On this page
- What are the rules?
- What types of insurance cover are SMSFs allowed to provide?
- The advantages of purchasing insurance through an SMSF
- Taxation of insurance benefits
- Are SMSF insurance premiums competitive?
- Can I transfer my personal life insurance policy to my SMSF?
- What other types of insurance can SMSFs purchase?
- The bottom line
If you’ve elected to run your own SMSF, chances are you’ve also taken a proactive and responsible approach to insurance.
Regardless of whether you already have life insurance outside super or in a pre-existing super fund, when you start an SMSF you need to jump through a few hoops regarding your insurance strategy.
SMSF trustees must consider whether to take out appropriate insurance cover for each member of their fund as part of preparing their investment strategy.
What are the rules?
It’s a legal requirement for all SMSFs to prepare a documented investment strategy during the SMSF’s set-up process.
This strategy (including any insurance coverage) must be reviewed regularly by your fund’s trustees to ensure it continues to reflect member needs and circumstances as they change over time.
Ongoing trustee compliance with your fund’s investment strategy is then checked as part of your annual audit by a licensed SMSF auditor.
The Super System Review conducted by the Federal Government in 2015 found that SMSF members were more likely than those in other superannuation sectors to hold insurance outside super. As a result, SMSFs are not required to provide a default level of insurance for members as many public sector funds do.
But SMSF trustees are not let off the hook completely. You must still thoroughly consider each member’s financial situation to determine if they have an appropriate level of insurance cover. Important considerations include:
- Members’ current level of debt
- Whether members have any dependants and, if so, how those dependants could be provided for if the members were to die or were unable to work for any reason.
What types of insurance cover are SMSFs allowed to provide?
SMSFs are allowed to provide any type of insurance cover that meets one of the following superannuation conditions of release:
- Death (life insurance)
- Permanent incapacity that causes the fund member to permanently cease working (total and permanent disability insurance or TPD)
- Temporary incapacity that causes the fund member to temporarily cease working (income protection insurance)
- The diagnosis of a terminal medical condition (by two medical professionals) that is likely to result in the member’s death within two years. Terminal illness benefits are generally an option available with life insurance policies.
Each of the above conditions of release allows a fund member to access their super regardless of whether they have reached their preservation age.
Once you decide the type of insurance cover you need, you can weigh up the advantages of holding it inside your SMSF, in a pre-existing super fund, or personally, outside super.
The advantages of purchasing insurance through an SMSF
The main benefits of purchasing member insurance through an SMSF are:
- The premiums are tax deductible from the fund’s earnings in its annual tax return, provided the SMSF is listed as the policy owner and the SMSF member is the insured person. This can reduce the overall cost of the insurance. In contrast, life and TPD premiums are not tax deductible if an SMSF member chooses to have this coverage outside super. Income protection insurance is tax deductible outside super, so the decision to hold it in or out of super will depend on your other circumstances.
- The premiums are paid by the fund, so a fund member’s personal cash flow isn’t affected.
- The insurance cover can be more flexible than the group insurance cover that is provided for members of large public super funds in terms of selecting the sum insured and waiting period This can help to ensure that an SMSF fund member isn’t underinsured.
Taxation of insurance benefits
While tax deductions on the premiums can be attractive, don’t forget to look at the taxation of benefits if you need to make a claim.
While life and TPD benefits received from insurance held personally outside super are generally tax free, there may be tax consequences for policies held inside super.
Life insurance payouts from your SMSF will have different tax implications depending how they are paid and to who. Lump sums paid to tax dependants are tax free, but a lump sum paid to a non-tax dependant is taxed at rates of up to 32%, while income streams may also be taxed, depending on the ages of the deceased and the beneficiary. TPD payouts from super are taxed according to the components of the benefit at the usual tax rates for accessing super, which vary by age. Amounts taken as a lump sum have a ‘tax-free uplift’ amount calculated that reduces this tax.
You can consider holding a higher sum insured inside super than would be needed outside super to ensure the after-tax claim proceeds are sufficient.
Income protection benefits are generally taxable at normal marginal rates no matter how they are received.
Are SMSF insurance premiums competitive?
SMSFs may pay higher premiums than larger public funds because the larger funds can often negotiate bulk premium discounts with insurance providers.
However, some insurance companies offer policies specifically for SMSFs that can allow them to combine and benefit from lower group insurance rates. So potentially, SMSF premiums can be cheaper than (or at the very least comparable to) the premiums that individual members pay when dealing directly with insurance companies.
Can I transfer my personal life insurance policy to my SMSF?
No. Except in limited circumstances, an SMSF if not permitted to acquire assets from a related party. This prohibits your fund from acquiring an insurance policy from you.
Your insurance provider may offer you the option to cancel the policy you currently hold and re-issue an equivalent policy to your SMSF without the need for you to go through the usual application process.
You may be charged a fee by your insurance provider for doing this, but you stand to benefit from your SMSF being able to claim your premiums as a tax deduction.
What other types of insurance can SMSFs purchase?
Beyond life insurance, TPD and income protection insurance, there are other types of insurance cover that SMSFs can purchase, including:
- Property insurance. If your SMSF holds residential or commercial property in its investment portfolio, it’s crucial to have adequate property insurance. This helps safeguard the value of the property against damage or destruction.
- Audit protection. If the ATO decides to audit your SMSF, audit protection insurance covers your fund against both the cost of compliance with an audit and any penalties you pay if an error is detected.
- Trustee insurance. This type of cover can help protect an SMSF trustee’s personal assets from legal liability in the event of any serious breaches of their legal obligations.
It’s also worth noting that SMSFs can’t purchase insurance policies for cover such as health insurance because it doesn’t satisfy the sole purpose test. The Australian Taxation Office (ATO) requires super funds to be maintained for the sole purpose of providing retirement benefits to their members (or to their dependants if any of their fund members die before retiring). The provision of income protection falls under an approved ancillary purpose.
SMSFs trustees are legally obliged to consider insurance cover for each member of their fund as part of preparing their fund’s investment strategy. But this doesn’t mean insurance inside your SMSF is compulsory. Members may already have an appropriate level of cover outside the fund, though there are benefits that insurance inside your SMSF may provide.
Once you decide whether to hold insurance inside your SMSF or outside, you then need to think carefully about the amount of cover you and your family need.
The information contained in this article is general in nature. It’s best to seek independent professional advice to determine whether your SMSF should take out insurance cover that’s appropriate for the specific needs and circumstances of your members as well as any tax implications.