For people who are self employed or persons with substantial taxable income personal deductible contributions are a way of tax deductible contributions to superannuation reducing your taxable income leaving more after tax money for investment.
What is the strategy?
Making personal deductible contributions reduces a person’s taxable income because the contribution is claimed as a tax deduction.
The contribution is taxed at just 15% which may be less than the tax paid if taken as taxable income. This means more after-tax money is available for investment, which increases a person’s overall retirement benefits.
Who is suited to this strategy and why?
This strategy is suitable for individuals who are:
- primarily self-employed as a sole trader
- under age 65 and who have not been employed in the income year the contribution is made, or
- employed, but the income earned from employment is less than 10% of their total income.
The benefits of making personal deductible contributions are:
- personal income tax is reduced
- retirement savings are increased, and
- small business owners can diversify their wealth outside of their business.
How the strategy works?
Individuals who are eligible to make personal deductible contributions into superannuation can claim a tax deduction equal to the amount of contribution.
The tax deduction reduces the person’s taxable income thereby reducing income tax.
Personal deductible contributions are taxed at 15% upon entry into super. This means the individual making the contribution will ultimately pay tax at 15% on the contributed amount instead of at their marginal rate.
Notice of Deductibility
To be eligible to claim a deduction for contributions to super, an individual must lodge a Notice of Deductibility form with their superannuation fund by the earlier of:
- the date the individual lodges their tax return for that financial year, or
- the end of the following financial year.
The form must be lodged prior to commencing a pension, rolling the contribution over to another fund or withdrawing the contribution.
Example
Kate is age 40. She runs her own mining engineering consultancy business as a sole trader, earning $185,000 per annum.
Kate’s financial adviser has recommended she contribute $20,000 into her superannuation fund as a personal deductible contribution.
Kate is aware that she won’t be able to access the contribution until she meets a condition of release, but she is interested in building up her retirement savings in a tax-effective manner.
The following table shows that Kate has created a tax saving of $5,100 as a result of implementing the strategy. Her cash flow has reduced by $11,900 but she has saved $17,000 for retirement.
| Cash Flow | Before
Strategy |
After
Strategy |
| Gross salary | $185,000 | $185,000 |
| Less personal deductible contributions | $0 | $20,000 |
| Taxable income | $185,000 | $165,000 |
| Tax on taxable income* | $59,575 | $51,475 |
| After-tax income | $125,425 | $113,525 |
| Superannuation | ||
| Personal deductible contributions | $0 | $20,000 |
| Less contributions tax | $0 | $3,000 |
| Increase to super | $0 | $17,000 |
| Net Package | $125,425 | $130,525 |
* 2010/11 financial year. Includes relevant tax offsets and the 1.5% Medicare levy.
Risks and implications
- Making personal deductible contributions to superannuation reduces a person’s cash flow.
- Contributions to superannuation are preserved until a ‘condition of release’ is met.
- Personal deductible contributions count towards a person’s concessional contribution cap, as do SG contributions and salary sacrificed contributions. Contributions in excess of the concessional contribution cap are taxed at 46.5% and count towards the non-concessional contribution cap.
- Reducing taxable income too low can result in more tax being paid as the 15% contributions tax paid on deductible contributions may be higher than the individual’s marginal tax rate.
- Individuals who have worked through the year must be certain that they satisfy the 10% rule prior to making the deductible contribution.
- Changes in legislation may reduce the flexibility or benefits that superannuation currently enjoys.
Note: Advice contained in this flyer is general in nature and does not consider your personal situation or needs. Please do not act on this advice until its appropriateness has been determined by a qualified adviser. While the taxation implications of this strategy have been considered, we are not, nor do we purport to be registered tax agents. We strongly recommend you seek detailed tax advice from an appropriately qualified tax agent before proceeding. The information provided is current as at May 2011.
Further information on Deductible Super Contributions can be found on our YouTube site which can be accessed via the website below:
Website: staging.gemcapital.com.au
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