Oran Hall | Superannuation funds and irrevocable trusts

Is a defined benefit pension fund or a superannuation fund an irrevocable trust? A superannuation fund and an irrevocable trust are set up for different purposes and have some similarities, but are different due largely to the legal framework and requirements which underpin them.

A superannuation fund is a pension plan set up by an employer to provide an income for employees when they retire. It is funded by the employer and employee, and several people and organisations play a wide range of important roles in its management to enable it to fulfil its obligations to its members.

Additionally, approved superannuation funds are required to operate within a legal framework, which includes the trust deed and rules of the fund, the Income Tax Act, and trust law.

A professional investment manager approved by the Financial Services Commission is responsible for the investment management function of the fund. Each pension fund is also required to have an administrator. Actuaries perform a role that is critical to the ability of a superannuation plan to pay a reasonable pension in perpetuity to its members when they retire through the periodic valuations that they do of the plan.

The trustees – all of whom must be approved by the FSC – are legally responsible for all aspects of a pension fund. Collectively, they are called the board of trustees and, under the Pensions Act, are accountable for any breaches and may be fined heavily where they occur.

The main responsibility of the trustees is to manage the affairs of the fund. They must safeguard and protect its assets and the interests of the members by, among other things, employing the services of competent professionals such as investment managers and administrators.

As custodians of the assets of the fund, they are responsible for their safe-keeping and hold title to the assets of the fund in trust for its members in accordance with the trust deed, the plan rules and the Pensions Act and its Regulations.

Although the members of the employer-sponsored pension plan are the ultimate beneficiaries of its assets, the assets are trust property.

There are two types of superannuation plans – a defined benefit plan and a defined contribution plan. In a defined benefit plan, the benefit is determined by a formula that incorporates the employee’s pay, years of employment and age at retirement.

An actuary calculates the contribution that the sponsor must make to ensure that the fund can meet future benefit payments and funds any deficit revealed by the actuarial valuation, effectively taking an open-ended risk.

By contrast, the pension paid by a defined contribution plan is calculated on the value of the contributions that the employer and employee make and the investment returns on them.

An irrevocable trust is a legal arrangement created under trust law, typically through a trust deed, by which the grantor generally transfers assets to a trust permanently, giving up ownership of and control over them.

It is an estate planning tool which is also used for asset protection and tax minimisation, is controlled by the trustees, and is for the benefit of the beneficiaries named in the trust deed. The beneficiaries are chosen by the grantor, contributions are voluntary, and distributions are made according to the terms of the trust deed.

Another type of trust is the revocable trust, a legal arrangement by which the grantor can modify or terminate the trust while alive and competent, and retains control over the assets put into it. Thus, the grantor can add or remove assets and beneficiaries.

Irrevocable trusts cannot be generally amended, altered, or revoked by the grantor; superannuation funds may come to an end by being wound up through a legal process if all the benefits have been paid out or have been transferred, and they may also be re-structured in certain circumstances.

Generally, assets cannot be removed from irrevocable trusts to ensure, among other things, that there are assets to distribute according to the grantor’s wishes. In the case of superannuation funds, members who leave, by changing employment, for example, may opt to take their portion of the fund or have it transferred to the pension fund of the new employer, or they may choose to let it remain.

Irrevocable trusts are used mainly for estate planning; superannuation funds are retirement savings vehicles to provide an income in retirement for members of the plan or their named beneficiaries, who would receive the benefit for the period from the death of the member up to the minimum term of the pension.

In other words, if the member chooses the payment option of ten years certain and life thereafter and dies six years after the pension commences, the beneficiary is entitled to the benefit for the next four years.

Both superannuation plans and irrevocable trusts provide for beneficiaries: those named in the trust deed of the irrevocable trust, and the fund members in the case of superannuation funds. They are both trusts controlled by trustees, but superannuation funds are not classified as irrevocable trusts.

Oran A. Hall, author of Understanding Investments and principal author of The Handbook of Personal Financial Planning, offers personal financial planning advice and counsel.finviser.jm@gmail.com