Comparison of insurance - inside and outside super Fact Sheet - October 2014

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1 Comparison of insurance - inside and outside super Fact Sheet - October 2014 Insurance is quite often held within super because the premiums can be paid from accumulated super balances or employer contributions. This preserves an individual s disposable income. Alternatively, individuals can make additional contributions into super to fund insurance premiums by salary sacrificing through their employer, or if they are an eligible person* they can make tax deductible contributions into super. * An eligible person is a self-employed, substantially self-employed, retired or unemployed person. It also includes anyone who has less than 10% of total assessable income, reportable fringe benefits, and reportable employer super contributions derived from employment as an employee. Income tax Example Grace, earns $80,000 per annum. Her insurance premiums are $1,500 per annum for $1 million term life cover. If Grace used her after-tax income, she would have to use $2,273^ of gross income. However, if Grace chose to hold her term life insurance inside super, she would need to salary sacrifice only $1,500^^. Effectively no tax has been paid on this contribution compared to paying 34.5% marginal tax if insurance is held outside super. ^ $2,273 x 34.5% (includes Medicare levy) = $784. $2,273 - $784 = $1,500 ^^ The contribution does not generally need to be grossed up for contributions tax as the super fund would normally pass on the deduction claimed on the payment of insurance premiums Tax concessions on super contributions to fund premiums If an individual is an eligible person, they can claim a full deduction on contributions made into super. Therefore any contributions they make to super can fund premiums and also provide a tax deduction. Example Robert is a self-employed massage therapist. He earns $65,000 per annum. His insurance premium for $1.5 million term life cover is $2,000 per annum. If he held this insurance outside super he would use $3,053^ of gross income to pay the premium. However, if Robert chose to hold his term life insurance inside super, he would only need $2,000 of gross income. He could also claim a deduction of $2,000 on his contribution to super. ^ $2,000/0.655 = $3,053 Asteron Life 1

2 However, holding insurance inside super creates extra complexity and the following should be considered before implementation: insurance proceeds must meet a super condition of release before they can be released (may get preserved inside super) tax on insurance proceeds may apply if insurance is held in super insurance products offered within super may have fewer product features payment of insurance proceeds may take longer due to the additional process within super, and beneficiaries for term life payments are generally restricted to dependants under super law. Release of insurance proceeds A super condition of release must be met to release any super, whether the payment is funded by the accumulated balance or insurance proceeds. From 1 July 2014, insurance definitions must align with the super condition of release. With term life insurance, there is usually no issue with releasing the proceeds from super, as death is a condition of release. Income protection proceeds are generally released under the temporary incapacity condition of release that allows a noncommutable income stream to be paid to the individual. A total and permanent disability (TPD) condition of release does not exist within super. Under certain TPD any occupation definitions, insurance proceeds can be released under the permanent incapacity condition of release. The super fund trustee must be reasonably satisfied that the individual is unlikely to engage in gainful employment for which they are qualified by training, education or experience. This criterion must align with the insurer s TPD definition. If an individual has a specialist occupation and requires own occupation TPD insurance, it must be held outside super. Insurers will generally pay insurance proceeds for trauma upon the diagnosis of a critical illness such as a heart attack or cancer. There is no trauma condition of release so trauma cover must be held outside super. Note: Existing insurance policies in place at 30 June 2014 for existing members can remain in place and premiums can be adjusted and sums insured increased or decreased. The payment will be made to the individual or their beneficiary as long as the insurer s definition for release of insurance proceeds is met. Tax on insurance proceeds If insurance is held through super and proceeds are released, there may be additional tax to pay compared to holding term life or TPD insurance outside super. Term life insurance If term life insurance is paid to a non-tax dependant, up to 32% tax may be payable on the benefit. The term life insurance proceeds will be added to any accumulated super balance and a proportion will be calculated as the taxable (untaxed) component. The remainder will be made up of taxable (taxed) component and tax-free component. The following tax rates may apply for payments to non-tax dependants: Component Taxable (untaxed) 32% Taxable (taxed) 17% Tax-free 0% Tax rate (including medicare levy) Payments to tax-dependants will be tax-free regardless of the components. TPD The tax treatment for TPD payments depends on the individual s age and in the case of a disability superannuation benefit * the individual s service date. If the individual is aged 60 or older, the payment is tax-free. * benefit must be paid to an individual because he/she suffers ill health and two legally qualified medical practitioners have certified that because of their ill health, it is unlikely that the individual can ever be gainfully employed in a capacity for which he/she is reasonably qualified because of education, experience or training. Asteron Life 2

