Edited version of your written advice

Authorisation Number: 1012810189023

Ruling

Subject: Lump sum transfer from a foreign pension fund

Questions

1. Is any part of the lump sum payment received from a foreign pension fund assessable to the taxpayer as applicable fund earnings under section 305-70 of the Income Tax Assessment Act 1997 (ITAA 1997)?

2. Is the taxpayer entitled to receive a foreign income tax offset in relation to the foreign tax deducted from the pension lump sum by the overseas country?

Answers

1. Yes.

2. Yes.

This ruling applies for the following period:

Year ending 30 June 2015

The scheme commences on:

1 July 2014

Relevant facts and circumstances

The taxpayer arrived in Australia from an overseas country during the 2008-09 income year and has been an Australian resident for tax purposes since that date.

The taxpayer became a permanent resident of Australia during the 2009-10 income year.

The taxpayer held an interest in a pension scheme established and controlled in the overseas country (Fund A).

Fund A permits the taxpayer to make one lump sum withdrawal (full or partial) before they reach retirement age, with the remainder of the benefits being payable upon retirement.

During the 2012-13 income year, the taxpayer started a pension account with a different pension scheme established and controlled in the overseas country (Fund B).

The taxpayer then moved all of the funds in Fund A to Fund B. There were no other contributions or pension amalgamations to Fund B.

The benefits in Fund B are only payable in the overseas country when retirement age is reached.

During the 2014-15 income year, the taxpayer received a lump sum payment from Fund B. An amount was deducted from the lump sum payment by the overseas country as income tax.

Relevant legislative provisions

Income Tax Assessment Act 1997 subsection 295-95(2)

Income Tax Assessment Act 1997 section 305-70

Income Tax Assessment Act 1997 section 305-75

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 section 770-10

Income Tax Assessment Act 1997 subsection 770-10(1)

Income Tax Assessment Act 1997 section 770-75

Income Tax Assessment Act 1997 subsection 770-75(1)

Income Tax Assessment Act 1997 subsection 770-75(2)

Income Tax Assessment Act 1997 section 960-50

Income Tax Assessment Act 1997 subsection 960-50(1)

Income Tax Assessment Act 1997 subsection 960-50(4)

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

A portion of the lump sum payment received by the taxpayer from Fund B should be included as assessable 'applicable fund earnings' in the taxpayer's income tax return for the 2014-15.

The taxpayer is eligible for a foreign income tax offset for the tax that has already been paid on the lump sum transfer from Fund B.

Detailed reasoning

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 ITAA 1997.

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

'Foreign superannuation fund' is defined in subsection 995-1(1) of the ITAA 1997 as a superannuation fund that is not an Australian superannuation fund.

Relevantly, in accordance with subsection 295-95(2) of the ITAA 1997, a superannuation fund is an Australian superannuation fund at a time, and for the income year in which that time occurs, if:

(a) the fund was established in Australia, or any asset of the fund is situated in Australia at that time; and

(b) at that time, the central management and control of the fund is ordinarily in Australia; and …

Based on the above, a superannuation fund or scheme 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.

In accordance with subsection 995-1(1) of the ITAA 1997, the term 'superannuation fund' has the meaning given by section 10 of the Superannuation Industry (Supervision) Act 1993 (SISA) which states:

Superannuation fund means:

(a) a fund that:

(i) is an indefinitely continuing fund; and

(ii) is a provident, benefit, superannuation or retirement fund; or

(b) a public sector superannuation scheme.

The High Court examined what it means to be a 'provident, benefit, superannuation or retirement fund' in Scott v. Federal Commissioner of Taxation (No. 2) (1966) 10 AITR 290; (1966) 40 ALJR 265; (1966) 14 ATD 333 and in Mahony v. Federal Commissioner of Taxation (1967) 41 ALJR 232; (1967) 14 ATD 519. It was held that such a fund meant:

• Money (or investments) set aside and invested, with the surplus income being capitalised;

• For a purpose narrower than the purpose of conferring benefits in a completely general sense. This narrower purpose meant that the benefits had to be 'characterised by some specific future purpose.'

In accordance with section 62 of the SISA (Sole purpose test), a regulated superannuation fund must be maintained solely for the provision of benefits specified in subsection 62(1) of the SISA. The 'core purposes' specified in that subsection relate to providing retirement or death benefits for, or in relation to, fund members; and the 'ancillary purposes' relate to the provision of benefits on the cessation of a member's employment and other death benefits and other approved benefits.

Notwithstanding that the SISA does not apply to foreign superannuation funds, the Commissioner views the SISA (and the Superannuation Industry (Supervision) Regulations 1994 (SISR)) as providing guidance as to what 'benefit' or 'specific future purpose' a superannuation fund should provide.

In this case, it is evident that both Fund A and Fund B were established outside of Australia and their central management and control is outside of Australia.

Based on the above, and the fact that the information provided indicates that the taxpayer's benefits in Fund B were only payable upon retirement, the Commissioner considers that Fund B is a foreign superannuation fund as defined in subsection 995-1(1) of the ITAA 1997.

