The superannuation reforms first revealed in the May 2016 Federal Budget, are finally taking shape.
The main Acts have become law, and the draft Regulations are open for public comment until 10 February 2017.
The Reforms are wide-ranging and while not all the relevant rules have been finalised, it is clear that from 1 July 2017, the new rules will have a number of implications on the way that superannuation death benefits can be distributed to beneficiaries. This article summarises the key changes and explores possible solutions to work around potential issues.Melissa Ramov and Julian Smith, Maddocks Lawyers
When a person dies, an individual beneficiary may be entitled to receive a death benefit from the deceased member's super fund either in the form of:
This article looks into the implications of the new laws insofar as SMSFs and account-based pensions are concerned.
When a member dies, the current laws require that their super benefits are cashed out 'as soon as practicable' after their death. The new laws don't change this requirement.
These benefits can only be cashed to a beneficiary as a pension if the beneficiary is a certain type of 'dependant' at the time of the member's death. We refer to these dependants as 'pension dependants', and is a person who at the time of death was:
While a child can receive a death benefit as a pension, that pension must be commuted and paid to the child as a lump-sum by the time the child turns 25 (unless they have a disability).
Under the current super and income tax laws, a super death benefit:
Further discussion on the transfer balance cap and how it can be managed can be found in our ClearLaw January 2017 article titled "Superannuation reforms".
A person has a transfer balance account if, as at 30 June 2017, they are receiving a retirement phase pension. In this instance, the member's transfer balance account comes into existence on 1 July 2017.
On one reading of the new laws, a person may also have a transfer balance account as at 1 July 2017 if they have received a pension before this date but the assets funding the pension have since been exhausted.
Otherwise, the member's transfer balance account arises as soon as they start a retirement phase pension.
When a death benefit is being or to be paid to a spouse, one must consider the transfer balance cap of the beneficiary spouse: namely, whether paying a pension will cause the spouse to exceed their transfer balance cap.
If paying the pension to the beneficiary spouse would result in them exceeding their transfer balance cap, then some or all of the death benefit would need to be paid to them as a lump-sum payment outside of super.
Alternative ways to work around these issues are discussed below at paragraph 6.
Under the new laws, child beneficiaries do not start with a simple cap limit on amounts held in their transfer balance accounts, that is, they do not have a general transfer balance cap imposed on them. Rather, how a child's transfer balance cap is determined depends on:
If the deceased parent did not have a transfer balance account
If before passing away, the deceased parent does not have a transfer balance account, then the child's transfer balance increment (that is, effectively the child's transfer balance cap ) is either:
In this instance, the trustee can pay death benefits to a child as a super income stream up to the child's transfer balance increment, with any excess being paid as a lump-sum outside of super.
If the deceased parent did have a transfer balance account
If the deceased parent is taken to have a transfer balance account on and from 1 July 2017 and also had part of their super savings in an accumulation account, then the situation becomes slightly more complex. In this situation, the main rules are:
Alternative ways to work around these issues are discussed below at paragraph 7.
Where payment of a death benefit pension would cause a beneficiary spouse to exceed their transfer balance cap, a number of alternative solutions exist in order to retain the funds in the concessionally taxed super environment.
One reason the beneficiary spouse's transfer balance cap may be exceeded, is if they have their own transfer balance account.
So, if the receipt of the death benefit pension is likely to result in them exceeding their cap, and they have capital which is funding a retirement phase pension, then the beneficiary spouse should consider commuting the excess funds out of their retirement phase account and into their accumulation account.
The death benefit pension can then be paid to the beneficiary spouse as a death benefit pension to the limit of the spouse's transfer balance cap. This means that:
It will be preferable for any current pensions to be structured as reversionary pensions (see discussion on what is a reversionary pension at item 8 below).
Why? Because — assuming the beneficiary was an eligible pension dependant — the beneficiary of the death benefit will have a 12 month period before the deceased's pension income stream is credited into the beneficiary's transfer balance account. The idea behind this is that the beneficiary has 12 months to organise their affairs in preparation for the addition of this amount to their transfer balance account. Accordingly:
Where the deceased parent has superannuation in both their retirement phase accounts and accumulation accounts, in order to avoid a child exceeding their transfer balance increment, the deceased's fund should consider distributing the pension to a child beneficiary (because any payment to a child sourced from an accumulation account must be paid as a lump-sum outside of super).
Accordingly, any funds remaining in the deceased's accumulation account can be distributed to a remaining spouse as a pension. The condition is that this does not cause the remaining spouse to exceed their own transfer balance cap. If this is the case, the fund will be required to distribute this amount to the spouse as a lump-sum outside of super.
If a deceased parent had a transfer balance account throughout their lifetime but the assets supporting the pension were exhausted before they passed away, the transfer balance account is still a relevant consideration. In that situation:
This would mean any death benefit paid as a pension to a child beneficiary will result in the child automatically exceeding their transfer balance increment and will therefore need to be paid to the child outside of super as a lump-sum.
John dies on 1 July 2018. During his lifetime he was being paid a pension from his super. However, in 2016 all of the assets funding this pension were exhausted. At the time of death, John still has $500,000 in his accumulation account.
