Disadvantage of Reversionary Pension

Of recent times there has been much controversy in relation to whether one trumps the other or whether one is better than the other. Does a reversionary pension trump a binding death benefit nomination? Is a binding death benefit nomination better than a reversionary pension?

This article will consider what they are and will also consider whether one does indeed trump the other.

What is a reversionary pension?

A pension will be reversionary if the terms of the pension provide that on the death of the member, the pension automatically transfers to another person (usually called the reversionary beneficiary). Due to a provision of the SIS Regulation constraints only certain dependants of the member can be reversionary beneficiary. For example the spouse of the member could be the reversionary beneficiary (for the vast majority of pensions this will be the case). However, an independent adult child of the member cannot be the reversionary beneficiary of the pension.

While a pension may be reversionary to say, the spouse of the member, whether the pension actually transfers or not, will depend on the spouse outliving the member and being the spouse of the member at the date of the member’s death.

There a number of advantages for a pension to be spouse reversionary.

Firstly, as the pension automatically transfers on the death of the member, the pension does not stop and there is no recalculation of the pension minimum payment at the date of death. Additionally, in determining whether the pension has satisfied the minimum payment rule in the financial year in which the pension transfers, pension payments to either the member or their spouse during that financial year are counted. To assist with smooth transfer of the pension, the member may arrange for the pension payments to be made to a joint bank account held by the member and the spouse. On the death of the member there is no need to then redirect the pension payments to another fund.

Secondly, if the pension automatically transfers (and particularly if the joint bank account strategy has been used) there is no need for trustee minutes in the immediate aftermath of the member’s death.

Finally, there is the benefit of the 12 month delay in crediting the value of the transferred pension to the transfer balance account of the spouse. While the transfer of the pension to the spouse should be reported as soon as possible after the transfer, the crediting of the transferred amount will only occur on the first anniversary of the transfer. In this situation whether the transfer results in an excess transfer balance amount, this can only be determined 12 months after the transfer. This will give the spouse time to determine whether they are likely to have an excess transfer balance issue and, if so, take corrective action before the 12 month anniversary.

What are the disadvantages of a reversionary pension?

To change the identity of a reversionary beneficiary it may be necessary to stop and restart the pension. (This disadvantage does not apply to pensions being paid from Super Funds which use the SUPERCentral Governing Rules – as the Governing Rules expressly permit the terms of the pension without the need to stop and restart the pension. Consequently it is possible to vary the identity of the reversionary beneficiary or even to make a non-reversionary pension into a reversionary pension or vice versa.) Stopping and restarting a pension may require the preparation of management accounts for the fund to determine the closing balance of the pension account. If the pension has to be stopped and restarted to change the identity of the reversionary beneficiary, this can act as a significant hurdle to keeping the identity of the reversionary beneficiary up-to-date.

By contrast, it is relatively easier to change a binding death benefit nomination – this can be done by simply revoking all existing nominations and making a new nomination.

What is a binding death benefit nomination?

This is a nomination made by a member (or their agent) under the terms of the superannuation fund which allows the member to direct the trustee (and the trustee is required to follow that direction) as to how any amount payable from the superannuation fund is to be allocated. The SIS Regulations impose certain limits to such nominations: such as the member can only direct the trustee to allocate the death benefit to or amongst the dependants of the member. There are restrictions as to the form in which the death benefit can be paid – lump sum or pension.

What are the advantages of a binding death benefit nomination?

The main advantage is that they can be made relatively quickly (no need to know the account balance of the member, no need to know the tax free component and the taxable component of the superannuation interest and no need to issue pension documents).

Another advantage is that they can be made without the approval or knowledge of the trustees (or, more particularly, the approval or knowledge of the member’s fellow trustee who thought they would be the beneficiary under the nomination).

However there are downsides. If the nomination provides that, say the spouse, is to be allocated the death benefit and the trustee and spouse decide that the benefit is to be paid as a pension, this pension will be a new pension and not a continuation of the pension previously payable to the deceased member. This will require new pension documents to be issued and most significantly, the value of the new pension will be credited to the transfer balance account of the spouse with effect from the date the pension commenced. There is no 12 month deferral of the crediting.

Which trumps which?

Some commentators are of the view that a binding death benefit nomination will trump an inconsistent reversionary pension. Other commentators (including SUPERCentral’s legal advisers – Townsends Business and Corporate Lawyers) are of the view that a reversionary pension will trump an inconsistent binding death benefit nomination.

Arguments for the BDBN trumping include the following:

a reversionary pension cannot bind the trustee as the allocation (when there is no binding death benefit nomination in place) is the trustee’s discretion and the member cannot exercise that discretion or impose restraints or fetters on that discretion;

a binding nomination is a more formal and considered document than the terms of a pension;

given the ease of changing binding death benefit nominations – changing family circumstances can be more readily accommodated than having to stop and restart pensions; and

a binding death benefit nomination can more easily and readily be incorporated into the estate planning of the member.

Arguments for reversionary pensions trumping include the following:

if the pension is reversionary and the pension does in fact transfer – then the transferred pension has, by reason of the death, ceased to be the member’s superannuation interest and therefore the binding nomination cannot apply;

the benefit of the 12 month deferral in the crediting of the transferred benefit; and

the need to avoid the involvement of the trustee to allocate a benefit when the member has just died.

The controversy – The resolution

So far as the SUPERCentral Governing Rules is concerned the controversy has been placed in the “solved/resolved” basket as the Governing Rules expressly provides that a reversionary pension trumps an inconsistent binding death benefit nomination (to the extent of the inconsistency).
However, there may be no inconsistency between the two: for example the reversionary beneficiary may have predeceased the member without being replaced – in this case the pension is now non-reversionary. Additionally the binding death benefit nomination may simply not apply to the reversionary pension interest.

What if the governing rules are silent on this controversy?

Then it seems to SUPERCentral’s legal advisers that a reversionary pension would still trump as:

If the pension automatically transfers on the death of the member, the pension has ceased to be a superannuation interest of the member and so the member’s binding death benefit nomination cannot apply (by analogy with land held in joint tenancy – on the death of one joint tenant, the land automatically transfers to the surviving joint tenant – without forming part of the estate of the deceased joint tenant); and

A pension nomination does not operate by means of a pre-exercise of a trustee’s discretion as to the allocation of death benefits - a pension nomination operates a power conferred on the member by the governing rules as to the allocation of the pension on the member’s death.

As to the secondary arguments that a binding death benefit nomination is better or more flexible:

Under the SUPERCentral Governing Rules – changing the reversionary status of a pension can be effected without having to stop and restart the pension;

While formality as to decisions taken can sometimes be good – ie there is documentary proof of the decision – pension terms should be formally documented for the same reasons as binding death benefit nominations are formally documented; and

Reversionary pensions and binding death benefit nominations – both need to be part of the estate planning of the member and consistent with the planning. A binding death benefit nomination which is inconsistent with the estate planning of the member would be just as bad as reversionary pension which is inconsistent with the estate planning of the member. To try to pick one as being worse than the other is to miss the essential point: they each should be part of and consistent with the estate planning of the member.

Visit the SUPERCentral product range if you would like more information on binding death benefit nominations.

For further information call our office on 02 8296 6266 or email info@supercentral.com.au

Disadvantage of Reversionary Pensions & BDBNs - What's it all about?