It is one of the most contentious issues for members of a SMSF when it comes to the payment of a super income stream and their estate planning wishes – in the event of death, what document will take precedent? An auto-reversionary pension or binding death benefit nomination (BDBN)? Well, the answer ultimately depends upon the fund’s governing rules (trust deed) and the validity of any documentation relating to the operation of the pension and also the BDBN. In a perfect world, these documents will marry up to ensure that a member’s death benefit wishes are met, but this is not always the case. This has become even more important now where many SMSF members have both accumulation and retirement phase accounts as a result of the transfer balance cap.
The ATO annual SMSF statistics (2016-17) published in May 2019 show that 65% of all SMSF assets reside within pension phase, with 363,535 members receiving income stream benefit payments. Therefore, the significance of ensuring that super income streams are setup correctly and the provide the right outcomes in the event of death are critical.
It is within Law Companion Ruling, LCR 2017/3 stated that it was the Commissioner’s view that for a death benefit income stream to be reversionary, the governing rules or the pension agreement/standards under which the income stream is provided expressly provides for the reversion, as opposed to the trustee exercising a power or discretion to determine a benefit in the beneficiary’s favour. This is the view that has been held by the ATO since the release of TR 2013/5, when a super income stream commences or ceases (see paragraph 126 to 127), in so far that the preconditions necessary for a super income stream to revert must exist within the rules governing the pension prior to the member’s death. If this is not the case then the super income stream ceases on the member’s death.
Paragraph 15 of LCR 2017/3 states that a binding death benefit nomination, by itself, does not make a super income stream reversionary. If the governing rules or the agreement/standards under which the pension is being paid does not expressly provide for reversion then a BDBN cannot alter this. The BDBN may have the effect of directing the trustee(s) as to whom the death benefit is to be paid and the form, but it cannot turn a non-reversionary super income stream into a reversionary superannuation income stream.
Can I add a reversionary beneficiary to an existing income stream?
That depends… this was a question posed to the (now disbanded) ATO NTLG discussion group back in 2013, where the conclusion by the ATO was ‘it depends’ – that is, it depends upon the governing rules of the fund and the terms under which the income stream operates. Under the Smarter SMSF deed, where the pension becomes a Special Rule of the Fund, the trustee and member can decide to alter the terms of the agreement, which includes the ability to add or remove a reversionary beneficiary, along with altering the level of reversion. Specific documentation is available on the platform to generate these changes without having to cease the pension.
You can find out more about this topic and the impact of reversionary pensions post 1 July 2017 in our previous blog post on ‘how well have you structured your reversionary pensions under the super reforms’.
Dealing with a conflict
What happens if there is a conflict between the reversionary status of a super income stream and a BDBN? Well, we need to refer back to the fund’s deed to understand how any conflicts may need to be dealt with (if the deed does in fact deal with this). What we have found in many instances, is that the pension documents prepared through SMSF software are inconsistent with the fund’s governing rules and therefore may be put into question regarding their validity of the income stream if challenged. This is one of the main reasons why we developed the Lost Pension Deed (Affirmation & Confirmation) as it can look to remedy the potential defects of the pension documentation, following on from the decisions from Re Narumon without needing to go through the process of a commutation and repurchase. This may be important because of the grandfathering rules for account based pensions established before 1 January 2015, or where the member has both pension and accumulation balances within their SMSF (avoid potential contamination of tax-free and taxable components).
One the key issues that Smarter SMSF identified with the introduction of the super reform measures from 1 July 2017 was to allow for a member to provide definitive instructions around certain situations, including BDBNs, pensions (incl. conditional pensions), Fund Guardians, SMSF Wills & SMSF Living Wills. These varying documents available via the Smarter SMSF deed can become a Special Rule of the Fund and be declared a paramount document, taking precedence over other documentation in existence.
The deed defines a Paramount Document as:
Paramount Document means a document or Agreement that is made a Special Rule of the Fund that shall take precedence and priority in whole or in part over any other document, agreement or resolution made by the trustee of the Fund that purports to deal with a member’s superannuation interests in the Fund in a different manner.
This puts the power of the decision in the hands of the individual to determine what document(s) they see as important in the distribution of their super death benefit, rather than simply relying upon a default position that one particular deed provider might apply versus a different outcome by another. Essentially, this concept could mean that where a BDBN (or SMSF Will) is classified as a paramount document, it could make the auto-reversionary status of a super income stream null and void, or alternatively whether the pension documentation is added as a Special Rule and Paramount Document, and a BDBN is in place, then ultimately the pension will continue.
With the quantum of wealth that exists within the retirement phase, it remains as critical as ever that you understand the ongoing interplay between super income streams and death benefit instructions.