use of the Australian Life Tables for either 1995-97 or 2000-02 when determining life expectancies for income streams purchased during the period from 20 September 2004 to 31 December 2004.

Detailed information on this provision is provided later in this Departmental Instruction.

30

Amends the note to section 46T, which deals with income from asset-test exempt income streams, so that it also applies to market-linked income streams.

31

Amends paragraph 52(1)(d) so that partially asset-test exempt income streams will not be disregarded in the assets test.

32

Inserts new paragraph 52(1)(daa) so that only half the partially asset-test exempt income stream is disregarded in the assets test.

Detailed information on this provision is provided later in this Departmental Instruction.

33

Partially asset-test exempt income streams are defined in new subsection 52(1AA) as market-linked income streams and lifetime or life expectancy income streams that are not defined benefit income streams.

Paragraph 52(1AA)(c) and subsection 52(1AB) allow for the Repatriation Commission to issue a Disallowable Instrument specifying that an income stream is not a partially asset-test exempt income stream even though it meets the criteria for this classification.

34

New section 52BB specifies that the asset value of partially asset-test exempt income streams be assessed under section 52A unless they are affected by family law, in which case they will be assessed under section 52BA.

35

Section 52ZMA provides for a debt to the Commonwealth resulting from the commutation of an asset-test exempt income stream.  This amendment to subsection 52ZMA(11) excludes market-linked income streams determined to be exempt under subsection 5JBA(11) from the application of this provision.

This same exclusion already applies to those lifetime and life expectancy income streams classified as asset-test exempt under sections 5JA(5) and 5JB(4) respectively.

Market linked income streams

Section 5JBA of the VEA lists the requirements for a new class of products, called market-linked income streams, to satisfy the definition of an asset-test exempt income stream.

Requirements

Subsections 5JBA(1) and 5JBA(2) list the requirements of a market-linked income stream, which include the following restrictions:

• commencement date must be on or after 20 September 2004;
• limited choice of term;
• limited payment rules;
• no residual capital value (RCV);
• limits the circumstances in which a commutation is permitted;
• transfer only upon death;
• cannot be used as security for borrowing; and

• a reversionary component or commuted amount cannot be greater than the account balance immediately before the reversion.

Term

The choice of term is restricted by subsections 5JBA(3) and (4), which are aligned with the new subsections 5JB(2B) and (2C) for life expectancy income streams.

Payment rules

Paragraphs 5JBA(2)(c) and (d) and subsections 5JBA(5) to (9) set out the rules relating to market-linked income stream payments:

• the first payment under the income stream must relate to the period commencing on the day of purchase or acquisition; and
• the total amount payable each financial year is determined on 1 July according to this formula:

Account Balance

Payment Factor

• if an income stream commences on a day other than 1 July the total amount for the first (partial) financial year is calculated on a pro-rata basis.
• if the income stream commences between 1 June and 30 June then there is the option of not paying any income prior to 1 July; and
• at the end of the income streams term, if there is a positive balance remaining, it must be paid within 28 days of the term's conclusion.

Payment Factors

Payment factors are specified in the Superannuation Industry (Supervision) Regulations 1994 and will be duplicated in a disallowable instrument made under subsection 5JBA(5) of the VEA titled Veterans' Entitlements (Asset-test Exempt Income Stream (Market-linked) – Payment Factors) Principles 2004.

Commutations

Paragraph 5JBA(2)(f) limits the commutation of a market-linked income stream to the following circumstances:

• the income stream has not been purchased by transferring the funds from another asset-test exempt income stream and the commutation is made within 6 months of the income stream's commencement; or
• the payment resulting from the commutation is transferred directly to the purchase of another asset-test exempt income stream; or
• if the income stream reverts to a reversionary partner upon the primary beneficiary's death, then upon the death of the reversionary partner; or
• if there is no reversionary partner then upon the primary beneficiary's death; or
• the amount necessary to cover any superannuation contributions surcharge relating to the income stream; or
• to give effect to an entitlement of the person's spouse or former spouse under a payment split under Part VIIIB of the Family Law Act 1975; or
• to the extent necessary to pay a hardship amount.

Hardship

The commutation hardship provisions contained in Departmental Instruction C30/2002 also apply to the commutation of market-linked income streams.

Reduced assets test exemption

VEA subsection 52(1AA) and paragraph 52(1)(daa) provide for a reduction in the asset-test exemption from 100% to 50% for those income streams commencing from 20 September 2004.

Qualifying provisions

To qualify for this partial asset-test exemption, an income stream must still comply with the requirements under section 5JA (lifetime), 5JB (life expectancy) or 5JBA (market-linked).

