When a reversionary pension passes to a surviving spouse, the transfer balance credit doesn't post to their Transfer Balance Account until 12 months after the death. Within that window, commuting some or all of the pension to a tax-free death benefit lump sum reduces the eventual credit dollar-for-dollar — avoiding excess transfer balance tax if the survivor's combined pensions would otherwise exceed the $2.0 million cap.
When a retiree drawing an account-based pension dies, a properly nominated reversionary beneficiary takes the pension automatically. The income stream simply continues — same purchase price, same investment options, same drawdowns — with the survivor stepping in as the new pensioner. The continuity is administratively clean, but it creates two potential problems. First, the reversionary pension counts against the survivor's Transfer Balance Cap — $2.0 million for FY2025-26 — which can push someone with their own existing pension into excess. Second, the survivor may not want the pension structure at all. Both problems share one solution: the 12-month commutation window.
The mechanic sits in Division 294 of the Income Tax Assessment Act 1997. A reversionary pension creates a transfer balance credit equal to the value of the pension at the date of the original pensioner's death — but the credit is not posted to the survivor's Transfer Balance Account until the first anniversary of the death (ATO, https://www.ato.gov.au/individuals-and-families/super-for-individuals-and-families/super/growing-and-keeping-track-of-your-super/transfer-balance-cap). This 12-month deferral is deliberate: it gives the survivor time to plan, take advice, and act before the cap count crystallises. Within the window, a commutation reduces the eventual credit dollar-for-dollar. Outside the window, the credit has already posted, and subsequent commutation creates a debit but with less flexibility for managing any excess.
The commutation produces a death benefit lump sum. Under section 302-60 of the ITAA 1997, a death benefit lump sum paid to a SIS death benefit dependant — which a surviving spouse always is — is not assessable income in the recipient's hands, regardless of the taxable or tax-free component split of the underlying pension (ATO, https://www.ato.gov.au/individuals-and-families/super-for-individuals-and-families/super/withdrawing-and-using-your-super/superannuation-death-benefits). The cash exits the super system entirely and sits in the survivor's hands free of fund earnings tax, free of the Transfer Balance Cap, and free of their Total Super Balance calculation. The trustee processes the commutation as a death benefit payment rather than a member-initiated commutation, which matters for tax characterisation if non-dependants are also involved in the broader estate.
A concrete case shows the leverage. A surviving spouse aged 70 has $1.6 million already in their own pension account. The deceased spouse had $1.5 million in their pension, properly nominated as reversionary. Without action, at the 12-month anniversary the transfer balance credit of $1.5 million posts. Combined with the survivor's existing $1.6 million pension, the total cap count is $3.1 million — $1.1 million above the $2.0 million cap. That excess triggers excess transfer balance tax and a forced commutation under the post-event rules. With action within the window, the survivor commutes $1.1 million of the reversionary pension as a death benefit lump sum — tax-free. At the 12-month anniversary, the credit posts at $400,000. Combined with the survivor's existing pension: $2.0 million — at the cap, no excess. The $1.1 million now sits outside super in the survivor's hands, available to invest, gift, fund estate planning, or support living expenses.
The trade-offs are real but typically modest. Outside super, investment earnings are taxed at the survivor's marginal rate rather than the zero percent pension rate or 15% accumulation rate. For a high-income survivor, this is ongoing tax drag. For a typical retiree drawing the Age Pension or a modest private pension, marginal rates can be similar to or below super tax rates. Centrelink deeming applies to the lump sum if it is held as a financial asset, but the income test treatment outside super is no worse than inside, and the asset is now outside the survivor's cap and Total Super Balance calculations entirely.
The 12-month window offers several pathways. Full commutation maximises cap space recovery and gives complete cash flexibility. Partial commutation of just the excess preserves the reversionary pension structure while avoiding the cap breach. Accepting the pension as-is is viable only where sufficient cap space exists. The right choice depends on the survivor's Transfer Balance Cap position, income needs, tax circumstances, and preference for super-system simplicity versus continued earnings tax shelter. What matters is that the choice is made within the window — not after it has closed.
Sources
- Australian Taxation Office (ATO) — Superannuation death benefits
- Australian Taxation Office (ATO) — Paying superannuation death benefits
- Australian Taxation Office (ATO) — Transfer balance cap
Key takeaways
- A reversionary pension creates a transfer balance credit equal to its value at the date of the original pensioner's death, but under Division 294 of ITAA 1997, that credit isn't posted to the survivor's Transfer Balance Account until the first anniversary of the death — a deliberate 12-month deferral to allow planning.
- Commuting within the 12-month window reduces the eventual transfer balance credit dollar-for-dollar, while commuting after the window has closed only creates a debit against an already-posted credit, with less flexibility for managing any excess.
- A death benefit lump sum paid to a surviving spouse — always a SIS death benefit dependant — is not assessable income under s.302-60 of ITAA 1997, regardless of the taxable/tax-free component split, and the cash exits super entirely, free of fund earnings tax, the Transfer Balance Cap, and the survivor's Total Super Balance calculation.
- A surviving spouse with $1.6 million in their own pension inheriting a $1.5 million reversionary pension would breach the $2.0 million cap by $1.1 million if they take no action — but commuting $1.1 million within the window as a tax-free lump sum brings the eventual credit to exactly the cap, with no excess transfer balance tax.
- The three pathways within the window are full commutation (maximum cap recovery and cash flexibility), partial commutation of just the excess (preserves the pension structure while avoiding the breach), or accepting the pension as-is (viable only with sufficient existing cap space) — the choice must be made within the 12 months, not after.
Frequently asked questions
What is the 12-month commutation window for a reversionary pension?
It's the period between the original pensioner's death and the first anniversary of that death, during which the transfer balance credit created by the reversionary pension has not yet posted to the survivor's Transfer Balance Account. Commuting some or all of the pension within this window reduces the eventual credit dollar-for-dollar, before it's locked in.
Is a reversionary pension commutation to a lump sum taxed?
No. A death benefit lump sum paid to a surviving spouse is not assessable income under section 302-60 of ITAA 1997, regardless of the taxable or tax-free component split. The cash exits the super system tax-free, and it's also excluded from the Transfer Balance Cap and Total Super Balance calculations from that point.
What happens if I don't commute a reversionary pension before the transfer balance cap breach?
If the survivor's own pension plus the full reversionary pension value exceeds their $2.0 million Transfer Balance Cap, the excess triggers excess transfer balance tax and a forced commutation under the post-event rules — generally a less favourable outcome than proactively commuting the excess within the 12-month window as a tax-free lump sum.
Should I commute the whole reversionary pension or just part of it?
It depends on your situation. Full commutation maximises cap space recovery and gives complete cash flexibility, but moves investment earnings outside the concessional super tax environment. Partial commutation of just the amount that would exceed your cap preserves the reversionary pension structure while avoiding a breach — the right choice depends on your income needs, tax circumstances, and preference for super's earnings tax shelter versus flexibility outside it.