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The legal minefield of BDBNs (updated)

By Daniel Butler ([email protected]), Director, and William Fettes ([email protected]), Senior Associate, DBA Lawyers

(This article is an updated version of an article originally published here. The article has been significantly revised to account for the most recent case law in relation to binding death benefit nominations.)

There are numerous pitfalls that can upset a binding death benefit nomination (‘BDBN’) and render it invalid. To help navigate this difficult terrain, we examine the major risks to be identified, managed or avoided.

Essentially, a BDBN is a direction made by a member to the superannuation fund trustee requiring the trustee to pay the member’s death benefit to the member’s dependant(s) or their legal personal representative (‘LPR’) (ie, the executor/executrix). BDBNs are a creature of the particular fund deed, and in large funds, the mandated requirements of the Superannuation Industry (Supervision) Act 1993 (Cth) (‘SISA’) and Superannuation Industry (Supervision) Regulations 1994 (Cth) (‘SISR’), especially reg 6.17A, must also be satisfied.

A BDBN should only be made where it is appropriate and should not be undertaken lightly. However, a BDBN based on a strong deed foundation, which is properly implemented with all due formalities, can play an important role in successful succession planning. To help illustrate the significance of BDBNs in this context, we briefly consider some relevant scenarios.

BDBNs — A useful tool for the right situation

You may wish to avoid your estate

A BDBN in favour of a member’s dependant(s) may be a sensible precaution to take where a member’s deceased estate could face legal challenges, such as testator’s family maintenance claims or similar challenges. In such cases, directing the trustee to pay the member’s death benefit directly to their dependant(s) avoids claims against the estate (subject to NSW’s notional estate provisions), as well as any legal costs borne by the estate.

Similarly, an insolvent member may wish to consider making a BDBN directly to their dependant(s) to protect their superannuation from creditors against their deceased estate. Making a BDBN may be a prudent strategy to increase certainty in relation to a death benefit being beyond the reach of creditors, notwithstanding the fact that superannuation has certain bankruptcy protection under s 116(2)(d) of the Bankruptcy Act 1966 (Cth).

You may wish to pay your benefit to your estate

Conversely, a member’s family situation may warrant making a BDBN to pay death benefits in favour of the member’s estate (via their LPR). For example, if a member has concerns about entrusting their children or surviving spouse with their superannuation benefit, leaving the decision to the trustee’s discretion will not prevent this outcome.

Enduring Powers of Attorney (‘EPoA’)

Where a member wants to ensure that effective nominations can be made in the future in the event of loss of capacity, having appropriate rules in the SMSF deed to authorise an attorney appointed under an EPoA to make and revoke BDBNs provides a potential solution.

Different legislation in each state and territory governs EPoAs, so care must be taken to ensure that the specific power of dealing with superannuation is supported by the EPoA, and that the power falls within the general scope of powers (ie, financial or property) in the particular jurisdiction.

Only the Powers of Attorney Act 2000 (Tas) expressly recognises the power of an attorney under an EPoA to exercise any power of the donor/principal with respect to superannuation. Accordingly, there is a question of whether making, revoking or renewing a BDBN falls within the scope of general financial powers for EPoAs made outside of Tasmania.

The main legal authority with regard to this point is Re Narumon Pty Ltd [2018] QSC 185 (‘Re Narumon’). In Re Narumon, the court held that exercising a member’s rights in relation to BDBNs for an SMSF fell within the scope of a financial matter for the purposes of an EPoA made under the Powers of Attorney Act 1998 (Qld). Bowskill J held ([69]):

…It is difficult to see why the exercise of a member’s right under a self-managed superannuation fund deed, to require the trustee of the fund to pay benefits, after their death, in a particular way would not be “a matter relating to the [member’s] financial … matters”. Given the breadth of meaning of the word “financial” (of, pertaining, or relating to finance or money matters) such an act does fall within the meaning of this term.

