Estate planning is a complex area and your superannuation forms only a part of this. But for a lot of our client's super is one of the largest assets outside of the family home.
What a lot of people don’t realise is that while super in retirement is tax free for both the income and earnings, when you pass away there can be tax payable on the distribution of your super to your beneficiaries.
The tax is 15% plus Medicare on the taxable component of the fund when paid to someone who is not considered a tax dependant . Most importantly your children over the age of 18 are generally not considered a tax dependant when receiving your super.
You direct the super trustee as to how you want your super to be paid. There are different types of nominations you can make, but the one which gives the strongest chance of your funds being paid according to your wishes is a binding nomination. This can be either lapsing (you need to renew every three years) or non-lapsing in which case it will remain in place unless you want to make a change. Non lapsing nominations can give certainty, but you must remember that they will need to change if your wishes change, the most obvious example is following a divorce.
Not all super is taxable upon death, but some is. Let’s examine in more detail:
Firstly, generally super must be withdrawn upon death. There are some exemptions such as reversionary pensions, but the general rule is super is paid to your nominated beneficiaries following your death.
Whether this is taxable depends firstly on your beneficiaries and secondly on the nature of your contributions.
Let’s discuss your beneficiaries. In most cases your beneficiary will be a spouse or a child.
It’s important to distinguish if your beneficiary is a tax dependant. The ATO has posted the following as dependants under tax law on its website:
the deceased's spouse or de facto spouse
the deceased's former spouse or de facto spouse
a child of the deceased under 18 years old
a person financially dependant on the deceased
a person in an interdependency relationship with the deceased.
What’s important to realise here is that if your kids are over 18 and now independent (i.e. not relying on your financially) they are not considered to meet the definition of dependant for tax law and therefore are liable to pay tax on the taxable portion of your super when they receive it. You can elect to leave your super to your estate but this will not necessarily avoid the tax, it does though remove the Medicare levy.
What is the takeaway? The important thing to remember is that whilst you are alive you can withdraw your superannuation (with age restrictions of course) without paying any taxation. So once you get to a stage where your health is deteriorating it might be time to withdraw all or part of your balance.
There is another determinate to what tax is payable by your beneficiaries on your super. That is whether the super contributions are taxable or tax free.
Tax free amounts are those that were contributed after tax i.e. you didn’t claim a tax deduction for them.
Taxable contributions are those contributions for which a tax deduction was claimed. The most common of these being employer SG contributions and salary sacrifice.
You can check your super statement and it will show your breakdown.
There is a way to convert taxable contributions to tax free contributions. As an example:
Assume you are a couple both Aged 70, and you have $500,000 taxable amounts each in your super. Normally you would setup a reversionary pension – in summary this means the remaining partner can continue receiving the income from setting up a pension (super pension not Aged pension) and the remaining partner will then ultimately pass on $1million to the children.
Between the Age of 70 & 75 you would be able to follow a withdrawal and recontribution strategy that would change the entire balance from taxable to tax free. By following this simple strategy this couple could reduce the tax payable to their beneficiaries by $170,000.
For more professional retirement planning advice, call 02 9634 6698 or book a free consultation online with our expert financial advisors at our office in Sydney's Norwest.
*Please note that this is not investment advice and does not take into account your personal circumstances. You should not make any decisions without first receiving advice for your personal situation. There are limits and restrictions with superannuation contributions and it is important to understand them fully before making a decision. This article does not constitute personal advice and the content may be outdated by future legislation.
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