3 The following tax rates may apply for TPD payments from a taxed source: Component Tax rate (including medicare levy) Under preservation age Preservation age < Taxable (taxed) 22% 17%* 0% Tax-free 0% 0% 0% ^ If over low rate cap of $185,000 (2014/15) Income protection Income protection proceeds are taxed at the individual s marginal tax rate. Term life, TPD and trauma proceeds are received tax-free regardless of who the payment is made to or the age of the beneficiary. Income protection proceeds are taxed at the individual s marginal tax rate. Product features The product features available on insurance products offered through super may be restricted/limited compared with those offered on insurance products outside super. This is because the super fund cannot offer an insurance product that would contravene the sole purpose test. Timing of payments When insurance is held through super, this creates an additional process before the individual or beneficiary receives the proceeds. Not only must the insurer assess whether the individual has met their definition for release of proceeds into the super fund, the super fund must then make a payment according to a binding nomination or through trustee discretion. A valid binding nomination can speed up the process for the payment of term life proceeds within the super fund. Beneficiaries for term life insurance If insurance is held within super, the proceeds form part of the accumulated balance and fall under normal super rules. Therefore, payments can generally only be made to the individual s estate or their dependants (as defined under super law). The trustee of the super fund will only pay a non-dependant if they have exhausted all other avenues. If insurance is held outside super there are generally no restrictions on who can be nominated as a beneficiary. Comparison The table below compares owning insurance inside and outside super: Issue Cashflow Premiums can be funded by super balance or contributions Premiums must be paid from disposable income Tax on money to fund premium Generally no tax on contributions used to fund premiums After-tax money must be used to pay premium (up to 49% (including Medicare levy and temporary Budget Repair levy) marginal tax rate applies) Access to insurance proceeds Tax on proceeds Insurance definition must align with a super condition of release Tax applicable if: term life insurance and payment is made to a non taxdependant TPD payment is made to an individual under age 60, or income protection payment (taxed at marginal tax rates) Insurance definition must be met to release proceeds Generally no tax on proceeds except income protection (taxed at marginal tax rate) Product features Restricted because of sole purpose test No restriction as sole purpose test does not apply outside super Product offering TPD own occupation and trauma cover not available All insurance products available Timing of payment Beneficiaries Slower than insurance outside super as there is an additional release process from super Generally must be dependants as defined under super law Only one release process from the insurer Can generally be anyone Asteron Life 3

4 Employer group risk insurance It is common for employers to provide life, TPD and income protection insurance for their employees via a group policy on the lives of the employees. A group risk policy can be purchased inside or outside superannuation. Tax implications of payment of premiums Where the employer owns a life or TPD insurance policy and the employee is not contractually entitled to the proceeds, the premiums will be tax deductible to the employer and Fringe Benefits Tax (FBT) will not apply. If the employee is entitled to the proceeds, FBT may apply but may be tax deductible to the employer. FBT is not applicable to income protection premiums. Tax deductibility of premiums Life, TPD and income protection premiums are generally tax deductible to the employer. Tax implications on receipt of insurance proceeds by the employer The proceeds of life, TPD and income protection insurance are assessable income of the employer. Life and TPD proceeds are then paid to the employee via an employment termination payment (ETP) and income protection proceeds as salary. The employer can claim a tax deduction on salary and ETPs. Tax on payment to employee Life and TPD insurance proceeds would be payable to the employee as an employment termination payment and taxed accordingly. Income protection proceeds are taxable income and taxed in the employee s hands at their marginal tax rate. Tax implications of payment of premiums Premium payments are made from super contributions or existing super balance. The premium payments are regarded as a super contribution on behalf of the member, not as a fringe benefit. Therefore, the premiums do not attract FBT. Tax deductibility of premiums Premium payments are tax deductible to the super fund trustee. Tax implications on receipt of insurance proceeds by the employer Insurance proceeds are paid tax free to the trustee and taxed as a super benefit to the member or beneficiary. The table below compares employer-owned insurance inside and outside super. Employer funded insurance Premiums paid by Trustee Employer Premiums deductible to Trustee Employer FBT payable on life and TPD premiums No Yes* FBT payable on income protection premiums No No^ Tax on life insurance proceeds to taxdependants Tax-free Up to $185,000** tax free Tax on life insurance proceeds to non-tax dependants Tax on TPD insurance proceeds Taxable (taxed element) 17% Taxable (untaxed element) 32% Age 60 or over tax free Under age 60: Taxed as normal super lump sum, however a disability super benefit may apply to increase the tax-free component. Up to $180,000** 32% Any invalidity or pre-1983 amount tax free Under preservation age: Up to $185,000** 32% Over preservation age: Up to $185,000** 17% * FBT applies if the employee has rights or entitlements to benefits under the contract ^ No FBT as premiums would be otherwise deductible to the employee **Current for the 2014/15 financial year Asteron Life 4

5 Contact Details Technical Services Suncorp Portfolio Services Limited ABN AFS Licence No For more information on Asteron product solutions, please contact the Sales Manager in your State. NSW/ACT Level Kent Street Sydney NSW 2000 T NSW callers outside Sydney: VIC/TAS Level Collins Street Melbourne VIC 3000 T VIC callers outside Melbourne: QLD Level Wickham Terrace Brisbane QLD 4000 T QLD callers outside Brisbane: SA/NT Level Grenfell Street Adelaide SA 5000 T SA callers outside Adelaide: WA Level William Street Perth WA 6000 T WA callers outside Perth: Important note The information contained in this publication is of a general nature only and is intended for use by financial advisers or other licensed professionals only. it must not be handed to clients for their keeping nor can any copies of sections of this publication be given to clients. The information has been compiled based on regulatory policy at the time of writing. We recommend that your client refer to their professional tax or legal adviser prior to implementing any recommendations you may make based on the information contained in the publication. 10/2014