[Citations omitted]

Accordingly, in Queensland and Tasmania there is authority for the proposition that making a BDBN falls within the scope of an EPoA authority, subject to the SMSF deed and the appointment documents. DBA Lawyers considers that courts in other jurisdictions may also follow the reasoning in Re Narumon if this matter was considered where similar legislation applies. In any event, express wording should ideally be included in the EPoA appointment documents to cover this point.

The SMSF deed is also critically important, as the deed must authorise the attorney to exercise member rights and entitlements under the governing rules of the fund. In the absence of express power in the super deed, an attorney may not have the requisite power to act (refer McFadden v Public Trustee for Victoria [1981] 1 NSWLR 15 and Re Application by Police Association of South Australia (2008) 102 SASR 215 where nominations in respect of interests in respect of trusts were not property of the individual beneficiary). DBA Lawyers therefore provides express power in its SMSF documents to expressly authorise, among other things, an attorney to act for a member.

Of course, it should also go without saying that having a trusted person is absolutely critical, as the attorney will have considerable power.

Problems and pitfalls

For these reasons and others, BDBNs can be a powerful and important tool in a member’s succession planning toolkit. However, a word of caution is warranted here because BDBNs are a relatively new legal instrument. The law in respect of them continues to develop and evolve over time, and many pitfalls exist for the unwary. Keeping pace with these developments and seeking appropriate advice from expert advisers is critical. Indeed, cases such as Munro v Munro [2015] QSC 61 and Wooster v Morris [2013] VSC 594 show that effecting a valid BDBN is no simple task. More specifically, as BDBNs are a creature of the particular deed, the process of effecting a valid BDBN depends on a number of inter-related factors.

SMSF deeds that include SISR BDBN regulations

Many SMSF deeds import the BDBN provisions in the SISA and SISR through wide deeming provisions of regulatory compliance, often inadvertently. A notable example of this occurred in the case of Donovan v Donovan [2009] QSC 26.

In Donovan v Donovan, Fryberg J found that a letter given to the trustee asserting a ‘wish’ to pay the member’s death benefit to the LPR did not bind the trustee. However, the judge also made comments by way of non-binding obiter dicta about the effect of the deed’s reference to ‘Statutory Requirements’ on the formalities required and the duration of any valid direction binding the SMSF trustee. The judge remarked that the language in cl 11.4 of the SMSF deed caused the BDBN requirements in SISR reg 6.17A to apply to the SMSF. One reason he stated this was that:

The legislation governing superannuation in Australia is notoriously convoluted… It is very easy for trustees and members to make a mistake about the requirements applicable in their particular case. It is very understandable that a deed should specify a requirement in effect to comply with the form described in reg 6.17A(6) out of an abundance of caution. The alternative would be to require the trustees or the member to take legal advice about the answer to the first question posed to me, and to run the risk that their advice might turn out to be incorrect. Such an approach is uncommercial and unlikely.

Therefore, one important lesson to take away from Donovan v Donovan is that the presence of a broad deeming clause can have far-reaching consequences such as including the 3-year limitation. Accordingly, having a quality deed is of paramount importance. If there is any ambiguity, expensive and protracted legal action may determine the outcome. However, subsequent cases have since clarified the 3-year rule in respect of SMSFs as discussed below.

The case of Retail Employees Superannuation Pty Ltd v Pain [2016] SASC 121 (‘REST decision’) has also called into question whether importing the SISA and SISR BDBN requirements may give rise to even bigger problems than an inability to implement non-lapsing BDBNs.

More specifically, the court in the REST decision identified significant problems with the SISA and SISR provisions and called for legislative reform in this area, noting that ([512]):

The structure and drafting of sections 58 and 59 of the SIS Act and regulation 6.17A of the SIS Regulations give rise to ambiguities, uncertainties and potentially unintended consequences … It is highly desirable that those provisions be reviewed by the Commonwealth and recast.

The analysis was also confirmed in the recent case of H.E.S.T. Australia Ltd v Inkley [2018] SASC 127.

Accordingly, BDBNs used in conjunction with deeds that rely on the SISA and SISR provisions may not be legally effective.

