Unlawful Early Release - 27% Fee for service

Unlawful Early Release - 27% Fee for service

What happens when you take a super benefit before the permitted time?  Simple, the promoter takes a 27% fee and you pay tax on the full amount of the super benefit – not just the amount actually received.  Additionally, the ATO will take a further 25% if you fail to disclose the super benefit in your tax return.  Oh, and you will still pay tax on the full amount of the super benefit.

In a recent AAT case, the taxpayer, who had accessed $53,000 super benefit before age 55, was required to pay tax on $53,000 and not just on the $38,370 which the taxpayer actually received.  The difference of $14,630 was, it seems, retained by the promoter of the scheme as their fee.

The taxpayer argued that the benefit they received was the super benefit (net of the promoter’s fee) and not the gross amount.  The taxpayer also argued that the 25% penalty tax imposed by the ATO on the gross amount of the withdrawal was excessive.

The saga

The taxpayer was a member of an industry fund.  At his request the industry fund transferred $53,000 to a self managed superannuation fund called the “ETK Superannuation Fund”.  About one week after the money was transferred, the taxpayer received a payment of $38,370 from the ETK Superannuation Fund.  The taxpayer then spent the $38,370.

The taxpayer neither included the $53,000 nor the $38,370 in his personal tax return.

As the saga occurred during the 2006/07 financial year, the relevant legislative provision is s26AFB of the Income Tax Assessment Act 1936.  However, in all material respects s26AFB is similar to the current provision which is s310-10 of the Income Tax Assessment Act 1997.  Consequently, the case has relevance to the tax treatment of early access super benefits.

Gross or net amount

In relation to the first issue, the taxpayer’s argument was that he thought the $14,630 was on account of tax and that he did not have to include the super benefit in his personal tax return on the basis that it had already been taxed.   In short, the taxpayer’s position was that he thought he paid tax and that it was a final tax on the super benefit.

The AAT was not persuaded.  The AAT held that the taxpayer did not really believe the “final tax” argument as the taxpayer had failed to properly investigate the issue – the taxpayer neither sought professional advice nor contacted the ATO for advice.

25% penalty tax – excessive?

The taxpayer was, surprisingly, successful on this argument.  The taxpayer claimed that he needed the money to pay for urgent medical and hospital treatment of his significantly disabled son who resided in the USA.  

The Tribunal accepted the taxpayer’s claim as there was evidence that his son was significantly disabled.  Surprisingly, the Tribunal accepted the claim even though there was evidence that the withdrawn money was used for other purposes: possibly the Tribunal took a generous view that by using the withdrawn money in a particular way, the taxpayer was permitted to use other money in the payment of the medical and hospital expenses.

The Tribunal held that imposition of the 25% tax was excessive in the particular circumstances of the taxpayer.

Lessons

Early release schemes are very expensive – the promoters take a hefty fee and there is no tax deduction for the promoter’s fee.

The entire amount of the super benefit is included in assessable income – including what would have been any tax free portion of the super benefit.

Where the super benefit is not reported as assessable income, the ATO will add a 25% fee of the super benefit.

In the future

The Government proposes that the tax treatment of early access payments will be changed.  Such payments if received on or after 1 July 2013 will be taxed at a flat rate equal to the maximum personal tax rate which is currently 45%. 

These proposals have recently been released as exposure draft legislation:  refer Income Tax Rates Amendment (Unlawful Payments from Regulated Superannuation Funds) Bill 2012 and Tax Law Amendment (2012 Measures No 6) Bill 2012: Unlawful payments from regulated superannuation funds.

Observations

The taxpayer’s argument that only the net amount of the super benefit should be included in his taxable income was not dismissed out of hand by the Tribunal.  Had the taxpayer been able to show that he genuinely believed that the amount withheld as the promoter’s fee was a final tax on the payment, the Tribunal might have exercised the discretion to exclude the “promoter’s fee” portion of the payment from being taxed in the hands of the taxpayer.

Unfortunately for the taxpayer, he could not provide any evidence that he sought professional advice or the advice of the ATO on this point.  Further, the taxpayer could provide no credible justification for his belief that he could access his super benefit from the ETK Superannuation Fund and not the industry fund.

The AAT Case is Vladimir Yrorita v Com of Taxation (2012) AATA 716