Edited version of private advice

Authorisation Number: 1051822836045

Date of advice: 1 April 2021

Ruling

Subject: Foreign exchange gains

Question 1

Will the realised foreign currency gain on the funds withdrawn from the foreign currency denominated bank account be disregarded under subsection 775-15(2) of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No.

Question 2

Will the realised foreign currency gain on the funds withdrawn from the foreign currency denominated bank account bank account be an assessable capital gain under Part 3-1 of the Income Tax Assessment Act 1997?

Answer

Yes.

However section 118-20 of the ITAA 1997 (commonly known as the CGT anti-overlap provision) provides that any capital gain you make from a CGT event is reduced by any amounts that are also declared as assessable income as a result of the CGT event occurring (and this would include a forex gain resulting from Forex Realisation Event 2).

This ruling applies for the following period:

Year ended 30 June 20XX

The scheme commenced on:

1 July 20XX

Relevant facts and circumstances

You are a resident of Australia for taxation purposes.

You accepted a job in Country A and made all the arrangements to move to that country.

However shortly after that, with the onset of COVID-19, moving to Country A was no longer a viable option.

As part of the arrangements put in place with the intention of moving to Country A for employment, in late 20XX you transferred an amount of money from your Australian bank account (in AUD) to a foreign currency denominated bank account with the intention to use the funds to purchase a house in Country A as your residence.

The account was non-interest-bearing facility and therefore did not derive any income from the holding of funds.

Whilst the funds were held in your foreign currency denominated bank account, there were no other transactions made for any other purposes. As such the sole purpose for holding the funds in that bank account was provision for the purchase of a residence in which you were to live in Country A.

However, as the move did not transpire, in early 20XX you subsequently transferred the money from the foreign currency denominated bank account back to your Australian bank account (in AUD). As a result, you derived a foreign currency exchange gain.

The funds were then used to purchase a house in Australia as their main residence.

Relevant legislative provisions

Income Tax Assessment Act 1997 Part 3-1

Income Tax Assessment Act 1997 Division 775

Income Tax Assessment Act 1997 Section 108-5

Income Tax Assessment Act 1997 Section 108-20

Income Tax Assessment Act 1997 Section 110-25

Income Tax Assessment Act 1997 Section 118-10

Income Tax Assessment Act 1997 Part 3-3

Income Tax Assessment Act 1997 Division 775

Income Tax Assessment Act 1997 Section 775-45

Income Tax Assessment Act 1997 Section 775-15

Reasons for decision

Question 1

Division 775 of the Income Tax Assessment Act 1997 (ITAA 1997) applies to the realisation of assets, rights (or part of rights) and obligations (or part of obligations) and explains how to calculate forex gains and losses that are attributable to currency exchange rate fluctuations. Bank accounts are considered to be rights or obligations. The relationship between banker and customer in respect of a bank account is that of debtor and creditor.

Each deposit one makes to the account does not represent a new contract. Rather, the nature of the contractual relationship remains constant. That is, there is a single chose in action in respect of the customer's right to be repaid the amount previously deposited. Thus, when a customer deposits money into a bank account with a credit balance, the customer acquires a contractual right as a creditor of the bank. Those rights are extinguished or satisfied to the extent to which an amount is withdrawn from the account.

If you are an Australian resident, you make a forex realisation gain or loss on withdrawals and transfers from a foreign currency denominated bank account (with a credit balance). The holder of a foreign currency denominated bank account has a contractual right (a chose in action) under a single contract with the bank, to receive amounts previously deposited.

When withdrawing or transferring money from a bank account that has a credit balance, those previously acquired rights are extinguished or satisfied to the extent of the withdrawal.

Under Division 775, a forex realisation gain or loss is made when a forex realisation event happens to an asset, right or an obligation. Withdrawals from a foreign currency denominated bank account with a credit balance is a forex realisation event 2 (FRE2) pursuant to section 775-45. The relevant right is created at the time the foreign currency was deposited into the account pursuant to subparagraph 775-45(1)(b)(iii). Subsection 775-45(2) then provides that the time of the FRE 2 is when the right or part of the right ceases.

Your right to receive the balance standing to the credit of your bank account in Ireland is a relevant right within the terms of subparagraph 775-45(1)(b)(iii). Pursuant to subsection 775-45(2), FRE 2 happens to the taxpayers upon withdrawing amounts from the savings account in Israel.

A forex realisation gain or loss arises under subsections 775-45(3) or 775-45(4) when an amount is withdrawn from the savings account. The currency exchange effect is the difference in the exchange rate of the Australian dollar value of amounts deposited into the bank account. The difference is brought to account as assessable income under section 775-15 or an allowable deduction under section 775-30.

Forex realisation gains and losses of a private or domestic nature

The general deduction provision section 8-1 of the ITAA 1997 disallows a deduction for a loss or outgoing to the extent that it is of a private or domestic nature. Division 775 mirrors the same concept to disallow a forex realisation gain or loss to the extent to which that gain or loss is of a private or domestic nature pursuant to subsections 775-15(2) and 775-30(2).

There is no definition of private and domestic contained in the Income Tax Assessment Act 1997. Therefore both words take on their ordinary meaning. The ordinary meaning of private is 'belonging to or for the use of one particular person or group of people only' and that of domestic, 'relating to the running of the house or to family relations'. It is our view that whether a forex gain or loss from a bank is private or domestic is ultimately determined by the dominant purpose for which the bank account is held. Other factors may be of assistance (but not determinative) include:

• The character of the right held by the taxpayer;
• The source of the funds used to open the account;
• The nature of the deposits and withdrawals from the account;
• The intention to earn interest from the account.

A bank account will usually not be of a private or domestic nature where the principle purpose of the account is business or commercial. For example, where the account is a term investment or carries a significantly higher rate of interest, or where the account is held to speculate on currency exchange rate movements.