Excluding the SISR BDBN requirements

The ATO in SMSFD 2008/3 considers that s 59(1A) of the SISA and reg 6.17A of the SISR have no application to SMSFs, subject to the terms of the SMSF deed. Accordingly, an appropriately drafted SMSF deed should expressly exclude these provisions to avoid the problems identified in the REST decision, and to allow for an indefinite, non-lapsing BDBN to be made in respect of death benefits in an SMSF.

While an SMSF determination is not law and is not binding on the ATO, it is nonetheless useful from the standpoint that the ATO is regulator of SMSFs. Additionally, the ATO’s reasoning in SMSFD 2008/3 on this issue has subsequently been approved of by the courts in Munro v Munro [2015] QSC 61 and Cantor Management Services Pty Ltd v Booth [2017] SASCFC 122 (‘Cantor decision’).

Therefore, there is Supreme Court authority for this position in Queensland and South Australia, and these cases are likely to be persuasive and followed by Supreme Courts in other jurisdictions.

Sloppy wording

Note that SMSF deeds are not a generic product and many SMSF deeds are unsatisfactory in this regard. SMSF deeds from many suppliers rely on a 3-year BDBN, regardless of their clients’ needs, and many of these are easily challenged due to poor wording such as ‘the BDBN is only binding if it’s to the trustee’s satisfaction’. This type of wording can easily give rise to argument if, say, the trustee is the second spouse who decides to reject the BDBN when their spouse dies.

The perils of using foundations made of straw

Despite the apparent emphasis in this article on the current deed, it must be said that consideration of the most recent deed ‘on file’ is not all that counts for a BDBN to be valid and effective. The most recent deed must have been varied in accordance with the prior variation power, the relevant consent of each party to effect a variation must be obtained, and relevant notifications under the deed made and any other appropriate legal formalities complied with. Also, all or some deeds may have required stamping in accordance with the relevant state/territory stamp duty legislation. All these formalities must have been complied with in the document trail or the fund’s latest deed may not be valid and effective. This, in turn, results in BDBNs and other strategies undertaken on the basis of a ‘faulty’ deed being rendered shaky and possibly invalid.

Regrettably, and despite the critical importance of the deed foundation, most SMSF deeds these days are varied without proper checks on the prior document trail, including conditions and consents that must be satisfied.

If the SMSF has existed for some time and undergone variations from time to time, particularly without using experienced SMSF lawyers, a deed history review may be warranted. Such a review should encompass the original deed of establishment, any subsequent deed of variation, and any deeds of change of trustee, as well as any other document that may have varied the deed (eg, trustee resolutions). Moreover, the review should be conducted by an experienced adviser, preferably an SMSF lawyer, to see if remedial work is required to help ensure the SMSF’s ‘deed chain’ is as resilient to challenge as possible. Remedying any issues in a timely manner is generally far more cost effective than being exposed to future legal challenge.

Drafting a BDBN notice — near enough is not good enough

The case of Munro v Munro provides a useful cautionary tale regarding the problem of using imprecise wording in a BDBN. In Munro v Munro, the nomination of the ‘trustee of his deceased estate’ gave rise to a number of legal hurdles. Broadly, these included:

  • Regulation 6.22 of the SISR only allows a payment in favour of a dependant or LPR.
  • The definition of LPR in s 10 of SISA means, relevantly here, the executor of the will.
  • The 2009 BDBN referred to the ‘Trustee of Deceased Estate’. An executor only becomes a trustee after an estate has been administered and the Applicants argued that the BDBN did not need to comply with the criteria in reg 6.17A as that did not apply to an SMSF. This was noted at [32].

Thus, the Applicants had some hurdles to overcome for their arguments to succeed. The following extract highlights several of these hurdles.

