If you’re nearing retirement or have already retired, you might be wondering how to turn your superannuation into a steady, reliable income stream.
An account-based pension offers a flexible way to do just that.
Before you start one, it’s important to understand exactly how it works—this article breaks down everything you need to know, including the benefits, tax advantages, the potential impact on Centrelink entitlements, and why timing is essential.
If you’d prefer to watch than read, this video also covers the topic:
What is an Account-Based Pension?
An account-based pension allows you to receive a regular, flexible retirement income stream when you are eligible to access your super. These pension accounts are set up by transferring funds from your superannuation and provide options to choose from:
- How much you wish to receive in regular income payments
- How often do you want to receive those payments (fortnightly, monthly, annually etc.)
- How your account balance is invested, based on the options offered by your fund
You can also withdraw additional funds from your account-based pension for any one-off expenses that might arise.
So how does it work?
You can open an account-based pension through your super fund. From there, you transfer some or all of your super, set up your payment and investment preferences, and begin receiving a regular income.
When Can I Start an Account-Based Pension?
You can start an account-based pension once you meet one of the conditions to access your super. These conditions include:
- Reaching Preservation Age (age 60) and retiring – Retirement in this context means having no intention of becoming gainfully employed, either on a full-time or part-time basis in future.
- Reaching age 60 and ceasing an employment arrangement – Finishing up with an employer, or closing down a business is considered ceasing an employment arrangement. If you have multiple jobs, ceasing just one can satisfy this condition. But, changing roles within the same business, or reducing hours is usually not enough to meet this condition.
- Reaching age 65 – This applies regardless of whether you are retired or still working.
- Becoming permanently incapacitated or terminally ill – This will need to be confirmed by a medical practitioner.
Before you can commence an account-based pension, your super fund will likely require evidence that you meet one of these conditions of release.
What are the Benefits of an Account-Based Pension?
There are several key benefits of commencing an account-based pension. These include:
Flexible Pension Income
Account-based pensions offer a flexible way to receive regular income via payments into your nominated bank account.
With these payments, you can choose the amount (subject to a minimum) and the frequency — fortnightly, monthly, or annually — depending on what your super fund offers.
Receiving a pension income is not possible through a regular superannuation account.
Lump Sum Withdrawals
In addition to regular pension payments, another benefit of account-based pensions is the ability to make ad hoc lump sum withdrawals when needed. Since there is no maximum withdrawal limit. You can withdraw up to 100% of your account balance at any time.
This can provide funds for one-off capital expenses, eliminating debt or re-contributing into superannuation, helping you optimise your tax position.
While you can make lump sum withdrawals from superannuation, doing so may trigger a capital gains tax of between 10-15%.
Tax-Free Earnings
When you commence an account-based pension, you can select how your remaining balance is invested, choosing from the investment options provided by your superannuation fund.
Earnings generated from your investments are 100% tax-free, unlike personal investments, super accumulation accounts and TTR pensions, where all investment income is taxable.
Tax-Free Capital Gains
In addition to earnings, capital gains realised on the sale of investments within an account-based pension are also completely tax-free. This can help to optimise your tax position.
The Ability To Invest In A Diversified Portfolio
When choosing an account-based pension, you often have the flexibility to invest your funds in a diversified portfolio across a range of asset classes.
This may include cash, fixed interest (such as term deposits), Australian and international shares, property, and alternative investments.
The benefit of this is the potential for higher returns compared to simply keeping your funds in a low-interest cash account.
Pension Bonus
Lastly, certain superannuation providers offer a pension bonus when you commence an account-based pension through their platform.
This bonus is subject to certain conditions and is generally calculated as a percentage of the account balance. It is paid into your pension account once your funds have been transferred.
Possible Downsides of an Account-Based Pension
While an account-based pension offers many benefits, it’s important to be aware of some potential downsides. These include:
- Administration fees payable – You are required to pay administration fees on account-based pension accounts.
- Investment risk – If your account-based pension funds are invested, your balance will fluctuate based on market movements. This means your balance could drop significantly when markets are performing poorly, depending on how your balance is invested.
- Lower interest rates – If you invest your account-based pension balance in cash or term deposits, the interest rates may be lower than those available outside the pension environment, depending on the investment options offered by your super fund and broader market conditions.
- Centrelink assessment – Once you reach Centrelink Age Pension age or transfer your funds from your superannuation account to an account-based pension, your funds become fully assessed under the Centrelink Income and Assets tests. This may result in a reduction or complete loss of your Centrelink entitlements.
- Minimum pension drawdowns – You are required to draw down a minimum pension income, regardless of whether you need the funds or not. Details on the minimum required drawdown rates are provided below.
