Nick Bruining: ‘Wash’ your superannuation of tax with this simple recontribution hack

A supposedly “new” superannuation strategy being promoted by some financial advisers has been around for years.

But it’s worth revisiting because when your superannuation eventually passes to your loved ones, the tax savings to them could be more than $60,000.

The process — sometimes called “washing your super” — is more commonly known as the recontribution strategy. It is available to retired people aged between 60 and 75 with super balances of less than $1.9 million.

In simple terms, the strategy sees you withdraw a large amount of your super and then immediately recontribute that same amount back to your fund.

The trick is to understand how the tax is applied and to make sure you play within the rules.

First, we need to understand the tax components of your super balance. The same taxes apply whether the money is in accumulation or pension phase.

Your most recent statement, or a call to your fund, will reveal two parts of your total balance — a tax-free and a taxable amount.

No tax is ever payable on the tax-free part whenever it is paid. It usually comes from non-concessional contributions, but they can also include government co-contributions, spouse contributions or super-downsizer payments.

In most cases, the taxable part will show a taxed component. Members of State or Federal government schemes may also see an untaxed component as part of the taxable part.

The bottom line is at some point, tax will be paid on the taxable component.

And depending on the make-up of the taxable component, it will be paid at different rates.

If you die and leave the super to a financial dependant or interdependent, the entire amount passes to your loved ones tax-free. The only people likely to tick that box will be your partner and, possibly, dependant children.

Other dependants nominated will have the taxable part added to their other income. Through the magic of tax offsets, the maximum tax paid is 15 per cent, plus the Medicare levy.

However, the gross amount could mess up their entitlement to income-tested benefits. That includes things like family tax benefits and paid parental leave, and it may even cost them extra super contributions tax.

With no tax-dependents, most planners suggest super is best left to the estate. No tax is normally payable when the estate distributes funds to the beneficiaries.

The magic of the recontribution strategy lowers the proportion of taxable super and boosts the tax-free part. That then reduces the total tax paid on the super death benefit.

First, work out how much you can legally contribute. You are about to make use of the non-concessional contribution cap. By using the three-year “bring forward rule”, most of us can contribute up to $360,000.

That assumes you haven’t already triggered the bring forward rule in the past three years and your total super balance is less than $1.66m.

There are contribution restrictions up to $1.9m. Above that, you can’t make non-concessional contributions.

Assuming you’re good to go, you now withdraw $360,000.

Had that same amount been paid to one of your non-financial dependants on your death, the tax sting would have been a colossal $61,200. That’s calculated on $360,000 multiplied by 15 per cent tax plus the 2 per cent Medicare levy (at least).

Because you are over the age of 60 — and assuming it’s all from the taxed, taxable portion — there’s no tax whatsoever on the withdrawal.

You then immediately pop it all straight back into super.

If the money comes from an income stream account like an account-based pension, you will need an accumulation account to make the new contribution into. If you don’t still have one, that’s probably as simple as an online application with your existing ABP provider.

As soon as the money hits, you will see the tax-free part jump by $360,000 and your total super balance hasn’t changed.

You can start a new separate ABP or, to keep things simple, roll over the original ABP to combine it with the “new” $360,000 accumulation account. With the balance now back to where you started, you start a new ABP.

You can’t cheat death, but you just cheated the ATO out of $61,200.

Nick Bruining is an independent financial adviser and a member of the Certified Independent Financial Advisers Association