[32]         … The applicants argue that the definition of Relevant Requirements in the trust deed does not import reg 6.17A, but does import reg 6.22. Regulation 6.22 requires that the death benefit may be paid only to a [LPR] or a dependant. The applicants argue the nomination dated 22 September 2009 made by Mr Munro in favour of the “Trustee of Deceased Estate” was intended to be operative as a [BDBN] and should be given effect as such on the basis that “Trustee of Deceased Estate” is another way of referring either to the executors or, on an alternative argument, to the testamentary trustees as dependants.

[Abbreviations added]

The Respondents argued that reg 6.17A was imported into the SMSF deed and argued other grounds in the alternative.

Note that the 2009 BDBN that had been made by Mr Munro on 22 September 2009 was still well within a 3-year expiry period when he died in August 2011 (ie, the BDBN was around one month away from its two year anniversary). The Applicant’s argument that the BDBN did not have to comply with reg 6.17A was seeking to ensure the BDBN would be valid. This is an interesting point as for many disputes involving BDBNs, it is only the 3-year time period in reg 6.17A that is in dispute.

The Munro decision again highlights the need for a BDBN to follow the strict requirements of the particular SMSF deed. Mullins J analyses this as follows (extracting relevant paragraphs from the judgement):

[45]         Clause 31.2 regulates both the form and substance of the nomination. There is no power given to the trustees under the trust deed or otherwise to dispense with compliance with the conditions set in clause 31.2 for a [BDBN]. It is only a nomination for the purpose of clause 31.2, if all the conditions set out in that clause are met by the nomination. If it is intended to nominate the [LPR] of the member who has since died, it must specify that it is nominating the LPR or the executor of the will or name the executor of the will (if that coincides with the executor named in the last will), but identify that the named person is the [LPR].

[48]         For the purpose of the SIS Act, the reference to [LPR] has the specific meaning of the executor of the will of the deceased person (where there is a will). Even if that definition did not apply, in the case of Mr Munro, the only meaning of [LPR] must be to the executor of his will. Regulation 6.22 of the SIS Act Regulations is prescriptive as to when a member’s benefits can be cashed to persons other than the member and limit the circumstances in the case of the member’s death to the member’s [LPR] and one or more of the member’s dependants. That is replicated by clause 31.2(b) of the trust deed for the fund.

[49]         The form dated 22 September 2009 did not comply with either clause 31.2 of the trust deed or reg 6.22 of the SIS Regulations, as the nomination was of neither Mr Munro’s executors under his will or one or more of his Nominated Dependants.

[50]         The nomination form signed by Mr Munro on 22 September 2009 is therefore not a binding nomination for the purpose of clause 31.2 of the trust deed.

[Abbreviations added]

The court ordered that the 2009 BDBN was not a binding nomination for the purpose of clause 31.2 of the SMSF deed (see paragraph [52] of the judgment). The interlocutory injunction was also discharged. Thus, the death benefit could be paid out by exercise of the trustee’s discretion.

It is interesting to also note that Mr Munro, who practised as a solicitor during his working life, did not pick up on the numerous legal issues in the documents provided by his accountant and financial planner. Advisers should ensure the documents they supply are reviewed and revised regularly by a qualified, registered and experienced legal practitioner to ensure they do not become liable. As noted above, there were numerous issues that upset the BDBN in this case and the BDBN in question was supplied by an accountant.

This judgement provides yet another reason why quality SMSF deeds and related documentation should be obtained, as poor quality documents are likely to be ineffective. Ineffective documents can result in members having their super proceeds potentially paid to the wrong people; in many disputes, this is after expensive and lengthy legal battles. While some may seek to save a few dollars upfront using a cheap supplier, quality eventually wins out!

Notification and service requirements

Recent cases such as the Cantor decision and Perry v Nicholson [2017] QSC 163 highlight the problem of how notification and service requirements in relation to BDBNs may give rise to legal challenge.

In the Cantor decision, the trustee of the Cantor Management Superannuation Fund contended on appeal that a BDBN executed by a fund member in 2012 was ineffective because it had not been given to the corporate trustee of the fund (in its capacity as trustee) in accordance with the terms of the SMSF deed.

