Changes to ‘income’ definitions – how this will affect you
In the 2008-09 Budget, the Federal Government announced measures to reform income tests across the tax and transfer systems; these will come into effect from 1 July. This includes now taking into account items such as salary sacrifice superannuation contributions in benefit calculations.
Basically, these measures will now include particular salary-sacrificed contributions to superannuation in income tests for relevant tax and transfer system programs. Any net financial investment losses and net rental property losses, where appropriate, will be added to applicable income tests.
As well, adjusted fringe benefits will be assessed as income for those tax programs where they are not already included, while the income tests for the dependency tax offsets will also be amended.
According to the consultation paper, the new measures are: “… designed to enhance fairness in the application of income tests, and to better ensure that government assistance is targeted to those most in need”.
The four measures are:
- expanded income definition to include (non-mandated) salary sacrifice superannuation contributions
- expanded income definition to include net financial investment losses
- expanded income definition to include adjusted fringe benefits for certain tax offsets/rebates
- tightened income definition relating to dependency tax offsets
In this article, we’ll focus mainly on changes to the income definition, relating to salary sacrifice to superannuation.
For a full list of programs that will be affected by the income test reforms, please click here.
Net financial investment losses
As well, the government will introduce the concept of “net financial investment losses” - this is the difference between the deduction amount claimed for an investment compared with the income earned from it. It includes net rental property losses.
For a full list of programs that will be affected by the net financial investment losses concept, please click here.
What is the current law?
Currently, taxpayers can salary sacrifice part or all of their remuneration into superannuation to reduce their taxable income used to assess eligibility for certain government-provided benefits - this includes the government co-contribution, Family Tax Benefit (Parts A & B) and social security for customers less than the aged-pension age.
Example:
Bert is aged 52 and earns $65,000 as a greenkeeper at the local bowling club. Bert’s wife, Carolyn, is a doctor earning sufficient salary herself to allow Bert to sacrifice a good portion of his salary to superannuation.
In 2008-2009 Bert salary sacrifices $30,000 to super; his income assessed for co-contribution purposes is $35,000. Bert makes a $1,000 personal contribution to super.
Bert is entitled to a co-contribution, calculated as follows:
= $1,500 – ($35,000 – $30,342) x 0.05
= $1,267
New expanded ‘income’ definition from 1 July
The proposed legislative change effective from 1 July 2009 would see a new paragraph (c, below) added to the definition of “total income” in the Superannuation (Government Co-contribution for Low Income Earners) Act 2003:
The person’s total income for the financial year is the sum of:
(a) the person’s assessable income for the income year; and
(b) the person’s reportable fringe benefits total for the income year; and
(c) the person’s reportable employer superannuation contributions (within the meaning of the Income Tax Assessment Act 1997) for the income year.
The new term, “reportable employer superannuation contributions”, is defined via section 16-182 of the Taxation Administration Act 1953, but can be summarised thus: reportable employer superannuation contributions will be any salary-sacrificed contributions, paid by an employer on the employee’s behalf, to a superannuation fund or RSA, except amounts that would already be included in the employee’s assessable income or those amounts that are “mandated”, i.e.. the amount the employer is obliged to contribute because of the superannuation guarantee charge or an industrial agreement or award.
For most people, the definition will cover those amounts voluntarily salary sacrificed to superannuation.
Two important points to note are:
- there is a specific reference to amounts contributed to a “superannuation fund”, which includes both complying and non-complying superannuation funds; and
- there is a reference to amounts already included in assessable income that would be applicable to certain Commonwealth superannuation scheme members whose contributions are made out of after-tax salary.
Impact on salary sacrifice advice
From a financial-planning perspective, the new measures from 1 July 2009 means people will have a lesser tax and/or welfare benefit where they are voluntarily salary sacrificing to superannuation.
Key benefits, rebates or entitlements affected will be social security entitlements, family tax benefit and the government co-contribution. Consider these examples:
Example 1: Government co-contribution
Take the example above, where Bert was salary sacrificing to superannuation, thus reducing his income for determining an entitlement to the government co-contribution. In that example, Bert’s voluntary salary sacrifice would be included as income, and thus his total income of $65,000 would be over the upper income limit and his co-contribution determined as nil.
