Edited version of your written advice

Authorisation Number: 1051201730328

Date of Advice: 23 March 0217

Ruling

Subject: Foreign Income Tax Offset

Question 1

Are contributions towards Country A's Insurance Scheme a “substantially similar tax” imposed under the law of Country A for the purposes of Article X of Country A's Convention?

Answer

No

Question 2

Are contributions towards Country A's Insurance Scheme a foreign income tax for the purposes of subsection 770-15(1) of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No

Question 3

Can you claim a Foreign Income Tax Offset under subsection 770-15(1) of the ITAA 1997 for Country A's Insurance Scheme contributions deducted from your employment income in Country A?

Answer

No

This ruling applies for the following period:

Year ended 30 June 2016

The scheme commences on:

1 July 2015

Relevant facts and circumstances

You are an Australian resident for tax purposes.

You were working in Country A during the 2016 Financial Year.

Your employer in Country A deducted tax and an amount for Country A's Insurance Scheme from your wages.

Country A's Insurance Scheme contributions are levied by Country A's government on wages and goes towards an Insurance Scheme providing a pension and other welfare benefits.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 8-1,

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

Income Tax Assessment Act 1997 subsection 770-15(1),

International Tax Agreements Act 1953 section 4,

International Tax Agreements Act 1953 section 5,

Country A Convention Article X

Country A Convention Article Y, and

Country A Social Security Act paragraph X.

Reasons for decision

Question 1

Summary

Contributions towards Country A's Insurance Scheme are not a substantially similar tax imposed under the law of Country A for the purposes of Article X of Country A's Convention.

Detailed reasoning

Section 4 of the International Tax Agreements Act 1953 (Agreements Act) incorporates that Act with the Income Tax Assessment Act 1936 ITAA 1936 and the ITAA 1997 so that all three Acts are read as one. The Agreements Act overrides both the ITAA 1936 and ITAA 1997 where there are inconsistent provisions (except in some limited situations).

Section 5 of the Agreements Act states that, subject to the provisions of the Agreements Act, any provision in an Agreement listed in section 5 has the force of law. Country A's Convention is listed in section 5 of the Agreements Act.

Article Y of Country A's Convention prescribes methods of elimination of double taxation. Article Y provides:

1. Subject to the provisions of the laws of Australia from time to time in force which relate to the allowance of a credit against Australian tax of tax paid in a country outside Australia (which shall not affect the general principle of this Article):

(a) Country A tax paid under the laws of Country A and in accordance with this Convention, whether directly or by deduction, in respect of income or gains derived by a person who is a resident of Australia from sources in Country A shall be allowed as a credit against Australian tax payable in respect of that income.

The term Country A tax is defined in Article W of the Country A Convention to mean tax imposed by Country A being tax to which Country A's Convention applies by virtue of Article X. The existing taxes are specified in Article X of the UK Convention to be income tax, the corporation tax and the capital gains tax.

Country A's Insurance Scheme Contributions

Country A's Insurance Scheme is a scheme where people working in Country A make contributions towards certain benefits. These contributions must be made in order to qualify for the benefits of Country A's Insurance Scheme. There is a requirement to pay Insurance Scheme contributions if you are X years or older, an employee earning above X amount, or self-employed and making a profit of a certain amount or more a year.

The amount of potential state pension one receives is based on their Insurance Scheme contributions record over their working life until they reach pension age and not everyone gets the same amount. If one does not have enough contributions or credits for enough years to get a full state pension, they may be eligible for a reduced rate pension. Furthermore, taxpayers are able to pay voluntary contributions to fill in any gaps in their Insurance Scheme record so as to increase their state pension amount due to various reasons.

Are Country A's Insurance Scheme contributions a “substantially similar tax” to Country A's income tax for the purposes of Article X of Country A's Convention?

Article X of Country A's Convention states:

This Convention shall also apply to any identical or substantially similar taxes which are imposed under the federal law of Country B or the law of Country A after the date of signature of this Convention in addition to, or in place of, the existing taxes. The competent authorities of the Contracting States shall notify each other of any substantial changes that have been made in the law of their respective States relating to the taxes to which this Convention applies within a reasonable period of time after those changes.

There are significant differences between Country A's Insurance Scheme Contributions and Country A's income tax. Country A's Insurance Scheme Contributions and income tax are managed by the same department responsible for the collection of taxes in Country A; this does not mean they are both taxes. The ATO similarly collects payments that are not taxes such as HELP repayments; this does not class such payments as taxes. As stated by Deputy President Alpins in Confidential and Commissioner of Taxation [2014] AATA 961 (23 December 2014) [67] (Case 8/2014), “what matters in that regard is not the conduit used, but rather the destination of the funds and the purposes for which they may be used”.

In Country A, Insurance Scheme Contributions are paid into the Insurance Scheme Fund to provide unemployment benefits, sickness benefits, retirement pensions and other benefits in cases where individuals meet the contribution and other qualifying conditions while income tax flows into general revenue. Therefore, the specific use of the Insurance Scheme Fund is distinct from the general use of the monies in the consolidated fund.

Additionally, in line with paragraph 68 of Case 8/2014, although the imposition of Insurance Scheme Contributions and Country A's Income tax are both compulsory and imposed by law, this does not assist in determining that Insurance Scheme Contributions are a “substantially similar tax” to income tax. The fact that both are managed by the same department does not indicate a substantial similarity to an income tax.

