Business owners have considerable power to maximise super contributions to gain immediate and long-term advantages. MICHAEL LAURENCE reports.
By Michael Laurence
Many SME owners are shaking up their remuneration packages to take a much higher component in superannuation while significantly cutting back on cash salaries and dropping benefits that are either no longer needed or not tax-effective. The super remuneration package has emerged.
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Meg Heffron, co-principal of DIY super fund consultancy Heffron Consulting, says many of her SME clients — who unlike regular employees have complete control over how their remuneration is received — are now really bumping up the superannuation in their packages. Heffron is advising numerous SME owners to take 100% of their remuneration in salary-sacrificed super, with no cash salary.
Heffron’s clients with all-super remuneration packages often meet their immediate income needs with the increasing popular transition-to-retirement super pensions. (The pensions — restricted by law to super members over 55 — are payable before retirement, as their name implies. Their concessional tax treatment makes the pensions much more tax-effective than fully-taxable salary income.)
New proposals a boon for business owners
Heffron says the main motivation for maximising super contributions, however, is the Federal Government’s proposals for tax-free super retirement pensions and lump sums from July this year for those over 60, replacing the reasonable benefit limits, which place dollar ceilings on concessionally-taxed super payouts on retirement. “It’s like the shackles on super have been lifted,” Heffron says.
Matthew Honan, managing director of the salary packaging group Remunerator Australia, also has found that many of his clients are redoing their remuneration packages to devote much more to super. Again, this is because of the Government’s plans for tax-free super benefits on retirement.
Gary Fitton, managing director of the Remuneration Strategies Group, agrees with Heffron that SME owners typically have considerable flexibility to ensure that their remuneration is received in the most tax-effective and desired way. He says that remuneration might be a combination of franked dividends, packaged super and other packaged benefits.
Case study: Meet the Smiths
To illustrate how remuneration packages can become immediately much more tax-effective by packaging more super, Fitton has prepared case studies of a couple, the Smiths, in their early 50s who are directors and employees of their own business. Each has a $120,000 remuneration package.
This couple has much more ability than in the past to maximise their packaged super contributions. Their children are no longer dependants, having recently finished their tertiary education. And the couple has just completed paying off the family home.
Up until now, the husband has taken mortgage repayments of $21,000 a year and children’s tertiary education fees of $20,000 a year as cash advances on his salary.
But with mortgage repayments and education fees no longer having to be paid, Fitton has redesigned the package so that the extra money is “all pumped into super”. The husband’s salary-sacrifice super contributions rise from about $13,400 a year to almost $76,000.
“The salary package is 13% more effective in pure tax terms,” says Fitton. “But more importantly, the package is much more focused towards providing for retirement in the most effective and legitimate means available.”
And this business owner has resisted any temptation to replace his ageing BMW, worth about $30,000 with a new luxury car in his package. (Find details later in this article on how the car is packaged for maximum tax-effectiveness.)
Fitton calculates that this will immediately increase the tax-effectiveness of her package by 19% a year — simply because packaged super is taxed at 15% on entering the super fund, a big tax break personal tax rate that would otherwise be payable.
Under their redesigned packages, the couple will contribute almost $166,000 to super in total, up from a total of under $24,000.
A closer look at the features of this couple’s remuneration packages may provide valuable ideas to other SME owners for the design of their packages. Even before the redesign, the couple’s packages were tax-effective given their circumstances.
Fitton uses what is known as an associate lease for the packaged BM. With an associate lease, an employee’s associate (often a spouse) leases a fully-maintained car at a commercial rate to the employer who, in turn, provides the vehicle as part of an employee’s package.
In this case, Fitton has arranged for the husband to personally pay the car’s running costs, from his after-tax income, up to its tax taxable value for fringe benefits tax (FBT). This will neatly remove the vehicle from the FBT net.
This contribution by the husband of running costs up to the FBT taxable value is a smart move. If he didn’t do this, the standard FBT rate, which is based on the top marginal rate, would apply.
Under the tax act’s so-called statutory method, the taxable value of a packaged car for FBT is set on a percentage of its value. And the percentage increases with the number of kilometres travelled each year. In this case, the BMW travels about 25,000 kms a year so its taxable value is 11% of its $30,000 value or $3300.)
Mortgage and education fees
Fitton had allowed for the mortgage loan payments and the education fees to be provided as advances to the husband. He says this is a common way for SME owners to deal with such payments.
The main reason for providing the mortgage payments and education fees as advances on salary rather than debiting the salary package directly is that the amounts are taxed at the recipient’s marginal tax rate instead of the standard FBT rate which, as previously mentioned, is based on the top marginal rate.
The advances were repaid to the company before the end of each financial year in order not to cause difficulty with division 7A of the tax act, Fitton says. This division is designed to stop private companies disguising dividends to shareholders as so-called loans.
(Division 7A gives the tax commissioner the power to declare that such “loans” are deemed dividends, which are taxable at the shareholder’s marginal tax rate without the benefit of imputation credits — despite the debiting of the company’s franking account.)