Retention of 100% asset-test exemption

Note that changes to the asset-test exempt requirements in sections 5JA and 5JB of the VEA only apply to new products from 20 September 2004.

Income streams that are purchased prior to 20 September 2004 and classified as asset test exempt will retain their 100% asset-test exempt status.

There is no change to the 100% asset-test exemption that applies to defined benefit income streams established prior to 20 September 1998.

Asset depletion for 50% asset-test exempt income streams

For complying lifetime and life expectancy income streams, the asset value will be calculated in a similar way to Asset-Tested Long Term income streams under subsection 52A(4).

The assessed asset value for complying lifetime and life expectancy products commencing on or after 20 September 2004, will be 50% of the amount derived under the asset depletion formula.

For market linked pensions, the assessed asset value will be 50% of the Current Account Balance (CAB). Depletion rules do not apply to market linked pensions.

Choice within life expectancy range

The term options have been aligned for asset-test exempt life expectancy income stream purchased on or after 20 September 2004 and market-linked income streams.

Old asset-test exempt rules

For income streams purchased prior to 20 September 2004, a life expectancy income stream is asset-test exempt if it:

•         was purchased or acquired on or after pension age;

•         will be paid to life expectancy; and

• meets the requirements of the old section 5JB of the VEA.

Old life expectancy rules

To satisfy the life expectancy requirement, the owner must have attained pension age on or before the commencement date of the income stream and the term of the income stream must have been:

•         equal to the person's life expectancy, or life expectancy rounded up to the next whole number; or

• if the person's life expectancy was 15 years or more, paid for a fixed term of 15 years or more, but not more than the person's life expectancy, or life expectancy rounded up to the next whole number.

New asset-test exempt and life expectancy rules

The new life expectancy rules differ from the old rules in that, to be exempt:

•         purchasers will be able to select the term from within a range;

•         the term must be a whole number of years;

•         there is no requirement that the owner be pension age at the commencement date; and

•         there is no 15 year minimum term rule.

Range if no reversionary partner

From 20 September 2004, individuals purchasing a life expectancy or market linked pension must choose a term that, on the income stream's commencement date, is a period of whole years from within the following limits:

•         no less than their life expectancy (rounded up, if not a whole number, to the next whole number); and

• no greater than their life expectancy if they were five years younger (rounded up, if not a whole number, to the next whole number).

Example if no reversionary partner

Mr Jones is 70 years of age;

•         the 1995-97 life tables show that Mr Jones has a life expectancy of 12.80 years;

•         life expectancy for a 65 year-old man is 16.21 years;

Therefore, Mr Jones can purchase an income stream with a relevant number between 13 (12.80 rounded up to the nearest whole number) and 17 (16.21 rounded up).

Range for reversionary partner

Those purchasing an income stream that will revert to their partner upon their death can also choose a term that, on the income stream's commencement date, is a period of whole years and is:

•         at least as long as the greater of the life expectancies of the primary beneficiary and the primary beneficiary's reversionary partner (rounded up, if not a whole number, to the next whole number); and

• at most as long as the greater of the life expectancies of the primary beneficiary and the primary beneficiary's reversionary partner if they were both 5 years younger (rounded up, if not a whole number, to the next whole number).

Reversionary example

Mr Jones would like his income stream to revert to his wife upon his death.

Mrs Jones is 68 years of age and, according to the 1995-97 life tables she has a life expectancy of 17.46 years.  The life expectancy for a 63 year-old woman is 21.54 years.

Mr Jones' life expectancy ranges from 13 (12.80 rounded up) to 17 (16.21 rounded) and Mrs Jones' life expectancy ranges from 18 (17.46 rounded) to 22 (21.54 rounded).  Therefore, Mr Jones can purchase a reversionary  income stream with a relevant number between 18 (the greatest of the lower limits) and 22 (the greatest of the upper limits).

Choice of range

When purchasing a reversionary income stream, the legislation allows a choice between selecting a term based on the primary beneficiary's own life expectancy range and the life expectancy range of the reversionary beneficiary.

Therefore, Mr Jones can select a term between 13 and 17 years (his range) or 18 and 22 years (the reversionary beneficiary range) ie. a number between 13 and 22.

Australian life tables

The 2000-02 Australian Life Tables will apply to all income streams purchased from 1 January 2005.

Transitional provisions allow lifetime, life expectancy and market linked products purchased between 20 September 2004 and 31 December 2004 to use either the 1995-1997 or the 2000-2002 tables.  This means there may be a slightly extended range of terms for income streams purchased during this period.

Contact Officer

If you would like further clarification of any part of this Departmental Instruction please contact Martin McGlashan of Income Support Policy on extension 11132 or at e-mail address martin.mcglashan@dva.gov.au.