How to Build an Efficient Super Estate Plan and the Meaning of Dependancy

1. Introduction

It is projected that more than $300Bn in SMSF monies will be transferred from current SMSF members by way of death benefit transfers over the next 20 years. For someone who has been in the SMSF industry since day one, the sad part is none of it is certain and much of it will be litigated. Litigation brings costs, family squabbles and no access to much needed income for the grieving family.

Moreover, it is now in our face as a large percentage of SMSF members get into their twilight years. The continuous dire warnings from SMSF lawyers that Binding Death Benefit Nominations (BDBN) are easily attacked, plus the far less than optimal advice of estate planning lawyers directing a deceased member’s superannuation to their estate, only to be potentially attacked by a family provisions challenge, means there is no certainty when it comes to SMSF estate planning.

Or is there?

2. The New Skill: SMSF Specialist Estate Planners

You may already have the skills to advise in the field of superannuation estate planning – $300Bn for SMSFs and twice that for retail and industry super funds. The key issue is whether you are technically competent to provide advice on superannuation estate planning.

In that regard I had a big hand in drafting the SMSF industry competency standards for the Financial Services Training Package in the early 2000s which are still relevant today. These standards are objective, and all practitioners must adhere and show their competency in dealing with SMSF members and Trustees. They are over 50 pages long and identify the following competency requirements when it comes to advising on death benefits and SMSF estate planning. These are mandatory requirements:

• The client is informed of the treatment of death benefits.
• The client is aware of the impact of the trust deed on death benefit payments (lump sum and pension).
• The adviser shows an ability to identify relevant SISA, ITAA legislation and regulations relevant to each client.
• The adviser shows an ability to use a range of interpersonal and communication skills to relate to a range of clients.
• The adviser is able to identify and show knowledge of the tax treatment of death benefits (lump sum and pension issues).

Some fifteen years on, in my opinion, a good SMSF specialist adviser and certainly one with estate planning knowledge MUST be able to answer the following death benefit issues:

1. Should a BDBN be used? And what type and what cases shows their deficiencies.
2. What is a SMSF Will and how is it different to a BDBN?
3. Will the current BDBN High Court case impact current SMSF estate planning?
4. How is the Trustee or Board of Directors of corporate trustee of a SMSF convened in the event of death of a member?
5. Do the member’s entitlements cease on death or carry-on post death in the name of the legal personal representative?
6. Is it possible for a SMSF Trustee to create a testamentary trust on the death of a member – one that flows from the SMSF and sits outside the estate?
7. Who can be paid directly from a superannuation fund?
8. What is tax dependency?
9. Can a reversionary pension go beyond two persons into multi-generations such as grandchildren?
10. What are tax rates applicable to life insurance death benefit pensions?
11. How do the family provisions laws in each state impact direct death benefit payments v superannuation passed to a deceased member’s estate?
12. How can you protect superannuation from a family provisions claim if a member wants to pay all of their superannuation to an adult child from the first marriage and not children from their second?

These are just some of the questions that a competent SMSF specialist adviser and lawyer are required to know, and more importantly, communicate with a client as well as advising the Trustee on administering a deceased member’s superannuation estate.

Reflective honesty: On a scale of one to ten in terms of your personal SMSF estate planning knowledge – what would you rate yourself?

Note: The Productivity Commission released a report in 2021 revealing that more than $6,000 Bn of property, shares and assets will be transferred between generations as a result of the death of Australians over the next 25 years. Superannuation is a small part. In that regard at the Succession, Asset Protection and Estate Planning Advisers Association have also built a specific set of estate planning competencies for providing advice on ALL estate planning for SAPEPAA advisers – www.sapepaa.org.au.

3. How to build an Effective SMSF Estate Plan

Creating an effective SMSF estate plan can be a long and demanding task, requiring great skill from a SMSF adviser in order to achieve coverage of all contingencies. Advanced skill, care, and time is required in developing and documenting an SMSF estate plan.

My experience shows that the key elements of an estate plan are to:

1. determine what is important to the SMSF member in relation to looking after their family and dependants in the event of their death;
2. determine who is going to control the distribution of the deceased member’s superannuation interests as superannuation benefits upon the person’s death;
3. create a blueprint to deliver the desired SMSF estate planning goals using the right combination of vehicles and life insurance if need be;
4. make sure the plan is simple, certain and easy for all parties to understand before the person dies;
5. ensure the person or persons left in charge of implementing the plan on behalf of the deceased know what they are doing or use experienced advisers to deliver the plan. For a SMSF, this is the trustee of the fund;
6. ensure the SMSF estate plan is tax effective; and
7. ensure that it complies with the laws and any chance of legal disputation is minimised.

