How to increase the tax-free part of your super benefit

You can use this strategy if you have a super benefit that contains a pre-July 1983 component. The aim is to increase this low-taxed component by making undeducted contributions to the same super fund.

As has been explained in a previous strategy, only 5% of a pre-July 1983 component of your super benefit is taxed at your marginal tax rate, so you should always try to increase this portion whenever you can.

How does the strategy work?

The strategy works because of the way in which the various components of a super benefit are calculated for tax purposes.

The pre-July 1983 component of your super benefit is not a fixed amount and can change based on the number of years of service you have with your employer or the number of years you have been in a personal superfund. For example, if you joined your employer in 1980 and you left in 2001, your total years of service would be 21 years, of which 3 years would be before 1983.

To calculate the amount of your pre-July 1983 component you then multiply your total benefit amount by the proportion of your pre-July 1983 service years relative to your total service years (i.e. 3/21).

Pre-July 1983 component = benefit amount x 3/21

Now comes the interesting part. If you make undeducted contributions, the pre-July 1983 component can change quite significantly, especially if your contributions are large. The reason for this is that each component is dealt with for tax purposes in a set order: pre-July 1983 component first, undeducted contributions next and, lastly, post-June 1983 component. By increasing undeducted contributions, you can reduce or eliminate a post-June 1983 component.

The Benefits

Increase super savings by making undeducted contributions.

Note: undeducted contributions are tax-free when withdrawn and do not attract contributions or surcharge taxes (although they may be subject to tax on the investment earnings).

You could eliminate lump sum tax altogether by using your super benefits to buy a tax-effective income stream, such as an allocated pension.