Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 78

Superannuation and terminal illness, disability and death

We never know what each new day will bring and unfortunately for some the new day could be the last. Sudden and unexpected illness, death or disability hits us all at some stage, either ourselves or someone we know. This article explains the different superannuation entitlements if you are faced with a terminal illness, death or disability.

If an SMSF member is diagnosed with a terminal illness, they need to consider how they would like their superannuation entitlements to be paid. Options include taking entitlements as a terminal illness benefit, a permanent disability benefit or a death benefit to their family after they are deceased. The choice of superannuation benefit could make a difference to how much is retained in the family instead of the Taxation Office.

Terminal illness benefit

For a benefit to be released under terminal illness grounds, the SMSF member will need to satisfy the following conditions:

  • two registered medical practitioners have certified, jointly or separately, that the person suffers from an illness, or has incurred an injury, that is likely to result in their death within 12 months
  • at least one of the registered medical practitioners is a specialist practising in an area related to the illness or injury and
  • the benefit is taken within 12 months of the certification.

The member can elect to receive the payment either as a lump sum benefit or an income stream (eg. a pension).

If the member elects a lump sum benefit, the benefit will be paid to the member tax-free, regardless of the member’s age, provided the above conditions are met. You may also be able to claim a refund of tax withheld from super payments received while you had the illness up to 90 days prior to advising the fund of your condition.

If the member elects to receive a pension benefit, the benefit is taxed as a normal superannuation income stream. If the SMSF’s trust deed only allows for a lump sum, then the member would be unable to take their benefit as an income stream.

Care is needed when considering transferring a terminal illness benefit to another superannuation fund for payment as an income stream. Under the Income Tax Assessment Act 1997, the transfer would not be treated as a rollover and therefore would count towards the member’s non-concessional contribution cap. This could result in the member incurring an excess contributions tax liability.

On the other hand, if the member elected to have their superannuation savings transferred to another superannuation fund prior to applying to have their benefit released on terminal illness grounds, then it would be treated as a roll-over and it would not count as a contribution to the new superannuation fund.

Permanent disability (PD) benefit

To claim a PD benefit, the trustee of an SMSF must be reasonably satisfied that the member is unlikely to engage in gainful employment in a capacity for which the member is reasonably qualified by education, training or experience. A medical certificate is not a requirement as it is up to the trustee to decide what standard of proof will reasonably satisfied them. A PD benefit can be paid in the form of a lump sum or an income stream.

If a person chooses to take the benefit as a lump sum, the entire lump sum is tax-free if paid to a person aged 60 or over. For a person under 60, tax is payable on the lump sum depending on its tax-free and taxable components.

A lump sum PD benefit qualifies for an increased tax-free component, where two legally qualified medical practitioners have certified that, because of ill-health, it is unlikely that the person can ever be gainfully employed in a capacity for which they are reasonably qualified. The increased tax-free lump sum amount is calculated using the following formula:

Days to retirement is the number of days from the day the person stopped being capable of working to their last day of work (which for most people will be their 65th birthday).

Service days is the number of days in the service period for the lump sum (usually the period from when the person began contributing to super).

Example: Bev had an accident that stopped her from being able to work on 3 September 2007.  She received a PD lump sum benefit of $160,000 from her SMSF.  The total value of Bev’s superannuation account consisted of 25% tax free component and 75% taxable component made up solely of an element taxed in the SMSF. Her days till retirement (the day she turns 65) total 6512.  Her number of days in service was 8099.

Bev’s PD lump sum benefit of $160,000 will therefore consist of an initial tax-free component of 25% and a 75% taxable component mirroring the components of the entire super account, that is, $40,000 tax-free and $120,000 taxable. The above formula is then applied to work out the increased tax-free component.

Bev’s PD lump sum benefit paid from her SMSF will now have a $111,310.66 ($71,310.68 + $40,000) tax-free component and a $48,689.34 taxable component. The tax treatment of the recalculated lump sum will be as per normal lump sum benefits paid from a complying superannuation fund.

If a person chooses to take the PD benefit as an income stream, they are not entitled to the calculation of a larger tax-free portion. The income stream is taxed at the person’s marginal tax rate with a 15% tax offset available if the person is under the age of 60. If the person is aged 60 or over, then the disability income stream is tax-free.

Again, trustees of SMSFs must follow the rules in their SMSF’s trust deed as to whether benefits can be paid out under permanent disability grounds as well as the form of the benefit.

Death benefit

Death benefits are mainly paid as a lump sum, but can be paid as an income stream to a spouse, a child under 18 years of age, a financially dependent child aged 18 – 24 years, or a child with a disability. This means a child who is considered a dependant of a deceased member can receive a death benefit pension until the age of 24 or longer if the child suffers a disability.

The tax treatment of a lump sum death benefit depends on whether the recipient is a dependant of the deceased member. A dependant is defined as:

  • a spouse or former spouse of the deceased (including a spouse of the same sex)
  • a child of the deceased under the age of 18
  • a person financially dependent on the deceased at the time of death
  • a person who had an interdependent relationship with the deceased just before death.

