Hot Chips, Seagulls, Relatives and the Tax Office

Will you inherit someone's super after they die?

Nobody ever wants to pay more tax than necessary. Hidden taxes seem to be everywhere, for the unaware. Even when you die, like a seagull swooping on a hot chip, the tax office will be quick to intervene and take a cut of your super death benefit, if you aren’t careful.

It pays to understand what you can do to reduce the stress (and the tax)  at this difficult time. 

Read in this article

So what happens to a person's super when they die?

If you inherit someone's super after they die, the person's super fund pays you a super death benefit payment. In most cases, their super is paid to their dependents. Otherwise, their super can be paid to their estate.

Warning: You may have to pay tax on some of these benefits.

Two super amounts, in one payment

A super death benefit payment is made up of the deceased person’s:

• super account balance, and if they had death or disability insurance cover
• any insurance benefit that has been paid to the super fund

So even if the deceased person didn’t have much super, the insurance payment could be worth thousands of dollars. So this makes it important to think about who should receive the death benefit, and if there are any special rules about when it's paid tax-free, and when it's taxed.

Beneficiaries, Adult Children, and Changing Tax Laws

One of the main issues when it comes to the tax treatment of a death benefit payment is who is legally a dependant (and it is not always who you think). The next issue is how much tax is due.

Tax definition of a dependant

• If you are a dependant of the deceased, you do not need to pay tax on the taxable component of a death benefit if you receive it as a lump sum.

Tax treatment of a death benefit payment

• If you are not a dependant of the deceased, you can only receive the benefit as a lump sum and the super fund trustee usually calculates and deducts the tax due.

The two components of a super payout

The taxable component of the payment will be entitled to a tax offset that ensures the rate of income tax is as follows:

• taxed element (usually SG contributions) – maximum of 15% plus Medicare levy currently 2% of your taxable income
• untaxed element (usually personal contributions) – maximum of 30% plus Medicare levy currently 2% of your taxable income (Read more at ATO)

Death benefit lump sums paid to a non-dependent, via a deceased estate, are also taxed as per the tax rates but the Medicare levy isn't required. The super fund is still required to calculate the components but it is the deceased estate that withholds the tax. 

Pro Tip: When a person dies, in most cases their super fund pays their remaining super to their nominated beneficiary, or if no beneficiary has been nominated, to the trustee of a deceased estate, after the member has died. Super paid after a person's death is called a 'super death benefit'.

Who arranges for the tax payment on a death benefit payment?

The trustee of the super fund paying a death benefit payment may make inquiries of the nominated beneficiaries and may deduct tax accordingly, based on an individual beneficiary dependency status. The Trustee of a Self Managed Super Fund (SMSF) will need to make their own calculations and report their actions to the ATO.

The bottom line

Because taxation of death benefits can be complicated, you should always seek financial advice.

Drew Browne is a specialty Financial Risk Advisor working with Small Business Owners & their Families, Dual Income Professional Couples, and diverse families. He's an award-winning writer, speaker, financial adviser and business strategy mentor. His business Sapience Financial Group is committed to using business solutions for good in the community. In 2015 he was certified as a B Corp., and in 2017 was recognised in the inaugural Australian National Businesses of Tomorrow Awards. Today he advises Small Business Owners and their families, on how to protect themselves, from their businesses.  He writes for successful Small Business Owners and Industry publications. You can read his Modern Small Business Leadership Blog here. You can connect with him on LinkedIn.  Any information provided is general advice only and we have not considered your personal circumstances. Before making any decision on the basis of this advice you should consider if the advice is appropriate for you based on your particular circumstance.