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Ruling

Subject: Lump sum benefits from overseas pension schemes

Questions:

1. Is any part of the lump sum payment from Pension Scheme 1 made to the deceased estate (the Estate) as a result of the death of the fund member assessable as applicable fund earnings?

2. Is any part of the lump sum payment from Pension Scheme 2 made to the Estate as a result of the death of the fund member assessable as applicable fund earnings?

Answers:

1. No.

2. Yes.

This ruling applies for the following periods:

1 July 2011 to 30 June 2012

The scheme commences on:

1 July 2011.

Relevant facts and circumstances

The deceased left Australia a number of years ago to work in an overseas country and became a non-resident at that time.

The deceased worked at the first place of employment in the overseas country until 20XX when they then moved to work at the second place of employment at the commencement of the school year in 20XX.

The deceased died in 20YY.

The parents of the deceased are also the executors and beneficiaries of the deceased estate (the Estate).

The executors applied for probate of the deceased's will which was granted in 20ZZ in Australia.

In 20ZZ the executors of the Estate received a death grant payment from Pension Scheme 1.

The executors of the Estate received a death grant payment from Pension Scheme 2 which was banked into their solicitor's trust account in 20ZZ.

The two overseas pension schemes advised the executors of the Estate that the payments of the death grants were not subject to tax in the overseas country.

The death grant payment from Pension Scheme 1 consists of the total amount of the contributions that were made to the particular scheme.

As the exact date of the transfer of the payment from Pension Scheme 2 is not known, the authorised contact officer in telephone discussion of late 20ZZ, agreed to the Commissioner making an assumption that the transfer date to be used in respect of the payment will a particular day in 20ZZ.

In response to a further information request, the contact officer advised in a letter dated in 20ZZ that the deceased contributed two amounts to Pension Scheme 2 while working.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 305-55.

Income Tax Assessment Act 1997 Section 305-65.

Income Tax Assessment Act 1997 Section 305-70.

Income Tax Assessment Act 1997 Section 305-75.

Income Tax Assessment Act 1997 Subsection 305-75(1).

Income Tax Assessment Act 1997 Subsection 305-75(2).

Income Tax Assessment Act 1997 Paragraph 305-75(2)(a).

Income Tax Assessment Act 1997 Paragraph 305-75(2)(b).

Income Tax Assessment Act 1997 Paragraph 305-75(2)(c).

Income Tax Assessment Act 1997 Subsection 305-75(5).

Income Tax Assessment Act 1997 Subsection 305-75(6).

Income Tax Assessment Act 1997 Section 307-65.

Income Tax Assessment Act 1997 Subsection 295-95(2).

Income Tax Assessment Act 1997 Subsection 960-50.

Income Tax Assessment Act 1997 Subsection 995-1(1).

Superannuation Industry (Supervision) Act 1993 Section 10.

Superannuation Industry (Supervision) Act 1993 Section 62.

Reasons for decision

Summary

The death grant payment from Pension Scheme 1 consists of the total amount of the contributions that were made to the particular scheme and, as such, is not assessable income to the Estate.

In respect of the payment from Pension Scheme 2, the amount of applicable fund earnings to be included as assessable income of the Estate is $X for the relevant income year.

Detailed reasoning

Death Benefit

A death benefit payment made by a superannuation fund is tax-free in Australia only when it is paid:

Ÿ by a complying Australian superannuation fund, and

Ÿ to a dependant of the deceased.

In the present case, the particular overseas pension schemes paying the death benefits (the death grant payments) are foreign pension schemes which are not regulated in Australia and so cannot be complying Australian superannuation funds.

Consequently, the payments are not tax-free in Australia and the applicable fund earnings (if any) in relation to the lump sum payments are taxed under section 305-70 of the Income Tax Assessment Act 1997 (ITAA 1997).

Lump sum payments transferred from foreign superannuation funds

The applicable fund earnings in relation to a lump sum payment from a foreign superannuation fund, that is received more than six months after a person has become an Australian resident, will be assessable under section 305-70 of the Income Tax Assessment Act 1997 (ITAA 1997). The remainder of the lump sum payment is not assessable income and is not exempt income.

The applicable fund earnings is subject to tax at the person's marginal rate. The remainder of the lump sum payment is not assessable income and is not exempt income.

