As the saying goes, two things are certain in life – death and taxes! However, from 1 July 2017 the $1.6m transfer balance cap on pensions makes your estate plan much more complex.
The death of a spouse is known as a ‘compulsory cashing event’, which means the deceased spouse’s superannuation benefit must be paid out. This can be directed to their estate, or to a dependent such as you being the surviving spouse, either as a lump sum or pension, or a combination of both.
Superannuation is generally the most tax effective vehicle for investment. Therefore, it’s not surprising that current strategies generally involve keeping a deceased spouse’s superannuation in the system for as long as possible. This will often mean paying the surviving spouse a pension.
However, the introduction of the $1.6m transfer balance cap now puts firm limits on what can be paid to a surviving spouse, or dependent children for that matter, as a pension. This is because a combined superannuation balance that used to fit under two transfer balance caps ($3.2m), must now fit under a single $1.6m transfer balance cap of the surviving spouse. Furthermore, while it may not be an issue today, many may find that a life insurance payment in super on death can easily result in a breach of the cap.
The consequence of exceeding the cap because of your spouse passing away is twofold. Firstly, it may be possible to convert some (or all) of your existing pension back to accumulation phase to make room for your spouse’s death benefit pension. Secondly, any benefits that cannot be paid as a death benefit pension has to be paid out as a lump sum – effectively, it is kicked out of the superannuation system.
What is the impact of your superannuation death benefit being forced out of the system? Superannuation can no longer be the preserve of family wealth for couples with substantial superannuation balances to save tax on investment earnings. So, contingency planning is critical.
What mitigations are available? Look at making existing pensions reversionary to your spouse. Reversionary pensions will not come into effect until 12 months after the death, allowing more time and certainty to plan your transfers – how much, what format, to whom and when. Review your binding death nominations for the direction of any other non-reversionary pension or accumulation benefits. Alternatives such as testamentary trusts will play an increasingly important role, as does taking superannuation out prior to death if circumstances permit.
You need to ask yourself if you fully understand what will happen to your retirement assets in the event of your or your spouse’s death. The new super rules create a rocky taxation road to navigate for the certainty of death! In the past, a review of your pensions, wills and death benefit nominations has been easily overlooked, but not anymore. This is now essential.
Rob Gilmour is the Managing Principal of Wealth Simplicity. The information provided should not be considered personal financial advice as it is intended to provide general advice only. The content has been prepared without taking into account your personal objectives, financial situations or needs. You should seek personal financial advice before making any financial or investment decisions.