Other examples may see a similar client still entitled to receive a positive government co-contribution, but just a lesser amount.
Example 2: Family Tax Benefit
Consider Alex and Kathy, who have one child aged 3.
Alex earns $110,000 and Kathy has recently gone back to work part-time on a salary of $20,000.
Kathy does not have much superannuation in her own name and was salary sacrificing $10,000 of her salary to boost to her superannuation account.
As a result of Kathy salary sacrificing to super, for 2008/09, she was be entitled to receive some family tax benefit (Part B). Alex, as the primary earner, has an adjusted taxable income of less than $150,000 and Kathy’s income ($20,000 less $10,000 salary sacrifice = $10,000) for the purposes of the Family Tax Benefit Part B, is less than the $22,995 cut-off. (Note, Alex and Kathy’s family income is too much to be eligible for the Family Tax Benefit Part A)
Thus, Kathy’s fortnightly Part B entitlement would be $3,693.80 – ($10,000- $4,526) x 0.2 = $2,599
However, suppose the new rules applying from 1 July 2009 were in place. What would Kathy’s FTB Part B entitlement be?
Kathy’s income for purposes of determining eligibility will include the $10,000 voluntary salary sacrifice, such that her total income would be $20,000.
Hence the FTB Part B entitlement would be calculated as:
= $3,693.80 – ($20,000 – $4,526) x 0.2
= $599
Commonwealth seniors health card adjusted taxable income test
The 2008 Federal Budget also saw changes announced to the income test for determining eligibility to the Commonwealth Seniors Health Card (CSHC). However, this was changed in the 2009 Budget and no eligibility to the CSHC will no longer be affected.
Other observations of the proposed new income test reforms
An interesting by-product of the proposed new legislation relates to the 10% test for claiming a deduction on personal contributions and its interaction with the government co-contribution.
Presently, the legislation is designed so an individual can meet the income test for one, but not both.
The proposed changes to the income test for the government co-contribution will include reportable employer superannuation contributions in the scope of “total income”, however, the 10% test for personal deductibility is not changed in the exposure draft.
Thus, under the co-contribution rules, the relevant test is: 10% or more of the person’s total income for that financial year must be attributable to either or both of the following:
- the person engaging in employee-like activities; and/or
- the person carrying on a business.
Total income will comprise:
- assessable income; and
- reportable fringe benefits; and
- reportable employer superannuation contributions
Note that, as it stands, the Income Tax Assessment Act 1997 says: to deduct the contribution, less than 10% of the total of the following must be attributable to the employment-type activities the subsection describes:
- assessable income for the income year;
- your reportable fringe benefits total for the income year.
To illustrate the disparity, take this example:
Clark, aged 45, earns $30,000 from investments and $15,000 from employment activities. Clark salary sacrifices $12,000 to superannuation. Accordingly, his assessable income is $33,000, and his reportable fringe benefits are nil.
Under the proposed rules to apply from 1 July 2009, Clark will meet the 10% test to enable him to claim a tax deduction on personal contributions, because less than 10% of his assessable income and reportable fringe benefits will be attributable to employee-like activities, i.e. 3,000 / 33,000 = 9.1% is attributable to employee-like activities.
Turning to the government co-contribution, Clark’s total income under the proposed amendments will be $30,000 + $3,000 + $12,000 = $45,000; some $15,000 (i.e. 1/3) of this will be attributable to employee-like activities, because the salary-sacrificed amounts are added into total income.
Thus more than 10% of total income is attributable to employee-like activities and Clark would appear to be entitled to the co-contribution.
We assume this issue will be resolved in the final form of the legislation, but only time will tell.
These changes can be fairly complicated. Should you have any questions regarding how they affect your individual situation, through to official definition of the Act changes, please contact Summerhill Financial Services on 03 8621 0600 or e-mail mail@summerhillfs.com.au
Tags: income test, salary sacrifice