Navigating estate planning misconceptions

Attention to detail is very important when it comes to SMSF estate planning. Cooper Partners director and head of SMSF succession Jemma Sanderson dispels some of the misunderstandings and recognises the appropriate courses of action to ensure the assets of the deceased are distributed to the right people.

There have been numerous misconceptions regarding superannuation death benefits and legal challenges over the past 10 years and which are becoming more prevalent. These include:

1. A person’s will has jurisdiction over superannuation.

2. Executors must become trustees or directors in the place of the deceased within an SMSF.

3. If a payment is made from superannuation directly to a beneficiary, it will be taken into consideration with respect to the distribution of the estate.

4. If you have executed a binding death benefit nomination (BDBN), it must be valid.

5. You can nominate whomever you please to receive a benefit directly from a superannuation fund.

6. Conflict will not arise between potential beneficiaries.

7. The BDBN deals with the benefits and therefore any other mechanisms within the fund are irrelevant, such as reversionary pension documents or the contents of the trust deed.

8. If there is a BDBN, a lump sum benefit must be paid out.

9. If any pensions are not reversionary, a lump sum benefit must be paid out.

10. Reversionary nominations within pension accounts direct all benefits to the survivor, meaning the BDBN only needs to deal with what happens when both members die.

11. BDBNs are foolproof.

12. Including the second spouse in the superannuation fund will be fine and they will adhere to the wishes of the testator.

13. Running separate superannuation funds is a waste of time and money.

14. Benefits need to be paid out of superannuation within a few months of death to ensure there are no adverse taxation consequences.

15. Benefits/assets cannot remain in superannuation when a member passes away and must be paid out as a lump sum.

16. All assets must be liquidated prior to payment out of the fund.

17. Once members pass away, the fund must be wound up.

18. Payments from the fund directly to beneficiaries can be subject to a challenge where the will is contested.

Wills

The content of the member’s will generally has zero jurisdiction over the decisions made about the payment of superannuation death benefits. The only time a will has any impact is:

• where the fund has no successor in place already, that is, a surviving director or an individual trustee, the executor as the legal personal representative (LPR) is required to step in to the fund as the replacement. This would occur with a single member/sole director fund or where husband and wife pass away in the same accident, and

• where the benefits are paid out of the fund to the estate of the member/LPR according to their BDBN or where the fund trustee exercises that discretion. The will then prescribes what happens to those assets, including whether:

o to pay directly to nominated beneficiaries,

o to use testamentary trusts,

o to use a superannuation proceeds trust,

o particular assets should be paid to particular beneficiaries, and

o they should be paid into the residual estate for distribution.

Superannuation benefits do not form part of the estate unless they are paid to the estate/ LPR. Further, it is only when the assets are paid to the estate that the executor can administer those particular assets. As always, anything to do with an SMSF requires review of the current trust deed and the chain of deeds for the fund to ensure there aren’t any clauses that may be construed to alter the consideration.

The succession of a superannuation fund is therefore incredibly important to consider, as well as mechanisms, such as BDBNs, to ensure benefits are paid as intended. This is particularly the case with second families, although first families are not immune where one of the children is already in the fund or the sole executor as it can still result in that child potentially disinheriting their siblings.

Distribution of assets, total wealth and contesting

Another misconception is if a benefit is paid to an individual directly from the fund, it will be taken into consideration in terms of the overall distribution of assets from the estate of the deceased. This would only be the case where the will contains an equalisation clause or the like, or in New South Wales with respect to the notional estate provisions.

Further, such a clause is only of benefit if the deceased has substantial assets outside superannuation that will actually form part of their estate. In this case, where one beneficiary receives the superannuation directly, it can be assessed against their entitlement under the will, with the remaining assets then used to pay the remainder of the beneficiaries under the will. This can still result in a distortion of the distribution of wealth between the beneficiaries.

In Munro & Anor v Munro & Anor [2015] QSC 61, the estate had very few assets available for distribution. Accordingly, the daughters of the deceased, who brought action against their stepmother for the exercise of discretion in the SMSF, had very few assets to dispute as the estate did not include the SMSF proceeds.

Specifically where an estate is contested, the superannuation assets paid directly to beneficiaries from the fund will not form part of the assets to be contested (except in NSW). Therefore, if a beneficiary is unhappy with their distribution, the benefits paid to other beneficiaries directly from the fund cannot be brought into the net.

In addition, if there is no equalisation clause, which was the case in Katz v Grossman [2005] NSWSC 934, one beneficiary may also end up with a disproportionately high/ low intended distribution of assets. In this case, depending on what the estate assets are comprised of, the beneficiary could look to contest the will. However, the person in question would generally need to demonstrate, depending on the relevant family provision legislation in each jurisdiction, they have not been adequately provided for by their deceased parent and they have the need for additional provision.

Eligible beneficiaries

The Munro case showed it is imperative the correct eligible beneficiaries are stipulated under a nomination to ensure it is valid and therefore binding. Using the correct terminology is also important. Pursuant to Superannuation Industry (Supervision) (SIS) Regulation 6.22, benefits can only be paid out to the LPR or one or more dependants. Section 10 of the SIS Act defines these terms.

