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.
Income tax
When a person dies, the family, in particular the spouse, will generally inherit all of the deceased's assets.
The beneficiary, or beneficiaries, will pay tax on any income from the estate assets at his or her 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 their paying more income tax than was previously the case.
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, or children under age 18, can receive income at normal marginal tax rates instead of the penalty tax rates that usually apply.
Capital gains tax
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 capital gains tax could be realised. The cost base used by the person subsequently selling an estate asset depends on when the deceased initially acquired it.
If the asset was bought before 20 September 1985 (pre-CGT) the beneficiary will use the deceased's date of death to determine the cost base. If the asset was bought after 20 September 1985 then the beneficiary will inherit the deceased's original cost base.
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 that may be available, eg medical, pharmaceutical, transport and accommodation concessions. This outcome could be quite upsetting for the beneficiary.
Unfortunately it is not a simple matter of renouncing an inheritance either. 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. The limit is $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 in any case.
There are strategies that may be appropriate – for example, Testamentary Trusts – but this area can be quite complex and if not structured correctly the beneficiary pensioner could still be fully assessed by Centrelink under Trust rules. For this reason, it is very important professional advice is sought beforehand.
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, however, superannuation funds are left directly to dependants of the deceased. A dependant under superannuation law means the spouse (including de facto spouse) and any child of the deceased.
However, different tax treatments apply for payment of death benefits to children under age 18 versus children over age 18. This is because the definition of "dependant" for tax purposes is not the same as superannuation law.
For tax purposes, a child of the deceased who is over age 18 and not financially dependent at the time of death will be considered a non-dependant.
Death benefits paid from a deceased person's superannuation account, if paid to a "tax" dependant, can be in the form of either a lump sum or an income stream. Death benefits paid to non-dependants must be paid as a lump sum.
This means that before considering any strategies for estate planning, and how death benefits should be paid to either dependants or non-dependants, a review should be undertaken on your superannuation fund's ability to pay death benefit payments in the various forms.
That is, will the fund allow payment of a reversionary income stream, lump sum or combination of both? If a self managed superannuation fund, does the Trust Deed include these provisions? The area of estate planning for superannuation is quite complex as you can see.
If not planned for appropriately your beneficiaries could end up paying more tax than they have to. Or you could inadvertently establish an invalid nomination for payment of benefits.
In this instance, the trustees of the fund will use their discretion as to how your benefits should be distributed and this may not be in accordance with your wishes.
