Invalidity benefits paid through Defence Force superannuation schemes are generally taxed at a higher rate than invalidity benefits paid through civilian superannuation insurance schemes.
What are Defence Force Superannuation Invalidity Benefits?
Veterans who were medically discharged, or should have been medically discharged, may be entitled to receive invalidity benefits through the Defence Force superannuation scheme they contributed to, or were covered by, while they served.
The condition that caused the medical discharge, or should have caused it, does not need to have been related to service to receive an invalidity benefit. For instance, a veteran may have been medically discharged due to injuries sustained during a leave period. A veteran may be entitled to superannuation invalidity benefits, but not entitled to military compensation administered by DVA.
The superannuation scheme will depend on when the veteran joined the Defence Force, and whether they elected to change to a newer scheme, if they were given the opportunity to do so. Those schemes are:
- Defence Force Retirement Benefits (DFRB). Open from 1948 to 30 September 1972.
- Defence Force Retirement and Death Benefits (DFRDB). Open from 01 October 1972 to 30 September 1991.
- Military Superannuation and Benefits Scheme (MSBS). Open from 01 October 1991 to 30 June 2016.
- Australian Defence Force Cover (ADF Cover). Provides consistent superannuation invalidity benefit coverage to ADF members, enabling member choice of superannuation fund. Open from 1 July 2016.
Under each scheme, medically discharged veterans are classified according to their level of incapacity for civilian employment:
- Class A – incapacity of 60% or more.
- Class B – incapacity of 30% or more, but less than 60%.
- Class C – incapacity of less than 30%.
Veterans with a Class A or B invalidity will receive a benefit paid as a pension. The amount of pension varies between schemes and is based on several factors such as the class of invalidity, age, length of effective service, and final salary or final average salary. Generally, a Class B pension is 50% of a Class A pension.
Invalidity benefits may be reviewed up to age 55. This means, for example, that a veteran receiving a Class A pension, may have it reduced to a Class B pension or to no pension at all. It is also possible that a veteran may receive an increase from a Class B to Class A pension.
The Commonwealth Superannuation Corporation (CSC) which administers the four schemes, decided that invalidity pensions paid under the schemes are superannuation income stream benefits and has reported the payments as such to the Australian Taxation Office (ATO). This means that the taxable component of the pension is taxed at the veteran’s marginal tax rate.
In contrast, generally, civilian superannuation invalidity insurance benefits are reviewable until the condition stabilises, and then the benefits become permanent. While the benefits are reviewable, they may have a 15% tax offset applied to the taxable component—in other words, they may pay less tax.
The Superannuation Industry (Supervision) Regulations 1994 (Cth) defines the criteria that determines the nature payments. Military superannuation invalidity pensions do not appear to meet the criteria necessary to be classified as a superannuation income stream benefit, so may instead be classed as lump sum disability benefits. Injured veterans would therefore receive the same 15% tax offset applied to civilian superannuation invalidity insurance.
So What is Happening?
Three veterans have challenged the superannuation income stream benefit classification of their invalidity benefits, paid under DFRDB and MSBS, through requests for reasons, taxation private rulings, objections and through the administrative appeals tribunal. Given the significance of the cases, the ATO has granted test case litigation funding, in order to completely deal with the issues in question – and arrive at a binding decision. The outcome of their cases may have significant positive financial impact to thousands of veterans who receive Class A and B invalidity pensions.
DFWA has maintained an active interest in these cases and has supported the veterans where possible. The Queensland Branch Honorary Legal Advisory Firm, Cleary Hoare Solicitors, has been heavily involved, representing the veterans who are the test cases.
DFWA will provide updates as and when they occur.