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Case Study: TRAP & Salary Sacrifice


 
 
Salary Sacrifice and TRAP Case Study Example

Let's consider a Case Study demonstrating how much tax you can save by commencing a TRAP Strategy in combination with a Salary Sacrifice Strategy whilst you are still working.

Example:

Barney is 58 and is still working.  That is he is NOT "Retired".  Barney has a Super Benefit of $1,000,000.  His Super Benefit is broken down into a "Taxable Component" of $800,000 (built up from Employer Contributions) and a Tax Free Component of $200,000 (built up from Personal Non Concessional Contributions).  This means that 80% ($800,000 / $1,000,000) of Barney's Super Benefit is Taxable and $20% ($200,000 / $1,000,000) is Tax Free. 

Barney commences a Transition to Retirement Pension (TRAP) on 1 July, 2017.  This is the appropriate Pension to commence given that Barney is NOT "Retired".  Barney must access 4% of his Super Benefit as a Pension, that is $40,000.  The Tax Free portion of the Pension Income is 20% (i.e. $8,000) and the Taxable portion of the Pension Income is 80% (i.e. $32,000). 

Barney has no income other than his salary income from working of $100,000.  The SMSF has generated a Taxable Income of $60,000 made up of taxable interest and dividend income and realised capital gains from the sale of shares during the financial year.  Franking Credits on the dividend income Barney total $10,000.

Barney is contemplating whether to Salary Sacrifice $15,000 into his SMSF acknowledging that he can take a Minimum Pension payment of $40,000 per annum to supplement the amount sacrificed into his SMSF.  The tax savings of implementing a Salary Sacrifice Strategy in combination with a TRAP are detailed below:

 
 
Case Study Result

Tax Result in SMSF TRAP & Salary
Sacrifice (Under 60)
TRAP & Salary
Sacrifice (Over 60)
No TRAP &
No Salary Sacrifice
SMSF Income $60,000 $60,000 $60,000
Salary Sacrifice Contributions $15,000 $15,000 $0
Dividend Gross Up $10,000 $10,000 $10,000
Total Income $85,000 $85,000 $70,000
Tax on SMSF Income ($10,500) ($10,500) ($10,500)
Tax on Salary Sacrificed Contributions ($2,250) ($2,250) $0
Franking Rebate $10,000 $10,000 $10,000
SMSF Tax Refund / (Payable) ($2,750) ($2,750) ($500)

 

Tax Position in Personal Name TRAP & Salary
Sacrifice (Under 60)
TRAP & Salary
Sacrifice (Over 60)
No TRAP &
No Salary Sacrifice
Salary Income $100,000 $100,000 $100,000
Less: Salary Sacrifice $15,000 $15,000 $0
Taxable Pension Income $32,000 $0 $0
Total Taxable Income $117,000 $85,000 $100,000
Tax Payable ($33,262) ($20,872) ($26,632)
Low Income Tax Rebate $0 $0 $0
Pension Rebate $4,800 $0 $0
Personal Tax Refund / (Payable) ($28,462) ($20,872) ($26,632)

 

Overall Tax Result TRAP & Salary
Sacrifice (Under 60)
TRAP & Salary
Sacrifice (Over 60)
No TRAP &
No Salary Sacrifice
SMSF Tax Refund / (Payable) ($2,750) ($2,750) ($500)
Personal Tax Refund / (Payable) ($28,462) ($20,872) ($26,632)
Reduction in SGC (Worst Case) ($1,425) ($1,425) $0
TOTAL Tax Refund / (Payable) ($32,637) ($25,047) ($27,132)

 

 
 
Case Study Result - Over 60

The above example demonstrates that commencing a TRAP in conjunction with a Salary Sacrifice Strategy when over age 60 has saved Barney $2,085. This is an annual tax savings and demonstrates the taxation savings available by commencing a TRAP in conjunction with a Salary Sacrifice Strategy after age 60! A more interesting aside is that Barney Salary Sacrificed $15,000 in pre-tax income. After tax he would have received only $64,128 to use to fund living expenses. The extra income he has sacrificed has been made up by accessing a Minimum Pension Income of $40,000. So Barney does not feel a cashflow burden! Even better Barney has maintained his living standard and saved $2,085 in tax. If Barney's employer does the right thing and pays Barney's SGC on his full salary of $100,000 and most employer's will do this (see the "Reduction in SGC Contributions" section below) then Barney's tax savings further increase to $3,510.

 
 
Case Study Result - Under 60

The above example demonstrates that Barney is actually worse off by commencing a TRAP in conjunction with a Salary Sacrifice Strategy when under age 60 as he needs to pay an additional tax of $5,505. The TRAP Strategy in combination with a Salary Sacrifice Strategy is not always beneficial because TRAP pension payments are taxed when you are under 60. The results vary from person to person.

 
 
Reduction in SGC Contributions

A relatively unknown loophole in the Superannuation Guarantee Contribution (SGC) rules enables an employer (if they're nasty) to cut an individual's SGC entitlements when an employee reduces their taxable salary via a salary sacrificing arrangement. This in effect cuts the employee's total salary package, unless the employee has a written contract stating otherwise. For example, say, Barney earns $100,000 a year plus SGC (9.5%). Barney can expect to receive $9,500 in SGC taking his total salary package to $109,500. To the extent that Barney salary sacrifices $15,000 as in the above example, Barney's employer is then only liable to pay SGC on Barney's net salary after the salary sacrificed amount (i.e. on $85,000). This causes a reduction in Barney's SGC entitlements of 9.5% of $15,000 or $1,425. Barney is still better off by following the salary sacrificed strategy in the above example if he is over age 60 however the SGC reduction is definitely an issue to note. Typically most employers are nice and they will do the honorable thing and pay the SGC on the gross salary of $100,000 and not the net salary of $85,000. But definitely ask your employer first. You will at least find out how nice they are if nothing else!