What you need to know when you’re investing your money into Superannuation.
Having funds in Superannuation is usually a great financial structure from a tax perspective. Generally during a member’s working life earnings and contributions are taxed at 15%, then in retirement when they start an account based pension the earnings are taxed at 0% (up to the $1.6 million transfer balance cap). Despite this being a great way to invest your money, there should be an awareness of potential Death Benefits Tax upon the death of a member.
When a member dies, if the spouse or child under 18 receives all of their Super, there is no Death Benefits Tax. If the death benefits are paid to a non-tax dependent, there is a 15%* Death Benefits Tax that applies. Examples of a non-tax dependent could be an adult children or an estate (where ultimate beneficiaries are not the spouse or a child under 18). This tax is ultimately borne by the dependents.
How does it work?
Say, for example John had $2.1 million in his Super when he died made up of the following components:
**Tax free component: $630,000 (30% of his balance)
***Taxable Component: $1,470,000 (70% of his balance)
The death benefit gets paid out as a lump sum to his estate (beneficiaries will not be his spouse or a child under 18).
The taxable component of $1,470,000 will be subject to 15% tax being $210,000. The $630,000 component is received tax free.
Can anything be done to reduce this future tax?
Some strategies may involve:
- Withdrawing all money out of Super just before the member passes away (very rare that this will be possible).
- Completing some withdrawals and re-contributions into the fund to increase the tax free component of the fund (subject to contribution limits/rules and meeting conditions of release to withdraw).
- Withdrawing money out of Super and investing in the individual’s name.
John is 67 years old and has $2.1 million in Super (a 30% tax free component and a 70% taxable component). He is in good health and expects to live for many more years.
He only has about $5,000 worth of other income in his personal name. John withdraws $500,000 from his Super and invests in his own name. Assuming these funds will earn 5%, that would equate to an additional $25,000 of income.
What are the benefits of John’s action here?
- The $25,000 income would be tax free in John’s name (assuming he’s eligible for the Senior Australian tax offset) as opposed to being taxed at 15% in Super – saving approximately $3,750 tax every year.
- Future Death Benefits Tax is reduced because $350,000 (70% taxable component of $500,000) is now in his own name and won’t be subject to Death Benefits Tax upon his passing. This could represent tax saving to his dependents of $52,500.
*when its paid directly to a beneficiary, need to add 2% Medicare levy
** Tax Free component – most of this would come about from non-concessional contributions the member made over their life
*** Taxable component – would be made up mostly of concessional contributions and earnings over the life of the member