John's daughter, Stacey, is a dependant beneficiary who is entitled to receive a death benefit as an income stream. If Stacey were to request payment of the death benefit as an income stream, under the super laws it would automatically result in her exceeding her transfer balance cap (as it has been sourced solely from the parent's accumulation account). Accordingly, Stacey is left with no option but to request that the death benefit be paid to her as a lump-sum outside of super.
From this example, it can be seen that a child beneficiary with a deceased parent that never commenced a pension is ultimately in a better position than a child with a deceased parent who commenced a pension but exhausted all the assets supporting this pension.
After a person reaches their preservation age they can access income by way of a TRP. Accessing a TRP enables individuals to receive an income stream from their super assets with the idea that individuals will need to work less hours whilst receiving this income. Limits apply to commuting that pension, and to maximum annual payments, until the person satisfies a condition of release in respect of which the cashing restriction for preserved benefits or restricted non-preserved benefits is 'nil'  (nil cashing restriction).
From 1 July 2017, a TRP will not be a retirement phase pension. So, further to the example above, if at the time of his death John was receiving a TRP supported by pension assets of $500,000, Stacey still could not be paid the death benefit as a pension.
So if a person commences a TRP, it is essential that when the nil cashing restriction is met, the TRP becomes a 'retirement phase' pension. Ideally this should occur automatically and the legislation may have this effect. However to put the matter beyond doubt, the pension terms should themselves be drafted so as to have this effect. This:
A death benefit income stream can either be a reversionary or non-reversionary pension. A reversionary pension automatically reverts to a named beneficiary upon the death of an individual.
A non-reversionary pension affords the trustee of the deceased's fund the discretion to decide which beneficiary will receive the pension, depending on the nature and form of instructions (if any) provided by the deceased member to the trustee.
When a member dies, the current laws require that their super benefits be cashed 'as soon as practicable' after their death. This requirement is not changed by the new laws.
Whether a death benefit income stream is considered reversionary or non-reversionary:
In the case of a reversionary pension, the new laws give the trustee and beneficiary a 12 month period to get their affairs in order before the beneficiary's transfer balance account is credited with an amount representing the value of the capital supporting the pension. This will give the beneficiary sufficient time to make any necessary commutations to ensure they do not exceed their transfer balance cap (or transfer balance increment in the case of a child) when the income stream is eventually credited to their transfer balance account.
In the case of a non-reversionary pension, the new laws provide that the beneficiary's transfer balance account will be credited on the same day on which the beneficiary becomes entitled to receive the pension, that is, on the day the trustee decides how and when to distribute the death benefit. Therefore the beneficiary of a non-reversionary pension does not benefit from a delayed credit of the death benefit into their transfer balance account.
The new laws give the beneficiary of a death benefit the ability to choose the fund from which their super income stream will be paid.
Where a death benefit beneficiary is entitled to receive a death benefit as a pension, then the new laws enable the beneficiary to roll-over the death benefit into a fund of the beneficiary's choice. The death benefit must then be paid as a pension.
The ability to roll-over does not apply where the death benefit can only be paid to a beneficiary as a lump-sum outside of superannuation.
Given these reforms, it is evident that individuals and the recipients of death benefits will need to consider a number of issues when taking a death benefit as a pension income stream, including but not limited to transfer balance cap considerations.
For more information, contact Maddocks on (03) 9258 3555 and ask to speak to a member of the Superannuation team.
You can read earlier ClearLaw articles on a range of topics.
 Treasury Laws Amendment (Fair and Sustainable Superannuation) Act 2016 and the Superannuation (Excess Transfer Balance Tax) Imposition Act 2016.
 Regulation 6.22(2) of theSuperannuation Industry (Supervision) Regulations 1994 (SIS Regulations).
 Regulation 6.21(1) of the SIS Regulations.
 Regulation 6.21(2A) of the SIS Regulations.
 Regulation 6.21(2B) of the SIS Regulations.
 Regulation 6.21(3) of the SIS Regulations.
 Item 4 of Schedule 1, subsection 294-15 of the Income Tax Assessment Act 1997.
 Item 4 of Schedule 1, subsection 294-185(1) of the Income Tax Assessment Act 1997.
 Item 4 of Schedule 1, subsection 294-200(3) of the Income Tax Assessment Act 1997.
 Item 4 of Schedule 1, paragraph (b) of column 3 in item 2 of the table in subsection 294-25(1) of the Income Tax Assessment Act 1997.
 Item 4 of Schedule 1, subsection 294-200(4) of the Income Tax Assessment Act 1997.
 See definition of "Preservation age" in regulation 6.01 of the SIS Regulations.
 Schedule 1 to the SIS Regulations.
 Regulation 6.21(1) of the SIS Regulations.
 Schedule 1, item 4, subsection 294-25 of the Income Tax Assessment Act 1997.
Andrew is a lawyer in the Maddocks Tax & Revenue team.
Andrew provides advice on:
His advice covers both direct and indirect tax considerations.
Prior to joining Maddocks, Andrew was a tax consultant at a Big 4 Chartered Accounting Firm.
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For more information, contact Maddocks on (03) 9258 3555 and ask to speak to a member of their team.