These days advisers and accountants are well equipped to help SMSF members in planning for the two great certainties in life – death and taxes. However, many still underestimate the powerful and positive impact they can have on helping clients manage the impact of a marriage or relationship breakdown on their SMSF, and the apportioning of its assets.
That could be because around half of SMSF members are over 60 and divorce is less common at older ages. But that doesn’t change the fact that when it does happen there are some important steps in dividing up what will inevitably be one of the couple’s major assets – their SMSF.
The Family Law Act 1975 and Superannuation Industry (Supervision) (SIS) Act 1993 (together with their associated regulations) contain specific rules that allow funds to reassign some or all of one person’s superannuation to another, potentially their soon-to-be ex-spouse or partner.
While these rules are valuable, they don’t always operate brilliantly and are not always well understood.
Four common mistakes or misunderstandings come to mind.
Firstly, clients often assume if they are separating without getting the courts involved, for example, where there are no children, they can just make their own arrangements when it comes to superannuation.
Unfortunately, this is not the case. Super can only be ‘split’ using the relationship breakdown rules if it is done in accordance with the appropriate legislation – this will mean either making a binding superannuation agreement, which has a range of legal requirements, or having orders made by a court. Simply deciding, amicably, that Bob can have the SMSF isn’t enough.
Another factor commonly missed is the impact capital gains tax will have on the true value of the superannuation balances.
A simple example I bumped into in practice was the separation of Grace and John. Very roughly, Grace’s superannuation balance was worth 25 per cent of their SMSF and John’s 75 per cent. Their court orders resulted in some of John’s super being transferred to Grace so the fund was split equally between them. The plan was then that Grace would move her super to another fund and take half the SMSF’s assets with her. They had decided, and this was reflected in the court orders, this would be all the shares owned by the fund and some cash. This left John with a property the fund had purchased many years ago and some cash. When it comes to capital gains tax, there is fortunately some special relief that allowed Grace to take those shares without tax being triggered at the time the fund was split up. Instead, her new fund will pay tax when the shares are eventually sold.
What neither they nor their lawyers had worked out was the shares had all been purchased quite recently. That meant Grace could sell them in her new superannuation fund without paying much tax. In contrast, their SMSF had owned the property for many years. If John’s SMSF sold the property, there would be a significant amount of capital gains tax to pay, which would eat away at his super balance.
In other words, what felt extremely fair at the time would feel manifestly unfair, to John in particular, as soon as either of them decided to sell their share of the assets.
Thirdly, it is worth bearing in mind the normal rules about preservation still apply and once superannuation is split, it is the age and work status of the new owner that’s important.
In a recent case, our client, James, aged 60, split his superannuation with his much younger wife, Jenny, who was 45 years old, after their relationship broke down. What they hadn’t thought through was that James was close to retirement. He could start using what remained of his superannuation to meet his living costs very soon. Jenny, on the other hand, had at least 15 years ahead of her before she reached her preservation age.
Finally, for those with more than one superannuation interest, it really matters exactly which one is split when it comes to tax components.
Take the example of Tim and Stacey. Tim has an account-based pension, with an 80 per cent tax-free component, and an accumulation account that is 10 per cent tax-free. Stacey has an accumulation account that is 100 per cent taxable. To even things up, the court orders said some of Tim’s super must be split to Stacey. If they are both over 60, they may not be particularly concerned about tax components, but remember these could become highly relevant under several scenarios:
- if future changes mean income tax on superannuation pensions is reintroduced,
- when it comes to leaving an inheritance for their adult, financially independent children, and
- if they are under 60 and intend to make a large withdrawal (either because they have retired or as part of a transition-to-retirement income steam).
Hence, Stacey had a significant preference for receiving her split amount from Tim’s account-based pension, while Tim’s side of the negotiating table preferred the accumulation balance. Unfortunately the court orders were silent. Ideally they would actually have stipulated an each-way split that evened up both the amounts and tax components, but unfortunately it was too late.
Advisers and accountants have a crucial role to play when it comes to advising clients going through a relationship breakdown. But some of their best advice can actually come into play before the court orders are signed.
We will be covering these opportunities for helping clients and many more during our online Super Intensive Day in November. It is an absolute must for any professional wanting to give their SMSF clients the best care, strategies and peace of mind.
