In this 18th Episode of AJ Radio we look at inheritances – what are the changes that have occurred in this area, what are the common mistakes people make with giving and also receiving inheritances, and also how you can best optimise a potential inheritance.
I was recently reading the Wall Street Journey and noticed an interesting statistic….70% of inherited wealth is lost by the second generation and 90% by the third.
So it got me thinking why was it such a high number?
Was it poor estate planning?
Does the next generation not have the necessary skills to manage the funds?
or is it just bad luck?
With around 45% Australians not having a valid Will in place, this probably does not help the first point and is possibly one of the contributors to this statistic.
Working with clients all round Australia, I often see the importance of a well crafted Will by a competent solicitor. Like a lot of occupations, not all practitioners are what I would call “competent”, and we can see the impact of a poorly crafted Will or, worse still, no Will in place at all!
When we look at the the second point, we only have to look no further than the Lotto winners. On average around 65% of lottery winners are bankrupt within 15 years time globally.
So with such a big head start why does this happen? The main premies here is that as your wealth grows over time, your experience and understanding with money also grows. When one suddenly receives a large inheritance, sometimes they may not have the necessary skill set to manage such a large estate, or develop a robust strategy on how to handle this capital with experienced advisors.
Like the Lotto winners too, they may feel the temptation to fill in the missing gaps in their picture of the new life thanks to this new found wealth. Society often thinks that if you win the Lotto then you are expected to have a large house and then you need to have the expensive car to sit in the drive way, and the expensive lifestyle etc etc. A lot of these things can be wealth detractors rather than wealth builders.
In reality, you don’t know what might happen tomorrow – let alone what will happen after you have passed, however there are somethings which you can control like ensuring that your estate planning and assets are best placed to handle the transition to the next generation.
If you do receive an inheritance, we also believe it is important to seek professional guidance, to ensure a robust strategy is constructed so that you can be set up to win long term.
Over the years we have seen some wonderful success stories working with clients in this area which has resulted in building wealth for generations to come.
Like any great financial planning idea, it is important to seek professional guidance from a suitable qualified financial planner. We would of course always recommend AJ Financial Planning.
Most Australians feel comfortable with the knowledge that unlike other countries (such as the USA) there is no inheritance tax here… but is this really true? One area where tax may be paid on inherited assets is with your superannuation, which many people don’t realise. This is because your inherited superannuation is taxed differently depending on whether the recipient is a superannuation dependant and/or a tax dependant. Without getting too technical the rules can be summarised like this for when you inherit a superannuation lump sum:
If you are both a superannuation and a taxation dependant you will not pay tax on the inherited lump sum.
If you are a superannuation dependant but not a tax dependant, a 15% tax will be paid on the taxable component of the lump sum and the tax-free component will be received tax free.
If you are not a superannuation dependant then you cannot directly inherit superannuation and it must be paid to the estate first.
Note: the taxable component comes about from employer, self-employed and salary sacrifice contributions. The tax-free component comes about from when you put your own money into super after tax. Unless you are putting your own cash into your superannuation account, your account will be mostly (if not all) taxable component. So now the question… Who is a tax dependant and who is a superannuation dependant? The following people are both tax and superannuation dependants and so no tax is payable on inherited lump sums:
Your spouse by marriage
Your defacto spouse
Your same sex spouse
Your children aged under 18
Someone who is financially dependant on you
Someone with whom you have an interdependency relationship (for example a brother and sister who live together)
This leaves the main group of people who are superannuation dependants but who are not taxation dependants… your adult children! Yes that’s right, if your adult children inherit your superannuation lump sum (if you outlive any spouse or partner) they will pay 15% tax on the taxable component of your superannuation, which for many people will mean 15% tax on the entire superannuation balance. If you pass away with say $200,000 this will mean paying up to $30,000 in unnecessary tax to the ATO. But why do I say unnecessary tax? Well there is a simple strategy that you can use to reduce or even eliminate any ‘inheritance’ tax that your adult children may pay on your superannuation. This strategy is effective mainly if you are aged 60-64 but if you are aged 55 or above there is a chance that you can also make use of the strategy to reduce the ‘inheritance’ tax. If you’d like to find out more about this strategy, why not speak to the team at AJ Financial Planning? Our free no obligation consultation could save your loved ones being taxed on their inheritance!