Don’t milk pensions for tax exemptions

pension tax exemptions

SMSF trustees should be cautious in using a deceased member's pension to claim tax exemptions and take timely action to cash it out instead.

SMSF trustees should cash out a pension for a deceased member as soon as possible and not use it to indefinitely claim tax exemptions on fund income, an SMSF technical expert has warned.

Heffron technical services manager Leigh Mansell said competing superannuation and tax laws govern the treatment of a non-reversionary pension held by an SMSF member in retirement phase at the time of the member’s death and whether the fund could keep tax exemptions from the pension or its income reverted back to being taxed at 15 per cent.

“The superannuation laws states that where a pension is non-reversionary and the pensioner dies, then the pension stops. It is not a commutation. It is over from a super law perspective, but from the tax law angle the rules are different,” Mansell said.

“The tax law states that if a member was in retirement phase, the tax exemption will continue from death until the time of the cashing of the death benefit.”

Speaking as part of a recent webinar presented by Heffron, she said that prior to 1 July 2017, tax law allowed the exemption to remain in place as long as the death benefit was withdrawn as soon as practicable, but this changed from that date, so the exemption only remains until the cashing of the benefit.

She also pointed out this change shifted the process in comparison to superannuation law, which still retained ‘as soon as practicable’ as the time frame for action, but warned SMSF members should not take too long to pay out the death benefit to maximise the tax exemption.

“Don’t forget that while the superannuation law states the pension is over on death, that law still has a requirement to deal with the death benefit as soon as practicable,” she noted.

“If for years on end you go on claiming the tax exemption, you will end up getting pinged under the superannuation laws because you have not dealt with the death benefit as soon as practicable.

“So, while we still have competing laws, an SMSF will still need to cash the non-reversionary pension in the form of a lump sum or as retirement-phase pension if there is someone who is an eligible beneficiary of that, or the fund will have a SIS (Superannuation Industry (Supervision)) breach and the auditor will have to lodge an auditor contravention report.”

During the same webinar, Mansell also warned SMSF practitioners not to rush clients into rollovers from a market-linked pension (MLP) as they may be unable to find somewhere to place the funds or exceed their transfer balance cap.

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