The court examined the governing rules of the fund and accepted the proposition that the governing rules did indeed require the BDBN in question to be given to the trustee to be effective. However, the court held that this requirement was satisfied in this case by the member leaving the BDBN document at the registered office of the trustee company pursuant to general law standards of service and the specific statutory framework for serving companies set out in s 109X(1)(a) of the Corporations Act 2001 (Cth).

Accordingly, the presence of ‘given to’ or similar requirements in an SMSF deed can mean a BDBN may be subject to challenge, particularly if the applicable standards of service are not clearly satisfied.

In Perry v Nicholson, a requirement in the SMSF deed that BDBNs must be given to the trustee was the likely motivation behind the daughter of the deceased member, Ms Perry, bringing litigation contesting the validity of a 2015 change of trustee. Ms Perry submitted that, notwithstanding documentation that purported to change the trustee of the fund in 2015, she was still a trustee of the fund and had not been validly removed. Accordingly, Ms Perry submitted that the relevant BDBN purporting to distribute all of the member’s death benefits in the fund to the deceased’s de facto spouse, Ms Nicholson, was invalid. Presumably this was on the basis that the BDBN had not been provided to the ‘true trustee’ of the SMSF.

Though the change of trustee was ultimately held to be valid in Perry v Nicholson, the case illustrates that service and notification requirements can provide further ammunition for aggrieved beneficiary to scrutinise a fund’s document trail, as an invalid change of trustee may provide an avenue to challenge a purported BDBN where these requirements exist.

Accordingly, DBA Lawyers considers that notification or service requirements for BDBNs are generally inappropriate as they give rise to too many issues and prevent members from making effective private BDBNs.

Many think they have a valid BDBN when they don’t!

As the above discussion has shown, getting a BDBN right is no easy task. Indeed, many who mistakenly believe their BDBN is secure will have that complacency exposed after their death when their BDBN is rendered invalid. To summarise, there are numerous risk areas including:

  • Expiry of the nomination due to the 3-year sunset rule under reg 6.17A of SISR.
  • Failure due to sloppy wording such as ‘the nomination is only binding if it’s to the trustee’s satisfaction’.
  • Problems with the prior deed history where one or more variations were not properly completed rendering subsequent deeds, and any BDBNs purportedly made on the latest deed, invalid.
  • Failure due to poor wording such as in Munro v Munro where the wording of the BDBN, while close, was not good enough. The BDBN was only valid if the exact words under the deed were used.
  • Failure due to conflicting wording in the SMSF deed compared to what was in the reversionary nominations, wills and EPoAs.

The best philosophy to adopt in relation to BDBNs is doing it properly the first time. You only have a limited window of opportunity to get it right prior to the member’s death. So advisers need to give serious consideration to managing BDBNs as part of each client’s integrated estate and succession planning. Our recommendation is for advisers to institute a ‘best practice’ approach to ensure that they only use quality documents and procedures. Ideally this should be done with the engagement of experienced SMSF lawyers. Otherwise advisers may be open to significant legal liability when disputes arise.

For this purpose, DBA Lawyers has prepared a comprehensive course with a practical checklist and quality control procedures specifically for BDBNs to establish a best practice model for advisers working with BDBNs. This course is the only one of its kind currently available in Australia prepared and presented by Australia’s most experienced SMSF lawyers who also have extensive estate planning and succession planning experience. Refer:

http://www.dbanetwork.com.au/dbalawyers/seminars3/4292/BindingDeathBenefitNominations.html

For these reasons and more, you can see why DBA Lawyers takes the view that you only have a valid BDBN if you can prove it. Indeed, DBA Lawyers has extensive experience over many years in disputes where BDBNs have fallen down under legal scrutiny. This is a regular part of our legal services including defending or challenging BDBNs. Thus, it is strongly recommended that all your documentation and procedures be checked to ensure it can be relied on before there is a death.

*                                   *                                   *

This article is for general information only and should not be relied upon without first seeking advice from an appropriately qualified professional.

 

Daniel Butler and William Fettes

DBA LAWYERS

23/1/2019

 

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