4. Summary of SISA Death Benefit Payments

For the most part, SMSF estate planning can be carried out via the direct transfer of a deceased member’s superannuation interests from their family SMSF to a dependant under the Superannuation Industry Supervision Act 1993 – see section 62 – the sole purpose test. This may be by way of a lump sum or pension — although there are legal limitations for the trustee of a fund paying an income stream or pension pursuant to SIS Regulation 6.21. The SMSF strategic possibilities for a member of a fund in terms of their SMSF estate planning are seen in the following table:

Table 1: The Payment of Death Benefits to a Member’s SMSF estate

Beneficiary	Allowable Superannuation Benefit
Spouse	Lump sum, income stream and/or both
Dependant child under the age of 18	Lump sum, income stream and/or both. However, any income stream must be commuted by age 25
Financially dependant child between the ages of 18 and 25	Lump sum, income stream and/or both. However, any income stream must be commuted by age 25
Disabled child	Lump sum, income stream and/or both.
Dependant grandchild	Lump sum, income stream and/or both
Non-dependant grandchild	Lump sum via the legal estate
Dependant brothers, sisters and parents	Lump sum, income stream and/or both.
Non -dependant brothers, sisters and parents	Lump sum via the legal estate
Dependant child over the age of 25	Lump sum
Non-dependant (not a child of the member)	Lump sum via the legal estate
Legal estate	Lump sum

 

5. Who is a Dependant?

As noted above the sole purpose test in section 62 of SISA provides that the Trustee of a SMSF can pay death benefits to a ‘dependant’ upon the death of a member. There are different definitions of dependant for SISA 93 and ITAA97. The above table on Payment of Death Benefits – looks at SISA which includes a child as a dependant, even though they may not be financially dependent.

For tax purposes a dependant receives favourable taxation treatment - no death benefits tax on the payment of taxable components. Which leads us to:

Section 302-195: Meaning of death benefits dependant

1. A death benefits dependant, of a person who has died, is:
   1. the deceased person’s spouse or former spouse; or
   2. the deceased person’s child, aged less than 18; or
   3. any other person with whom the deceased person had an interdependency relationship under section 302-200 just before he or she died; or
   4. any other person who was a dependant of the deceased

It also includes someone receiving a superannuation lump sum if the deceased died in the line of duty as a member of:

1. the defence force;
2. the Australian Federal Police;
3. the police force of a state or territory;
4. a protective service officer; or
5. the deceased member's former spouse or de facto spouse.

The meaning of ‘interdependent relationship’ has been described by the Courts and Commissioner of Taxation as “one of continuing mutual commitment to financial and emotional support between two people who reside together. The definition will also include a person with a disability who may live in an institution but is nevertheless interdependent with the deceased. For example, two elderly sisters who reside together and are interdependent will be able to receive each other’s superannuation benefits tax-free. Similarly, an adult child who resides with and cares for an elderly parent will be eligible for tax-free superannuation benefits upon the death of the parent.”

• Who is a Financial Dependant?

A financial dependant at law falls within section 302-195(1)(d) of the definition of dependant in ITAA 97. In that regard the issue of who is a financial dependant has occupied the court’s mind for more than a century in relation to workers compensation, taxation and superannuation matters. There is substantial High Court precedent on who is a “financial dependant” in Aafjes v Kearney (1976) 180 CLR 1999 and Kauri Timber Co. (Tas.) Pty. Ltd. V. Reeman (1973) 128 CLR 177.

Specific to superannuation there have been two significant cases concerning the meaning of financial dependant, for the purposes of the Superannuation Laws — Malek v FC of T 99 ATC 2294 and Faull v Superannuation Complaints Tribunal [1999] NSWSC 1137.

In Malek’s case, Antoine Malek was aged 25 when he died. He was single, had no children and, prior to his death, he and his widowed mother lived together. Mrs Malek received a disability support pension of approximately $153 per week, but her accountant estimated that Antoine Malek contributed approximately $258 per week to Mrs Malek’s living expenses for food, mortgage payments, taxi fares, medical expenses and other bills. The issue at hand was whether Antoine’s mother was a financial dependant. The Commissioner of Taxation argued she was not as to proved dependency the Commissioner stated that the person had to be wholly or substantially reliant on the on-going support provided under the arrangement.

The tribunal reviewed the cases on financial dependence and in its decision cited the following authoritative statement from Gibbs J of the High Court:

Gibbs J said in Aafjes v Kearney (1976) 180 CLR 1999 at page 207:

“… In Kauri Timber Co. (Tas.) Pty. Ltd. V. Reeman (1973) 128 CLR 177 at pp 188–189, I accepted that one person is dependent on another for support if the former in fact depends on the latter for support even though he does not need to do so and could have provided some or all of his necessities from another source. I adhere to that view.”