The applicable fund earnings is the amount worked out under either subsection 305-75(2) or (3) of the ITAA 1997. Subsection 305-75(2) applies where the person was an Australian resident at all times during the period to which the lump sum relates. Subsection 305-75(3) applies where the person was not an Australian resident at all times during the period to which the lump sum relates.

Before determining whether an amount is assessable under section 305-70 of the ITAA 1997, it is necessary to ascertain whether the payment is being made from a foreign superannuation fund. If the entity making the payment is not a foreign superannuation fund then section 305-70 will not have any application.

Foreign superannuation fund

A foreign superannuation fund is defined in subsection 995-1(1) of the ITAA 1997 as follows:

· a superannuation fund is a foreign superannuation fund at a time if the fund is not an Australian superannuation fund at that time; and

· a superannuation fund is a foreign superannuation fund for an income year if the fund is not an Australian superannuation fund for the income year.

Under the definition of Australian superannuation fund in subsection 295-95(2) of the ITAA 1997 a superannuation fund that is established outside of Australia and has its central management and control outside of Australia would qualify as a foreign superannuation fund. The fact that some of its members may be Australian residents would not necessarily alter this.

Subsection 995-1(1) of the ITAA 1997 defines a superannuation fund as having the same meaning given by section 10 of the Superannuation Industry (Supervision) Act 1993 (SIS Act), which requires that the fund is a provident, benefit, superannuation or retirement fund.

Provident, benefit, superannuation or retirement fund

The issue of what constitutes a provident, benefit, superannuation or retirement fund was discussed by the Full Bench of the High Court in Mahony v. Federal Commissioner of Taxation (1967) 41 ALJR 232; (1967) 14 ATD 519 (Mahony).

In that case, Justice Kitto's judgement indicated that a fund does not satisfy any of the three provisions, that is, 'provident, benefit or superannuation fund', if there exist provisions for the payment of benefits 'for any other reason whatsoever'. In other words, though a fund may contain provisions for retirement purposes, it could not be accepted as a superannuation fund if it contained provisions that benefits could be paid in circumstances other than those relating to retirement.

In section 62 of the SIS Act, a regulated superannuation fund must be 'maintained solely' for the 'core purposes' of providing benefits to a member when the events occur:

· on or after retirement from gainful employment; or

· attaining a prescribed age; and

· on the member's death. (this may require the benefits being passed on to a member's dependants or legal representative).

Notwithstanding the SIS Act applies only to 'regulated superannuation funds' (as defined in section 19 of the SIS Act), and foreign superannuation funds do not qualify as regulated superannuation funds as they are established and operate outside Australia, the Commissioner views the SIS Act (and the SIS Regulations) as providing guidance as to what 'benefit' or 'specific future purpose' a superannuation fund should provide.

In view of the legislation and the decisions made in Scott and Mahony, the Commissioner's view is that for a fund to be classified as a superannuation fund, it must exclusively provide a narrow range of benefits that are characterised by some specific future purpose. That is, the payment of superannuation benefits upon retirement, invalidity or death of the individual or as specified under the SIS Act.

Therefore, in order for the lump sum payment from the overseas fund to be considered a payment from a foreign superannuation fund as defined in subsection 995-1(1) of the ITAA 1997, it must also satisfy the requirements set out in subsection 295-95(2) of the ITAA 1997. This means that it should not be an Australian superannuation fund as defined in that subsection but must be a provident, benefit, superannuation or retirement fund as discussed above.

In relation to the two overseas pension schemes (Pension Scheme 1 and Pension Scheme 2), it would appear benefits are generally paid on retirement or death and therefore each scheme would meet the definition of superannuation fund. In addition, it is clear the payers of the lump sum payments are established outside of Australia with their central management and control outside of Australia. Therefore, on the basis of the information provided, the Commissioner considers the lump sum payments received by the Estate are from foreign superannuation funds as defined in subsection 995-1(1) of the ITAA 1997.

Assessable Amount

As noted above, the applicable fund earnings in relation to a lump sum payment from a foreign superannuation fund will be included in a person's assessable income where the payment is received more than six months after a person has become an Australian resident.

We will now briefly discuss the legislative background to Subdivision 305-B of the ITAA 1997.

Former section 27CAA of the ITAA 1936 was rewritten and absorbed into Subdivision 305-B as section 305-75 of the ITAA 1997.

The Explanatory Memorandum to the Tax Laws Amendment (Simplified Superannuation) Bill 2006, which introduced section 305-75 into the ITAA 1997, states that the existing tax treatment of superannuation benefits paid from non-complying superannuation plans would be maintained.

