Last year, the ATO updated its ruling TR 2013/5 Income tax: when a superannuation income stream commences and ceases. This included the ATO’s view that if a super pension ceases (eg because of failure to make minimum pension payments), that a new pension will not start until a new pension formally commences (eg via new pension documents).
The ATO’s view is based on the premise that failure to comply with the Superannuation Industry (Supervision) Regulations 1994 (SIS Regs) (for example failing to make the annual minimum pension payments) cause the pension (and the super fund’s tax free retirement phase) to cease. This view is based on an interpretation of the requirement that the super fund rules must ensure that various requirements are met, including the minimum pension payments. The ATO views the use of the word “ensure” as requiring the requirements must be implemented each particular year, rather than a plain reading of the regulation that the rules must be correct (regardless of whether they are, in fact satisfied in any given year).
For the reasons outlined below, in the author’s view, the ATO’s interpretation is incorrect. That is, the failure to make minimum pension payments in any given year will not cause the pension to cease and will not result in the loss of tax free retirement phase.
Legislation:
Under the Income Tax Assessment Act 1997 (ITAA 97) section 307-70(2), a superannuation income stream has the meaning given by the regulations – Income Tax Assessment Regulations 1997 (ITAR 97).
Under ITAR 97 regulation 307.70.02 ITAR a superannuation income stream includes, among other things, an “income stream” that is “taken to be” an annuity or pension under SIS Regs 1.05(1), 1.06(1) or 1.07(1).
Under SIS Regs regulation 1.06(1) the benefit is taken to be a pension if, among other things, the rules of the superannuation fund meet standards set in regulation 1.06(9A) (and equivalently for an annuity under regulation 1.05).
That is, the rules must comply with the SIS Regs and there is no provision that provide that a pension ceases for failure to comply with the rules - ie it’s whether the rules comply with the SIS Regs, not whether those rules are complied with.
Therefore, in the author’s view, the ATO’s expansive view of the word “ensure” is not supported by the natural reading of the legislation.
Case Law:
“Superannuation income stream” is a defined term
Commissioner of Taxation v Douglas [2020] FCAFC 220 (Douglas) is referred to in ATO TR 2013/5 (Ruling) as support for its position.
As an initial concept, the Judgment in Douglas refers to the use of interpretation of a definition as inclusive but not exclusionary:
92 Secondly, as the Commissioner frankly acknowledged, reg 995-1.01 is not well drafted. Some of the difficulty in determining whether or not it provides the requisite specification lies in the fact that it is, in its own terms, a definition provision. Generally, definition provisions are given a relatively narrow effect and are not normally viewed as having a substantive effect. Thus in Gibb v Federal Commissioner of Taxation [1966] HCA 74; 118 CLR 628, Barwick CJ, McTiernan and Taylor JJ effectively said that generally a definition is an aid to the construction of the substantive provisions of legislation and, if drafted properly, is not a provision which itself has substantive effect. Their Honours said at [10]:
… The function of a definition clause in the statute is merely to indicate that when particular words or expressions the subject of definition, are found in the substantive part of the statutory under consideration, they are to be understood in the defined sense – or are to be taken to include certain things which, but for the definition, they would not include. Such clauses are, therefore, no more than an aid to the construction of the statute and do not operate in any other way. …
Which led to discussion of the concept that the definition of superannuation income stream is primarily used to differentiate it from a superannuation lump sum, rather than setting out when a superannuation income stream ceases:
96 The construction of reg 995-1.01 cannot be divorced from relevant provisions of the parent act. Both the terms of the 2007 amendments to the ITAA 1997 and the accompanying extrinsic materials make clear that a primary purpose was to create a dichotomy between lump sum and income stream benefits in the superannuation context, the precise content of which was left to be supplied by the regulations. The respondents did not deny the Parliament’s intention to create this dichotomy, but they contended that a lacuna was created by the Executive’s failure to fulfil the task of specification contemplated by the primary legislation, at least until the 2018 Amendment Regulations were made which contained an explicit specification.
Ultimately in this case the relevant definition was found to not be met under the relevant superannuation fund rules because those rules allowed for cancellation of the income stream that did not accord with the commutation standards under SIS Regs 1.07D:
125 The problem with this submission is that it is not possible to divorce the construction of the MSB Rules from the application of the rules to recipients of the benefit or benefits for which they provide. If the MSB Rules allow for the cancellation of the relevant benefit, it cannot be said that the rules “ensure” the benefit is payable for the lifetime of the recipient. Stating that the rules do ensure the benefit is so payable assuming the relevant recipient remains entitled implicitly recognises that the rules fail to ensure the benefit is so payable.
