Time running out for trauma and TPD insurance

From 1 July 2014, super funds can’t take out new trauma insurance contracts and total and permanent disability (TPD) insurance contracts that contain an “own occupation” definition of disability. That means you have less than one month to get your act together or you’ll miss out on an important opportunity in superannuation.

Any of these types of contracts that were started before this date can remain in place until they’re no longer needed or the insured reaches the maximum age for the policy.

Let’s start by walking through;

What is trauma insurance and why would you buy it?

Trauma insurance pays a lump sum when the insured suffers some sort of defined medical trauma such as a heart attack, stroke, various cancers and melanomas, brain tumours and failure of vital organs.

When purchased outside of super, the insurance is often taken out to cover medical bills and the loss of income while the insured is unable to earn a living.

Sometimes it’s taken out for business purposes. For example, to cover the time a key person can’t work because of illness or to enable other shareholders to buy the shares of a sick colleague.

Why buy trauma insurance in your super fund?

There are lots of reasons but the main ones are as follows:

You want your super fund to continue to grow when you can’t work because of a medical trauma.
You want to receive a payout from your super fund when you suffer a medical trauma and your super fund has successfully claimed on a policy.
When purchased by you personally, trauma insurance premiums aren’t tax deductible. This encourages many people to make super contributions and then access one of the available tax concessions on those superannuation contributions – for example, a tax deduction, a tax offset or the co-contribution – to purchase trauma insurance in their super fund, thereby potentially making the trauma insurance cheaper. (When working out if the relative cost of buying trauma insurance yourself or via a super fund, you also need to remember that super funds also can’t claim trauma insurance premiums as a tax deduction.) If you fit into this category then make sure you take into account the various contribution caps.
Others will want some of their compulsory employer super contributions to be used towards the cost of this insurance; they will do this because it reduces the impact of the cost of this insurance on their own cash flow

Trauma insurance and superannuation

Some issues to consider when purchasing this insurance in super:

People suffering medical traumas may not be permanently disabled. When this occurs, the only way any money can be paid out of a super fund is via the temporary disability benefit rules. Superannuation fund temporary disablement benefits can’t be paid as a lump sum; they must be paid as income (limitations also apply on how much income a super fund can pay for this type of benefit). Does your super fund trust deed permit this type of benefit?
Trauma insurance will pay your super fund a lump sum, which means any policy claim proceeds may have no connection with the temporary incapacity income benefits you can receive.

The Tax Office has said in Self Managed Superannuation Fund Determination 2010/1, that trauma insurance can be owned by an SMSF as long as certain conditions, including the following, are satisfied:

Any policy proceeds must be paid to an SMSF trustee.
These benefits can only be paid out of the superannuation fund when the superannuation laws permit and in the manner allowed by the superannuation laws (for example, temporary disablement or total and permanent disablement).

With normal life insurance contracts, you will have a “policy owner” and might have a “nominated beneficiary”. Under life insurance law all policy proceeds are paid to the nominated beneficiary, which can be any person or entity (for example, a family trust). Policy proceeds are only paid to the policy owner when there is no nominated beneficiary.

Technically a superannuation fund could own a trauma insurance policy but another entity (eg the fund member, a company or family trust) could be that policy’s nominated beneficiary. The Tax Office says it wants trauma insurance policy proceeds paid to the superannuation fund and only released to the member if they are eligible to receive them by the superannuation laws and a super fund’s trust deed.

Why buy trauma insurance in super before July 2014?

As noted above, from 1 July 2014, superannuation funds won’t be permitted to purchase new trauma insurance policies. Any policies existing at that date can continue.

Check your trust deed

Before you purchase a trauma insurance policy in your super fund, it would be wise to check that your fund’s trust deed allows this purchase and also check how any claim proceeds might be paid out.

It would be unwise to rely on a clause, which said the superannuation fund trustee can do anything which the superannuation laws allow such as the general compliance clause or catch-all clause.

“Own occupation” TPD insurance

Many of the issues discussed above apply to “own occupation” TPD insurance because in some cases a claim for these policies may be payable when the insured isn’t totally and permanently disabled as defined in the super laws. The super laws use a “similar occupation” definition (a trust deed may be more restrictive than this).

The difference between “own occupation” and “similar occupation” can become complicated and comes down specific wording in insurance contracts.

Here’s a very simple example. Suppose you’re a barrister and for some medical or physical disability you can no longer perform your barrister duties but you could be a solicitor.

Under the “own occupation” definition, your super fund might be paid out the TPD insurance policy cover because you can no longer be a barrister. Under the “similar occupation” definition, most people wouldn’t see too much difference between barristers and solicitors, so that type of insurance might not be paid out.

The bottom-line with own occupation definition TPD insurance – policy proceeds may be locked in your super fund for a period of time and can only be paid out under the temporary disability rules or until you at least satisfy the super law “similar occupation” definition.

“Own occupation” insurance policies can’t be purchased by your super fund after June 2014. Existing “own occupation” insurance policies commenced before July 2014 can remain in place.

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.