Provided by Mercer: 16/9/08
Paying tax is up there with dying as two things we don’t want to do but - as Benjamin Franklin pointed out – they’re both pretty much inevitable.
Depending on the trust deed of the super fund, a trustee may be able to pay a death benefit as a lump sum or a pension (or a combination of the two). In this article, however, we will only discuss the tax implications of a superannuation death benefit being paid as a lump sum.
Tax on death benefits explained
Many people aren’t aware that if they die, the death benefit payment from their superannuation – that is, the superannuation they may have accumulated together with any insurance in the super fund - can be subject to tax depending on who it’s paid to.
The general rule is that if a death benefit is paid as a lump sum to a dependant, it will be tax-free, and if it is paid to a non-dependant it will be subject to tax. Therefore, it is important to know who is and isn’t a dependant for income tax purposes.
Who is a dependant?
A dependant includes a spouse or former spouse of the deceased, a child of the deceased who is under 18 years old, a person with whom the deceased had an interdependency relationship just before they died, or any other person who was financially dependent on the deceased at the time of death.
Where a death benefit is paid from a superannuation fund as a lump sum to a non-dependant, the following tax implications arise:
- The tax-free component is not subject to tax
- The taxable component (element taxed in the fund) is taxed at 16.5 per cent
- The taxable component (element untaxed in the fund) is taxed at 31.5 per cent.
Understanding these tax implications can assist you in making more appropriate arrangements when you are determining who you wish the benefit be paid to, should you die.
To show how this works, let’s look at three simple examples.
Case study 1
Joe dies at the age of 55 and the trustee of the superannuation fund pays the $500,000 lump sum superannuation death benefit to his widow. As a spouse is automatically considered to be a dependant, she will receive the funds completely tax-free without having to establish that she was financially dependant on Joe at the time he died.
Case study 2
Sharon, who is divorced, dies aged 52 having nominated her only son (Shaun) aged 21 as the sole recipient of her superannuation benefit in a binding death benefit nomination. At the time of Sharon’s death, Shaun was completing his university degree, living at home with Sharon and looked to Sharon but had a part-time job to provide him with pocket money. Although Shaun is her only son, he was only able to receive the benefit tax-free as he could establish that he was financially dependent on Sharon at the time of her death.
Case study 3
Malcolm dies at 68 with assets of $1,000,000 - split equally between his home and an allocated pension. Malcolm has organised that his $500,000 home will be sold with the proceeds going to one of his two adult children while his $500,000 allocated pension (from a taxed source) is to be paid to his other adult child. Neither child is financially dependent on Malcolm. In this example, the child that receives the proceeds from the home doesn’t have to pay tax and receives $500,000. However, the child receiving the superannuation death benefit has to pay 16.5% tax and, as a result, only receives $417,500. The benefit split, therefore, doesn’t work out equally.
As always, speak to a licensed, or appropriately authorised, financial adviser to explore opportunities that may reduce or eliminate taxes on lump sum superannuation death benefits.
More information
This information has been prepared by Mercer (Australia) Pty Ltd ABN 32 005 315 917 for general information only. The information does not take into account your personal objectives, financial situation or needs. Therefore, you should not act on this information if you have not considered the appropriateness of this information to your personal objectives, financial situation and needs. You should consult a licensed or appropriately authorised financial adviser before making any investment decision.
