By Mark Ellem
Key points:
Confusion on death benefit pension rules remains, despite clarification by ATO
What options are available when a death benefit pension fails to pay the minimum pension for a financial year is still unclear, despite the ATO providing clarification on their website in late July 2019. There are also unanswered questions around how this situation affects the death benefit pensions tax components and whether one of the ATO rectification options means that the pension is no longer a death benefit pension.
What’s the issue?
The death of a superannuation member is a compulsory cashing event under the superannuation law, in fact it’s the only compulsory cashing event. A deceased member’s benefit must be cashed ‘as soon as practicable’ either as a lump sum, pension, or combination of both. Where the deceased member’s benefit is cashed as a pension, there will be transfer balance cap consequences and may require an amount of the death benefit pension to be cashed out of the superannuation system.
The ATO considers that where the deceased member’s benefit is cashed by way of a death benefit pension, then the cashing requirement is only met where the pension continues to be paid and importantly, is a ‘retirement phase income stream’. The issue is that in the event that the death benefit pension fails to pay the minimum pension, the pension is no longer in ‘retirement phase’, from the start of the relevant financial year. Consequently, the fund is no longer meeting the cashing requirement for the death benefit and is in breach of this requirement.
Can it be fixed?
Initially, it was thought that the only option would be to cash out the entire death benefit pension, that is, the option to restart the pension at the start of the next income year – like you can with a ‘normal’ retirement phase account based pension, would not be available. This would provide some challenges, particularly where a fund had lumpy assets. Further, it meant capital was being forced out of a concessionally taxed environment.
However, the ATO provide a solution to the cashing breach when they updated their website on 17 July 2019. Where there is a failure to pay the minimum pension amount for a death benefit pension, whilst the fund will have breached the compulsory cashing requirement in the financial year the minimum pension was not paid, this could be rectified by one of the following options:
In relation to the option to start a new pension in the following financial year, it is noted that the type of pension described was merely “a retirement phase pension”. This is compared with the third option which provided for the rollover of the death benefit to another complying superannuation fund to be immediately cashed as a “new death benefit income pension”. Is the new pension under option 1 no longer a death benefit pension? We understand the general rule from 1 July 2017 for death benefit pensions, “once a death benefit pension, always a death benefit pension”, but why are the words “death benefit” left out of the first option? If the new pension is not a death benefit pension, this opens up some interesting strategies and options, including the ability to commute the pension back to the accumulation interest of the surviving spouse. However, we doubt this was the intent and that it was merely a typographical error.
Soon after the ATO provided their original update, further changes were made to note that it only applied to reversionary pensions. But in our view whether the death benefit pension commenced as a result of it being reversionary or not, should not affect the options available when the minimum pension is not satisfied, whether that be in year 1, 2, 5, 10 or 20. If the options do not apply to a death benefit pension that was not commenced as a result of it being reversionary, does this mean that the only option is to remove the pension capital from superannuation?
Treatment of tax components
The ATO update notes that it only addresses the issue of the compulsory cashing requirements. One aspect of this situation that requires clarification is the application of the proportioning rules. Particularly to the income allocated to the death benefit pension during the financial year that it fails to pay the minimum pension.
Further, when the death benefit pension is re-commenced on 1 July of the following financial year, will there be a requirement to re-apply the proportioning rule to the capital of the pension alone, or if the surviving spouse had an accumulation account, include when applying the proportioning rule? This raises the question, does the capital of a death benefit pension that fails to pay the minimum fall back to the accumulation interest of the surviving spouse? This would be contrary to the rule “once a death benefit pension, always a death benefit pension”.
Don’t forget the TBAR
A failure to pay the minimum pension means the death benefit pension is no longer in retirement phase. Consequently, the fund will be required to prepare and lodge a TBAR, advising the ATO of this. Whilst the pension is deemed to cease at the start of the relevant financial year, the debit or reduction to the surviving spouse’s transfer balance account (TBA), occurs at the end of the financial year (i.e. on 30 June of the financial year in which the minimum pension was not paid). Consequently, there will be a need to account for the pension as if it was still in place for the entire financial year to be able to determine the 30 June balance – the TBA debit amount.
Further guidance to clear this up
Further guidance is required that deals with all the SIS and tax issues. Failing to pay a minimum pension is one of the most common questions we get in the Technical and Education team and it is becoming more common for such pensions to be death benefit pensions.
