Edited version of private ruling

Authorisation Number: 1011664672503

This edited version of your ruling will be published in the public Register of private binding rulings after 28 days from the issue date of the ruling. The attached private rulings fact sheet has more information.

Please check this edited version to be sure that there are no details remaining that you think may allow you to be identified. Contact us at the address given in the fact sheet if you have any concerns.

Ruling

Subject: Superannuation benefits - in specie payments

Question

Is the capital gain on the disposal of the major asset of the superannuation fund (the fund), a self managed superannuation fund, exempt from tax under section 295-385 of the Income Tax Assessment Act 1997 (ITAA 1997) where the asset is paid to the members as an in-specie lump sum payment and the fund is in 'pension mode'?

Answer:

No.

This ruling applies for the following period

Year ended 30 June 2011

The scheme commences on:

1 July 2010

Relevant facts and circumstances

The superannuation fund (the fund) is a complying self managed superannuation fund.

The fund's members, who are also the fund's trustees, are over 65 years of age and their fund accounts are in pension mode.

The fund has assets which are fully used to generate income to discharge current pension liabilities.

The fund's major asset is real property (the property) and its current market value exceeds its cost base.

The trustees, for estate planning purposes, are seriously contemplating moving the property out of the fund as an in-specie lump payment to the members to ensure the property is ultimately bequeathed to particular descendants.

The transfer of the property out of the fund represents a capital gains tax (CGT) event and there would be a capital gain on the disposal of the property.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 295-385.

Income Tax Assessment Act 1997 Section 307-65

Income Tax Assessment Act 1997 Section 118-320.

Income Tax Regulations 1997 Regulation 995-1.01

Income Tax Assessment Act 1936 Section 273A

Income Tax Assessment Act 1936 Section 282B

Superannuation Industry (Supervision) Regulations 1994 subregulation 6.01(2)

Superannuation Industry (Supervision) Regulations 1994 Division 6.2 Superannuation Industry (Supervision) Regulations 1994 Division 6.3

Superannuation Industry (Supervision) Regulations 1994 subregulation 6.18(1) Superannuation Industry (Supervision) Regulations 1994 subregulation 6.19(1)

Superannuation Industry (Supervision) Regulations 1994 Schedule 1 of Part 1

Reasons for decision

Summary

A superannuation fund in 'pension mode' cannot make a pension payment to a member by transferring an asset to the member as an in-specie payment. To use a superannuation fund asset in this manner would mean the asset is not a segregated current pension asset. Accordingly, any capital gain from the transfer of the asset from the superannuation fund will be subject to capital gains tax and represent assessable income of the fund.

Detailed reasoning

Can the Fund pay a pension in-specie?

The payment of benefits from a complying superannuation fund are governed by legislation contained in the Superannuation Industry (Supervision) Act 1993 (SISA) and the Superannuation Industry (Supervision) Regulations 1994 (SISR).

Division 6.2 of the SISR imposes restrictions on trustees of regulated superannuation funds (complying superannuation funds) when making payments to members. A member's benefits in a fund may only be paid by being 'cashed' in accordance with the payment standards in the SISR and the trust deed of the fund.

The form in which preserved and non-preserved benefits may be cashed is set out in subregulations 6.18(1) and 6.19(1) in Division 6.3 of the SISR respectively and the cashing of these benefits is permitted on or after the satisfaction by the member of a condition of release.

The form in which the benefits may be cashed are :

· the form (if any) specified in the cashing restriction for preserved benefits or restricted non-preserved benefits set out in Schedule 1 of Part 1 of the SISR in relation to the relevant condition of release; or

· if that cashing restriction is nil, any one or more of the following forms:

(i) a lump sum or two or more lump sums

(ii) a pension or two or more pensions

(iii) the purchase of an annuity or two or more annuities.

Further, Schedule 1 of Part 1 of the SISR provides the conditions of release and cashing restrictions relating to each of the conditions of release.

The word cashed is not defined in the SISA or SISR and so takes on its ordinary meaning. The Macquarie Dictionary defines cash as to give or obtain cash for (a cheque etc). Therefore, there is a presumption arising from the use of the word cashed that a benefit, whether given in the form of a pension or lump sum, would be paid in money (or money equivalent such as a cheque or electronic funds transfer).

In relation to 'lump sum', subregulation 6.01(2) of the SISR defines it as:

in this Part but not in Schedule 1, includes an asset.

The above definition therefore modifies the ordinary meaning of cashed to include an asset when a benefit is paid as a lump sum. Payment of an asset other than cash, known as in-specie payment, can therefore be made in some instances. However, it should be noted that no such extension applies to pensions.

It should be also be noted that section 307-65 of the Income Tax Assessment Act 1997 (ITAA 1997) defines a superannuation lump sum as a superannuation benefit that is 'not a superannuation income stream' benefit. Superannuation income stream is defined in subregulation 995-1.01 of the Income Tax Regulations 1997 (ITR 1997) as:

(a) an income stream that is taken to be:

(i) an annuity for the purposes of the SIS Act in accordance with subregulation 1.05(1) of the SIS Regulations; or

(ii) a pension for the purposes of the SIS Act in accordance with subregulation 1.06(1) of the SIS Regulations; or

(iii) a pension for the purposes of the RSA Act in accordance with regulation 1.07 of the RSA Regulations; or

(b) an income stream that:

(i) is an annuity or pension within the meaning of the SIS Act; and

(ii) commenced before 20 September 2007. (emphasis added)

As the above indicates, an annuity or pension is not intended to be a lump sum payment but to be paid on an on going basis.

Accordingly, the lump sum in-specie from the fund to the members, if it were to occur, could not be viewed as a lump sum pension payment as pension or annuity payments must be made in cash or a cash equivalent as mentioned previously.