Application to your circumstances

You used the foreign currency denominated bank account for the sole purpose of holding funds for a property purchase in anticipation of you moving to Country A, which you intended to live in.

Whilst the funds were held in your foreign currency denominated bank account, there were no other transactions made for any other purposes. As such the sole purpose for holding the funds in that bank account was provision for the purchase of a residence in which you were to live in Country A.

The account was non-interest-bearing facility and therefore did not derive any income from the holding of funds.

However, as the move did not transpire, in early 20XX you subsequently transferred the money from the foreign currency denominated bank account back to your Australian bank account (in AUD). As a result, you derived a foreign currency exchange gain.

Based on these circumstances your foreign currency denominated bank account is private or domestic in nature.

CGT Provisions

The CGT provisions capture some gains and losses of a private and domestic nature under Part 3-1 or 3-3 of the ITAA 1997. The table in subsection 775-15(2)(b) provides that a forex realisation gain will be assessable even if the gain is of a private or domestic nature by virtue of:

Item 1- FRE 2 happens to a foreign currency or a right or part of a right to receive foreign currency, and gain from the realisation event be taken into account for CGT purposes;

Note: the table in subsection 775-15(2)(b) also provides that a forex realisation gain will be assessable even if the gain is of a private or domestic nature by virtue of:

Item 2- FRE 2 happens to a right, or a part of a right, created or acquired in return for the occurrence of a realisation event in relation to a CGT asset you own, where subparagraph 775-45(1)(b)(iv) applies foreign currency or a right or part of a right to receive foreign currency, and gain from the realisation event be taken into account for CGT purposes;

Item 3 - FRE 4 happens to an obligation, or a part of an obligation, you incurred in return for the acquisition of a CGT asset.

However, Item 2 and Item 3 do not apply in your situation, as your forex gain was brought forth by FRE2 (not by FRE4), and the right to receive the foreign currency was not acquired in return for a realisation event to a CGT asset you owned, as no CGT asset was sold (i.e. you did not end up purchasing any property in Country A).

Thus, had you have purchased the foreign property, Item 2 of the table in subsection 775-15(2)(b) would have applied to your situation.

However, as this did not eventuate, Item 1 in the table in subsection 775-15(2)(b) will apply to your situation.

'Foreign currency' itself is clearly listed as a CGT asset under section 108-5 of the CGT provisions even though the bank account itself is a chose in action. The chose in action is the ability to require payment of the account balance, or part of it, on demand. The debtor/creditor relationship between the bank and the account holder is nevertheless a CGT asset which is a legal right that is not property (subsection 108-5(1)(b)).

As the bank account is one asset, each deposit adds to its cost base and reduced cost base whilst each withdrawal constitutes a part ending or part satisfaction of the debt asset. Each withdrawal will constitute CGT event C2 happening to the relevant part of the asset (the amount withdrawn).

In working out a net capital gain or a net capital loss, the capital loss one makes from a personal use asset is disregarded under subsection 108-20(1) of the ITAA 1997. A capital gain you make from a personal use asset is disregarded if the first element of the asset's cost base is $10,000 or less under subsection 118-10(3) of the ITAA 1997. The definition of a personal use asset is 'a CGT asset that is used or kept mainly for your personal use or enjoyment' (paragraph 108-20(2)(a)).

Application to your circumstances

Your foreign currency denominated bank account (the relevant CGT asset) is not an interest bearing account, and as you have demonstrated, was principally used for private transactions. As such, your foreign currency denominated bank account is considered to be a 'personal use asset' for CGT purposes.

Accordingly, forex realisation gains made when withdrawing amounts from your foreign currency denominated bank account are of a private or domestic nature and will be disregarded under paragraph 775-15(2)(a) of the ITAA 1997 unless the first element of the cost base of the asset is over $10,000 in which case subsection 775-15(2)(b) of the ITAA 1997 will apply and the forex gain will be treated as assessable income.

First element of cost base

Subsection 110-25(2) of the ITAA 1997 provides that the first element of cost base is:

... the total of:

(a)  The money you paid, or are required to pay, in respect of acquiring it; and

(b)  The market value of any other property you gave, or are required to give, in respect of acquiring it (worked out at the time of the acquisition)

The original amount deposited into your foreign currency denominated bank account (which was over AUD $10,000) is the amount that gives rise to the chose in action (the debt owed by the bank), which is the relevant CGT asset.

In addition, as there were no other transactions made in your foreign currency denominated bank account for the relevant period (late 2019 to early 2020) your foreign currency denominated bank account has always had a balance greater than AUD $10,000.

Therefore, the first element of cost base for your foreign currency denominated bank account is over the $10,000 amount specified in subsection 118-10(3) of the ITAA 1997 meaning subsection 108-20(1) of the ITAA 1997 will not disregard any gain for this personal use asset. As the gain from any realisation event would, apart from Division 775 of the ITAA 1997, be taken into account under Parts 3-1 or 3-3 of the ITAA 1997, this in turn means that any forex gain in relation to your foreign currency denominated bank account will be assessable income under section 775-15 of the ITAA 1997.

Question 2

As noted above, in your case CGT event C2 occurred when the funds were withdrawn from the foreign currency denominated account.

However, section 118-20 of the ITAA 1997 (commonly known as the CGT anti-overlap provision) provides that any capital gain you make from a CGT event is reduced by any amounts that are also declared as assessable income as a result of the CGT event occurring (and this would include a forex gain resulting from FRE2).

Therefore, any capital gain made from the CGT C2 event will be reduced by the amount included in assessable income under subsection 775-15(1) of the ITAA 1997 by virtue of section 118-20 of the ITAA 1997.

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