Weighing up superannuation for your children

Superannuation accounts for children carry the built-in asset of time as a valid long-term savings option. However, Sarina Raffo discovers establishing a fund for younger people is no minor consideration.

To kick-start a child’s financial future, superannuation may be an option worth considering. While saving or gifting money for children via bank accounts and managed funds is common, the tax efficiency and compounding effect of superannuation can often be overlooked.

The one thing children have on their side is time. Given the investment timeframe, money can be invested aggressively.

Firstly though, let’s look at some key facts about superannuation that are relevant to children. 

Personal contributions

Almost anyone can contribute to super, including housewives, retirees, children, employed, self-employed and unemployed individuals.

A super fund can accept contributions for an individual under age 65 without restriction.

However, the ability of children under age 18 to set up a super account may be limited by contractual capacity, unless there is an employment arrangement.

Individuals under age 18 are generally unable to enter contracts, and consequently may not be bound by the terms of the fund’s trust deed.

This is generally not an issue where the minor is a member of an employer plan, as the employee would have received the terms and conditions of the fund and would be deemed to have accepted them.

Many funds impose restrictions on minors opening superannuation accounts. These may be included in the fund’s trust deed or Product Disclosure Statement (PDS). This is primarily a business and/or a risk decision, rather than a legal restriction.

As superannuation is generally preserved until retirement from the workforce, it may be questionable advice to recommend that a minor invest in a financial product which they may be unable to access for up to 50 years!

Third party contributions

The previous special rules allowing a relative to contribute on behalf of a child have been replaced by the general principle that a fund may accept contributions made in respect of a member who is under age 65. These can include employer contributions and contributions by parents or grandparents, etc.

However, contributions made by anyone other than the child or their employer are taxed at 15 per cent upon entry to the fund. Additionally, contributions made on behalf of a child do not attract a tax deduction or tax offset for the contributor.

Contributions made on behalf of a child count towards the child’s contribution limits and not those of the contributor.

Grandparents on the age pension can make gifts of up to the lesser of either $10,000 a year or $30,000 over five years, without negatively impacting their entitlements.

Superannuation guarantee

The super guarantee (SG) applies to full-time, part-time and casual employees.

An employer does not have a super guarantee obligation for an individual who is under age 18 and works less than 30 hours per week (even if they earn more than $450 in a month).

However, an employer has a SG obligation for an individual who is age 18 or older and gets paid $450 or more in a month.

If an individual is paid under an award, it may be part of the award agreement that an employer must pay SG, even if the individual earns less than $450 a month.

Co-contribution

To be eligible for the government co-contribution, an individual must be working (even part-time) and have at least 10 per cent of their assessable income (including reportable employer super contributions and reportable fringe benefits) from employment or running a business.

They must also be an employee for SG purposes. Those who earn less than $450 per month or are part-time workers under age 18 are still considered to be employees for SG purposes, even though their employers do not have an SG obligation for them. In addition, they must submit a tax return and make a personal super contribution in the financial year.

While there is no lower age limit for an individual to qualify for the co-contribution, as mentioned previously, super funds may place restrictions on the age at which children can become members.

Gifting money into a child’s super account doesn’t qualify the child for the co-contribution, as the contribution is classed as a third party contribution and not a personal super contribution.

Each State and Territory of Australia has various laws that impact on the employment of children. If an individual runs a business (via a trust, company, partnership or sole proprietorship) employees of the business may include the individual’s spouse or children.

In these cases the child must satisfy the definition of employee and must be clearly involved in the business; that is, any employment arrangement must not be contrived.

Self-managed super funds

Minors (under age 18) are considered to be under a legal disability and cannot be a trustee of a self-managed super funds (SMSF).

A super fund continues to satisfy the definition of an SMSF where a parent or guardian acts as trustee in place of a member of the fund who is under a legal disability because of age.

However, this provision does not similarly provide that a parent or guardian can be a director or a corporate trustee of an SMSF in these circumstances. However, a minor member’s legal personal representative (LPR) can be a director or a corporate trustee in place of the member.

If individuals under age 18 are to become members of an SMSF, the deed must specifically permit this, and include guidelines on how the fund will be administered on their behalf until they reach age 18.

A particular attraction of an SMSF is the control the trustees have over it. This can have benefits with regard to the treatment of superannuation on the death of a member.

A binding death benefit nomination or a special superannuation testamentary trust can determine how death benefits are distributed tax-effectively to beneficiaries, including children.

By having life insurance through an SMSF, the trustees have much more control over the transfer of assets to the individual’s family and the SMSF can carry on with the next generation.

Estate planning

Superannuation can offer tax-effective, flexible estate planning opportunities for the next generation.

Lump sum death benefits (including insurance proceeds) paid from a super fund to dependants, including a spouse and children who are minors, are tax-free.

However, a non-dependant can be liable for tax up to 16.5 per cent on a normal death benefit and 31.5 per cent on a death benefit that includes insurance proceeds.

Typically, tax will be payable when a lump sum death benefit is paid to an adult child who was not financially dependent on the deceased.

Where a superannuation lump sum death benefit will be paid to a non-dependant child, a re-contribution strategy (withdrawals are made from super and re-contributed as an after-tax contribution) can be employed to reduce or eliminate the tax payable on death benefits.

The amount of a lump sum death benefit to a child (of any age) can be increased by a refund of any contributions tax paid by the deceased. The increased payment is generally known as an anti-detriment payment.

Superannuation death benefits can be paid as a lump sum or a pension, or a combination of the two, to certain children.

A child pension can be a simple, flexible means of providing a tax-effective income stream to children of minor age, in the event of the premature death of a parent.

Pension payments may be either tax-free or concessionally taxed at adult marginal tax rates (including a tax offset), depending on the age of the deceased parent. Access to the pension capital can be restricted up to age 25.

At that point, the pension is paid as a tax-free lump sum. A child pension cannot be paid beyond the child’s 25th birthday (unless the child is disabled). Pension payments can be structured at a level to suit the child’s needs.

By ensuring a valid binding nomination is in place, a parent can have certainty that their child(ren) will receive a regular income stream following their death. As super does not form part of the estate, it is not distributed via the deceased’s will.

Insurance in superannuation

Generally, there is no minimum age for term insurance within a super fund.

For individual risk-only policies (inside and outside super) it comes down to contractual capacity, as an insurance policy is essentially a contract. Insurance can be taken out by individuals age 16 or over without the consent of a guardian and by individuals age 10 or over with a guardian’s consent. In general, risk insurance is more commonly offered to individuals age 18 and over.

Generally, the availability of total and permanent disability (TPD) insurance is limited to individuals who are working more than 10 hours per week (sometimes 20 hours) in an insurable occupation.

Additionally, it may be impractical from an underwriting perspective to offer disability insurance to individuals under age 18 without a work history. Income protection insurance is not generally available if an individual is working less than 20 hours per week.

Working teenagers with superannuation account balances need to be aware that premiums for insurance cover may be deducted from their account balance. In some cases, these individuals don’t need, or are unaware of, insurance cover resulting in their benefits being ‘needlessly’ eroded by premiums.

Conclusion

In some circumstances superannuation may be a valid savings option for children, depending on their needs and objectives. But it is also very important to be aware of the facts and pitfalls.

Sarina Raffo is a technical services consultant at Suncorp Life.