One of the most significant impacts of the superannuation transfer balance cap rules is the effect on the payment of death benefits, and many retirees are being caught unaware.
Since July 1, there has been a cap of $1.6 million on the total amount that can be transferred and held in a tax-free superannuation pension account.
If a fund member has in excess of $1.6 million, they have the option of moving the excess amount back into an accumulation account, where it will be subject to the usual super taxes, or taking it out of super.
Special rules apply where death benefits are involved. If you start to receive a death benefit income stream, a credit will arise in your transfer balance account.
If receipt of the death benefit means that your transfer balance cap exceeds $1.6 million, the excess must be paid out of super as a lump sum. It cannot be retained in an accumulation account.
This is contrary to standard practice before July 1, where a deceased’s benefits could be paid as a death benefit to the survivor and remain in super.
Peter Hogan, the head of technical at the SMSF Association, says this issue has been a sleeper for a lot of SMSF trustees and fund members. The introduction of the transfer balance cap arrangements involved a lot of rule changes and the issue of death benefits did not receive a lot of attention initially.
He describes the death benefit arrangements as “the hidden trap in the new super rules.”
Hogan says: “With an average SMSF account balance of around $700,000, it would not be unusual to have a situation where if one spouse dies the surviving partner would receive a death benefit that would take their balance above the transfer balance cap.
“In that case the excess would have to be cashed out. This is a significant change from past practice and SMSF trustees may find that their estate plans are no longer valid.
“If they want the money to go to their estate they have to put that in their will.”
Hogan has been doing a roadshow with the Australian Securities Exchange, talking about the new super rules. He says few trustees are aware of the new death benefit rule and many have been “horrified”.
“Advisers need to be better informed about this change, as well, so they can work with their clients,” he says.
There are further complications when reversionary and non-reversionary benefits are taken into account, which will affect the date at which a transfer balance cap credit arises.
Hogan says problems can arise when SMSF trustees have to commute part of the death benefit but the fund holds “lumpy” assets, such a property. Selling SMSF assets is not always straightforward.
For example, a married couple has a $2.6 million commercial property and $400,000 of cash in their self-managed fund. The wife dies and the husband receives a $1.5 million credit – putting his account $1.4 million over the $1.6 million cap.
The husband has the option of commuting $1.4 million from his wife’s pension as a lump sum or commuting $1.4 million from his own account and rolling it back into accumulation to make room for the death benefit.
The task is made more difficult because the husband wants to keep the property in the super fund.
Phil Broderick, the principal at Sladen Legal, says there are a number of issues that should be considered in death benefit planning.
Reversionary pensions will generally receive preferential treatment, compared with non-reversionary pensions. Existing non-reversionary pensions could be converted into reversionary pensions.