By Penny Pryor
One of the benefits of a self-managed superannuation fund (SMSF) is that you can decide whether or not to take out various kinds of insurance within your fund.
Most Australian Prudential and Regulation Authority (APRA) regulated super funds (retail or industry funds) also offer insurance within the fund and may be able to do so at a cheaper rate because of their group buying power.
But as an SMSF trustee, you only have to prove that you have considered the insurance requirements of the members – you don’t have to take out cover. You do have to explain why you came to the decision to insure, or not insure, members.
There are also some changes to the kinds of insurance that you can take out within your fund that will come into effect from 1 July 2014, and the end of a financial year is a good time to review your insurance arrangements.
First, let’s review the pros and cons of insurance within your SMSF.
The main advantage of taking out insurances, such as life or total and permanent disability (TPD), through your super fund is that the premiums are generally tax deductible to the fund, whereas outside super, they are not.
If you are paying tax at a high marginal rate, it is going to be more tax effective to make an additional concessional contribution to your fund (e.g. via salary sacrifice or, if self-employed, by a tax-deductible contribution) and get your fund to purchase the insurance, rather than purchasing the insurance from your own post-tax dollars.
The end of the financial year is a good time to update your insurance arrangements. Check whether current levels are appropriate and consider stopping policies if you no longer have tax dependants.
Even if you have made the maximum contributions allowed under the caps, your fund (in accumulation mode) will still be able to claim a 15 per cent tax deduction on the premium.
You will also have greater choice over the kind of insurance you buy within the fund and the provider you buy it from. These options are generally not available to people who take out insurance with APRA-regulated funds.
You need to make sure that insurance policies within the fund are owned by the trustee/s and not the insured person.
The big problem around insurance in your fund is actually getting access to the payouts. Once insurance is paid into the SMSF, conditions of release need to be met for the trustee to access the payout and these can be time consuming.
SMSFs can purchase life insurance, TPD, trauma and personal income insurance. However, trauma premiums are not tax deductible and it can be very hard to meet the conditions of release for the funds to be paid to the beneficiary, so it is not recommended to purchase these policies within your SMSF.
Income insurance can also cause difficulties with accessing the payout. Even if the insurance payout is paid into the fund, if there are discrepancies around the amount insured – say a percentage of your salary – and the amount you are actually earning, it may become stuck in the SMSF.
Need to update
The end of the financial year is a good time to update your insurance arrangements. Check whether your current levels are appropriate and you may want to consider stopping policies within funds if you no longer have tax dependants (see “Need to know”).
Also from 1 July this year, the definitions around your occupation for TPD insurance have changed. From next financial year, you will only be able to take out TPD (and trauma insurance) that fits the “any occupation” definition.
That is, you must be unfit for any kind of occupation for the payout to occur, not just the occupation you have been trained to do.
So, for example, if you were a concert pianist and lost partial use of one of your hands in an accident, you would be eligible for an insurance payout under an “own occupation” definition but not an “any occupation” definition, as you would still be able to perform a raft of different jobs.
If you are considering taking out this kind of insurance, it would be wise to do so before 1 July, as the current “own-occupation” definitions will be grandfathered.
If you already have this kind of insurance within your fund, check the occupation definitions but again, current policies will be grandfathered.
Need to know
If a member does not have a tax dependant, i.e. they do not have a spouse or children under 18, the insurance payout will be taxed at a much higher rate within super than outside of it.
Within super, these payouts could be taxed at a rate as high as 31.5 per cent if made to a non-dependant beneficiary.
If insurance policies are held outside of superannuation, the payouts may not even be taxed at all.
So factors such as the age of dependants need to be considered when weighing up whether or not to purchase insurance inside or outside an SMSF.
Penny Pryor has 15 years experience in writing, reporting and editing financial services publications for both institutional and retail readers. She is editor of the Switzer Super Report.