There are several different types of personal insurance – all of which can be held either within superannuation or personally. The general types of personal insurance are summarised in the following table.
|Tax Deductibility of premiums|
|Type of Insurance||Description||Can the policy be held within super?||Within Super||Outside Super|
|Life||Often also called ‘death insurance’ – policy taken out on a person’s life, so that on their death a sum of money is paid out to a designated beneficiary.||YES||100%||0%|
|Total & Permanent Disability (TPD)||Policy that provides cover if the person insured becomes totally and permanently disabled. How ‘totally and permanently disabled’ is defined can vary from policy to policy.|
|TPD – you can’t work again in any occupation||Due to ill health, you are unlikely to be employed in ANY occupation for which you are reasonable qualified by education, training or experience.||YES||100%||0%|
|TPD – when you can work in your usual/own occupation||Due to ill health, you are unlikely to ever be employed in your OWN occupation again. This is a narrower definition than ‘any’ occupation.||YES||67% (If TPD policy bundled with Life Policy – 80%)||0%|
|Income Protection||Policy taken out to replace lost income when you are unable to work due to injury or sickness. Usually a wait period involved.||YES||100%||100%|
|Critical Illness/Trauma||This policy pays a set amount if the person insured is diagnosed with a specific illness or injury that has a significant impact on their life.||Not Usually||0%||0%|
There are pros and cons to holding personal insurance within super and these factors are discussed below.
Personal Cash Flow
One of the major benefits of holding insurance policies within a super fund is the fact that the premiums can be funded by superannuation monies. You can therefore ensure you and your dependents are financially secure in the event of death or serious illness even if you don’t have the personal financial means to cover the policy premiums. It also prevents a policy from lapsing in the event personal finances become tight and you can no longer cover the premiums. Ongoing regular contributions to your super fund will provide for the payment of the premiums as will any earnings of the fund.
Tax Deductibility of premiums
As you can see from the table above, a tax deduction is available for premiums paid on insurance policies held within a super product. The only policy premiums that are deductible personally are those paid on an income protection policy.
Cost of Policy
It is generally the case that a policy is cheaper if accessed through your super as a super fund can purchase insurance policies in bulk.
How a benefit is taxed
A benefit is concessionally taxed as follows if the policy is held within super:
- Death benefit tax free if paid to a dependent. If to a non-dependent, then the tax rate can vary from 16.5% to 31.5%. (if the fund has been claiming deductions on the premium)
- If a benefit is paid on a total and permanent disability policy, a component will be tax free (as calculated via a formula) with the remaining amount being tax at various rates.
Note that if a TPD policy is held personally and a benefit is paid out, the full amount is usually tax free.
Superannuation and the concept of ‘condition of release’ and ‘sole purpose test’
The main purpose of a superannuation fund is to provide retirement benefits for its members. To access your super, a member must be able to ‘meet a condition of release’.
The conditions of release are limited and quite stringent. If an insurance policy is held within a super fund, and an event triggers an insurance payment, unless the event also satisfies a ‘condition of release’, that money cannot be paid out of the super fund to the member. This is particularly likely if a TPD ‘own’ occupation policy is held within a fund. The same can be said for benefits paid on a critical illness/trauma policy held within super. If a member is diagnosed with a critical illness or injury as specified by the trauma policy a lump sum is paid. This is regardless of whether the person ceases work or becomes permanently disabled. This isn’t consistent with one of the conditions of release of the members super – so the payment can’t be paid out.
There are now very limited scenarios in which a trauma insurance policy can be held within super without breaching the sole purpose test. For this reason, trauma policies are to be held outside of superannuation.
Based on the above you can see that the decision as to where and what personal insurance you hold isn’t straight forward, there are pros and cons for both propositions. Therefore, it is incredibly important to engage an appropriately qualified financial adviser or insurance broker to assist you in evaluating your personal circumstances and what is most appropriate for you and your family.
Please also be aware that whilst it is common for superannuation products to provide its members with a default level of insurance cover, that cover doesn’t consider your personal circumstances and therefore may be insufficient to support you or your family in the event of death or disability. So, become familiar with the cover you have via super and speak to an appropriately qualified professional to ascertain if you require more cover and where it should be held.
Personal Insurance & SMSF’s
If you have decided to set up an SMSF, when you roll your current superannuation monies across to your new SMSF, any default insurance cover provided by your existing super provider does NOT rollover to the SMSF.
An SMSF can hold insurance for its members. However it can’t be automatically assumed that an insurance policy can be purchased by the fund at a reasonable premium, without certain restrictions based on the age and personal circumstances of the member. It is prudent to explore this prior to closing your existing super account as a default level of cover may be better than no cover all. You may decide not to proceed with an SMSF, or move the majority of your super monies to the SMSF, leaving a balance with the current provider to maintain the insurance policy and cover premium payments.
It is not mandatory for an SMSF to hold personal insurance policies for its members, but the Trustees are required by law to demonstrate that they have considered the appropriateness of life insurance for fund members and the reasons for their decision either way. This needs to be documented either as part of the SMSF’s investment strategy of via meeting minutes annually.
Appropriate life and TPD insurance is so often not explored by individuals as it is dealing with issues that we don’t like to focus on, the death or serious injury or illness of ourselves and how this will impact on us and our loved ones. Having appropriate insurance cover can assist in removing the financial burden during what is nearly always a difficult and traumatic time, and in the case of injury or illness, very unexpected. Utilising superannuation monies to fund such policies can be a tax effective and not effect personal cash flow but it needs to be weighed up against the issues of access should a benefit be paid. It is therefore imperative and insurance professional is engaged to assist you in making the best decision for you and your family.
Kimberlee Brown is H&R Block Tax Accountant’s SMSF Director. She is a CPA and SMSF Specialist Adviser with over 15 years of experience in the Self Managed Superannuation Fund industry. H&R Block Tax Accountant offers a full range of SMSF solutions from fund establishment to helping you meet your annual compliance and taxation obligations.
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