NEWS + VIEWS – 06/06/2025
MARKETS
Share markets have remained resilient in the face of weakening US and local economies, and ‘reignition’ of tariff threats from the Trump administration. Tariffs are yet to fully impact the US and other economies, and uncertainty around negotiations will be dampening investment decisions.
Domestically, GDP growth is anaemic (and negative on a per capita basis) along with falling capital investment from the private sector. Government regulation, tax settings and industrial relations changes are adversely impacting the attractiveness of Australia as a destination for capital.
We are entering a typically weaker part of the year for share markets. This trend on average extends until the end of October, particularly from late July onward.
DIVISION 296 TAX
There has been much discussion about the Federal Government’s new tax on superannuation.
What is the tax?
The tax proposes an additional 15% tax on earnings where a member’s Total Super Balance (TSB) is over $3 million. Earnings in this case are defined as the increase in the TSB from the start of the year to the end of the year. Using a simple example, if the TSB at the start of the year was $3 million and $3.3 million at the end of the year, then 9.09% of the $300,000 growth in earnings will be subject to 15% tax (i.e. $4,091). In calculating the TSB for earnings, contributions are subtracted and withdrawals during the year are added back. See figure below.
Why is the tax a bad idea?
The first controversy is that a super fund’s earnings will include unrealised capital gains. For example, if a property (or any other asset for that matter) has risen in value over the course of the year, then that rise will be taxed. As you can imagine, that could place severe strain on investors including farmers or small business owners as they would need to find the cash to pay the tax. In many cases that will not be possible.
Taxing of unrealised gains is completely at odds with Australia’s and nearly all countries’ tax frameworks. The closest to having an unrealised gains tax are the Netherlands, Norway and Columbia that have net wealth taxes. Of these, only Columbia includes unrealised gains in income.
There is good reason for not taxing unrealised gains as it discourages investments in assets that are likely to rise in value. A good example is start up companies. These almost never pay dividends and only attract investment on the expectation they will rise in value. Capital investment in Australia is falling and our future wealth is dependent on investment. We need to be encouraging capital investment, not discouraging it.
The second controversy is that there is no indexation of the $3 million cap. The government claims ‘only’ 80,000 super funds will be ‘caught’. That is almost certainly an underestimate as the estimates were done several years ago. More and more will be caught over time.
The third controversy is the way the draft legislation is written; the tax on unrealised gains can be applied to assets outside super without further legislation. Governments, and particularly the current one, can be big spenders and always looking for more tax sources to fund (or partially fund) their spending goals. If not restricted to superannuation only, it is not difficult to see that assets such as property may be subject to unrealised gains by a future government. Again, this is a risk that will repel capital, not encourage it.
How to respond
Only a few clients are likely to be affected in the first instance if the tax legislation is passed. Given the possibility of the tax being changed and even held up, our view is that clients should do nothing at present. However, those with very high balances should be considering what options may be available in minimising or avoiding the tax. There is also the possibility of the tax being delayed since a July 1 start date is very challenging.
Options for avoiding the tax:
Withdrawing funds from super – timing is important
You may become liable for the additional tax if your TSB is more than $3 million at the end of the financial year. In that case, if a withdrawal from super during the year brings the end of year TSB below $3 million then there will be no Division 296 tax payable. However, perversely, if your TSB is above $3 million at the end of the year, the amount withdrawn will be added back when calculating the tax liability.
The cost of selling assets and tax on reinvesting (or gifting) assets outside super
In selling assets in your Self-Managed Super Fund, you may incur capital gains tax on the accumulation proportion of your super. For example, if you had $4 million in super and $2 million was in pension phase and $2 million in accumulation phase, you would incur 10% tax (assuming you held the assets for at least 12 months) on half of the capital gains.
In addition, if you reinvest those funds outside super, there may be tax on the income from the reinvested funds. Bear in mind that you are not paying tax on capital gains outside super until the asset is sold whereas you would be paying it annually under Division 296 if the asset is held in super.
Whether it is advantageous to withdraw and reinvest the funds outside super to avoid Division 296 tax will depend on individual circumstances.
Another advantage in keeping your TSB below $3 million is avoiding the administrative costs of the Division 296 tax, which has scope for making accounting very complex.
Where the cost of investing outside super outweighs the Division 296 tax, gifting assets may become attractive. In that case, children might be the main beneficiaries. One approach may be to place the funds in an offset account to reduce interest on your child’s mortgage. You may also consider a loan agreement to protect the funds in case of a separation or if you needed the funds in the future.
Charities might also benefit from gifting strategies. Others may decide to withdraw from super and spend the money on such things as travel, new house, or car.
What to do now?
The answer is not much at this point if you have significant liquid assets in super. On the other hand, illiquid assets such as property may require some time to deal with, so at least high level, early consideration might be advisable.
No-one knows what the final form of the legislation will be, although it is almost certain that those with TSBs over $3 million will be negatively impacted.
Under the current proposal, you have time to adjust during the next financial year. When the final form is enacted, the numbers as they apply to you will be a key guide to what actions you can take.
Over the longer term
Superannuation will still offer attractive opportunities in tax planning, particularly for those approaching their preservation age when they can access their super (and withdraw funds if necessary). However, it may become less attractive for the younger cohort due to falling confidence that super rules will not change. A bias towards buying a house and repaying mortgages is likely.
Conclusion
The Division 296 tax is very badly designed with negative consequences far beyond the stated goals of the tax. A similar result could be achieved without the significant downsides. As usual, the issue has become political, so a poor outcome is likely.
MINIMUM PENSION
With the risk of ‘sounding like a broken record’ please ensure you have withdrawn your minimum pension before June 30 this year. I can use that idiom as most of our clients are over 60 years of age and know what a ‘record’ is.
Gerard O’Shaughnessy
P 0423 771 330
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