Where the nominated beneficiary pursuant to a BDBN does not fall into either of the above definitions, the nomination may not be valid and the trustee of the fund may be unable to pay benefits in the prescribed manner. In Re Narumon Pty Ltd [2018] QSC 185 an invalid beneficiary in a BDBN did not result in the nomination being invalid in its entirety, but only to the extent of that invalidity. However, it will depend upon the particular trust deed and circumstances in each matter.

Example

Moe passes away with no spouse or children. He has a brother and a sister and drafts his will such that they benefit from his estate. He also has two nephews he would like as his direct superannuation beneficiaries and executes a BDBN to facilitate this wish.

The BDBN would not be binding unless one or both the nephews were financially dependent on Moe as they would not be eligible beneficiaries under the superannuation rules. Therefore, Moe’s superannuation would be paid to his estate and be distributed to his brother and sister in accordance with his will. However, this is contrary to his intentions.

In this instance, Moe should ensure his will is drafted appropriately to allow his superannuation to be paid to his nephews. Moe’s brother and sister, as the executors, would likely step into the SMSF as the replacement trustees/directors and they would be required to distribute the benefits from the fund to his estate as they are also not eligible beneficiaries. The will would then deal with the benefits.

BDBNs are foolproof

Recent cases have demonstrated that even where a BDBN is in place, it may not be foolproof. This can occur for the following reasons:

• it has lapsed as it was only valid for three years or a different restrictive timeframe,

• it doesn’t nominate eligible beneficiaries,

• it is executed incorrectly, including not in accordance with the current trust deed or not in accordance with the deed in place when executed,

• it is not accepted by the fund trustee, the principal employer, the fund guardian or another alternative role per the thrust deed,

• it stipulates benefits are to be paid as a lump sum only rather than a pension, which may be preferred for the survivor as an example, and

• it contradicts pension terms and conditions in the fund.

In all of the above situations, to ensure the intentions of the testator are met, several actions should be taken.

Firstly, the fund trust deed and the historical chain of deeds should be reviewed. This will generally outline:

• whether a nomination has a term or can be non-lapsing,

• the process for the execution of a nomination for it to be binding,

• whether the nomination needs to be accepted by the trustee or another nominated position with respect to the fund,

• whether the recipient can legally be nominated or must stipulate the form of a benefit also, and

• whether it is a nomination being put in place or whether it is a ‘notice’ or ‘agreement’ instead and what the difference may be.

Next the BDBN itself needs to be reviewed in light of the above. In addition to the BDBN, any pension documentation should also be reviewed. To decide which takes precedence where there may be a conflict, the following should be considered:

• whether the trust deed provides any guidance as to the enforcement of the BDBN over a pension, and

• where the deed may be silent:

o the ATO’s view on pension terms and conditions,

o whether the BDBN is precedential as it is specific in terms of death. Consideration would have to be given to see if the deed fetters the trustee’s discretion in relation to the ability to have a reversionary pension in place or if the deed has a provision confirming a BDBN is precedential when compared to a reversionary pension where they are contradictory, and

o what the testator’s intention is, that is, reversionary to the spouse or payment to children/estate.

In order to ensure the specified intentions are met, one must:

• make sure the BDBN and pension documents are not contradictory, but complementary,

• follow the instructions in the trust deed as to the process, form and procedure for a nomination to be binding and valid,

• ensure any new BDBN is executed in accordance with the most recent valid deed, making a review of the chain of deeds important, and

• have the correct terminology in the nomination. For example, LPR and/or executor, BDBN or binding death benefit ‘notice’ or ‘agreement’.

Deed is silent

If the trust deed is silent as to process, form or procedure, what is required for a nomination to be binding and valid? In the author’s view, although sections 59(1) and (1A) of the SIS Act and SIS Regulation 6.17A do not apply to SMSFs (confirmed in Hill v Zuda Pty Ltd [2022] HCA 21), it is prudent to consider the provisions in SIS Regulation 6.17A(6) with regard to the execution of the nomination: “(6) … the notice:

a. must be in writing; and

b. must be signed, and dated, by the member in the presence of 2 witnesses, being persons:

i. each of whom has turned 18; and

ii. neither of whom is a person mentioned in the notice; and

c. must contain a declaration signed, and dated, by the witnesses stating that the notice was signed by the member in their presence.”

Further, the preference is that the trustee of the fund should accept the nomination by minute/resolution.

Summary

If not reviewed in the past few years, estate planning in a super context should be. Also pension commencement is a substantial estate planning consideration and who the intended ultimate beneficiary is must be defined, as well as the practical implication of this action.

Further, with existing pensions, clients should be made aware of the implications for their spouse when they pass as to strategic considerations and whether the income stream is reversionary.

Finally, the short and longer-term ramifications for the SMSF assets, as well as any transfer balance account and Division 296 tax for the recipient, need to be taken into account.