Tax levied on the taxable component of a superannuation death benefit can be avoided by SMSF members through the payment of regular family allowance amounts from the fund, a strategy specialist has said.
“If a person’s mother was paying a regular amount to her daughter and her grandchildren as a family allowance in order to increase their lifestyle and pay living expenses, then these people will be financial dependants,” LightYear Docs founder Grant Abbott explained to delegates at his organisation’s Master Strategy Day 2021 held last week.
“If we get this [financial dependant definition] satisfied and we tick all the boxes, any death benefit will not be subject to 17 per cent tax, it’s going to be subject to zero tax.”
According to Abbott, the arrangement can be beneficial for any individuals in the SMSF member’s family and not just those who are part of following generations.
“A superannuation death benefit can be paid down to anyone who is a dependant or financial dependant. So, for example, if I don’t have any children, but I’ve got a brother or a sister, then it works exactly the same way,” he noted.
“A brother or sister who is a financial dependant can be paid directly from the self-managed super fund.”
He pointed out even more can be done from a tax-effective perspective should the SMSF death benefit be directed toward a son or daughter and their children.
To this end, he acknowledged a next step could be to take the death benefit and treat it as a capital contribution to a family protection trust.
“This is good, but the problem is we would have two young children who would be beneficiaries of the family protection trust and the tax rate on income of this trust would be charged at the penalty rate for minors,” he said.
“But what is very unknown in the whole equation of things is section 102AG of the Income Tax Assessment Act talks about testamentary trusts and also says that you can set up a testamentary trust with superannuation proceeds.
“So any money that comes out of the self-managed superannuation fund can be directed into a testamentary trust.”
When using this strategy, the testamentary trust should be created by the trustee of the SMSF for the benefit of the son or daughter and any of their children involved.
“When we do that, then any income coming to the son’s or daughter’s children is going to be taxed at their adult tax rates,” Abbott said.
“So that’s a much better structure, to establish a family allowance and then overlay an SMSF death benefit or testamentary trust to treat the death benefit, rather than having it paid out of the deceased’s estate.”