Segregated current pension assets

From 1 July 2007 sections 273A and 282B of the Income Tax Assessment Act 1936 (ITAA 1936), which dealt with segregated current pension assets and the exemption of income derived from segregated current pension assets, were replaced by section 295-385 of the ITAA 1997.

Section 295-385 of the ITAA 1997, basically a rewrite of sections 273A and 282B of the ITAA 1936, states:

(1) The ordinary income and statutory income of a complying superannuation fund for an income year is exempt from income tax to the extent that:

(a) it would otherwise be assessable income; and

(b) it is from segregated current pension assets.

Exception

(2) Subsection (1) does not apply to:

(a) non-arm's length income; or

(b) amounts included in assessable income under Subdivision 295-C.

Meaning of segregated current pension assets

(3) Assets of a complying superannuation fund are segregated current pension assets at a time if:

(a) the assets are invested, held in reserve or otherwise dealt with at that time solely to enable the fund to discharge all or part of its liabilities (contingent or not) in respect of superannuation income stream benefits that are payable by the fund at that time; and

(b) the trustee of the fund obtains an actuary's certificate before the date for lodgment of the fund's income tax return for the income year to the effect that the assets and the earnings that the actuary expects will be made from them would provide the amount required to discharge in full those liabilities, or that part of those liabilities, as they fall due.

(4) Assets of a complying superannuation fund are also segregated current pension assets of the fund at a time if the assets are invested, held in reserve or otherwise being dealt with at that time for the sole purpose of enabling the fund to discharge all or part of its liabilities (contingent or not), as they become due, in respect of superannuation income stream benefits:

(a) that are payable by the fund at that time; and

(b) prescribed by the regulations for the purposes of this section.

(5) Subsection (4) does not apply unless, at all times during the income year, the liabilities of the fund (contingent or not) to pay superannuation income stream benefits payable by the fund were liabilities in respect of superannuation income stream benefits that are prescribed by the regulations for the purposes of this section.

(6) However, assets of a complying superannuation fund that are supporting a superannuation income stream benefit that is prescribed by the regulations for the purposes of this section are not segregated current pension assets to the extent that the market value of the assets exceeds the account balance supporting the benefit.

Further, section 118-320 of the ITAA 1997 provides that any capital gain or loss that a complying superannuation entity makes from a capital gains tax (CGT) event happening to a segregated current pension asset is disregarded.

The effect of the above sections is that ordinary income and statutory income which a complying superannuation fund earns from assets set aside (segregated current pension assets) to provide for superannuation income stream benefits is exempt from income tax.

In relation to superannuation income stream benefits they are defined in regulation 995-1.01 of the ITR 1997 as mainly being annuities and pensions.

In your client's case, the facts show that the relevant issues to determine if the capital gain arising from an in-specie lump sum payment are exempt under section 295-385 of the ITAA 1997 are:

(a) whether the assets from which the capital gain arises are segregated current pension assets within the meaning given in section 295-385; and

(b) whether an in-specie lump sum payment representing a commutation of pension payments can be paid from a superannuation fund. (As already mentioned earlier, a superannuation fund cannot make an pension payment to a member in-specie).

Are the Fund's assets segregated current pension assets?

As shown in the 'meaning of segregated current pension assets' in section 295-385 of the ITAA 1997 one of main requirements is that the assets set aside must be for the sole purpose of enabling the fund to discharge all or part of its liabilities in respect of superannuation income stream benefits.'

Another common factor for segregated current pension assets, found in subsections 295-385 (3) and 295-385(4) of the ITAA 1997, is that:

the assets are invested, held in reserve or otherwise dealt with at that time solely to enable the fund to discharge all or part of its liabilities… in respect of superannuation income stream benefits (emphasis added)

In your client's case the facts show that the fund is in pension mode and currently all of its assets are held to generate income to enable it to discharge current pension liabilities.

However, it should be noted, even if the fund was able to proceed with its proposed disposal (the disposal) of real property (the property) as an in-specie transfer to the members, the property would not be considered to be a segregated current pension asset.

The facts show that, as the property is the fund's major asset, the disposal would result in a major decline in the fund's asset base. Further, as no consideration is received in relation to the disposal, it follows that the fund's reduced asset base would reduce its ability to discharge its current pension liabilities.

In view of the above it can be seen that the disposal being made as an in-specie transfer does not add value to the fund's financial position or that the disposal is solely for the purpose of '[enabling] the fund to discharge all or part of its liabilities …in respect of superannuation income stream benefits.'

Further, as stated in the facts, the disposal of the property as an in-specie transfer to the members is an estate planning strategy to ensure the property is ultimately bequeathed to particular descendants.

In view of the above, the property, if disposed as an in-specie transfer, cannot be considered a segregated current pension asset as it will not represent an asset which has been 'invested, held in reserve or otherwise dealt with' to enable the fund to solely discharge liabilities in respect of superannuation income stream benefits. Rather, the property is proposed to be dealt with in a manner which is for estate planning purposes.

Accordingly, as the property will not be a segregated current pension asset, the X notional capital gain, which you stated would arise from the disposal, will be assessable income of the fund as it is not exempted from tax under subsection 295-385 (1) of the ITAA 1997 or section 118-320 of the ITAA 1997.

Conclusion: Notwithstanding a superannuation fund cannot pay an in-specie lump sum payment as a pension in-specie, or as commutation of a pension, the capital gain arising from such a transaction would not be exempt from income tax under section 295-385 of the ITAA 1997 as it is not derived from segregated current pension assets.

Accordingly, the capital gain on the payment represents assessable income of the fund.