Superannuation Death Benefits for a Spouse: are they still tax-free if paid to their estate?

A super death benefit that was intended for a surviving spouse will not automatically remain tax-free if the spouse dies before the benefit is paid. The tax outcome depends on who ultimately benefits from the payment when the death benefit is cashed.

How are super death benefits normally taxed?

For many couples, estate planning for their super is relatively straightforward. When the first spouse dies, their super death benefits are often paid to the surviving spouse.  Where the death benefit is paid as a lump sum, it is tax-free because the surviving spouse is a death benefits dependant for tax purposes.  Later, when the surviving spouse dies, any remaining super is often paid to adult children, either directly or via their parent’s estate.   This is where the tax outcome can change.

What changes when adult children receive death benefits instead?

Independent adult children are not usually death benefits dependants for tax purposes. If they receive a lump sum death benefit from their parent’s super, the tax treatment is different.  Whilst the tax-free component is tax-free, the taxable component is assessable income and taxed as follows:

• taxable component can be taxed at up to 15%;
• untaxed element can be taxed at up to 30%; 
• If paid directly to the adult children, rather than via the estate, Medicare Levy of 2% also applies.
  
  

What if the surviving spouse dies before the death benefit is paid?

A more difficult scenario arises if the first spouse’s death benefit has not actually been paid before the surviving spouse also dies. 

For example, Fred dies in January and his super death benefit is to be paid as a lump sum to his spouse Mary. Unfortunately Mary dies in July, before Fred’s death benefit had been paid.

In this case, Fred’s lump sum death benefit will not be treated as having been cashed to Mary (even if it is later paid to her estate).  

The reason: there is no expectation that Mary will personally receive the death benefit (because the payment is made after her death).  As such, the tax treatment will instead focus on who will benefit from the payment through Mary’s estate. 

What matters is who the death benefit is actually paid to; not who it was intended to be paid to.  If the estate beneficiaries are independent adult children, any taxable component of Fred’s death benefit will be assessable income of Mary’s estate and taxed as outlined above.

Why timing of super death benefit payments matter

This is another reason for trustees (and their super fund administrators) to be proactive in ensuring that trustees are able to pay a member’s death benefits as soon as practicable. Delays can create unintended tax outcomes if the surviving spouse dies before an intended benefit is paid to them.

If you want to learn more about key strategies and compliance requirements when it comes to death and super, join us face to face or online at our upcoming Super Intensive Day.  Register here.