Ceasing to be a superannuation income stream is not defined
Although the above can show when superannuation fund rules do not meet the pension standards (i.e. they need to be varied or they would never meet the standards) the Ruling sets out that the trigger for ceasing of a superannuation income stream (in the absence of any variation of the super fund rules for pensions) is not clearly defined in the SIS or ITAR legislation:
When a superannuation income stream ceases
91. Neither the ITAA 1997 nor the ITAR (1997 Act) 2021 sets out when a superannuation income stream ceases for income tax purposes.
92. As outlined at paragraph 52 of this Ruling, a superannuation income stream, as relevant to this Ruling, must meet the requirements of a pension in subregulation 1.06(1) of the SISR 1994. The pension standards contained in the SISR 1994 also do not explicitly prescribe when a pension ceases for regulatory purposes.
93. Whether a superannuation income stream has ceased must be determined by reference to the superannuation fund’s governing rules, the relevant requirements of the SISR 1994 and the particular facts and circumstances of the payment of the member’s, or dependant beneficiary’s, benefits.
94. A superannuation income stream ceases when there is no longer a member who is entitled, or a dependant beneficiary of a member who is automatically entitled, to be paid a superannuation income stream benefit from a superannuation interest that supports a superannuation income stream.
Although the start of paragraph 93 appears to be supported by Douglas, it does not support the emphasised words (in italics).
Test for not being a superannuation income stream is with regard to the pension rules, not the circumstances
Relevantly, Douglas was referred to at paragraph 99 of the following explanatory section of the Ruling:
Failure to comply with pension rules
96. A superannuation income stream must meet the requirements of subregulation 1.06(1) of the SISR 1994, and thus the requirements of subregulation 1.06(9A) of the SISR 1994, and the commutation standards in regulations 1.07D of SISR 1994.44 If these requirements, as relevant to the circumstance, are not met there is not a superannuation income stream.
97. The requirements of subregulation 1.06(1) of the SISR 1994 state that for a benefit to be a pension it must be provided under the rules of a superannuation fund that meet various requirements, including the standards of subregulation 1.06(9A). If these standards are not met, the requirements of subregulation 1.06(1) will not be met.
98. Subregulation 1.06(9A)45 of the SISR 1994 provides that the rules of the superannuation fund meet the relevant standards if the rules ‘ensure’ that the payment is made at least annually and ‘ensure’ that the other requirements as outlined in that subregulation are met.
99. The word ‘ensure’ is given the meaning in the Macquarie Dictionary as ‘to make sure or certain to come, occur, etc’. As the rules of the superannuation fund must ‘ensure’ that the standards are met it is not enough for the rules of the superannuation fund to simply include a reference to, or reproduce the terms of, those standards. Rather, the rules (standards) must be met, or given effect to, in practice.45A (this footnote refers to Douglas at para [125]
100. If a purported superannuation income stream fails to meet these requirements in a financial year, the superannuation income stream will be taken to have ceased at the start of that income year46 for income tax purposes. Therefore, from the start of that income year the superannuation interest is no longer supporting a superannuation income stream and the payments made from that superannuation interest are not superannuation income stream benefits. Therefore, any payments made during that income year or subsequently are superannuation lump sums.
101. A new superannuation income stream can only commence from the superannuation interest where the rules of the superannuation fund ensure the payment is made at least annually and that the other requirements in subregulation 1.06(9A) of the SISR 1994 are met. To achieve this, any previous income stream payable from the interest must cease (for example, by commutation), and a new superannuation income stream must commence under the principles in paragraphs 9 to 13 of this Ruling. The proportioning rule47 must be applied to that new superannuation income stream when it commences.47A 102.
Example 6 (paragraphs 42 to 44 of this Ruling) illustrates the effect of a superannuation income stream not meeting the minimum annual payment requirement.
Again, as noted below, Douglas does not support the emphasised words.
The focus in Douglas was not the payments in practice but whether the MSB Rules met the SIS pension standards
Douglas paragraph [125] was referred to in paragraphs 98 and 99 of the Ruling above, which happens to be a description of the key word for the ATO’s view being that the rules of the super fund must ‘ensure’ that the standards are met.
116 The only dispute between the parties was whether SIS Regulations reg 1.06(1)(a)(i) and (ii) applied; it was not contended that SIS Regulations reg 1.06(1)(b) and (c) were not satisfied. It is to be noted, and the parties agreed, that SIS Regulations reg 1.06(1) directs attention to the rules of the relevant fund, not to the entitlement of a particular individual. It is also to be noted that SIS Regulations reg 1.06(1) directs attention to the particular “benefit” provided under the rules of the relevant superannuation fund.
125 […] The idea that the superannuation rules provide for annual payments for the lifetime of the recipient provided the recipient continued to meet requirements stated in the fund rules requires words to be read into the SIS Regulations and invites abuse of the SIS Regulations by allowing superannuation funds to create exceptions to the minimum standards required by SIS Regulations.
The ATO goes further in the emphasised section in paragraph 99 that the standards must be met in practice (i.e. by the actual payments being made).
