Calculating Family Provision Act Claims

The basis for Succession Act and Family Provision Act claims is on the basis of needs or specifically in some legislation the costs of maintenance, education and advancement in life. It is necessary to arrive at a lump sum value in respect of those future needs, but how do you calculate a lump sum value?

There are two general components to a lump sum value:

1. The current value of the costs likely to be expended into the future, on a per annum or weekly basis, and
2. A discount rate reflecting the earnings that a lump sum could earn after inflation and tax.

Current Value of Costs

There are a number of different ways that an assessment of future needs could be calculated and each method will depend upon the individual circumstances of the case.

We have used:

• The beneficiary's statement as to future needs requirements;
• Data published by Australian Bureau of Statistics;
• The beneficiary's current earnings - on the basis that a lump sum superannuation contribution was necessary to maintain that level of income in their retirement.

There are usually multiple ways to measure a person's future needs and often they all need to be examined to determine the most appropriate method for the individual circumstances.

Discount Rate

As discussed above the discount rate reflects the earnings that a lump sum amount could earn after inflation and tax.

The lower the discount rate, the higher the lump sum.  For example: $700 per week at a 3% discount rate for 20 years equals $ 551,530, whilst $700 per week at a 5% discount rate equals $466,480, a difference of $85,050. So naturally many Family Provision Act claims revolve around the appropriate discount rate that should be applied.

The discount rate is equal to the interest rate that a person could earn if they invested the lump sum and then they draw down upon that lump sum to cover their future needs. It is important that the discount rate reflects the risk profile and financial knowledge  of the beneficiary and because we are looking at a long term investment long term investment rates (+10 years)  should be used.

The question is what rate should be used? In some instances, it is argued that a 3% discount rate should be used in accordance with Todor0vic v Waller (1981) 151 CLR 403. In others cases, it is assumed that the earnings would be equal to the long term return of managed investment funds like superannuation investments. The question is then which investment profile should be used: capital guaranteed, capital stable, balanced, growth or high growth? The answer will depend upon the age and risk profile of the beneficiary.

Why should the discount rate be after inflation?

The discount rate should be calculated on an after inflation basis because we are using current costs in the needs analysis. The alternative would be to take inflation into account in the costing the future needs. It is much simpler to prepare the needs analysis on a current cost basis and make adjustments for inflation in the discount rate than annual adjustments for inflation.

Why should the Discount Rate be on a After Tax Basis?

The discount rate is applied to needs that are on an after tax basis (i.e. $700 per week net after tax ). It is therefore necessary to take into account the tax that would be payable on the earnings of the lump sum. An important thing to remember is that many managed funds publish their earnings on an after tax basis, and those earnings may have franking credits attached, which would offset  any tax payable. As a note, you could earn $99,235 in franked dividends and not pay any additional tax because the franking credits offset the tax payable.

The discount for tax will depend upon the circumstances of the beneficiary and the basis for earnings used. In some circumstances, there are substantial tax benefits in structuring the potential lump sum through superannuation which would reduce the discount applicable for tax.

To answer many of these questions, you are going to need expert evidence which Dolman Bateman can provide.