21 September 2021
By Colin Lewis, Head of Strategic Advice, Fitzpatricks Private Wealth
If you have been to a lawyer—when doing your estate plan—to prepare a will, which may include a testamentary trust or two, an enduring power of attorney etc., odds on you’ve been advised to have your super directed to your estate via your legal personal representative (LPR), so that it can be dealt with in your will—specifically by a testamentary trust in your will.
The benefits of directing your super to your estate are control and asset protection. In addition, there are tax benefits where you have beneficiaries that are ‘non-tax dependants’, such as adult children.
But it may not produce the most tax effective outcome where you have a spouse, young children or other beneficiaries that are ‘tax dependants’.
Also, once your super has been paid to your LPR, it’s out of the concessionally taxed superannuation environment and can only be put back in by a beneficiary/ies under the contribution rules, subject to limits and the preservation rules.
So, where you have a tax dependant(s), you want to make sure that directing your super to your LPR—and thus estate—is the right way to go.
In the event of death, only your spouse (including de facto partner), children (of any age), someone financially dependent on you or with whom you were in an interdependency relationship at date of death, can receive your superannuation directly from your super fund.
If for whatever reason you don’t want your super to be paid directly from your fund to any of these people, or you want your benefits to go to someone else, say a sibling, parent, charity etc., then you must nominate your LPR—typically the executor of your estate—to receive your super. Death benefits paid into your estate will then be distributed to intended beneficiaries in accordance with your will. So, make sure you have a will.
The importance of getting this right could not have been highlighted more than in the recent case where Victorian magistrate Rodney Higgins successfully claimed his late fiancée Ashleigh Petrie’s super death benefit despite the 23-year-old’s mother being the nominated beneficiary. If only she had made a valid binding nomination to her LPR and had a will bequeathing her super to her mother, this unintended outcome would not have happened.
Super death benefits paid to your estate
Death benefits paid to your LPR, who is executor of your estate, are taxed in the hands of the executor in the same way they would have been taxed had the benefits been paid directly to those persons who benefit from the estate.
Consequently, a death benefit ultimately received by a beneficiary who was a tax dependant at time of death is tax-free in the hands of the executor.
Tax-dependants include your spouse, minor children, someone with whom you were in an interdependency relationship, or someone who was financially dependent on you—which may include a child between 18 and 25 who was dependent on you.
Similarly, where a beneficiary who was a non-tax dependant receives your super, the benefit is taxed in the estate as if it were paid directly to them. Tax on any taxable component of that benefit is levied at 15 per cent (taxed element) or 30 per cent (untaxed element). As the estate is not subject to Medicare levy, at least these beneficiaries save two per cent. Also, the benefit is not included in a beneficiary’s assessable income, so will not upset any government benefits they may be receiving, such as family tax benefit, or impact other entitlements based on income.
Ascertaining who benefits from an estate is straightforward where super is bequeathed to specific beneficiaries in the will.
It’s more difficult where beneficiaries are not specifically nominated, say where death benefits are paid into a testamentary trust for the benefit of a range of beneficiaries, and it may not be possible to determine the extent to which non-tax dependants will benefit. Given this uncertainty, many trustees take a conservative approach and treat the entire payment as being paid to a non-tax dependent, with tax levied accordingly.
One way to ensure super paid to an estate remains tax-free is to establish a superannuation proceeds trust (SPT).
These trusts are ideal for people that have tax dependents who are minors, vulnerable, spendthrifts, gamblers, or have a drug addiction.
What’s a superannuation proceeds trust?
An SPT is a trust that is funded by superannuation death benefits.
Generally, it’s established under the terms of a person’s will to manage their super for the ultimate benefit of various beneficiaries, instead of those beneficiaries inheriting the death benefits directly from the super fund, say because of asset protection concerns. It starts when its trustee receives the death benefits from the executor of the deceased estate.
Beneficiaries of SPTs should only be individuals—not companies, trusts or charities/tax-exempt organisations. Furthermore, those individuals should be limited to ‘tax dependants’ of the deceased at date of death—their spouse, minor child/ren, someone with whom they had in interdependency relationship, or someone who was financially dependent on them.
There’s no tax on payment of super death benefits to the SPT and minor beneficiaries are taxed at adult rates—not punitive child rates.
Take Ben—when he died, he was survived by his wife Pam and their two children Jan aged 22 and Ron 17. Jan lives with friends and doesn’t rely on her parents for financial support.
Ben’s death benefit nomination instructed the trustee of his super fund to pay his death benefits of $1,200,000 to his LPR (being the executor of his estate).
Ben’s will provided for his entire estate, including the death benefits, to be paid into a discretionary testamentary trust, the beneficiaries of which are Pam, Jan, Ron, his brother Ray and certain charities.
Whilst Pam and Ron were Ben’s ‘tax dependants’ when he died, Jan, Ray and the charities are not. Consequently, the entire death benefit paid to the testamentary trust may be treated as if it had been paid to non-tax dependants. If the entire death benefit comprised a taxable component, then there will be tax of at least $180,000 to pay.
Had Ben established an SPT for the benefit of Pam and Ron only, this tax could have been avoided and Ben could have made alternative provision for Jan, Ray and the charities by bequeathing other assets to them.
The SPT enables any trust earning to be distributed to Ron—taxed at adult rates.
Ben can vest the trustee with wide ranging powers and the identity of the trustee is not limited, making the SPT extremely flexible.
In addition, trust assets are protected from creditors in the event of bankruptcy of any beneficiary.
An SPT can be a useful vehicle to grow wealth over the long term for Pam and Ron. Had a superannuation death benefit income stream been paid to Ron, it would have needed to cease by his 25th birthday, unless he was disabled.
To ensure your super is paid in accordance with your wishes to your intended beneficiaries in a tax-effective manner, there’s a range of tax, superannuation, asset protection and estate planning issues that need to be considered. The features of SPTs may make them a worthwhile structure to consider.
*This information is prepared by Fitzpatricks Private Wealth Pty Ltd (Fitzpatricks) ABN 33 093 667 595 AFSL No. 247 429 and, where relevant, its related bodies corporate. The information in this publication is of a general nature only. All information has been prepared without taking into account your objectives, financial situation or needs. Because of this, we recommend you consider, with or without the assistance of a financial adviser, whether the information is appropriate for you.