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Self Managed Super Fund (SMSF) Article
Stretching Your Pension on Death
By Tony Negline.
This article may be out of date.
29th September 2004
A key structural issue when designing a pension is to decide what will happen when the pensioner dies. There are lots of questions to answer in this design area.
As always a fund’s trust deed is essential reading. Once this has been dealt with then it is best to ask the following questions: When the pensioner dies will income payments continue? If so, who will receive that income? The answers to these two questions determine whether all other related issues need to be dealt with.
Pension payments can continue in one of two ways. Before a pension begins (or “commences” as the super industry calls this event) the pensioner can specifically nominate a ‘reversionary’, sometimes called ‘reversionary beneficiary’. This term means that on death pension payments are automatically paid to the nominated reversionary.
Some types of pensions allow the pensioner to specify that the reversionary will be paid a lower income than what was being paid to the pensioner just prior to his or her death. The super laws do not allow the reversionary to receive a bigger income than the pre-death income.
The new Market Linked Term Pensions demand that the pensioner’s heterosexual spouse is the nominated reversionary. Most commonly the reversionary would be the pensioner’s spouse although this is not necessarily mandatory for all other pension structures.
Upon the death of the pensioner when the reversionary is specified there is no Reasonable Benefit Limit (RBL) re-assessment or adjustment and any superannuation rebate attributes remain unchanged. Having this certainty in place can be very helpful in many situations because upon the pensioner’s death income payments continue to be made and all circumstances are already known. Disgruntled beneficiaries of deceased estates can find these types of arrangements very hard to challenge unless the structure was bad in the first place.
One downside with this structure is that for some pensions, such as lifetime or allocated pensions, the life expectancy factor used to determine the amount of tax free or Centrelink income test exempt income is based on the pensioner’s or reversionary’s longer life expectancy. Using a longer life expectancy can increase the amount of pension income subject to tax or included in Centrelink’s income test.
Another downside with this strategy is its lack of flexibility if circumstances and needs change, in retirement, and especially if the reversionary dies before the pensioner or the reversionary ceases to be the pensioner’s spouse. When these events occur restructuring often becomes necessary and can be messy.
An alternative to nominating the reversionary before a pension commences is to pay a new pension after the pensioner dies. Some years ago, in a generous concession, the ATO announced that new pensions paid upon the death of a pensioner would not be assessed for RBL purposes. As a result there is no need to change the level of pension rebate a dependant would receive.
All other matters, such as the amount of tax-free income paid each year is reset and is based on the beneficiary’s life. This can mean that more income tax might be payable than if the reversionary had been nominated at commencement.
Who would receive this type of pension? This very much depends on what is required. There are essentially three choices that can either be used exclusively or together:
- A binding nomination which only last for three years. It is possible for a pensioner to specifically nominate a dependant and the type of pension they are to receive
- A binding nomination which has no time-frame limits and similarly can be used to nominate
- Do nothing and leave it to the trustee to work out how should receive a benefit and what they should be paid.
Flexibility is a key advantage with the strategy of paying new pensions post-death. If circumstances change during the pensioner’s life then the arrangements can be superseded.
If a pension is paid what rights will the pensioner have? Under super laws they will have to be a trustee. Will the rules of the fund or the rules of the pension allow them to commute the pension they are receiving. If the new pensioner were to die what would happen to the assets of the fund? Some pension structures, but not all, allow these assets to be paid as a pension to dependants of the reversionary.
Finally an option can exist whereby the assets backing a pension at the time of death can be paid out. The same three options which are mentioned above can be used here. If the death benefit is paid out within three months of death or six months of the granting of probate or letters of administration (whichever is longer) and the benefit is paid to a dependant then tax concessions may be available on the payment of the benefit.
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