The idea of working full-time one day and retiring the next is fast becoming a trend of the past. Many Australians are experimenting with different versions of retirement, such as working fewer hours or changing careers.
A popular option for those seeking a flexible retirement is a transition-to-retirement pension, or TRIP. It typically replaces taxable employment income with concessionally taxed income from a superannuation pension.
TRIPs are an innovative policy which support a gradual retirement. They are compelling because you can access your super savings without retiring and also benefit from super pension tax advantages.
The three most common variations of a TRIP are: continuing work as usual and boosting income with concessionally taxed super pension income; working fewer hours but maintaining lifestyle by supplementing lower work income with concessionally taxed super pension income; either maintaining or reducing hours worked and salary sacrificing into a super account to reduce taxable income and boosting the super account.
This third, and most popular, TRIP strategy can help you cut your income tax bill, while increasing your superannuation balance. The drop in disposable income is fully or partially replaced by pension payments sourced from the TRIP. I explain this option below.
How a TRIP works
A TRIP can provide a lot of flexibility depending on your age, income, how much super you have, and how much tax you pay.
The earnings on a TRIP pension account are exempt from tax, which means more money is retained in the pension account for your retirement. And the taxable component of super benefits paid out from the pension account to the fund member are eligible for a 15 per cent pension rebate for fund members under the age of 60, or are tax-free for members aged 60 years or older. If the pension benefit includes a tax-free component, that portion of the benefit is tax-free regardless of the age of the member.
Anyone considering taking a TRIP must have reached their preservation age. If you were born before July 1, 1960, your preservation age is 55 years. If you were born on or after July 1, 1960, your preservation age is at least 56 years and can be as much as 60 years. If you were born after June 1964, your preservation age is 60 years.
You must withdraw no more than 10 per cent of your TRIP account balance (as at July 1) each financial year and you must withdraw at least 4 per cent of your account balance each financial year.
Generally, you cannot convert your TRIP into a lump sum unless you retire, turn 65 or satisfy another condition of release. The restriction on taking lump sums means that the TRIP is non-commutable; that is, the fund member is not permitted to take a lump sum, or otherwise access the balance of the transition-to-retirement pension account.
The one exception to the non-commutable rule is when the fund member has some unrestricted non-preserved benefits in the TRIP account.
You could have these benefits if you were a fund member before July 1999. If so, the benefits are not preserved and can be accessed as a lump sum from the TRIP account, without breaking TRIP rules.
The amount of lump sum taken counts towards the minimum 4 per cent pension payment paid each year, but not towards the 10 per cent maximum payment limit.
The TRIP account must be kept separate from the superannuation account that accepts contributions for the fund member.
The tax benefits
Whether or not you reduce the hours you work, salary sacrificing super contributions into your fund up to your concessional contributions cap and replacing part or all of your sacrificed income with pension payments from a TRIP can save on tax.
For example, Stewart is 57 and earns $120,000 a year. He has $200,000 in his super account and starts a TRIP (see table). He must withdraw at least $8000 from his pension account each year. Stewart takes full advantage of his concessional contributions cap of $35,000 for the 2014-15 year (for those aged 49-plus at June 30, 2014).
Stewart salary sacrifices $23,600. Adding his employer’s 9.5 per cent contributions of $11,400 takes his total concessional contributions to $35,000. Stewart’s taxable income drops from $120,000 to $104,400 and he receives a 15 per cent tax rebate of $1200 on his $8000 TRIP income.
By salary sacrificing and starting a TRIP, Stewart receives a lower after-tax income, but accumulates a much larger superannuation benefit. He pays about $5800 less in income tax (but about $3500 more in super contributions tax), and increases his super account at the end of the year by $14,000 more than if he hadn’t used the TRIP strategy. If Stewart were 60 or older, he could potentially save an extra $1760 in income tax.
Trish Power is a columnist for Financial Review Smart Investor. She is one of Australia’s leading superannuation experts and has written eight books on superannuation and personal investment. Trish writes a monthly column on superannuation.