Legacy pension changes welcome but the devil, as always, is in the detail

A long-awaited and welcome change to so-called ‘legacy pensions’ was proposed in the recent Federal Budget. This will benefit some older Australians who have been trapped in certain retirement income streams which started before September 2007.

People in these schemes – it is not clear quite how many there are – have been unable to exit plans which may no longer have been suitable for them and which have often incurred growing fees.

In the late 1990s and early 2000s pensions arrangements for self-funded retirees offered attractive tax advantages but in return for the concessions, there were strict criteria which meant exiting the plans was very difficult.

After 2007, tax advantages were eased and these products fell out of favour, but for those locked in there was no way out. Until now.

It is proposed that the government will allow recipients to exit a range of legacy retirement income streams (inclusive of associated reserves) over a two-year period. Recipients will have an option to fully commute and start an account-based pension (subject to personal transfer balance caps), leave in accumulation or cash out of the fund.

Of course, however promising proposals are in theory, the devil is always in the detail. So, let’s examine some of these details.

The measure only includes specific retirement income streams that were commenced prior to 20th September 2007. It is to include market-linked, life-expectancy and lifetime products, but not flexi-pension products or a lifetime product in a large APRA-regulated or public sector defined benefit scheme.

These types of retirement income streams were initially established for a variety of reasons, predominantly Reasonable Benefits Limit compression and social security treatment. The new measure will not grandfather the social security treatment. On commutation, the normal social security rules will then apply, but there will be a concession to make sure that a reassessment does not occur to prior years.

In relation to the commuted reserves, it is proposed that these reserves will be taxed as an assessable contribution. Reserves are made up initially of capital and earnings on that capital. The source of this capital would have been taxed accordingly and the earnings taxed at 15% during the life of the reserves. I believe that taxing the capital plus post-tax earnings again at 15% needs further thought.

The date of prior to 20th September 2007 has initially raised concerns in the industry. Many examples have been raised which the proposed measures do not seem to cater for. This is where the detail in the legislation will be essential. There is so many variants on these types of pensions, especially when you factor in death of the primary recipient, reversionary status, type of pension, treatment of reserves and what makes up the reserve. The list goes on.

On a promising note, Treasury has confirmed that the Budget proposal will apply to the specified range of legacy pensions that commenced prior to 20 September 2007, even if the pension had subsequently restructured to a different type i.e. market linked pension. Further clarification is still required on the many other variants that can occur.

As mentioned, flexi pensions are also explicitly excluded. On one side this is reasonable as these types of pensions have always been commutable. However, the commutation value is usually less than the capital value which results in reserves remaining. The proposed measure does not seem to cater for this situation.

This measure is due to commence on the 1 July after the legislation receives Royal Assent. Practically, one would assume that the start date will be 1 July 2022 with the two-year transition period starting then.

Overall, the Budget measures on legacy pensions were a good step forward. We must hope the remaining issues highlighted here could still be addressed before implementation.


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