A lump sum death benefit paid to a dependant is tax-free. If it is paid to a non-dependant, then tax is payable at 0% on the tax-free component, a maximum of 15% on the taxable component already taxed within the fund, and a maximum of 30% on the untaxed component. The Medicare levy is payable whenever the tax rate is greater than 0%. Also if a death benefit is paid to dependants they may be able to take advantage of the anti-detriment provisions and receive a larger death benefit.

An anti-detriment payment is essentially a refund of the 15% contributions tax paid by an SMSF. It is an additional amount that may be paid to provide a death benefit of an amount that would have been payable if contributions tax was not deducted from the deceased member’s account.

The tax payable on a death benefit income stream depends on the age of the deceased, the age of the dependant and the component of the income stream. If either the deceased or the dependant is aged 60 or over, then no tax is payable on the tax-free component and the taxable component. The untaxed component is taxed at the dependant’s marginal tax rate with a 10% tax offset. If the deceased and the dependant are both under the age of 60, then the tax-free component remains tax free, the taxable component is taxed at marginal tax rate with a 15% tax offset and the untaxed component is taxed at the marginal tax rate. The Medicare levy is payable whenever the tax rate is greater than 0%.

Other considerations

There are other considerations which should be examined. For example:

  • an anti-detriment payment is not payable if a benefit is accessed under a terminal medical condition or a PD condition, as it is only payable on death benefits
  • it is important to consider whether your SMSF holds any life insurance for you prior to rolling money into another superannuation fund
  • if you receive a lump sum terminal illness benefit, it may affect your entitlement to a disability support pension.

Superannuation savings are important whether you enjoy them in retirement or pass them on to your dependants when you die. Carefully considering how your savings will be passed on could be one of your greatest legacies.

 

Monica Rule worked for the Australian Taxation Office for 28 years, is a SMSF Specialist Advisor, and is the author of The Self Managed Super Handbook, recently released in its fourth edition. Monica is running SMSF Seminars in various states. For more details visit www.monicarule.com.auThis article is general in nature and readers should seek their own professional advice before making any financial decisions. 

 


 

Leave a Comment:

RELATED ARTICLES

Ensure death benefit nominations are upheld

Five things SMSF trustees should consider right now

Chris Cuffe's Top 10: 5th Anniversary Edition in free ebook

banner

Most viewed in recent weeks

Raising the GST to 15%

Treasurer Jim Chalmers aims to tackle tax reform but faces challenges. Previous reviews struggled due to political sensitivities, highlighting the need for comprehensive and politically feasible change.

100 Aussies: seven charts on who earns, pays, and owns

The Labor government is talking up tax reform to lift Australia’s ailing economic growth. Before any changes are made, it’s important to know who pays tax, who owns assets, and how much people have in their super for retirement.

Here's what should replace the $3 million super tax

With Div. 296 looming, is there a smarter way to tax superannuation? This proposes a fairer, income-linked alternative that respects compounding, ensures predictability, and avoids taxing unrealised capital gains. 

9 winning investment strategies

There are many ways to invest in stocks, but some strategies are more effective than others. Here are nine tried and tested investment approaches - choosing one of these can improve your chances of reaching your financial goals.

Chinese steel - building a Sydney Harbour Bridge every 10 minutes

China's steel production, equivalent to building one Sydney Harbour Bridge every 10 minutes, has driven Australia's economic growth. With China's slowdown, what does this mean for Australia's economy and investments?

With markets near record highs, here's what you should do with your portfolio

Markets have weathered geopolitical turmoil, hitting near record highs. Investors face tough decisions on valuations, asset concentration, and strategic portfolio rebalancing for risk control and future returns.

Latest Updates

Retirement

The best way to get rich and retire early

This goes through the different options including shares, property and business ownership and declares a winner, as well as outlining the mindset needed to earn enough to never have to work again.

Shares

Boom, bubble or alarm?

After a stellar 2025 to date for equities, warning signs - from speculative froth to stretched valuations - suggest the market’s calm may be masking deeper fragilities. Strategic rebalancing feels increasingly timely.

Property

A perfect storm for housing affordability in Australia

Everyone has a theory as to why housing in Australia is so expensive. There are a lot of different factors at play, from skewed migration patterns to banking trends and housing's status as a national obsession.

Economy

Which generation had it toughest?

Each generation believes its economic challenges were uniquely tough - but what does the data say? A closer look reveals a more nuanced, complex story behind the generational hardship debate. 

Shares

Is the iPhone nearing its Blackberry moment?

Blackberry clung on to the superiority of keyboards at the beginning of the touchscreen era and paid the ultimate price. Could the rise of agentic AI and a new generation of hardware do something similar to Apple?

Fixed interest

Things may finally be turning for the bond market

The bond market is quietly regaining strength. As rate cuts loom and economic growth moderates, high-quality credit and global fixed income present renewed opportunities for investors seeking income and stability. 

Shares

The wisdom of buying absurdly expensive stocks (or not!)

Companies trading at over 10x revenue now account for over 20% of the MSCI World index, levels not seen since the dotcom bubble. Can these shares create lasting value, or are they destined to unravel?

Sponsors

Alliances

© 2025 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. To the extent any content is general advice, it has been prepared for clients of Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), without reference to your financial objectives, situation or needs. For more information refer to our Financial Services Guide. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.