It was ultimately held in Douglas that the allowance for cancellation of the income stream in the rules of the pension meant that the word ”ensure” was not satisfied and so there was no superannuation income stream as the superannuation rules did not meet the standards in SIS Reg 1.06(2).
133 The fact that the “invalidity pension” can be cancelled under MSB Rule 29(1) means that the MSB Rules do not “ensure” that “the pension is paid at least annually throughout the life of the primary beneficiary”: SIS Regulations reg 1.06(2). 134 The same result flows from MSB Rule 36, which provides that, where a person in receipt of an invalidity pension again becomes a member of the MSB Scheme (by coming out of retirement), his or her entitlement to that pension is cancelled.
[…]
136 The Tribunal made the observation in BJ at [60] that there are difficulties in applying SIS Regulations reg 1.06, which was drafted to cover “the ordinary indicia of a conventional pension or superannuation entitlement”, to the provisions of a unique statutory scheme. That observation should be endorsed. It is tolerably clear that the statutory scheme of which the MSB Rules form a part was designed with a view to it providing invalidity benefits in the form of income stream benefits. However, it is a unique scheme which contains significant differences to those more obviously the intended subject of SIS Regulations reg 1.06. Assuming the legislature intended and intends the “invalidity pension” under the MSB Rules to constitute “superannuation income stream benefits”, which appears likely, it would not be difficult for the SIS Act or SIS Regulations to exempt them from the minimum standards or otherwise address the MSB Scheme separately.
137 The answer to Issue 7.1 is that the MSB Rules did not meet the standards of reg 1.06(9A)(b)(iii) or reg 1.06(2) of the SIS Regulations.
It is noted that this decision does not provide any indication about when a superannuation income stream ceases – the word “ceases” was not used in the Judgment for Douglas in this sense. The Judgment in Douglas here concerned the MSB Rules themselves rather than the pension payments in practice.
The Douglas decision held that the payments were not benefits taken under a superannuation income stream pension – following the analysis above that the pension rules did not create a valid superannuation income stream
This follows in the conclusion for issue 8 in the Judgment of Douglas which concerned the payments in practice – it concluded that the payments were not under a superannuation income stream because the MSB Rules themselves were found to not meet the standards for a superannuation income stream at issue 7.1 above.
141 For the reasons given in relation to Issue 7.1, the payments made to Mr Burns and Mr Walker did not meet: (a) the standard required by the chapeau to SIS Regulations reg 1.06(9A) because the rules did not ensure that payment of the pension was made “at least annually”; (b) the standard required by SIS Regulations reg 1.06(9A)(b)(iii) because the rules did not ensure that the standards of SIS Regulations reg 1.06(2) were met in that the rules did not ensure that the payments were made “at least annually throughout the life of the primary beneficiary”. The MSB Rules did not meet the requirement that the “size of payments of benefit in a year [was] fixed”, subject to variation as contemplated by the superannuation fund’s rules (SIS Regulations regs 1.06(9A)(b)(iii), 1.06(2)(b)(i)), because the size of the payments would be reduced to nil by cancellation under MSB Rule 29(1) on reclassification to Class C.
[…]
143 It follows that the payments of an invalidity pension made to each of Mr Burns and Mr Walker under the MSB Act were not benefits that were taken to be a pension for the purposes of reg 1.06(1) of the SIS Regulations (Issue 8) and that the payments did not satisfy the requirements of the definition of superannuation income stream in subpara (a)(ii) of the definition of superannuation income stream in reg 995-1.01(1) of the ITAR 1997 (Issue 9).
Summary – pensions do not cease due to failure to make minimum payments
The summary of the author’s position is as follows:
The ITAR definition of superannuation income stream relies on the SIS Regs definition of pension
The SIS Reg definition of pension requires that the “rules” of the pension must meet the regulatory requirements
The SIS Regs do not require the trustee to actually comply with those requirements or the pension rules. Nor do that stipulate that a pension ceases if those rules are not complied with
That is, if the pension rules comply with the requirements but the trustee does not comply with the pension rules (eg by failing to make the minimum pension payments), the pension does not cease to exist
While the ATO now quote Douglas to support their view, Douglas does not support the ATO’s view - in Douglas the “rules” did not satisfy the SIS Regs, therefore, it was not a pension
In paragraph 99 of the ruling, the ATO state that “the rules (standards) must be met, or given effect to, in practice” – but there is no statutory or case law to support this view
As noted above, it’s whether the rules comply with the SIS Regs, not whether those rules are complied with
Therefore, a pension will not cease (and retirement phase will not cease) merely due to the failure to make the minimum annual pension payments
Phil Broderick
Principal
T +61 3 9611 0163 l M +61 419 512 801
E pbroderick@sladen.com.au
Philippa Briglia
Special Counsel
T +61 3 9611 0174 | M +61 449 404 801
E: pbriglia@sladen.com.au
