Under Section 295-470 of the Income Tax Assessment Act 1997 (ITAA 97), a fund can claim a tax deduction with respect to death and disability benefits paid as a consequence of a member’s termination of employment which occurs as a result of death, disability or terminal illness.
What this means is that a fund is able to claim a tax deduction for the proportion of death, terminal illness or disability benefits paid to a member who dies or becomes disabled. The proportion that can be claimed is calculated as follows:
Benefit payment x future service period/ total service period
So, for example, Tom started work at 25 and his normal retirement age would have been 65. Unfortunately, Tom develops lung cancer and dies suddenly at the age of 45. He was a member of his own self-managed superannuation fund and held life insurance through that fund at the date of his death. At the date of his death, his accumulated benefits totalled $800,000 which included a life insurance payout of $500,000.
If the trustees of Tom's SMSF make the election after Tom dies to cease claiming insurance premiums as tax deductions under Section 295-465 of the ITAA 97 and instead claim a deduction for the future insurance liability under Section 295-470 of the ITAA 97, then Tom's SMSF would be entitled to a tax deduction of $400,000.
$800,000 x 20/40 = $400,000
The fact that the fund receives this tax deduction opens up lots of additional options for Tom's family following his death. For example, deductible superannuation contributions could be made to the fund by Tom's wife and the tax loss made by the fund would reduce the tax payable on the contribution and future fund earnings in respect of that contribution to nil.
Are there other opportunities available by electing to claim a future service deduction under Section 295-470?
The point that is often overlooked when it comes to the operation of Section 295-470 is that it is not restricted to death benefits; deductions for a fund will also arise if an election is made with respect to the payment of a benefit as a result of termination of employment resulting from terminal illness or total and permanent disablement.
In addition, if the fund was providing temporary disability cover for a member and the member becomes temporarily disabled, the trustee would be entitled to make the election under Section 295-465(4), and claim a deduction for the amount of temporary disability benefits paid to the member, as opposed to the amount of the premium incurred and payable to the life insurance company.
So when does a fund need to make an election under Section 295-465 of the ITAA 97?
This tax provision would not be all that useful to anyone if the election to claim a tax deduction under Section 295-470 was required to be made prior to the death or disability of the fund member. Fortunately, we now have ATO ID 2015/17 which addresses this question:
"Can a trustee of a complying superannuation fund make a choice under subsection 296-465(4) of the ITAA 97 to claim a deduction under section 295-470 of the ITAA 97 after the death of the insured fund member?"
The ATO came to the conclusion that a valid choice can be made under subsection 295-465(4) of ITAA 97 by the trustee after the death of the member – which is great news for advisers who may need to utilise this provision since it removes the requirement to use the crystal ball to tell when an election may need to be made.
So are there any other conditions that need to be satisfied in order to claim the deduction?
The conditions that must be satisfied include:
- The fund must hold insurance cover in the year that the election is made to claim the deduction under Section 295-470 of the ITAA 97
- The type of insurance benefit to which this election applies is:
- The benefit of making an election under Section 295-465(4) of ITAA 97 diminishes as the fund members get older. For example, if a member is 64 and the fund trustee becomes eligible to make the election under S295-465(4), the deduction available under S295-470 would be small because the liability to pay benefits with respect to future service is also small.
- The election under Section 295-465(4) must be made in respect of the year in which an insurance premium is paid. For example, if a premium was paid on 20 June 2015 for a member that died on 30 June 2015, then the election is required to be made for the 30 June 2015 year. The election could not be made in the following year with respect to that member because a premium would not be paid in that year. See Private Binding Ruling 1012695230090.
- Terminal illness
- Disability (either total and permanent or temporary)
In the words of the ATO, "The fund cannot make an election to claim a deduction for its future liability to pay benefits in respect of the Deceased as no insurance premiums have been paid in respect of the Deceased's policy" in the year in which the election is made.
- Once a trustee has made an election under Section 295-465(4), that election continues to have application to future years, unless the Commissioner of Taxation decides that it should not.
If a trustee makes an election in respect of one member, does this election affect other members of the fund?
It would appear not. It would appear that a trustee could make an election in relation to member 1 to claim a deduction under Section 295-470 while not making an election in relation to member 2 and continuing to claim the insurance premiums paid under Section 295-465 of the ITAA 97.
This was confirmed by the ATO in Private Binding Rulings 1012695230090 where it stated in respect to the second member that,"As the fund has paid insurance premiums for member 2 for the years ending 30 June 2012 and 30 June 2013, the fund can claim a deduction under subsection 295-465(1) of ITAA97. Alternatively, the fund can choose to forgo the deduction for these premiums in the 2012 and 2013 income years and to deduct instead the amounts based on the Fund's future liability to pay benefits in respect of Member 2. However, that deduction would only occur when the fund incurs an actual cost for providing the benefit."
Mark Wilkinson, director, Wilkinson Superannuation