Annie Dawson CFP® is Senior SMSF Technical Specialist at Heffron. Annie specialises in providing technical advice on superannuation matters to the accounting, legal and financial planning industries...
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The decision to nominate a reversionary beneficiary on a pension, or equally to go without, is an important one. The inclusion of a reversionary beneficiary on an account-based pension may provide the account holder with certainty about who will receive their death benefit and timing about when benefits will be assessed against their reversionary beneficiary’s transfer balance cap.
And while there are other potential benefits, this all comes at a price – the loss of discretion – around when a death benefit will commence to be paid, the form (new pension or lump sum), the amount, and to whom the death benefits are paid. There are also other less obvious implications.
Explaining these benefits and trade-offs to a client is not an easy task. But being able to tell them what they are ‘taking off the table’ is a good place to start. But firstly, a quick recap.
What is a reversionary beneficiary and how do clients get one?
Before an account-based pension commences to be paid, the fund trustee and member must first enter into a contract together. The member will request their superannuation monies be set aside for the purpose of paying an income stream and the trustee agrees to do so. In forming this contract, a number of terms and conditions are agreed upon, such as the starting balance of the pension account, the amount of the pension payment, and how regularly it will be paid to the member.
The member may also request the trustee to maintain their pension account on their death and continue to pay pension payments to another person instead (the reversionary beneficiary). In addition to ensuring the pension meets the superannuation rules, the trustee can agree to this condition, provided the fund’s governing rules permit them to.
Who can be a client’s reversionary beneficiary?
In practice, the most common reversionary beneficiary is a member’s spouse. Alternatively, a member could nominate:
A child (restrictions apply); or
A person (other than a child) who they have an interdependency relationship with or who is financially dependent upon them.
If a member nominates their child as a reversionary beneficiary, at the time of the member’s death, the child must be:
less than 18; or
less than 25 and financially dependent upon the member; or
This means adult children will generally not be eligible to be a reversionary beneficiary on a parent’s pension.
If the person nominated by the member does not fit within the categories above, the reversionary nomination will not be valid. Similarly, if the fund’s trust deed has a narrower list of permitted beneficiaries, this may also make the member’s nomination invalid.
When do clients have to put their reversionary beneficiary in place?
Whilst the nomination is usually agreed to when the pension is commenced, subject to the trustee and the fund’s governing rules, it may be possible for a member to request for a reversionary beneficiary to be added o an existing account-based pension. This is more likely to occur when a pension is being paid by a self-managed superannuation fund (SMSF) and is not without risk.
Benefits that flow when a pension reverts
The interesting thing about the benefits of having a reversionary beneficiary is that the benefits will not be realised until the original pensioner dies (which is certain) and the reversionary beneficiary survives the original pensioner and remains a valid reversionary beneficiary (which may be less certain). But provided this occurs, the entitlement to the pension account will automatically shift to the reversionary beneficiary in accordance with the terms of the pension (and hopefully the original pensioner’s wishes).
A key benefit enjoyed by the reversionary beneficiary (and the trustee responsible for administering the death benefit) is the simplicity in dealing with the death benefit. The trustee should not need to determine who the other potential dependants of the original pensioner may be. This may be beneficial if the trustee’s decision about the payment of death benefits would otherwise be at risk of being challenged.
Furthermore, potential cost savings may be realised, as the trustee’s duties will be limited to acknowledging the original pensioner’s death and that the pension account will be maintained and continued to be paid to the reversionary beneficiary on the original pensioner’s death. Similarly, documentation to be provided to the trustee should also be fairly straightforward and would include a death certificate and relationship declaration.
Pension payments being made to the original pensioner will continue to the reversionary beneficiary. This may be helpful for cashflow purposes and may also ensure the pension continues to be grandfathered for Centrelink or Department of Veterans’ Affairs purposes.
