Super strategies after losing your spouse: What are the rules?

In this guide

Pension or lump sum
What about the Transfer Balance Cap?
What are your options?
Plan to secure your partner’s future

Most retired couples plan to leave the bulk of their estate to their surviving spouse, which sounds straightforward. But where super is concerned, nothing is ever simple.

If you’re both retired and drawing a pension from your super, inheriting your partner’s super could have complex tax implications if you’re not careful.

Mapping out some possible scenarios and strategies now could save a lot of worry at what will already be a difficult time of life.

So, what are your options?

Pension or lump sum

The starting point is whether you stand to receive the balance of your partner’s super as a lump sum or as a reversionary pension.

SMSFs and some public offer super funds allow members to nominate a reversionary beneficiary. This means you can automatically continue to receive their pension when they die.

The main benefit is that their death benefits will not leave the tax-free super environment. Whereas, if it’s paid out to you as a lump sum you may not be eligible to contribute it back into super due to contribution and age limits.

Learn about making super contributions after you’ve retired.

If you invest the lump sum outside super in your own name, you will potentially be liable for tax on any income and capital gains you receive.

Importantly, if you do receive death benefits as a pension you can still take all or part of it as a lump sum if you need the cash.

What about the Transfer Balance Cap?

The next potential hurdle is the Transfer Balance Cap (TBC). Since the introduction of the general TBC from 1 July 2017, there is a limit to the amount you can transfer into a retirement phase super pension account. Originally set at $1.6 million, the TBC has since increased twice and now sits at $1.9 million. While the TBC limits how much you can move into retirement phase, there is no cap on investment earnings inside your pension account(s).

This poses a challenge for reversionary pensions if receiving your partner’s account-based pension after their death would push your Transfer Balance Account balance above your transfer balance cap. Be aware that if the cap has increased since you commenced your pension, your personal transfer balance cap will not be the same as the general cap. You can find your personal cap using ATO online services via myGov.

The good news is that the government allows a 12-month period from the date of your partner’s death before their reversionary death benefits are counted towards your account balance. This recognises the fact that it can take time to get your finances in order after the death of your partner.

This grace period only applies to reversionary pensions. It is not used if your partner’s super was in accumulation phase (or retirement phase without a reversionary nomination) and you’re using it to commence a death benefit pension.

Learn more about the Transfer Balance Cap and Transfer Balance Account for super pensions.

Let’s look at one example

Angela started an account-based pension in 2020 with a balance of $1 million. Her partner Greg died on 1 July 2023 leaving her a reversionary pension worth $800,000.

Angela’s personal transfer balance cap is $1,714,000. She is not entitled to the general cap of $1.9 million because people who already have a transfer balance account receive a proportion of the cap’s indexation that corresponds to the amount of the cap they have not already used.

When Greg’s pension balance is added on 1 July 2024, the total balance of Angela’s transfer balance account will be $1.8 million. This is $86,000 above her transfer balance cap.

Thanks to the 12-month grace period, Angela has time to take action before she inadvertently exceeds the cap.

What are your options?

To avoid paying unnecessary tax, it’s important to work out if your partner’s super is likely to push you over your Transfer Balance Cap and by how much.

Here are three potential strategies:

Strategy 1

Transfer some or all your pension account balance back into a super accumulation account, creating enough cap space to keep the entire reversionary pension you inherited from your spouse (or commence a death benefit pension with it, if it was in accumulation phase).

Investment earnings on the amount rolled back into your accumulation account will be taxed at up to 15%. But the advantages of this strategy are that it allows you to maximise the amount you have in your tax-free super pension and avoids the need to sell assets supporting your partner’s super death benefits when you withdraw them from super as a lump sum.

The one proviso is that your existing super pension must be ‘commutable’. A commutable pension is one that can be withdrawn or rolled out of your pension account. Most account-based pensions can be rolled back in this way, but if you have a defined benefit pension it may not be allowed, so you will need to check with your fund.

Using the example of Angela above, if her existing pension is commutable, she can roll back $86,000 into a super accumulation account, leaving her with a Transfer Balance Account balance of $914,000. She then has space for the full amount of Greg’s $800,000 death benefits.

If Angela’s existing pension is non-commutable, this option isn’t available.

Strategy 2

Retain part of your partner’s death benefits as a pension and pay out any excess above the cap as a lump sum.

If your existing pension is non-commutable, this may be your best option. As super death benefits can’t be retained in super unless they form part of a Death Benefit Pension, any excess will have to be paid to you as a lump sum outside super.

For example, if Angela’s $1 million pension is non-commutable, she can withdraw $86,000 from the reversionary pension she has inherited from Greg as a lump sum. This will create a debit in her Transfer Balance Account that makes space for the $800,000 credit that will occur on 1 July 2024.

So long as Angela withdraws the lump sum within 12 months of Greg’s death, she will not exceed her cap.

If Angela and Greg have an SMSF, assets supporting Greg’s death benefits may need to be sold, and that may have potential tax consequences.

Strategy 3

Withdraw all your partner’s death benefits out of super as a lump sum.

If you’ve reached the Transfer Balance Cap and your super pension is non-commutable, this is your only option.

This is not necessary for Angela, even if her existing $1 million pension is non-commutable, because she still has some space under her cap. But if, for whatever reason, you would prefer to receive your partner’s death benefits as a lump sum rather than use it as a pension, then you need to be aware of the tax consequences.

Plan to secure your partner’s future

Whatever your financial circumstances, losing your partner will inevitably trigger some complex financial decisions that need to be made at a very emotional time. By acting hastily, you risk losing a chunk of your retirement income in unnecessary tax, so it’s always better to have thought through what you would do in such a scenario.

If you do lose your partner, contact your super fund or your SMSF service provider as soon as possible to work through your options.

It’s also a good idea to seek independent financial advice from a retirement expert due to the tax and timing complexities around reversionary pension strategies.

Ideally, you and your partner should seek advice while you’re both still fit and healthy, to work through your estate planning options. Then keep updating your plans as your personal and financial circumstances change.