It should also be noted that subsection 1-3(2) of the ITAA 1997 states that where the ITAA 1936 expressed an idea in a particular form of words, and the ITAA 1997 appears to have expressed the same idea in a different form of words in order to use a clearer or simpler style; the ideas are not to be taken to be different just because different forms of words were used.

The intention of former section 27CAA of the ITAA 1936 is to include in a taxpayer's assessable income any amounts that accrue in a foreign superannuation fund that are attributable to the period that the taxpayer is a resident of Australia. This will usually be the investment earnings that accrue in the foreign superannuation fund during that period. This gives effect to the general policy that Australian residents should be taxed on their income from all Australian and foreign sources.

Central to the operation of former section 27CAA of the ITAA 1936 was the condition in former paragraph 27CAA(1)(d) that if the paying fund, that is, the foreign superannuation fund, was a superannuation fund the payment, ignoring former paragraph (ma) of the definition of 'eligible termination payment' under former subsection 27A(1) (the ETP definition), would have been an ETP.

This clearly indicates an intention that any payment from a foreign superannuation fund that satisfies this condition would be subject to tax under former section 27CAA of the ITAA 1936

Any payment made directly to either a dependant or non-dependant of a deceased by a foreign superannuation fund trustee could have qualified as an ETP on that basis under former paragraph (ba) of the ETP definition, which ensured all death benefits paid directly to beneficiaries are taxed as ETPs.

Former subsection 27CAA(6) of the ITAA 1936 provided a link to death benefit payments by its application to ETPs that were death benefits of deceased estates including both a death benefit paid to a trustee of a deceased estate, and a death benefit paid directly to a dependant or non-dependant of the deceased member.

It should be noted that a death benefit ETP under former paragraph (ba) of the ETP definition would recognise the period of membership of the deceased in the eligible service period of the ETP. Similarly, the undeducted contributions component of this death benefit ETP would also include the deceased's own contributions to the fund.

Former paragraph 27A(3)(b) of the ITAA 1936 ensures that the trustee of the deceased estate is assessed to the extent that the taxpayer would have been, had the payment been made to the taxpayer immediately before death. Similarly former section 27CAA should recognise the contributions made by or on behalf of the deceased in the same way. This would make it consistent with the treatment given to the payment had it been a death benefit ETP paid directly to the beneficiaries of the Estate.

From 1 July 2007 the 'applicable fund earnings' in relation to a superannuation lump sum from a foreign superannuation fund that is received more than six months after a person has become an Australian resident will be assessable under subdivision 305-B of the ITAA 1997. The remainder of the superannuation lump sum is not assessable income and is not exempt income.

As mentioned above, subdivision 305-B of the ITAA 1997 replaces former section 27CAA of the ITAA 1936 which, prior to 1 July 2007, assessed a portion of the payment from a foreign superannuation fund representing the earnings or growth that accrued in the fund during the period that the taxpayer was an Australian resident.

Subdivision 305-B of the ITAA 1997, which includes section 305-75, applies to death benefit lump sum payments from foreign superannuation funds paid directly to a dependant or non-dependant of the deceased member in the same manner that it applied to these payments under former section 27CAA of the ITAA 1936 as detailed above.

In the present case, the deceased became a non-resident of Australia for tax purposes when they left Australia to work in the overseas country a number of years ago. The deceased passed away in 20XX and the legal representatives of his Estate became entitled to the lump sum benefits (the death grant payments ) at that time.

In 20YY, the executors of the Estate, as the legal personal representatives of the deceased, received a death grant payment from Pension Scheme 1 and a death grant payment from Pension Scheme 2.

The two pension schemes advised the executors of the Estate that the death grant payments were not subject to inheritance tax in the overseas country.

Pension Scheme 1

The death grant payment from Pension Scheme 1 consists of the total amount of the contributions that were made to the particular scheme.

In considering whether there is an amount of assessable applicable fund earnings under section 305-70 of the ITAA 1997 in respect of the death grant payment from Pension Scheme 1 to the Estate, it can be established that the whole amount of the death grant payment consists entirely of the amount of the contributions that were made to the Pension Scheme 1.

Accordingly, no part of the death grant payment is assessable income to the Estate under section 305-70 of the ITAA 1997.

Pension Scheme 2

The transfer date in respect of the death grant payment from the Pension Scheme 2 is on a particular day in 20ZZ.

