Division 296 tax is a brand-new superannuation tax proposed by the Labor Government. It targets Australians who have built up individual superannuation balances over $3,000,000. This tax follows the Labor party philosophy of wealth re-distribution. However, questions have been raised about how many Australians will be affected, and how it would work in practice.
Quick Tax Recap
Superannuation is the most tax-advantaged environment to grow wealth in Australia. The purpose of this vehicle is to provide Australians with a way to self-fund their retirement. It also reduces reliance on the Government funded Age Pension, via the incentive of lower taxes.
The government generally taxes superannuation earnings at 15% during the accumulation phase and doesn’t tax earnings at all during the pension phase. Pension phase is when you can withdraw your funds to self-fund retirement. In contrast, the government taxes companies at a rate of usually 30%, and personal tax rates can reach up to 45% plus the Medicare levy. There is a discount available for assets held longer than 1 year (1/3 in super or 1/2 personally).
Currently, investment earnings in Australia (both inside and outside of super) generally consist of realised capital gains and income. This means investors pay tax at the relevant rate when they realise a profit (i.e., sell an investment for a gain and receive the cash) or receive dividend, interest, or rental income. If they sell an investment at a loss, they can use that loss to offset other earnings or carry it forward to offset future earnings.
How Division 296 Tax Will Work in Practice
Division 296 is a brand-new proposed tax related to superannuation only (at this stage). It is completely separate and on top of all existing superannuation and personal taxes mentioned above. This is different to how some media outlets report it, as being an increase or change to an existing tax, which it is not.
Division 296 tax follows a brand new and completely different structure to all existing taxes. It also captures unrealised gains (i.e., assets that have not yet been sold but have gained in value on paper). Below are the steps to calculate the tax:
- Calculate the % of your total superannuation balance above $3m at the end of the financial year.
- Multiply this by “earnings” in your super.
It’s important to note that earnings for this tax are calculated differently to all other existing taxes. In this part of the calculation, earnings are not realised profits or income. It is the overall dollar amount your super balance has increased by over the year (plus removing the effect of any contributions or withdrawals). This is even if no profits or income materialised in cash. - Multiply this by 15% (the Division 296 tax rate).
The ATO would calculate this tax automatically and issue a tax bill to individuals to pay. Individuals can either pay this personally, or elect to have the tax paid from their super depending on personal preferences and circumstances.
Examples
No Contribution: Consider an individual with a superannuation balance of $5m at the beginning of the year, and $5.5m at the end of a financial year. They made no contributions or withdrawals. Their Division 296 tax would be $34,087 for the year.
Contribution: Consider another individual with a superannuation balance of $3.2m at the beginning of the year, and $3.5m at the end of a financial year. They made $30,000 in contributions and no withdrawals. Their Division 296 tax would be $5,785 for the year.
Negatives of the Proposed Tax
Taxing Unrealised Gains
The most controversial element of the Division 296 tax is the potential for taxing unrealised gains. This means the government could tax individuals on increases in the value of their superannuation investments at a single arbitrary point in time (EOFY), even if they haven’t sold or converted those assets into cash. If the fund then drops in value, they will have already paid tax on an on-paper gain that never actually materialised. This is a likely scenario given how volatile markets have been. This could impact investor behaviour around EOFY, potentially leading to distortions in market valuations and additional volatility. There are also concerns raised that Division 296 could be a form of double taxation. It captures both realised and unrealised gains, and the fund already pays tax on realised gains.
Cashflow Issues
A major challenge posed by the Division 296 tax is the impact on cash flow. Existing taxes apply to realised gains or income. This means investors can retain part of the cash proceeds to cover the tax bill. However, when the government taxes unrealised gains, investors may need to source the cash to pay the tax from elsewhere—such as personal cash flow, savings, or cash held within their superannuation.
If they don’t have enough available cash, they may need to sell more assets to fund the tax. This sale then creates even further tax liabilities. It also has an unfair impact on those who hold illiquid assets in their super fund, which cannot be easily or quickly be sold. For example, private businesses and investments, and farming assets.
Planning Issues and Legislative Risk
A key frustration for many regarding this tax, is that it could fundamentally change how Australians view superannuation as a tool for retirement. Many Australians have rightly utilised the superannuation vehicle over many years. Under existing rules, many Australians have used superannuation to accumulate assets and self-fund their retirement. However, the government is now penalising them for doing so. It introduced this tax despite promising not to change superannuation tax legislation. Many feel that it’s too risky to maximise the use of superannuation, due to this legislative risk and the potential for the goalposts to shift again, especially for those under 60 who cannot withdraw their money. The Greens have already proposed more changes, including reducing the threshold to $2 million. This proposal stands a real chance of passing, since they now hold the balance of power in the Senate.
Indexation
Division 296 tax is the Labor Government’s major revenue-raising initiative for its second term. The government forecasts this tax will generate $2.3 billion in revenue per year initially, helping to cover part of the recently projected 10 years of fiscal deficits. However, it will likely raise billions more over time. Hundreds of thousands more people will push above the $3 million threshold, which has not been indexed, due to inflation and compounding returns. The treasurer has argued that only about 80,000 people, or 0.5 per cent of the population, would pay the new tax. However, research by AMP Capital shows at least half of Gen Z will hit the $3 million mark, by the time they near retirement in about 40 years.
Defined Benefits
The calculation of Division 296 becomes complicated for those who hold Defined Benefit super funds, such as public servants and politicians. Defined benefit funds don’t hold a ‘balance’ because they provide a defined income stream owed to the holder in retirement. They also lack typical ‘contributions’ and ‘withdrawals,’ which complicates how the ATO will calculate Division 296 tax. These complexities continue to create confusion, especially since the government hasn’t yet released the full details, and make the system seem unfair for the vast majority of Australians who do not have defined benefits.
Productivity & Investment Loss
It’s important to remember that higher tax rates do not automatically equate to higher government revenue. They have the potential to disincentivise investment and ultimately shrink the tax base, leading to diminished returns for governments. For example, in Norway a new wealth tax on unrealised gains prompted a major exodus of wealthy taxpayers from the country. It led to a drop in tax revenue, GDP, a reduction in the competitiveness of Norwegian businesses, and even lower levels of charitable donations.
Division 296 tax poses a real risk to the economy. A direct threat to the growth and innovation of Australian businesses that require funding capital from the enormous superannuation pool. It could stifle innovation, force premature closure or even drive these promising businesses offshore.
Strategies to Mitigate Division 296 Tax
Even with this new tax, superannuation remains a cornerstone of retirement planning. Superannuation still offers a tax-advantaged environment to grow wealth. Until the government legislates this tax, it may not be wise to make any changes. However, in the future there may be more use of structures like family trusts, investment companies, investment bonds, and offshore investments. All of which don’t incur tax on unrealised gains.