As the pension is being paid to the reversionary beneficiary, as a result of the death of another, the pension will attract favourable tax treatment. The investment income allocated to the pension account will be exempt for income tax purposes (rather than being taxed at up to 15 per cent). Pensions which attract such tax treatment are called ‘retirement phase pensions’. Since 1 July 2017, the Government has placed a limit on the amount an individual can transfer into these types of pension (called a ‘transfer balance cap’). The current lifetime limit is $1.7 million, however, if a member had already been in receipt of a ‘retirement phase pension’ prior to 1 July 2021, their lifetime limit will be between $1.6 million and $1.7 million.
When a pension reverts to a reversionary beneficiary, the value of the pension account at the pensioner’s date of death will count towards the beneficiary’s transfer balance cap. However, this value will not be counted until 12 months after the date of death, the intention being that the beneficiary should have a period of time to receive advice and, if appropriate, stop some or all of their own or the reversionary ‘retirement phase pensions’ to ensure they remain within their transfer balance cap.
As a result, any increase in the value of the reversionary pension account (including insurance proceeds allocated to that account) after death is not tested against the lifetime limit – only the value of the account as determined at the date of death.
Trade-offs? What trade-offs?
Utilising a reversionary beneficiary nomination is not without its trade-offs. It is important clients are made aware of what options are being removed and the implications making this type of nomination may have.
One such option, is for the ability of the trustee to exercise their discretion about who the deceased member’s superannuation benefits should be paid to. When a pension automatically reverts to a reversionary beneficiary on the death of the pensioner, the trustee does not have the option to pay some or all of the pension account to another permitted dependant, or to the member’s legal personal representative, to be distributed in accordance with their will.
This means, a reversionary beneficiary may be left with the superannuation monies in their own name, when their preference may have been for the trustee to be able to deal with the superannuation benefits and potentially pay the superannuation benefits through to a testamentary trust via the estate.
Furthermore, due to the limits imposed via the transfer balance cap, the entitlement to a reversionary pension may cause a beneficiary to exceed their transfer balance cap. Depending upon the type and value of pension entitlements already commenced to be paid to the beneficiary, the beneficiary may be required to stop some or all of the death benefit pension and withdraw these benefits from superannuation. The beneficiary is not permitted to roll back a death benefit pension and retain the benefits in an accumulation account. If the fund holds illiquid investments, the member may also need to accept an in-specie benefit payment.
Whilst the delay in the value of the pension account counting against the member’s account may be beneficial, it is on the proviso that the account balance increases. However, should the balance of the reversionary pension decline in value from the pensioner’s date of death, the higher account balance will still count towards the beneficiary’s transfer balance cap 12 months after the date of death.
Another trade-off is around record keeping. Whilst the documentation of the benefit payment might be simpler, the requirement to determine the value of the pension account on the date of the member’s death for transfer balance cap purposes can be time-consuming and costly for the trustee, particularly, if the benefits are held in a SMSF, the member’s death does not align with other reporting dates (such as close to year end) and the assets of the fund consist of unlisted investments, the values of which are not readily determined. Furthermore, the fund does not have 12 months from date of death to report the event to the Australian Taxation Office. If the fund is a quarterly reporter for transfer balance account purposes, the trustee is due to report the event soon after the end of the quarter in which the original pensioner passes away, or otherwise when the fund lodges its annual return if it is an annual reporter.
Unlike an account-based pension that does not revert, the minimum pension is still required to be paid in the year of death. This means by 30 June, either the original pensioner and/or the reversionary beneficiary, collectively, need to withdraw the minimum pension. Contrast this with a pension that does not have a reversionary beneficiary. In that case, the pension ceases on the death of the pensioner and no further pension payments are to be made. Yet, the pension account without the reversionary beneficiary will still receive favourable tax treatment (the earnings allocated to the pension account will still be exempt from tax), provided the trustee arranges to pay the death benefit ‘as soon as practicable’.
Finally, it is important to be aware that when the pension reverts to the reversionary beneficiary on death, the balance of the pension account will count towards the balance of the reversionary beneficiary’s total superannuation balance from the date of death. This may impact the ability for the reversionary beneficiary to make non-concessional contributions (including using the bring-forward rule) or carry forward unused concessional cap space when their total superannuation balance is considered at the following 30 June.
