Key points
- Australia does not have a formal estate tax regime, but superannuation death benefits can result in tax payable for certain beneficiaries.
- Be smart and plan ahead to help maximise family wealth.
When it comes to estate planning, many Australians are surprised to learn, unlike the USA and UK, Australia does not have a formal estate or inheritance tax. However, there are still tax implications when a loved one passes away, especially when it comes to superannuation. The rules are complicated, and this article is a high-level summary of the key considerations.
How does Australia compare internationally?
In the USA, estates above USD$13.99 million face federal estate taxes ranging from 18% to 40%, with some US states adding their own taxes. In the UK, inheritance tax kicks in at GBP325,000, with assets above this taxed at 40%. There are various exemptions and planning opportunities as a result of these estate taxes.
In comparison, Australia does not have a formal estate tax regime but one’s superannuation interest can create an indirect estate tax. Superannuation is a key form of retirement saving in Australia. Most employees receive superannuation guarantee payments from their employer. Additional funds can be contributed to superannuation by way of concessional and non-concessional contributions subject to annual limits.
Navigating the superannuation tax implications
A person’s superannuation balance is made up of two components:
- Taxable: member balance on which tax has been paid by the superannuation fund; &
- Non-taxable: generally, contributions made from after-tax income (such as non-concessional contributions and the downsizer contribution).
If a person passes away with a superannuation balance, this must be cashed out unless there is a reversionary pension in place. The tax impacts of cashing out depend on who receives the funds:
- If paid to a dependent (defined as a child under 18, a spouse or a person dependent on the deceased prior to passing) there is no further taxation on the death benefit payment.
- If paid directly to a non-dependent (such as a child who is over the age of 18), the transfer will generally trigger a 15% tax plus Medicare Levy on the taxable component of the death benefit payment.
Any tax payable on behalf of a non-dependent is payable by the superannuation fund which requires liquidity and associated planning if the fund has one primary asset such as a commercial property.
Once the superannuation member balance is converted into a pension, the split between taxable and non-taxable components becomes fixed. From that point on, all earnings and withdrawals related to the pension are proportionally allocated based on the fixed split.
Let’s look at two examples, if John had $1,000,000 in superannuation and:
- The balance is comprised of 100% taxable component: if paid directly to his 35-year-old son, Sam who is considered a non-dependent, the tax payable on the death benefit is $170,000.
- The balance is comprised of 0% taxable component: if paid to Sam, the tax due is $Nil.
The above illustrates the importance of understanding your superannuation’s component split and the potential benefits of planning.
Planning ahead: Protecting your family’s wealth
As more Australians approach retirement, conversations about estate planning are becoming more pressing.
Working with our clients, we find there are a range of views and strategies being applied to mitigate the impacts of the indirect estate tax such as:
- Withdrawing funds before passing: not always possible if one’s passing is unexpected.
- Not taking any action: as it’s a beneficiary’s issue.
- Re-contribution strategies: withdrawing taxable funds and re-contributing them as non-concessional contributions subject to annual caps. This required careful management & planning.
- Withdrawing funds to assist family members: contribute funds on behalf of adult children into superannuation to make use of compounding of investment returns. Alternatively assist adult children into the housing market or investment portfolios. This strategy needs to be considered in the context of the family wealth and a client’s own income needs.
Regularly reviewing your superannuation and understanding its tax implications is key to safeguarding your legacy. Informed planning ensures your beneficiaries receive maximum benefits, making it an essential part of any estate strategy.