The deceased paid the total amount of Y as contributions into Pension Scheme 2.

A portion of the lump sum benefit (death grant payment paid by Pension Scheme 2) will be assessable under section 305-70 of the ITAA 1997.

The amount to be included as assessable income is calculated under subsection 305-75(2) of the ITAA 1997 because trustee of the deceased estate is considered an Australian resident (for Australian income tax purposes) at all times during the period to which the lump sum relates.

Subsection 305-75(2) of the ITAA 1997 states:

If you were an Australian resident at all times during the period to which the lump sum relates, the amount of your applicable fund earnings is the amount (not less than zero) worked out as follows:

(a) work out the total of the following amounts:

(i) the part of the lump sum that is attributable to contributions made by or in respect of you on or after the day when you became a member of the fund (the start day);

(ii) the part of the lump sum (if any) that is attributable to amounts transferred into the fund from any other foreign superannuation fund during the period;

(b) subtract that total amount from the amount in the fund that was vested in you when the lump sum was paid (before any deduction for foreign income tax);

(c) add the total of all your previously exempt fund earnings (if any) covered by subsections (5) and (6).

The calculation under this section effectively means that the Estate will be assessed only on the increase in the value of the deceased's entitlement in Pension Scheme 2 during the period the Estate was a resident taxpayer. That is, the Estate will only be assessed on the accretion in Pension Scheme 2 less any contributions made by the deceased to the pension scheme [per subparagraph 305-75(2)(a)(i)].

Foreign currency conversion

Subsection 960-50(1) of the ITAA 1997 states that an amount in a foreign currency is to be translated into Australian Dollars (AUD). The applicable fund earnings is the result of a calculation from two other amounts, and subsection 960-50(4) requires that when applying section 960-50 to amounts that are elements in the calculation of another amount, one needs to:

· first, translate any amounts that are elements in the calculation of other amounts (except special accrual amounts); and

· then, calculate the other amounts.

For the purposes of section 305-70 of the ITAA 1997, the applicable fund earnings should be calculated by:

· translating the lump sum payment received from the relevant pension plan at the exchange rate applicable on the day of receipt to AUD; and

· deducting from this amount the AUD equivalent of the payment vested in the relevant pension plan.

Calculation of Assessable Amount

As discussed previously, paragraph 305-75(2)(a) of the ITAA 1997 excludes the amount of the total contributions made to Pension Scheme 2 from being assessable as applicable fund earnings.

Paragraph 305-75(2)(b) of the ITAA 1997 requires that the total contributions amount be subtracted from the amount that was vested in the Estate when the lump sum was received.

In 20ZZ, the death grant payment was received by the Estate from Pension Scheme 2. Therefore this is the amount vested in the Estate when the lump sum was paid. This is converted into Australian dollars at the exchange rate that applied on that day which converts the amount of to AUD $A (cents ignored).

The total amount of the contributions made by the deceased to Pension Scheme 2 has been advised as Amount B for the year ended 30 June 20XX. This amount is converted into Australian dollars at the applicable exchange rate which converts the amount to AUD $C (cents ignored).

The previously exempt fund earnings in relation to the lump sum is $0 (Nil).

Therefore, applying subsection 305-75(2) to the circumstances, the amounts to be used in calculating the applicable fund earnings are as follows:

305-75(2)(a)(i) $A

305-75(2)(a)(ii) Nil

305-75(2)(b) $C

305-75(2)(c) Nil

Calculation of the assessable amount of the payment from foreign superannuation fund

In accordance with 305-75 (2) of the ITAA 1997 the amounts determined at sub-paragraphs 305-75(2)(a)(i) and (ii) are added.

$A + nil = $A

This total is then subtracted from the amount determined under paragraph 305-75(2)(b), $C .

$A less $C is $X

To this figure we add the amounts determined under paragraph 305-75(2)(c) - nil

$X + nil = $X

The amount $X is the applicable fund earnings which is to be included as assessable income of the Estate in the 20XX-yy income year.

Further issues for you to consider:

After the date of death, the deceased estate may receive income from various sources (including income sourced from overseas). A trust tax return will need to be lodged for the deceased estate if there is tax payable on assessable income.

The net income of the deceased estate is taxed either in the hands of the:

· beneficiaries who are presently entitled, or

· the executor.

Please refer to the Australian Taxation Office website for information regarding the above and further information for How deceased estate income is taxed for Australian resident beneficiaries.

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