Is life insurance funded through superannuation tax deductible?
One underlying benefit that draws in many applicants is the ability to have the life cover premiums paid for with funds that have accumulated from contributions from their employer or from other personal contributions. These payments are tax-deductible if they are paid from a pre-tax income. This means:
- Premium payment may be tax deductible
- The benefit payment may be subject to tax
This article will discuss more of the benefits and drawbacks of life insurance funded through superannuation.
How does it work?
Life Insurance and Total Permanent Disability Insurance are generally tax deductible through an SMSF. Your superfund can claim a tax-deduction on premium payments it makes - these savings are passed onto you when you pay for your premium with your pre-tax income.
Tax savings on a policy inside superannuation
Jason's effective tax rate is 39%. If his life insurance premiums are $2,000 for the 2016-2017 financial year, how much can save from buying a policy inside super?
|Jason's tax-rate is 39%||Outside super||Inside super|
|Premiums owed for life insurance||$2,000||$2,000|
|Tax rates on your income||39%||0%*|
|Amount of pre-tax income required||$3,279||$2,000|
|Tax paid||(3279 x 39%) = $1279||(2,000 x 0%) = 0%|
|After tax payment||$2,000||$2,000|
*After your superfund has claimed a tax-deduction on the premium payment and passes it onto you. Otherwise you will usually pay a 15% super contribution tax.
What's the advantage of funding through a superfund?
- Can be a good option for those looking for more flexibility in their cash flow as premiums can be paid directly from their SMSF as oppose to having to accommodate for the payment out of their regular income.
Exclusions to be aware of
- Total Permanent Disability Insurance tax deductibility is restricted to an “Any Occupation” definition of disability. Only a partial tax deduction may apply if their condition prevents the policyholder from being employed in their “Own Occupation”.
- If the benefit payment is given to a non-dependent beneficiary, the benefit payment can be subject to a significant tax rate.
- Trauma Insurance and Own Occupation TPD Insurance is no longer available through superannuation.
SMSF Life Insurance benefit payout tax deduction
Some self managed super funds have the ability to claim substantial tax deductions by claiming a deduction for the future liability if the trustee pays a benefit for death or disability.
If the member dies or becomes disabled, and a benefit is paid by the trustee, the trustee can elect to not claim a deduction on the premiums paid and instead claim a deduction on the “future service” of the benefit payment.
The tax deduction can be calculated as:
There are a few elements of this to understand:
- Benefit Amount - amount of lump sum
- Future Service Days - Number of days from the date that the policy was terminated to the last date of cover (usually age 65)
- Total Service Days - Total number of future service days plus the members eligible period days.
Is income protection through superannuation tax deductible?
Premiums for income protection held within superannuation are not tax deductible.
Benefits paid for Income cover repaid as taxable income and attract Pay As You Go (PAYG) withholding tax.
Taxation of Contributions
- Employers that are making contributions on behalf of eligible employees and eligible individuals that are making their own contributions are able to claim 100% of the contributions as a tax deduction.
- If owned by a superannuation fund, premiums are generally tax deductible to the fund.
- Superannuation contributions from the employer and personal contributions where the tax has been claimed are assessable income of the fund and taxed at 15%.
- If fund pays a premium and claims a deduction, tax on contributions may be reduced depending on how the fund accounts for the deduction that has been made.
Taxation of Income Protection Benefits
- If the benefit is paid to the fund, sum insured is not assessable.
- Benefits paid to member are not deductible to super fund.
- Benefit member receives from superannuation fund are fully assessable.
It is always best to consult your insurance or tax adviser as peoples tax liability can be different, though generally income cover funded through super is not tax deductible.
Other benefits of life insurance through superannuation
In addition to the tax cuts available through super fund life cover, there are other key benefits that have seen more and more Australians look to this cover.
- As employers will buy the policies in bulk, they have the opportunity to secure a highly competitive rate on the premiums.
- In comparison to many standalone life insurance policies, applicants will rarely be required to undertake a process of medical underwriting when applying for a basic level of cover.
- Repayments can be convenient and easy to manage as they are automatically deducted from the policy. Policyholders do not have to experience the stress of keeping on top of ongoing repayments.
Disadvantages of superannuation life insurance to be aware of
- Only about 50% of all super funds will provide cover for Income Protection and the maximum benefit period is usually two years.
- In comparison to retail life cover policies, the benefits of Super fund life cover is quite restricted. Most policies will only provide cover up to $200,000 which can be severely limiting to some buyers.
- Life Insurance through Superannuation does also not provide cover for Trauma Insurance. This is a key consideration with the growth in popularity of Trauma Insurance in the Australian insurance industry over recent years.
Consider all aspects of life insurance policies through super funds, not just the tax breaks
While there may be some tax advantages available for taking out life cover through a retail super fund or a SMSF, applicants should be completely aware of the conditions of what circumstances they will be eligible to receive a tax break. While generally more affordable, super fund life cover options will not be able to afford the same level of comprehensive cover and flexibility of standalone policies.
DISCLAIMER: This article contains general advice and does not consider your own personal circumstances. It is not tax advice and the general nature of this material may not be applicable to you. You should obtain professional advice and verify our interpretation before relying on the information contained in our article.