While the value of an individual's contributions in terms of potential benefits is not linked to the Insurance Scheme contributions paid, whether or not an individual gets the full state pension is affected by any gaps in years of contributions. Case 8/2014 stated that despite the fact that contributors might not receive benefits proportional to their contributions or might not receive benefits at all; there could still be a direct connection between the contributions and the benefits received as long as such an entitlement arises by virtue of making the requisite contributions.

In your case, it is immaterial that there is no individual fund because entitlement to the benefits is limited to those who contribute, such as yourself. Paragraph X of Country A's Social Security Act states that the funds required for paying the benefits under the Act, or any other Act, are payable out of the Insurance Scheme Fund and not out of other public money. The types of benefits that contributors are entitled to are also dependent on the class of Insurance Scheme contributions paid. Lastly, entitlement to a contributory benefit depends on how long a contributor has paid in Insurance Scheme contributions. For these reasons, it is sufficient to conclude that there is a direct connection between the Insurance Scheme contributions and the benefits that flow from such contributions.

Just like the applicant in Case 8/2014, who was not entitled to benefits due to being a non-resident of Ireland, you are not entitled to the benefits stemming from Insurance Scheme Payments because you are not Country A's resident. However, in line with Case 8/2014, the character of Insurance Scheme Payments cannot be classed differently for you as compared to other contributors merely because your own circumstances are different.

Paragraph 3 of the OECD Model Tax Convention on Income and Capital 2014 (Model Tax Convention) commentary on Article 2 concerning taxes covered in the Convention states:

Social security charges, or any other charges paid where there is a direct connection between the levy and the individual benefits to be received, shall not be regarded as “taxes on the total amount of wages”.

In your case, there is a direct connection because entitlements to benefits such as pension arise if a recipient has made Insurance Scheme Payments and the benefits are funded by such contributions. The allowance of tax offsets provided in the Country A Agreement does not extend to Insurance Scheme Payments.

Insurance Scheme contributions are covered by the operation of Country A's tax avoidance legislation, however it must be noted that Insurance Scheme contributions are not referred to as a tax in any legislation, and rather are referred to purely as contributions to the Insurance Scheme Fund.

Therefore Insurance Scheme contributions are not a substantially similar tax to Country A's income tax for the purposes of Country A's Convention.

Question 2

Summary

Country A's Insurance Scheme contributions are not a foreign income tax for the purposes of subsection 770-15(1) of the ITAA 1997.

Detailed reasoning

According to subsection 770-15(1) of the Income Tax Assessment Act 1997 (ITAA 1997), to count towards a foreign income tax offset, foreign income tax must be imposed under a law other than an Australian law and be:

A tax on income; or

A tax on profits or gains, whether of an income or capital nature; or

Any other tax that is subject to an agreement covered by the International Tax Agreements Act 1953.

The foreign income tax offset rules are designed to protect you from the double taxation that may arise where you pay foreign tax on income that is also taxable in Australia. This is achieved by allowing you to claim a tax offset where you have paid foreign tax on amounts included in your assessable income.

Paragraph 5 of Taxation Ruling IT 2437 Income tax: foreign tax credit system- foreign taxes eligible for credit against Australian income tax explains that foreign tax must be imposed on a basis substantially equivalent to that on which the Income Tax Assessment Act operates. This means that it must be imposed on the basis of a taxpayer's net income or gains, whether of an income or capital nature.

Country A's Insurance Scheme contributions are taken out by the employer before employees get paid. This is not taken out based on a taxpayer's net income. This means that Country A's Insurance Scheme contributions are not imposed on a basis substantially equivalent to that on which the Income Tax Assessment Act operates and thus does not qualify as foreign income tax. This is further supported by the commentary in the OECD's Model Taxation Agreement that social security charges such as Country A's Insurance Scheme contributions shall not be regarded as taxes on the total amount of wages.

A review written on Country A's Insurance Scheme contributions stated that Country A's Insurance Scheme contributions is underpinned from general taxation so the overall practical impact of the Insurance Scheme contributions is merely an accounting curio. According to subsection 770-15(1) of the ITAA 1997, to count towards a foreign income tax offset, foreign income tax must be imposed under a law other than an Australian law. As explained in the foreword of the review, this review was merely discussing if the alignment of Income Tax and Country A's Insurance Scheme was a realistic idea. Its recommendations have not been given legislative force nor implemented into the operation of the collection of the collection of the Insurance Scheme Payments. While Country A's Insurance Scheme contributions are imposed under Country A Social Security Act, this is not sufficient to qualify as a foreign income tax imposed under a law other than an Australian law for the reason that Insurance Scheme contributions are not foreign income tax.

Country A's Insurance Scheme Payments therefore are not a foreign income tax for the purposes of subsection 770-15(1) of the ITAA 1997.

Question 3

Summary

You cannot claim a Foreign Income Tax Offset under subsection 770-15(1) of the ITAA 1997.

Detailed reasoning

The payments taken directly from your salary in Country A as a contribution to Country A's Insurance Scheme are not a tax on income, or a tax on profits or gains, or a tax that is subject to an agreement covered by the International Tax Agreements Act 1953.

Therefore, you are not entitled to a foreign income tax offset pursuant to subsection 770-15(1) of the ITAA 1997 for Country A's Insurance Scheme contributions taken directly from your salary in Country A.

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