The term 'temporary incapacity' is defined in APRA Circular No. I.C.2
A 'temporary incapacity' benefit has a number of very stringent conditions:
Subject to the governing rules of the fund a member may access benefits where the trustee is satisfied that temporary incapacity exists, i.e. the member has temporarily ceased work as a result of physical or mental ill-health which does not constitute permanent incapacity. It is not necessary for the member’s employment to fully cease.
Benefits may be paid where a member makes a partial return to gainful employment whilst incapacitated, provided that the member’s remuneration plus the temporary incapacity benefits do not exceed the member’s remuneration at the time the member became ill.
Payment of preserved benefits and restricted non-preserved benefits on temporary incapacity is subject to the following restrictions:
the benefit is paid as a non-commutable income stream;
the purpose of the payment is to continue (in whole or in part) the gain or reward which the member received before the temporary incapacity.
Generally a member on fully paid leave (e.g. sick leave) will not be eligible to receive temporary incapacity benefits;
the period of benefit payments must not exceed the period of incapacity from full employment at the level of weekly hours of the kind engaged in immediately before the member became ill; and
the benefits must not be paid from the member’s minimum benefits (refer Superannuation Circular No. I.C.1 Minimum Benefits Standards).
The non-commutable income stream:
cannot be commuted;
has no residual capital value;
pays benefits at least monthly; and
makes payments which may increase from month to month in accordance with the definition in r. 6.01(2) of the SIS Regulations.
SIS does not limit the term of the payment. However, where payments are made beyond two years there are taxation implications in relation to the deductibility of insurance premiums. For further information contact the ATO or refer to Taxation Determination 98/27.
Practical implications for SMSFs:
Please note that this type of benefit payment is restricted to benefits other than member-financed and mandated employer financed benefits. This typically means that a temporary incapacity benefit can only be paid from the following sources:
employer contributions in excess of the superannuation guarantee level such as salary sacrifice contributions (currently FY2020 at 9.5% of ordinary time earnings). Member and superannuation guarantee contributions plus earnings are minimum benefits that cannot be used towards funding an temporary incapacity benefit;
insurance proceeds received by the fund in respect of the member such as income protection/continuation insurance proceeds; and/or
reserves maintained by the fund such as investment or general reserves.
The ATOs stance on reserves is that they shouldn’t exist in an SMSF, with the exception of reserves connected to a legacy pension or as part of a contributions reserving strategy (not really a reserve).
More information here: SMSFRB 2018/1 – The use of reserves by self-managed superannuation funds.
For an SMSF the member will need to put in writing a request to the trustee to commence this type of benefit payment.
The following information will be required to support the request by the member:
Evidence of the event causing temporary incapacity (letters / reports prepared by a doctor – similar to what would be provider to an insurer as part of a claims process).
Payslips to evidence the pre-incapacity income
Frequency of benefits required
In addition the SMSF will need to register for PAYG Withholding and withhold tax from the benefit payments. The income received by the member is other taxable income and will required to be reported in their individual tax return.
Payment of a temporary incapacity benefit from an SMSF is a complex area an appropriate superannuation and taxation advice needs to be obtained before withdrawing any monies from your SMSF.
If you have any questions, or require further information in regards to how the above may apply to you personal situation, please get in touch.