By contrast, Fund A permits the taxpayer to make one partial (or full) cash withdrawal at any time before they retire. This means that Fund A would confer benefits in a completely general sense as opposed to being 'characterised by some specific future purpose.' As such, Fund A is not a foreign superannuation fund.

In view of this, section 305-70 of the ITAA 1997 applies to the lump sum payment received from Fund B. The taxpayer is required to include in their assessable income so much of the lump sum as is equal to their applicable fund earnings.

Applicable fund earnings

The 'applicable fund earnings' amount is worked out under section 305-75 of the ITAA 1997. As the taxpayer became a member of Fund B after they became a resident of Australia, the taxpayer was an Australian resident at all times during the period to which the lump sum relates. Therefore, the taxpayer's applicable fund earnings are worked out in accordance with subsection 305-75(2) of the ITAA 1997 which 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 effect of subsection 305-75(2) of the ITAA 1997 is that the taxpayer is assessed only on the income they earned on their benefits in Fund B, plus any previously exempt fund earnings. Any transfers or contributions into the paying fund do not form part of the taxable amount when the overseas benefit is paid.

Previously exempt fund earnings

The definition of previously exempt fund earnings is outlined in subsection 305-75(5) of the ITAA 1997, which states:

You have an amount of previously exempt fund earnings in respect of the lump sum if:

(a) part or all of the amount in the fund that was vested in you when the lump sum was paid (before any deduction for foreign tax) is attributable to the amount; and

(b) the amount is attributable to a payment received from a foreign superannuation fund; and

(c) the amount would have been included in your assessable income under subsection 305-70(2) by the application of this section, but for the payment having been received by another foreign superannuation fund.

In the taxpayer's case, a portion of the lump sum received from Fund B is attributable to amounts previously earned in Fund A. However, as stated earlier, Fund A is not a foreign superannuation fund. This means that the requirement under paragraph 305-75(5)(b) is not satisfied. The amount of previously exempt fund earnings in this case is thus zero.

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. The applicable fund earnings is the result of a calculation from two other amounts and subsection 960-50(4) of the ITAA 1997 states that when applying section 960-50 of the ITAA 1997 to amounts that are elements in the calculation of another amount you need to:

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

• then, calculate the other amounts.

In ATO Interpretative Decision ATO ID 2015/7, the Commissioner considered the foreign currency translation rules in relation to lump sum transfers from foreign superannuation funds. The Commissioner determined that it is reasonable to use the exchange rate applicable at the time of receipt of the lump sum to work out the Australian dollar equivalents of the amounts attributable to contributions and transfers from foreign funds.

Therefore, for the purposes of section 305-70 of the ITAA 1997, the 'applicable fund earnings' amount in respect of the lump sum received from Fund B should be calculated by deducting the parts of the lump sum attributable to contributions and transfers from foreign superannuation funds from the total amount of the lump sum. All amounts in the calculation should be translated into Australian dollars using the exchange rate applicable on the day of receipt.

Applicable fund earnings amount - Calculation

The calculation of the applicable fund earnings for the lump sum received from Fund B is shown in the table below with reference to the facts of the case. As discussed above, any amounts in a foreign currency are to be translated into Australian dollars using the exchange rate applicable on the day of receipt.

The result of this calculation above is the portion of the lump sum payment transferred from Fund B to the taxpayer which must be included as assessable 'applicable fund earnings' in the taxpayer's income tax return for the 2014-15 income year.

Foreign income tax offset

With effect from 1 July 2008, the foreign tax credit (FTC) system has been replaced by the foreign income tax offset (FITO) system contained in Division 770 of the ITAA 1997.

Subsection 770-10(1) of the ITAA 1997 provides that a person is entitled to a FITO for foreign tax paid in respect of an amount that is included in the person's assessable income in a year of income. It is not necessary that the payment of foreign income tax actually occurs in the claim year.

To determine the amount of FITO in any particular year, a person must first calculate the total foreign income tax paid on amounts included in their assessable income for the year. In the taxpayer's case, they will need to include an amount of applicable fund earnings in their assessable income and work out the total foreign income tax paid on this amount.

The tax offset has the effect of reducing the Australian tax that would otherwise be payable on the double-taxed amount. A FITO is a non-refundable tax offset.

The FITO rules do not allow for the carry forward of excess foreign tax. This means that all available FITO will need to be utilized in the year in which they arise. There will be no opportunity to carry them forward for use against future Australian tax on foreign income.

Furthermore, there is a FITO limit. Where the total foreign income tax paid by a person is less than or equal to $1,000, the person is not required to calculate the FITO, i.e. the person's FITO will equal the foreign income tax paid on amounts included in the their assessable income.

Where the total foreign income tax paid is more than $1,000, the person can choose to offset only $1,000 of foreign tax (and not formally calculate the FITO entitlement) or calculate the offset limit to determine the maximum FITO entitlement under section 770-75 of the ITAA 1997.

In the taxpayer's case, an amount of applicable fund earnings must be included in their assessable income for the 2014-15 income year. If the amount of foreign tax paid on the amount of applicable fund earnings is less than $1,000, they can claim the total tax paid as a FITO. If the amount of tax paid is greater than $1,000 they can claim a FITO of either $1,000 or an amount calculated in accordance with subsection 770-75 of the ITAA 1997.

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