Highlights

  • It might be an ordinary pension payment, or it might be a partial commutation, which is a lump sum.
  • The distinction can affect minimum pension calculations, transfer balance reporting and, for some members, tax.
  • Tim Sanderson, senior technical manager at Colonial First State, discussed the issue on a recent CFS FirstTech podcast.
  • Craig Day, head of technical services at CFS, said the lesson was to get the treatment right the first time.

When an SMSF member in retirement phase takes money out of their pension account, the trustees have to decide how the Withdrawal is treated.

Once a withdrawal has been processed as intended, changing its character later to get a better outcome is very unlikely to be possible.

What the specialists said

Mr Sanderson said the answer was generally no.

To support a correction for a genuine error, he said documentary evidence would be needed, such as a statement of advice or record of advice showing how the withdrawal was meant to be treated, or failing that other material such as emails.

These comments were made in the context of the wider super industry, but the underlying principle is equally relevant to SMSF trustees.

Why the distinction matters in an SMSF

The ATO's guidance on commutations for SMSFs explains that a commutation converts part or all of a pension into a lump sum. Several consequences follow:

  • a partial commutation is a debit to the member's transfer balance account and must be reported on a transfer balance account report, whereas an ordinary pension payment is not;
  • a partial commutation does not count toward the minimum annual pension payment, so a fund that relies on commutations may still need to pay the minimum as pension payments; and
  • for members under 60, lump sums and pension payments can be taxed differently, so the label can change the member's tax outcome.

For a member who has used most of their transfer balance cap, a commutation debit can create room to start a new pension later.

Getting it right at the start

The best protection is a clear request and a clear Trustee decision before the money moves.

  • obtain a written request from the member stating whether they want a pension payment or a partial commutation, and the amount;
  • check that the minimum pension for the year has been or will be paid separately, if commutations are being used;
  • record the decision in a trustee minute on or before the payment date;
  • make sure the bank transfer description and the fund's accounting entries match the decision; and
  • lodge any required transfer balance account report on time.

Hypothetical example: a member aged 58 receiving an account-based pension wants $40,000 to renovate her home.

Correcting genuine mistakes

Where a genuine error has occurred, trustees should act quickly, gather the contemporaneous evidence showing what was intended, and speak to their administrator and auditor.

The takeaway

Whether a withdrawal is a pension payment or a commutation has real consequences for minimum pensions, transfer balance reporting and sometimes tax.