The decision of the Administrative Appeals Tribunal was that Mrs Malek was a financial dependant because the financial support she received from her son maintained her normal standard of living. Moreover, she was reliant on the regular continuous contribution of the other person to maintain that standard.

In Faull’s case, the Court held that the mother of 19-year-old Llewellyn Faull was a financial dependant of his at the time of his death and determined that his death benefit in its entirety should be paid to her without any tax deduction. At the time of her son’s death, Mrs Faull had regular employment that earned her income of $30,000 pa. Her wages were supplemented by an amount of $30 per week paid by her son as board and lodging. Although the sum paid to Mrs Faull every week by her son was small, the court stated that “the payment of that amount augmented her other income and, to that extent, she was dependent upon the deceased for the receipt of some of her income. Accordingly, she was partially dependent upon the payments made by the deceased”.

Both of these cases, which have been cited in numerous ATO private binding rulings concluded that partial dependence and reliance is enough to establish financial dependence for the purposes of SISA97 and ITAA97provided the payment is ongoing and recurring.

• Regulator Guidelines

APRA

APRA, which looks after retail and industry based superannuation funds has considered the issue of financial dependence and in its payment’s standard guideline — APRA Guideline No.I.C.2 stated the following:

“There is no need for one person to be wholly dependent upon another for that person to be a ‘dependant’ for the purposes of the payment standards. Financial dependency can be established where a person relies wholly or in part on another for his or her means of subsistence. Nor must the recipient show a need for the money received from the deceased member in order to qualify as a dependant. Moreover, since partial financial dependency can generally be sufficient to establish a relationship of dependence, it is possible for two persons to be dependent on each other for the purposes of the payment standards.”

ATO

The Commissioner has also released a number of private binding rulings in relation to dependency. One that is of particular interest is

Death Benefit Private Binding Ruling - Authorisation Number: 1051231612657

Date of advice: 1 June 2017

Ruling

Subject: Death benefits dependants

Question

Are Person One (the First Beneficiary), Person Two (the Second Beneficiary) and Person Three (the Third Beneficiary) death benefits dependants of a person (the Deceased) in accordance with section 302-195 of the Income Tax Assessment Act 1997 (ITAA 1997) by virtue of being in an interdependency relation with the Deceased under section 302-200 of the ITAA 1997 just before the Deceased's death?

Answer

Yes

This ruling applies for the following periods:

Income year ended 30 June 2016

The scheme commences on:

1 July 2015

Relevant Facts and Circumstances

1. The three Beneficiaries are children of the Deceased aged over 18 years at the time of the Deceased's death.
2. Each Beneficiary is entitled to one third of the Deceased's estate.
3. The Beneficiaries did not reside with the Deceased. Rather, the Beneficiaries lived with their parent.
4. The Beneficiaries did not receive any financial support from their parent.
5. The Deceased provided the Beneficiaries with ongoing financial support including the following:
   1. regular payment of tertiary education course fees for the First Beneficiary;
   2. provision of supplementary income to the Second Beneficiary for living expenses; and
   3. provision of supplementary income to the Third Beneficiary for living expenses.
6. Without the financial support the Deceased provided, the First and Second Beneficiaries have been unable to continue their tertiary studies
7. The Third Beneficiary had taken a gap year and was reliant on the Deceased for supplementary income.

Relevant Legislative Provisions

• Income Tax Assessment Act 1997 Section 302-60
• Income Tax Assessment Act 1997 Section 302-195
• Income Tax Assessment Act 1997 Section 302-140
• Income Tax Assessment Act 1997 Section 302-145
• Income Tax Assessment Act 1997 Section 302-200.
• Income Tax Assessment Regulations 1997 Regulation 302-200.01.

Reasons for Decision

Summary

The three beneficiaries are death benefits dependants of the Deceased because they were dependants of the Deceased, as defined under section 302-200 of the ITAA 1997, just before the Deceased died.

Therefore, in accordance with section 302-60 of the ITAA 1997, the lump sum payment of superannuation death benefits is not assessable and is not exempt income, that is it is tax free.

Establishing Dependancy – What are we looking for?

At the time of death of the member, death benefit dependants for SISA 93 must show that they fall into one of the categories that the term entails under the ITAA97. From the case studies, APRA guidelines and ATO PBRs the key elements are:

1. There is ongoing continuous financial support that was present at the time of death
2. That support should have been in place for some time
3. The person claiming dependancy relies wholly or in part on another for his or her means of subsistence
4. There is documentation such as an allowance or living expenses agreement in place to bolster the evidentiary burden. A dependency declaration from the member to the Trustee of the super fund claiming the person was financially dependent due to documented reasons is also important.

Abbott & Mourly Advice: If you have a client who has passed and you are of the view that they have financial dependants and would like an assessment please contact us: tanamourlis@abbottmourly.com.au