Beware the pitfalls of underpaying death benefit pensions
The underpayment of a reversionary or death benefit pension from an SMSF can lead to the loss of tax exemption status and may require a withdrawal of the whole balance out of the fund, according to SuperConcepts.
In a recent blog post, SuperConcepts technical manager for SMSF technical and private wealth Graeme Colley noted that if the deceased member’s benefit is cashed as a death benefit pension, the cashing requirement is met where the pension continues to be paid.
However, the issue is that if the amount of the death benefit pension is less than the minimum required, it will not satisfy the pension standards from the start of the financial year.
As a result, Mr Colley said the pension no longer meets the cashing requirement for the death benefit and is in breach of pension standards, meaning the only option available is to cash out the entire death benefit pension as a lump sum.
“This meant that the option to restart the pension at the start of the next income year which applied for account-based pensions would not be available,” he said.
“This requirement would create some challenges for funds with lumpy assets, and in other situations capital was being forced out of a concessionally taxed environment.”
The issue behind the ATO’s recommended options
Mr Colley noted the ATO managed to put forward a solution in July last year to death benefit pensions that were underpaid. It said the issue could be rectified by one of three possible options:
- Stop the death benefit pension and immediately commence a new retirement phase income stream as soon as the member or trustee is aware of the breach.
- Cash the benefit as a lump sum (either as a single lump sum or as an interim and final lump sum).
- Roll over the death benefit income stream pension to commence another complying super fund and start a new death benefit income stream.
According to Mr Colley, the first option refers to stopping the death benefit pension and starting a new retirement phase income stream, which he said may not be accurate as the law requires any death benefit pension to be commuted and used to commence a new death benefit pension or withdrawn from the fund as a lump sum.
However, he said if it is correct and the death benefit pension in option 1 can be rolled over to commence a retirement phase income stream, then a number of strategies are possible.
“One could be to roll the balance into the recipient’s accumulation balance. Changes were made to the ATO publication that the solutions applied only to reversionary pensions,” Mr Colley said.
“However, our view is that this should not impact on death benefit pensions when the minimum payment has not occurred. It is intended to apply to all death benefit pensions.”
Adrian Flores
Adrian Flores is the deputy editor of SMSF Adviser. Before that, he was the features editor for ifa (Independent Financial Adviser), InvestorDaily, Risk Adviser, Fintech Business and Adviser Innovation.
You can email Adrian at [email protected].
