Insurance, Pensions, SMSF, Tax

Insurance benefits limited by pensions

Insurance SMSF Income stream Pension

Certain retirement income streams can limit SMSFs from claiming the full range of tax benefits on their insurance policies.

A senior technical specialist has reminded SMSF trustees that maximising the tax benefits of insurance coverage held by a fund will depend on the type of income stream a member chooses at retirement.

Smarter SMSF education and technical manager Tim Miller acknowledged while insurance is not always the top priority for members and practitioners in retirement planning, it should be given the potential tax savings available.

“What we have to understand is that insurance is ultimately linked to the interest that is paying the premium. Realistically from an SMSF trustee point of view, the standard guidance is that insurance premiums would be paid from an accumulation account because you then get the tax deduction on the premium to reduce the tax payable on the accumulation interest itself,” Miller told attendees of a SuperGuardian webinar held today.

“The reality is that when people move into pension phase, they’re not automatically going to cancel their insurance. It’s at that point that they’re going to need to make a decision as to which interest the insurance premium should be payable from.

“What sort of pension they hold is going to be key. Do they have a reversionary or a non-reversionary pension? And do they have also an additional accumulation interest?

“For example, if you hold insurance inside a pension interest and that pension is reversionary, then the insurance proceeds take on the conditions as per the commencement of the pension.

“If you’ve got a 100 per cent tax-free pension that holds an insurance policy in it, then when that insurance money hits the fund, then it will be considered 100 per cent tax-free.”

To illustrate his point, he provided the example of Michael, who has died and had a transition-to-retirement income stream (TRIS) of $600,000 with no nominated reversionary beneficiary.

His TRIS was 100 per cent tax-free and he also had $300,000 in his accumulation account when he died. He also had a $1 million insurance policy and the premiums have been typically paid from his TRIS.

“The TRIS at this point in time for a 60-year-old is going to be a TRIS in accumulation, so it’s going to be taxable. In this situation it may make sense to hold insurance inside a TRIS as opposed to inside the accumulation interest,” Miller said.

“When we go to pay the death benefit out, we have our tax-free component of $600,000 because we’ve taken the value of the death benefit, which would be $1.6 million, and subtracted the insurance.

“That’s our tax-free amount based on the proportions of the pension and our remaining balance is $1 million of taxable component and our accumulation account is all taxable component.”

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