There are a number of reasons why the terms of an employment agreement should be reviewed and updated from time to time. One good reason why the terms of a senior employee's employment agreement should be reviewed prior to 1 July 2012, is to ensure that the concessional superannuation contributions which are made by the employer on behalf of the employee, either under the terms of the employment agreement or under a salary sacrifice arrangement, do not cause the employee to become liable for penalty tax.
Superannuation contributions can be divided into two types, concessional (before-tax) and non-concessional (after tax). Concessional contributions include all contributions made by the employer including those which the employer is required to contribute by way of the compulsory superannuation levy and all contributions made under a salary sacrifice arrangement.
From 1 July 2012, the cap on concessional superannuation contributions is $25,000 for all employees1.
What high income employees need to be aware of is that contributions which are made by their employers on their behalf may cause them to exceed the concessional superannuation contributions cap without the employee necessarily realising that the cap has been exceeded. For example, although employers are only required to contribute the compulsory superannuation levy (currently 9%) on an employee's base salary up to a maximum contribution base (as from 1 July 2012 the maximum contribution base is $183,000 per annum), some employment agreements provide that the employer is required to pay superannuation contributions on the total amount of the employee's base salary. If the employment agreement contains such a provision, once the employee's base salary earnings exceed $278,000, the concessional contribution cap will be exceeded.
Where the employee uses the salary sacrifice provisions in an employment agreement to have the employer make additional superannuation contributions on his/her behalf, once the employer contributes the 9% superannuation levy up to the maximum contribution base of $183,000, this only allows for a further $8,530 in superannuation contributions which can be made by way of any salary sacrifice arrangement before the concessional contribution cap is exceeded.
If the cap is exceeded, the employee's excess contributions are likely to be subject to penalty tax payments at the rate of 46.5%.
Excess concessional contributions are counted in determining the position of non-concessional contributions against the non-concessional contributions cap.
If the non-concessional contributions cap is exceeded (for example, through additional personal contributions or contributions from an asset disposal above the CGT cap2) then the excess concessional component incurs penalty tax at the rate of 93%.
The implications of the cap on concessional superannuation contributions being only $25,000 for all employees as from 1 July 2012 are:
- Employees and employers need to be aware what concessional super contributions are made on behalf of the employee, to ensure the concessional superannuation contribution cap is not inadvertently exceeded; and
- When it comes to drafting an employment agreement, the employer and the employee should ensure that sufficient flexibility exists to allow for changes to be made to ensure that if the law changes so can the basis upon which the employee's remuneration is paid.
1 The implementation date of the previously announced over-50s concessional cap of $50,000 has been deferred until 1 July 2014.
2 Resulting in a penalty tax of 46.5%.