Super fund beneficiaries

Have your clients nominated their children as beneficiaries on their super fund account? They might have inadvertently exposed the child's super inheritance to future legal proceedings.

Consider this scenario. Jane passes away at the age of 68 leaving a remaining super balance of $1,200,000. Her two sons, Alistair and James, are listed as beneficiaries and are both in their mid-30s. In accordance with Jane's nomination, the trustee of her super fund pays a net amount (after deducting taxes) of approximately $500,000 into each son's respective bank account. Alistair marries a year later and his wife gives birth to their first child shortly after.

However, the marriage breaks down after several years. During legal proceedings, the Family Court specifically orders 40 per cent of Alistair's super inheritance (which Alistair had subsequently invested into a managed fund) to be paid to his former wife.

Alistair understandably asks, 'that was an inheritance from my mother, how can my wife receive 40 per cent of it?'

This example highlights the importance of thinking ahead when making super fund beneficiary nominations. Here, the trustee of the super fund paid Alistair's entitlement of Jane's death benefit directly to Alistair, who in turn invested the proceeds into a managed fund in his own name. However, when his marriage broke down, the managed fund was placed into a pool of assets that the Family Court was able to divide and allocate between him and his former wife. This was despite the managed fund being invested solely in his name and from the proceeds Alistair received from his late mother's super fund.

Rather than nominating her children as beneficiaries, Jane could have nominated for her super benefit to be paid directly into her estate. The net balance of $1,000,000 could then be held in trust and invested for the benefit of her children.

Establishing a trust of this type typically affords beneficiaries a degree of protection from future legal proceedings, particularly if a child's marriage was to breakdown or a child was to become bankrupt later in life. These trusts (commonly referred to as testamentary trusts) can also be very tax-friendly as income generated by the inheritance (for example share dividends or investment property rental income) can in theory be spread out and distributed to a range of beneficiaries and indeed diverted to family members that may be in a lower tax bracket. This may be appealing from the child's perspective, particularly if their employment income already has them placed into a relatively high marginal tax rate. 

The trust can be designed to restrict the ability to withdraw and sell the assets, thereby protecting the inheritance against spendthrift or vulnerable beneficiaries.

It is important to remember though that a trust of this type comes at a cost. For starters, expert legal advice needs to be obtained upfront to design and embed the terms of the trust into the person's Will. Then, once the trust comes to life (following death), annual tax returns will need to be prepared and beneficiaries may require legal advice from time to time about the trust's ongoing operations. However, many would say that these costs are a small price to pay for protecting and managing the tax position of a child's inheritance.

The information contained in this newsletter is provided on behalf of the IOOF group of companies and is intended for financial adviser use only. It is given in good faith and has been prepared based on information that is believed to be accurate and reliable at the time of publication. Any examples are for illustration purposes only and are based on the continuance of present laws and our interpretation of them at the time.