Account-Based Pension Minimum Payment Rates
When commencing an income stream via an account-based pension you are required to draw down a minimum payment amount from your balance each financial year.
The minimum payment amount is based on your age and is calculated as a percentage of your starting account balance on 1 July of the financial year.
The minimum drawdown rates are shown in the table below:
For example, a 64-year-old retiree with a starting pension balance of $500,000 would be required to draw down a minimum pension payment of at least 4% ($20,000) per annum.
If you set up your account part-way through a financial year, your minimum required payment will be prorated for the number of days remaining in the financial year.
When will my Account-Based Pension Payments Cease?
Your account-based pension payments will cease once your account balance is fully depleted. The longevity of your pension is influenced by several factors including:
- The amount of superannuation transferred into your account;
- The investment returns generated; and
- How much do you withdraw as income or a lump sum?
Once your balance is exhausted, no further payments will be made.
Do I Pay Tax on Account-Based Pension Payments?
No, you do not pay tax on account-based pension Payments. Account-based pension payments are tax-free from age 60 onwards.
The only exception to this is if your balance includes an untaxed component, which may arise from any insurance claim proceeds paid into your account. Contact your super fund and ask if your balance includes any untaxed components.
Will an Account-Based Pension Affect My Centrelink Age Pension Payments?
For those under Centrelink Age Pension age (age 67), superannuation held in accumulation phase is fully exempt from the Centrelink Income and Assets tests.
Once you reach Centrelink Age Pension age or transfer your funds from your superannuation account to an account-based pension, these funds become fully assessable under the Centrelink Income and Assets tests. This can result in the reduction or complete loss of your Centrelink entitlements.
For this reason, it is very important to seek professional financial advice before the commencement of an account-based pension as the timing of this can have a significant impact on both you and your partner’s Centrelink entitlements.
How Do I Start an Account-Based Pension?
If you have met a superannuation condition of release and wish to commence an account-based pension, you can contact your superannuation provider or a financial professional who can guide you through the process.
Here’s how to get started:
- Read the Product Disclosure Statement (PDS) – You should always start by reading your superannuation funds PDS to ensure you have selected a suitable product and are aware of any risks involved.
- Complete an Application – You will then need to complete a paper-based application with your superannuation fund or set up your account via their online portal. During the application process, you’ll be asked to choose how you want to invest your balance by selecting from a variety of available investment options.
- Confirm Your Account Setup – Upon notification from your superannuation fund that your account is active, it’s important to verify that everything is set up correctly and that your funds are invested according to your chosen investment options.
Once your account is set up, you should begin receiving pension payments directly into your nominated bank account.
Should you wish to make lump sum withdrawals throughout the year (in addition to your specified pension income), you will need to complete a withdrawal request each time.
Should You Start an Account-Based Pension?
Deciding whether to start an account-based pension will depend on your unique situation. There are several moving parts and several factors to consider, which may include:
- Your age and whether you satisfy a full condition of release.
- If you have a partner, how an age gap between you can be leveraged for Centrelink purposes?
- How you plan to manage any excess pension income you don’t immediately need.
- Whether you will need to retain some funds in your superannuation account for future contributions or to keep existing insurance active.
- Whether your current superannuation provider offers a pension bonus and any associated clawback conditions.
The case study below demonstrates a situation where the commencement of an account-based pension was considered appropriate.
For privacy reasons, names have been changed in the following case study.
Case Study: Meet Tim and Julie
The following is a case study where we provided advice to clients, Tim and Julie. Tim is 66, retired and has approximately $750,000 in his superannuation account. Julie is 59 and working in a full-time capacity.
Julie wanted to salary sacrifice into superannuation to save towards her retirement in a tax-effective manner. However, doing so would leave Tim and Julie with insufficient income to cover their living expenses.
As Tim is retired, we decided to use his superannuation balance of $750,000 to start an account-based pension, providing the necessary top-up income to meet their needs.
Being over 60, this pension income was received by Tim tax-free and Julie was able to reduce her personal income tax by salary sacrificing part of her wage into super.
As an added benefit, all earnings received from the investments within Tim’s account-based pension are tax-free, compared to being taxed at 15% in a superannuation accumulation account.
Based on Tim’s balance of $750,000 and an assumed income earnings rate of 3% per annum, this will reduce his tax on superannuation earnings by $3,375 each year – plus eliminate all future capital gains tax.
Commencing an account-based pension may be an ideal retirement solution for many Australians. However, for this to be an effective strategy, you should always seek professional advice before commencing an account-based pension as several moving parts need to be considered.
This is where we can help.
At Toro Wealth, we specialise solely in retirement planning advice. We aim to give you confidence about when you can retire, the retirement income you can achieve and how to optimise your financial position in the lead-up to retirement. If you’re interested in learning more about our service and cost, click here.
