A good policy for DIY super

Make sure to get expert advice on life and income protection insurance before starting your own fund

Make sure to get expert advice on life and income protection insurance before starting your own fund

Trustees of DIY super funds have been urged to think about providing personal insurance for members amid evidence of very low rates of cover but are also being warned to get expert advice before dumping a perfectly good life policy elsewhere.

The widely quoted statistic is that just 13 per cent of self-managed superannuation fund (SMSF) members are insured and one of the recommendations of the Cooper Review of the super system was that funds should consider death and permanent disability insurance as part of their investment strategy.

The chief executive of the Self-Managed Super Funds Professionals' Association of Australia (SPAA), Andrea Slattery, says the low rate of insurance is partly because there haven't been easy-to-use insurance products for SMSFs and partly because some people prefer to insure outside their fund.

"It's important to understand whether or not you should insure inside or outside super," Slattery says. That decision will be an individual one, involving the complexities of super law, tax law and corporate law. For that reason she recommends getting advice from a specialist in self-managed super.

It's possible to hold life, total and permanent disability (TPD), trauma and income protection insurance inside super. One of the big pluses is that premiums for this cover are then paid with pre-tax dollars.

Also, some premiums become tax-deductible if held within super, Dixon Advisory says. Depending on the individual circumstances, an SMSF may be able to claim a full tax deduction for life insurance and a partial or full deduction for TPD premiums. Outside super, an individual couldn't claim these.

Those advantages make life and TPD cover considerably cheaper within super.

Income protection, however, might be better held outside super because individuals on high marginal tax rates could attract a bigger personal deduction than the 15 per cent available within super, says the head of Dixon's financial advisory division, Nerida Cole.

An area of concern, however, is that people, tempted by the tax advantages, might give up good insurance outside their DIY super fund only to end up with a policy inside it that has more exclusions and limitations.

DIY fund members tend to be older and may be applying for a new policy when their health has deteriorated. "You may want to protect your existing insurance, which may not have loadings or exclusions, rather than try to put in a new policy," Cole says.

"That's one of the key things people ought to be thinking about."

In some cases, it can be worth keeping an existing retail or industry super fund account open, with a minimal balance, to maintain the existing insurance cover.

Another potential drawback of having insurance inside a DIY fund can be gaining access to insurance money once it's paid by the insurer to the DIY fund, though Cole says the difficulties in this regard have reduced as insurance and super law definitions have come closer.

Essentially, the insurance policy is owned by the fund - in fact, a common mistake is to have it in the individual's name - and the proceeds of any pay-out are not paid directly to the individual concerned but to the fund. It is then up to the trustee to arrange payment of the insurance benefits to the individual or their beneficiaries. This can only be done if the money can legally be released from super and that will depend on whether a "condition of release" has been met under super law.

With an income protection policy that has an "own occupation" definition, the insurer might pay out because you can no longer work in your own job - perhaps as a doctor - but that might not constitute a "condition of release" under super law if you are still capable of working in some other occupation.