What about making a binding death benefit nomination?
If a reversionary beneficiary is not appropriate, for example, a client may prefer their benefits be paid to their estate or an adult child, but still wants control over this decision, a binding death benefit nomination (BDBN) may be a suitable alternative.
The potential beneficiaries that a member may be permitted to nominate is broader than that of a reversionary beneficiary and includes children of any age and the member’s legal personal representative (executor of their estate).
In a similar fashion to a reversionary beneficiary nomination, on the member’s death, the trustee must pay the member’s benefit to the person(s) nominated in the BDBN, provided the nomination is valid.
The particular fund’s governing rules will dictate whether or not a BDBN is permitted, and if a BDBN is permitted, whether the nomination is lapsing or non-lapsing. In addition to any legislative requirements, the governing rules may also impose rules about a BDBN including:
any special rules about giving information to the member;
the format, including witnessing requirements; and
if a member is permitted to make both a reversionary beneficiary nomination and a BDBN, which one is given preference.
A BNBN may be appropriate if the member wishes to control who will receive their superannuation death benefits and:
has an accumulation account;
would like to nominate a beneficiary who is not permitted to be a reversionary beneficiary;
would like to make an alternative nomination, should the reversionary beneficiary they have nominated not survive them or the nomination is invalid;
has multiple beneficiaries they would like to nominate;
has beneficiaries who do not meet the definition of ‘dependant’ under the superannuation law (e.g. former spouses, siblings) and require their superannuation benefits to be paid to their legal personal representative (estate) and distributed in accordance with their will; or
in a similar fashion, require their superannuation benefits to be paid to their legal personal representative (estate), so they are able to utilise a testamentary trust in accordance with their will.
Whether or not a reversionary beneficiary nomination or a BDBN is appropriate for your client will depend on their personal circumstances and the outcomes they are trying to achieve. Careful consideration should also be made to a client’s broader estate planning requirements. While some of the potential issues are not straightforward, stepping your client through the issues that are relevant to them will help them to make an informed decision about what will happen to their superannuation on their death and provide them with peace of mind.
Annie Dawson is Senior SMSF Technical Specialist at Heffron.
1. Sally is considering nominating her child, Tony, as a reversionary beneficiary. However, to do so, there are certain considerations Sally needs to be aware of. As a dependant of Sally, which of the following scenarios would make Tony ineligible to be a reversionary beneficiary?
A child under 18.
A child over 25.
A child who is severely disabled.
A child who is 23, living at home and studying full-time.
2. For transfer balance cap purposes, which of the following statements is correct?
The value of the pension account 12 months after the member’s death is counted towards the reversionary beneficiary’s transfer balance cap.
The value of the pension account 12 months after the member’s death is counted towards the deceased member’s transfer balance cap.
The value of the pension account at the member’s date of death is counted towards the reversionary beneficiary’s transfer balance cap 12 months after the member’s date of death.
The value of the pension account at the member’s date of death is counted towards the deceased member’s transfer balance cap 12 months after the member’s date of death.
3. If an account-based pension is reversionary, the minimum pension is still required to be paid in the financial year in which the original pensioner dies. True or False?
4. Select the most appropriate answer. A binding death benefit nomination may be appropriate if the member wants to control to whom their superannuation benefits are paid to on their death and:
The member would like to nominate multiple beneficiaries.
The member has an accumulation account.
The member would like to have their benefits paid to their legal personal representative.
All of the above.
5. Rachel is considering a reversionary beneficiary nomination but it may not be appropriate for her if:
Rachel would like her pension to automatically continue to her spouse upon her death.
The pension was commenced prior to 1 January 2015 and is grandfathered for social security purposes.
Rachel would like the trustee to have discretion as to whom her pension account is paid to on her death.
Rachel holds insurance inside superannuation and would like her member entitlements to be paid to her spouse as an income stream upon her death.
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