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When you start a super income stream (such as an account-based pension), some super funds give you the option to nominate a beneficiary who will automatically receive your super pension when you die.
Although this doesn’t sound like a major decision, it can be a valuable estate planning tool to ensure that on your death your super savings go to the person you want with the minimum fuss. It can be particularly important if your pension is being paid by your SMSF.
A reversionary pension is also a simple way to make things easier for your spouse when you pass away. As your pension payments continue under the existing terms and conditions of the pension, your spouse will know exactly how much and when the payments will be made, taking away some of the challenges and decisions at this difficult time.
What is a reversionary pension?
Deciding to take some or all of your super savings as a pension or income stream is a popular option for many Aussies when they retire, with 40.6% of total super benefit payments (or around $15.6 billion) taken in this form.
Generally, if you are receiving a super income pension, it stops as soon as you die, and the remaining balance is distributed to the beneficiary (or beneficiaries) you nominated in your death benefit nomination.
Some super funds, however, give their fund members an additional option. They allow you to nominate a reversionary beneficiary who automatically becomes entitled to receive your super pension on your death. A reversionary nomination makes your wishes clear to the trustee of your super fund.
With a reversionary pension, your existing super pension continues to be paid, but it reverts to your beneficiary. Provided your intended beneficiary is an eligible death benefit dependant at the time of your death, they will start receiving your pension immediately.
Who are my death benefit beneficiaries?
For a reversionary pension nomination to be valid, only someone classed as your death benefit dependant under superannuation law can be nominated.
This means at the date of your death your reversionary beneficiary must be an eligible dependent and:
- Your spouse (including same sex)
- Your child under age 18
- Your child aged between 18 and 25 who is permanently disabled as defined in the Disability Services Act 1986
- Your child aged between 18 and 25 who is financially dependent on you immediately before your death
- Someone who is an ‘ordinary meaning’ dependant at the time of your death
- Someone with whom you are in an interdependency relationship both at the time of nomination and the time of your death. (An interdependency relationship involves someone who lives with you and shares a close personal relationship where one or both of you provide for the financial and domestic support and personal care of the other.)
Pros and cons of a reversionary pension
- Payment certainty – Nominating a reversionary pensioner gives you a level of certainty that the person you want to receive your super benefit will get it when you die, as it’s not up to the super fund’s trustee to decide on the beneficiary.
- Rapid payments – With a reversionary pension, your beneficiary receives immediate access to the cash flow from your pension, which can be helpful at a difficult time.
- No pressure to decide – This type of nomination means your beneficiary is not required to decide about complex financial matters immediately after your death.
- Tax advantages – Generally, a super pension is tax free or concessionally taxed (depending on your age and the age of your beneficiary), so there can be tax benefits for your reversionary beneficiary.
- Assets remain in the super system – With a reversionary pension, the assets supporting the pension payments remain within the beneficial tax environment of the super system. If the death benefit is paid as a lump sum, your beneficiary may be unable to recontribute the money back into the super system.
- Tax components preserved – When a reversionary pension reverts to the reversionary beneficiary, the taxable and tax-free components calculated when the pension first started are preserved.
- Easy legal transfer – Reversionary pensions usually transfer seamlessly to the beneficiary and are rarely challenged.
1. Nomination must be at commencement – Generally, you can only make a reversionary nomination when you start a super pension. Once a super pension has commenced, you may need to stop (commute) and restart it if you want to nominate a reversionary beneficiary. The commutation of your super pension can be either a full commutation or a partial one (taking a lump sum). There are strict cashing rules around both types of commutation, so it’s important to ensure you check these before taking any action in relation to your pension.
2. Potential impact on social security benefits – Receiving a reversionary pension may have an impact on your beneficiary’s social security benefits. A death benefit income stream may be assessed under the Age Pension means testing rules. For more information about income streams, visit the Services Australia website.
3. Counts towards the Transfer Balance Cap (TBC) – Value of a reversionary pension will be counted towards your beneficiary’s TBC (see section below).
4. No lump sum – Reversionary pensions do not provide a lump sum if the reversionary beneficiary needs to pay off debts. A reversionary pension can, however, be commuted into a lump sum if required.
5. Changed circumstances – Reversionary pensions create problems if you divorce or separate from your intended reversionary beneficiary. In this situation you need to commute the pension and commence a new pension with a different nominated beneficiary.
6. Invalid nomination – If your nominated reversionary beneficiary is not a death benefit dependant at the time of your death (or if they have died), your nomination will be invalid, and the fund trustee will use its discretion when paying out the balance of your super pension account.
7. Limited beneficiaries – Reversionary pensions can only have a single beneficiary, so if you have multiple beneficiaries, you may need to have multiple pensions or use a BDBN.
Reversionary pensions and the Transfer Balance Cap
There is a cap on the amount you can transfer and hold tax free in the retirement or pension phase. The current standard cap is $1.9 million.
This cap also applies to reversionary pensions, so if a dependant beneficiary becomes entitled to this type of pension, they need to ensure it does not take their retirement phase super assets over their cap. Note that everyone who has previously commenced a pension has their own personal cap, which is often different to the standard cap that applies to those starting a pension for the first time. You can see your personal transfer balance cap via MyGov through the linked ATO service.
To allow reversionary beneficiaries time to get their super assets in order and avoid breaching their TBC, the value of a reversionary pension is not added to the beneficiary’s transfer balance account until 12 months after the fund member’s death.
Some beneficiaries may need to take action to avoid exceeding their cap. This could be commuting some of their own pension back to accumulation phase to make ‘space’ for the addition of the reversionary pension or choosing to commute some or all of the reversionary pension to a lump sum.
Reversionary pension vs binding death benefit nomination
One of the key benefits of a reversionary pension is the automatic nature of the change in recipient, with the fund trustee not required to make a decision about the benefit other than confirming your nomination. A BDBN on the other hand, involves ceasing the current super pension. The fund trustee must then decide whether or not to start a new pension for the nominated beneficiary or pay a lump sum.
In addition, reversionary pensions are rarely challenged by other potential beneficiaries and most legal experts see them as taking precedence over a BDBN.
BDBNs are sometimes challenged in court and if they are not executed properly (such as being witnessed correctly), they can be overturned in favour of other beneficiaries.
It’s worth noting that in some situations the flexibility provided by a BDBN can allow the fund trustee to distribute your death benefit in a more beneficial way for your beneficiary. However, there is not the same level of certainty as with a reversionary pension nomination.
SMSFs and reversionary pensions
Reversionary pensions can be an important estate planning tool when used in conjunction with an SMSF. It provides certainty that payment of your existing super pension will automatically revert to your desired beneficiary, without the fund trustee having any input into the decision.
It’s important to note, however, that not all SMSF trust deeds provide for a reversionary pension option or give trustees the necessary powers to pay this type of super pension. You need to carefully check the wording of the current trust deed and governing rules of your fund to determine what options are permitted when it comes to the payment of death benefits and whether you can nominate a reversionary beneficiary.
Another detail to check is whether a reversionary pension nomination will be given priority over a BDBN by the fund trustee, as not all SMSF trust deeds and governing rules make this explicit. A good trust deed should ensure your reversionary death benefit nomination is valid, effective and cannot be ignored or overruled by the fund trustee after your death.