Key Takeaways
- Wealth Preservation: Effective estate planning focuses on preserving family wealth through strategic distribution to nominated beneficiaries.
- Tax Efficiency: Using structures like a testamentary trust can help manage income tax liabilities for beneficiaries, especially minors.
- Centrelink Protection: Inheritances can inadvertently trigger a loss of government benefits; careful structuring is required to avoid unintended consequences.
- Superannuation Nuance: Super is not automatically covered by your Will. Specific binding nominations are necessary to ensure death benefits reach intended heirs.
- Professional Guidance: Given the complexity of capital gains tax (CGT) and "gifting" rules, seeking expert advice before assets transfer is vital.
Estate planning focuses on wealth preservation and wealth transfer. Its objective is to preserve family wealth by effectively distributing it to nominated beneficiaries in the most effective way.
It requires a consideration of each beneficiary’s personal and financial circumstances to determine the best means of providing an inheritance without unfairly affecting the beneficiary’s existing situation.
Three Questions to Ask Yourself
When planning how your estate is to be distributed to your beneficiaries, consider the following issues:
- How will the inheritance affect your beneficiary's income tax?
- Will there be any capital gains tax consequences?
- How will the inheritance affect your beneficiary's Centrelink benefits?
Understanding these issues so that you achieve the maximum financial benefit for your beneficiaries should be a priority.
Managing Income Tax for Beneficiaries
When a person passes away, the family, in particular, the spouse, will generally inherit the deceased's assets. The beneficiary, or beneficiaries, will pay tax on any income from the estate assets at their marginal tax rates.
If the beneficiary was already in receipt of income, the additional income could result in an increased marginal tax rate for that person. This results in them paying more income tax than was previously the case.
The Role of a Discretionary Will Trust
A possible solution to this problem is for a Discretionary Will Trust, or testamentary trust, to be established on a person's death. The assets are transferred into the Trust, and income can then be allocated in a tax-effective manner to intended beneficiaries.
As a result, significant tax savings could be achieved. A discretionary trust means just that, discretion as to how and to whom income can be distributed.
- Minors (children under age 18) can receive income at normal marginal tax rates.
- This avoids the penalty tax rates that usually apply to children's unearned income.
Navigating Capital Gains Tax (CGT)
The death of a person does not normally constitute a taxable disposal of any part of their estate for capital gains tax purposes. However, it does represent a new acquisition by either the executor of the estate or the direct beneficiaries of the assets.
This is relevant if the executor or beneficiaries subsequently sell the assets; at that time, inheritance tax implications in the form of CGT could be realised. The cost base used by the person subsequently selling an estate asset depends on when the deceased initially acquired it.
- Pre-CGT Assets: If the asset was bought before 20 September 1985, the beneficiary will use the deceased's date of death to determine the cost base.
- Post-CGT Assets: If the asset was bought after 20 September 1985, the beneficiary will inherit the deceased's original cost base.
Protecting Centrelink Benefits
Receiving an inheritance could be problematic for individuals already in receipt of Centrelink benefits. This is because the individual's existing income and assets position determines how much they are entitled to receive.
The receipt of an inheritance can potentially trigger an increase in both the assessable income and assessable assets, resulting in a reduction or loss of entitlements. Loss of Centrelink benefits could also mean the loss of other benefits, such as medical, pharmaceutical, transport, and accommodation concessions.
The Risk of Renouncing an Inheritance
Unfortunately, it is not a simple matter of renouncing an inheritance. A beneficiary cannot forsake their inheritance as Centrelink will then deem the amount forsaken under their "gifting" rules.
Gifting rules limit how much can be given away by a Centrelink pensioner to $10,000 in a year or a maximum amount of $30,000 over a continuous five-year period. If the beneficiary gives more than the allowable limit away, Centrelink will deem the excess amount over the next five years, resulting in a reduction of benefit payments anyway.
Estate Planning and Superannuation
Superannuation does not automatically come under the scope of a Will unless the person has specifically nominated their estate as the beneficiary of death benefits. In most cases, superannuation funds are left directly to dependants.
Tax Treatment for Dependants vs Non-Dependants
A "dependant" under superannuation law includes a spouse and any child of the deceased. However, different tax treatments apply for payment of death benefits based on the "tax" definition of a dependent.
- Tax Dependants: Includes a spouse or a child under 18. They can receive benefits as a lump sum or an income stream.
- Non-Dependants: Includes children over 18 who are not financially dependent. They must receive benefits as a lump sum, which can attract significant tax.
Before finalising your strategy, a review should be undertaken on your fund's ability to pay death benefits. If you manage a Self-Managed Super Fund (SMSF), you must ensure the Trust Deed includes these specific provisions. Reach out to our team today for SMSF advice.
If not planned for appropriately, your beneficiaries could end up paying more tax than necessary, or you could inadvertently establish an invalid nomination for your benefits. Our team of Morgan's advisers can work with you to ensure your estate plan reflects your true wishes while protecting your family's future.
Contact us today to start your estate review or find an adviser in your local area.
Frequently Asked Questions
What is the difference between a Will and estate planning?
A Will is a legal document stating who gets your assets. Estate planning is a broader strategy that includes your Will but also covers superannuation, powers of attorney, tax minimisation, and protecting beneficiaries from creditors or loss of benefits.
Is there an inheritance tax in Australia?
Australia does not have a specific "inheritance tax" or "death duty." However, taxes can apply to the income generated by inherited assets or via Capital Gains Tax (CGT) when an inherited asset is eventually sold.
How does a testamentary trust work?
A testamentary trust is a trust created by your Will that only comes into existence after you pass away. It allows the trustee to distribute income to beneficiaries (like children or grandchildren) in a tax-effective way while keeping the underlying capital protected.
Why doesn't my Will cover my superannuation?
Under Australian law, superannuation is held in a trust by the fund's trustee. To ensure it goes to the right person, you must complete a "Binding Death Benefit Nomination." Without this, the trustee may decide who receives your balance, which might not align with your Will.
Can an inheritance stop my Age Pension?
Yes. If the value of the inherited assets or the income they produce exceeds Centrelink's thresholds, your pension payments may be reduced or cancelled. Structuring the inheritance through a trust may help, but you must seek specialised advice.
What happens if I inherit a house bought before 1985?
For CGT purposes, if the property was acquired by the deceased before 20 September 1985, you are generally treated as having acquired it at its market value on the date of their death. This can be very beneficial for reducing future tax.
Who counts as a "tax dependant" for superannuation?
A tax dependant usually includes your spouse, your children under 18, and anyone with whom you have an interdependency relationship. Adult children are often considered non-dependants for tax purposes, meaning they may pay tax on the "taxable component" of your super.
What are the gifting rules for Centrelink?
If you receive an inheritance and try to give it away to keep your pension, Centrelink limits you to giving away $10,000 per financial year (and no more than $30,000 over five years). Anything above this is "deemed" to still be yours for five years.
