‘Business succession’ is about putting in place an agreed plan as to what will happen to your ‘business interests’ should either you, or one of your business partners die, (or be subject to some other event that causes an ‘exit’ from the business).
A common business succession plan is to put in place some insurance funding so that if you die (or suffer TPD or trauma) then you get an insurance payout, and your business partners get your interest in the business. Under this scenario your ‘exit’ from the business is funded by the insurance payout.
Of course, you and your business partners then need to solve the problem of how the insurance policies are funded.
Sometimes people look to their superannuation fund to help out. The business makes contributions to your super fund (and a deduction may be claimed), and then the super fund takes out a policy of insurance that is meant to fund the business succession plan.
The problem with this strategy is that the Tax Office doesn’t like it. See ATO ID 2015/10 – 1 May 2015. This Interpretative Decision involved business partners who entered into an agreement between themselves and the trustee of their super fund, whereby they all agreed to use the insurance proceeds to fund the business exit. Under this scenario the Tax Office is of the view that the super fund has breached the ‘sole purpose’ test (in section 62 of the SIS Act), because the insurance is not being used to fund retirement benefits, but rather a ‘business succession plan’. The Tax Office also cited several other potential problems with this arrangement.
While we agree with the Tax Office in this particular scenario, our view is that the critical error was involving the trustee of the super fund in this arrangement.
There is nothing inherently wrong with making contributions to a super fund, and having the super fund take out a life and TPD insurance policy. The ability to access benefits from your super fund in the event of death or TPD is uncontroversial. If then, outside the super fund (and not involving the trustee), you agreed with another party what you (or your estate) must do with the benefits, we do not see how this breaches the sole purpose test.
In fact, you do not even need to directly tie what you do with the benefits (or your super fund) to your business succession arrangement. You can simply agree that if you receive a payout from super that is referable to a policy of insurance, then your estate is obliged to transfer your business interest to your business partners at an agreed value (which may be nil). You or your estate can do whatever it wants with the benefits, i.e. fund retirement or legacies to your beneficiaries, etc.
How you deal with your benefits once they have been legitimately paid out from your super fund should not impact the sole purpose of the fund prior to that time. For example, there is nothing inherently wrong with you stating in your Will that your super benefits must be paid to a particular beneficiary or be used to repay any debt on your home. Of course, our Buy-Sell Agreements have never involved the trustee of a super fund, for the very reasons the Tax Office has highlighted.
If you are thinking about what’s next for your business and wanting to plan for the inevitable, we recommend speaking with a qualified advisor (like us!) to advise you on how to ensure that your business succession plan is both compliant and suitable for your circumstances.
The information contained in this post was reviewed on 25 February 2022