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Income Assessment of Defined Benefit Income Streams
Last amended: 13 May 2008
Income assessment of defined benefit income streams
VEA →
The following formula is used to determine the amount of annual ordinary income from a defined benefit income stream:
Annual ordinary income = gross annual payment - deductible amount
The deductible amount is a term defined in the VEA as an amount calculated under the taxation law, and referred to as the tax free component under the taxation law. The gross annual payment excludes any abatements.
Payments for dependent children are exempt
VEA →
If the income stream contract specifies that part of the income stream is made for dependent children, that amount is exempt from the income test.
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Calculating the deductible amount/tax free component
The method of calculating the deductible amount/tax free component depends on the person's individual circumstances. The available methods are:
- new 1 July 2007 rules method
- pre 1 July 2007 rules method
- the saving provision.
Determining which method applies
Income stream providers determine whether the pre 1 July 2007 rules method or the new 1 July 2007 rules method applies to the defined benefit income stream. DVA determines whether the saving provision applies. DVA cannot determine whether the pre 1 July 2007 rules method or the new 1 July 2007 rules method applies.
|
Commencement day of the income stream |
Conditions |
Method to apply |
|
On or after 1 July 2007 |
N/A |
New 1 July 2007 rules method |
|
Before 1 July 2007 |
The owner:
|
Pre 1 July 2007 rules method |
|
Before 1 July 2007 |
The owner:
|
New 1 July 2007 rules method (the saving provision may apply) |
|
Before 1 July 2007 |
The owner has made a commutation between 1 July 2007 and their 60 — th birthday |
New 1 July 2007 rules method |
|
Before 1 July 2007 |
The owner is the reversionary beneficiary of a person who died after 30 June 2007 and the income stream does not include payments from elements untaxed within the fund |
New 1 July 2007 rules method |
|
Before 1 July 2007 |
The income stream includes payments from elements untaxed within the fund, and the owner:
|
Pre 1 July 2007 rules method |
Deductible amount/tax free component calculation under the new 1 July 2007 rules method
Under the new 1 July 2007 rules method, the income stream provider calculates the deductible amount/tax free component under tax law. The provider then notifies DVA of the deductible amount/tax free component and the calculation method.
Deductible amount/tax free component may increase under the new 1 July 2007 rules method
The deductible amount/tax free component is based on a proportion of the total value of the superannuation interest. As the tax free component is a proportion of the gross payment, the deductible amount/tax free component may increase as payments from the income stream are increased with indexation.
Deductible amount/tax free component calculation under the pre 1 July 2007 rules method
Under the pre 1 July 2007 rules method, the income stream provider notifies DVA of the person's undeducted purchase price (UPP), the deductible amount/tax free component, and the calculation method.
No increase under the pre 1 July 2007 rules method
The deductible amount/tax free component calculated under the pre 1 July 2007 rules method is fixed and cannot increase as the income stream payment increases with indexation. However, the deductible amount/tax free component may reduce if the person makes a commutation from their income stream that includes a part of the UPP.
Saving provision
A saving provision applies where all of the following conditions are met:
- the defined benefit income stream commenced prior to 1 July 2007,
- the person receives an income support pension for a period commencing before and ending on or after their trigger day,
- the person has not made a commutation between 1 July 2007 and their trigger day,
- immediately before the trigger day a deductible amount/tax free component calculated under the pre 1 July 2007 rules method was recorded in the person's assessment,
- an income stream provider advises a new deductible amount/tax free component calculated under the new 1 July 2007 rules method, and
- the deductible amount/tax free component calculated under the new 1 July 2007 rules method is less than the deductible amount/tax free component calculated under the pre 1 July 2007 rules method.
The trigger day is the later of 1 July 2007 and the person's 60 — th birthday.
When the saving provision ceases to apply
The saving provision ceases to apply when any of the following events occur:
- the person ceases to receive an income support pension,
- the income stream ceases,
- the person dies, or
- the deductible amount/tax free component under the new 1 July 2007 rules method is greater than or equal to the deductible amount/tax free component under the pre 1 July 2007 rules method.
Abatements
An abatement occurs when an employee elects to take additional units of superannuation, but cannot pay the full amount due at the time of their retirement. The amount is repaid over a number of years after retirement by annually deducting a lump sum before the superannuation is made available. During the abatement period the abatement amount is not income and not included in the gross payment for income test purposes.
Section 46V VEA
Section 46Y VEA
Income exempted from the income test
The ordinary income of a person for a period means, as described in section 46 of VEA, the gross ordinary income from all sources for that period without any reduction, other than a reduction of business income.
A defined benefit income stream is an income stream where the payments are not fully determined by a purchase price. Instead, payments are made with reference to a set formula based on:
- the person's salary before retirement,
- years of service, and/or
- the governing rules of the income stream.
Annual payment means the amount payable to the person for the year under the income stream.
According to section 5J of the VEA, a deductible amount, in relation to an income stream, means the sum of the amounts that are the tax free component, worked out under the tax law, of the payments received from the DBIS.
The taxation law includes the following acts:
- the Income Tax Assessment Act 1936;
- the Income Tax Assessment Act 1997; and
- the Income Tax (Transitional Provisions) Act 1997
It also includes regulations and determinations made under the taxation law.
The tax free component is an amount calculated by the income stream provider under either Subdivision 307-C of the Income Tax Assessment Act 1997 or section 307-125 of the Income Tax (Transitional Provisions) Act 1997. The tax free component is the same as the deductible amount for DVA purposes and reduces the amount of assessable income from a defined benefit income stream.
According to subsection 5J(1) of the VEA, an income stream includes:
- an income stream arising under arrangements that are regulated by the Superannuation Industry (Supervision) Act 1993; or
- an income stream arising under a public sector scheme (within the meaning of that Act); or
- an income stream arising under a retirement savings account; or
- an income stream provided as life insurance business by a life company registered under section 21 of the Life Insurance Act 1995; or
- an income stream provided by a friendly society (within the meaning of the Income Tax Assessment Act 1996); or
- an income stream designated in writing by the Commission for the purposes of this definition, having regard to the guidelines determined under subsection 5J(1F) of the VEA;
but does not include any of the following:
- available money;
- deposit money;
- a managed investment;
- an investment in a public unit trust;
- an investment in an insurance bond;
- an investment with a friendly society;
- an investment in a superannuation fund;
- an investment in an approved deposit fund;
- an investment in an ATO small superannuation account;
- a listed security;
- a loan that has not been repaid in full;
- an unlisted public security;
- gold, silver or platinum bullion; or
- a payment of compensation in relation to a person's:
- inability to earn, derive or receive income from remunerative work; or
- total and permanent disability or incapacity.
One element of the means test for income support pensions whereby the rate of pension payable to a pensioner reduces progressively as their income increases above a certain threshold known as the income free area (IFA).
A commutation, in relation to an income stream, is the conversion of part or all of the future income stream payments into a lump sum. A commutation is similar to a withdrawal.
The Undeducted Purchase Price (UPP) is that part of the amount contributed towards a pension or annuity which was not and will not be allowed as a tax deduction. The UPP is one of the factors used to determine the tax free component. The person's income stream provider calculates the UPP.
Income support pension is:
- a social security pension
- a service pension;
- an income support supplement.
According to section 5H of the VEA income is:
- an amount earned, derived or received by a person for the person's own use or benefit;
- a periodical payment by way of gift or allowance; or
- a periodical benefit by way of gift or allowance.
One element of the means test for income support pensions whereby the rate of pension payable to a pensioner reduces progressively as their income increases above a certain threshold known as the income free area (IFA).