The Proposed Super Changes and the Life Insurance Dilemma

You may have noticed that Life Insurance (including TPD and in some cases Salary Continuance) is playing an ever-increasing role in Superannuation.  This was evident with an entire section of the 2009/10 Super System Review (also known as the Cooper Review) dedicated to insurance in Super and the subsequent embedding of default Life Insurance in the design of MySuper products.

In addition, ASIC lists insurance as one of six key considerations in picking a super fund, and the acknowledgement of consideration of insurance is mandatory in accepting a super rollover form. For SMSF trustees, it is now mandatory to consider insurance as part of the SMSF’s investment strategy.

Life Insurance is well and truly embedded into the superannuation system.

This entrenchment has occurred without anyone necessarily asking does insurance actually belong in super?

Insurance and Superannuation in the Federal Budget

As part of the super changes in the recent Budget announcement, the Objective of Superannuation has been articulated as “To provide income in retirement to substitute or supplement the Age Pension.”  The Government intends on enshrining this purpose into law.

Nowhere in this objective, or the 6 sub-objectives, is there a mention of Life Insurance.

Life Insurance provides protection primarily for the current day, whether for a member’s family in the event of death or the member themselves in the event of a permanent disability.  The cost of life insurance premiums comes at the expense of either regular savings if you hold life insurance directly, or superannuation savings, and ultimately your retirement balance, if you hold life insurance through your Superannuation fund.

Before the Budget announcement, for many people it was more efficient to pay insurance premiums through their Super.  Insurance premiums are tax deductible in Super, and with a combination of no lifetime contribution limits and the Transition to Retirement rules, there was plenty of time and opportunity to replenish the retirement savings otherwise used to fund insurance premiums.

Does insurance through Super still make sense?

In the recent budget, the Government proposed a number of changes to the Superannuation rules with the aim of creating a fairer super system while limiting the cost to the taxpayer, in the context of the proposed Objective of Superannuation.  The effect of these changes and in particular the $25,000 per year cap on concessional contribution; the $500,000 lifetime cap on non-concessional contributions; and the changes to the tax treatment of Transition to Retirement Pensions has effectively put a limit on the amount of savings that an individual can put into the system, and therefore limit the amount of retirement savings that have access to the favourable superannuation tax rate.

With these proposed limits on what you can put into Super, individuals are now restricted in their ability to replenish their Superannuation balances that have otherwise decreased through the payment of insurance premiums.  Therefore, in this context, for individuals the key consideration is: does it still make sense to pay for Life Insurance at the expense of your Superannuation savings?

For Superannuation Trustees, who have a duty to act in their members’ best interests and who provide default insurance cover for their members, the dilemma is whether it is still in their members’ best interests to provide default insurance cover?