"Super" Salary Packaging Is Back

Salary packaging into superannuation lost much of its popularity for high income earners in 1996 when the Government lifted its upfront tax grab from 15 per cent to as high as 30 per cent with the punitive super surcharge of up to 15 per cent on people with "income" over a certain level. The same government has finally seen sense and announced the surcharge's abolition.

As a result, salary packaging into super is back with a vengeance. Increasing super contributions isn't just for high income earners. Regardless of income level, most employees should consider increasing the amount they pay into super in order to increase retirement savings. In some cases, they may also gain other benefits.

But be warned: it is important to understand how the rules work, because getting it wrong may end up costing more than taking salary and making an after-tax contribution to super.

Because each employee has different financial needs, accumulated superannuation and income (from employment and other sources), there is no one-package-fits-all. But one thing must be considered in all cases: the comparative tax effect. If the after-tax cost of salary sacrificing into super is the same as, or more than, cash wages, packaging should only be considered if there are other benefits.

The marginal tax rates (MTR) that have applied from 1 July 2005 are:

As the situation of each person (and, where applicable, each family) is different, several things must be taken into account before salary sacrificing into super. These include:

• Your age and whether your employer is a tax paying employer. If your employer pays tax, there are restrictions on the tax deduction that can be claimed for superannuation contributions for each employee, whereas all of an employee's salary is tax deductible. Your employer would be worse off if its total super contribution for an employee, including superannuation guarantee contributions, exceeded that employee's age-based deduction limit.

  The deduction limits for 2005-06 are as follows:

  

• Whether you will need any of your excess income before you can access your superannuation benefits. The reason for this is that money that is paid into superannuation is "preserved" (cannot be withdrawn) until a "condition of release" has occurred. This is usually when you retire on or after your "preservation age" (55 if you were born before 1 July 1960; as high as 60 if you were born after that; or when you reach 65). There are other exceptions, but they should not be relied on because they apply only in exceptional circumstances; and, in any case, the amount of superannuation you could access is restricted.
• How much money you already have in super. There are restrictions on the amount of superannuation you can receive when you retire that is eligible to be taxed at concessional rates. These restrictions are called "reasonable benefit limit" (RBLs). Although they will not affect anyone with less than about $649,000 (lump sum limit in 2005-06 and indexed annually), those people that may exceed this limit need to get professional advice on how they may be affected and on strategies to deal with it so that they do not exceed the pension RBL, which is $1.298 million.
• Whether you may be, or become, entitled to certain government benefits or incentives. This can include eligibility for the family tax benefit and/or a government co-contribution of up to $1500 for personal after tax contributions to super.

Let us look at an example of how salary packaging can increase a person's overall wealth creation:

Salary sacrificing $15,000 into super

John has been offered a new job with a remuneration package of $70,000 plus his employer paying 9 per cent of his package ($6300) as a superannuation guarantee contribution.

If John takes the $70,000 as salary, he will pay $17,700 tax plus $1050 Medicare levy. This will reduce his salary by $18,750, leaving him with $51,250 in his pocket.

The $6300 superannuation guarantee contribution will be included in the assessable income of John's super fund and incur tax of up to $945 (explained later), leaving him with increased super benefits of $5355. Thus his total after-tax package is $56,605.

John's income is too high for him to be eligible for a super co-contribution if he makes personal after-tax contributions to superannuation.

He can increase the value of his salary package and his net wealth if he packages part of his pre-tax salary into employer paid superannuation.

Let us assume that John is 45, single and needs $800 a week ($41,600 a year) to live on. If he has no other income and takes a salary of $55,000, he will pay tax and Medicare levy of $13,185, leaving him with after-tax money of $41,815.

John can salary sacrifice the remainder of his package of $15,000 into super, so that his employer's total superannuation contribution becomes $21,300. This contribution will be included in the assessable income of his super fund and incur tax of up to $3195. (The actual amount of tax paid in a self-managed super fund can be reduced considerably if part of the income the fund receives is from franked dividends.)

In addition, if John pays $150 of after-tax money into his super fund, he will receive a government co-contribution of $225 (the maximum he can receive for his income), which is not taxable in the super fund.

John will end up with after-tax income of $41,665 ($41,815 minus $150 personal super contributions) plus a net increase of $18,480 ($18,105 plus $150 plus $225) in super. The net result is that he has effectively increased the value of his salary package by $3540, from $56,605 to $60,145.

Barbara Smith, CPA (Taxation), CFP, and registered tax agent, can be contacted on superbsmith@optusnet.com.au