The Nuances of SMSF Life Insurance

10 Aug 2023

Written by

David Busoli, Principal

A common misconception is that life insurance premiums must be paid from a member’s accumulation account for the fund to claim a tax deduction. This is not true. Life insurance premiums are deductible to the fund irrespective of the member account debited. The deduction is generally 100% of the premium unless the policy contains an element of grandfathered, non-deductible cover types or is a whole of life (30%) or endowment (10%) policy.

It is to be expected that the premium will be deducted from the insured member’s account but what if the member has both accumulation and pension accounts? The ATO expect the proceeds to be paid to the account from which the premium has been drawn so it is possible for all of the premium to be sourced from the pension interest without affecting the fund’s tax deduction. Why might you do this?

Insurance proceeds are tax exempt to the fund and generally increase the value of the deceased member’s account. If proceeds are paid to an accumulation interest, they will add to the taxable component of the interest. If they are paid to a non-reversionary pension, they will also increase the death benefit and be similarly treated but if they are paid to a reversionary pension interest, they will be treated as if they are income – though tax free. That means that the tax components will mirror those of the pension and, most importantly, they will not be counted against the beneficiary’s transfer balance cap a year after death – though they will be counted against the beneficiary’s total super balance. For example, if a member dies leaving a reversionary pension of $1m which receives a life insurance pay out of $2m, only $1m will be counted against the reversionary beneficiary’s transfer balance cap in a year’s time. They will, however, be precluded from making further non-concessional contributions as the whole pension balance would be counted against their total super balance.

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