What Happens to My SMSF When I Die?
A common misconception is that your SMSF must be wound up when you die. Whilst that is one option, there are alternatives available.
The answer to what happens to my SMSF when I die depends on who remains in the fund, whether they want the fund to continue, who controls the fund, what the trust deed says, whether there was any estate planning, and whether the paperwork is in order to pay out death benefits in line with the deceased member’s wishes.
Control of the fund is a key consideration on the death of a member
A common scenario is an SMSF set up by a husband and wife, who are the members of the SMSF and directors of the sole purpose trustee company.
The husband dies. Anna is the surviving spouse, and she seeks advice from her financial advisor, who recommends retaining the fund because it holds a couple of high-performing rental properties and is part of her long-term financial plan.
Who controls the fund?
The trustee company, F&A Pty Ltd, controls the fund. There is no requirement to change the trustee, but the deceased spouse must be removed and a decision made regarding the ongoing structure of the directors.
Anna has to review the company’s constitution in order to ascertain:
- Can she become the sole director?
- How can she remove her deceased spouse as a director? Generally, a company constitution provides that a deceased director automatically loses their office.
- Can she appoint the executor of her husband’s estate as the second director until the death benefits are paid?
- Can she appoint a friend or another family member as the second director?
- Does the trustee constitution allow for a successor director?
After seeking help, Anna decided to change the constitution so she could be the sole director and, therefore, remain the sole member of her SMSF. She was required to lodge the appropriate paperwork with ASIC to do this. To ensure the fund remains an SMSF, she has six months from her husband’s death to restructure the directors.
How are the deceased member’s super benefits paid?
Death is the only time a super benefit must be paid out.
It can be paid as a lump sum, as a death benefit pension, or as a combination of the two. Death benefits can only be paid to eligible dependants, generally a spouse, children, certain family members, the legal personal representative of the member’s estate, a person in an interdependency relationship, and a financial dependant. The benefits can be paid to the executor of the member’s estate, in accordance with the member’s death benefit nomination, or at the trustee’s discretion. If the trustee cannot find any eligible dependants and no legal personal representative, the super rules allow a death benefit payment to be made to another individual, subject to the fund’s trust deed.
If a valid binding death benefit nomination has been made by the member, the death benefits must be paid accordingly. If there is a non-binding death benefit nomination, the trustee can choose how the death benefits are paid. Where the member has established a pension with a reversionary pension beneficiary, the pension can be continued without a break to that beneficiary. Of course, the beneficiary must be eligible for a death-benefit pension; most adult children are not.
What is the effect on the surviving spouse’s super?
Typically, when one spouse dies, the surviving spouse inherits their super. When paid out as a lump sum, the spouse receives it as a tax-free benefit. Cash flow may be a problem if the fund holds illiquid assets, such as property, and has to sell them to pay the death benefit.
Alternatively, a death benefit pension may be paid to the spouse. This means the deceased member’s super can remain in the SMSF. However, the value of that pension adds to the surviving spouse’s transfer balance cap (TBC), which may mean they exceed the cap.
Anna has her own retirement phase pension, and on the advice of her financial advisor, she wants to keep as much as possible in super. She inherits her spouse’s death-benefit pension as the reversionary pension beneficiary. The death benefit pension is quarantined and cannot be rolled back into the accumulation phase. The inheritance will cause her to exceed her TBC. To avoid this, she has to commute part of her pension to make room for the death benefit pension. As the death benefit pension is reversionary, she is not required to commute part of her own pension until 12 months after his death. Anna can cash out part of her pension or roll it back into the accumulation phase to maximise the amount she has in super.
Other considerations
- The fund’s assets should be valued to ensure the death benefit is calculated correctly.
- Review the death benefit nomination of the surviving spouse.
- Consider Division 296 tax ($3million tax).
- Consider the surviving spouse’s total super balance, which can affect their ability to make non-concessional contributions and to use the bring-forward rule and the carried-forward rule in relation to concessional contributions in the following year.
- Update estate planning.
- If the death benefit pension is reversionary, ensure the pension minimum does not change and must be paid before 30 June.
- Change the signatory on investment and bank accounts.
- If the pension is reversionary, report the death benefit pension on a transfer balance account report – it must be reported by the 28th of the month following the quarter of the member’s death, but it does not count towards the spouse’s TBC until 12 months later. The correct valuation of the pension may not be known at the time of reporting, so an estimate can be made and a correction reported in a future return.
- If the death benefit pension is not reversionary, it is reportable by the 28th of the month following the quarter when the pension commences and is counted towards the surviving spouse’s TBC.