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Ruling

Subject: Foreign income - Australian Defence Force

Question 1

Are the salary and allowances you earned in Country X while employed by the Australian Defence Force (ADF) exempt from tax in Australia under section 23AG(1) of the Income Tax Assessment Act 1936 (ITAA 1936)?

Answer

Yes.

This ruling applies for the following periods:

Year ending 30 June 2012

Year ending 30 June 2013

Year ending 30 June 2014

Year ending 30 June 2015

The scheme commences on:

1 July 2011

Relevant facts and circumstances

You are an Australian resident for tax purposes.

You are a member of the Australian Defence Force (ADF) and you will be working in Country X.

Your employment is for a period of three years as part of the Australian Defence staff, supporting the Defence Cooperation Program between Australia and Country X.

ADF will pay your salary, attraction allowance, hardship allowance and an overseas living allowance.

You will accrue 30 days per year recreation leave as a result of your employment in Country X.

You are likely to expend this recreation leave primarily in Australia. However, you may visit other countries other than Country X. While in Australia, you will not perform any work related duties.

Country X has a tax system in place that taxes employment income.

There is a tax treaty between Australia and Country X.

Your foreign income is exempt from tax in Country X as a result of a MOU between Australia and Country X and an Agreement between Australia and Country X.

Relevant legislative provisions

Income Tax Assessment Act 1936 Subsection 23AG(1).

Income Tax Assessment Act 1936 Subsection 23AG(1AA).

Income Tax Assessment Act 1936 Subsection 23AG(2).

Income Tax Assessment Act 1936 Paragraph 23AG(2)(b).

Income Tax Assessment Act 1936 Subsection 23AG(7)

International Tax Agreements Act 1953 Section 3AAA

International Tax Agreements Act 1953 Section 5

Reasons for decision

Subsection 23AG(1) of the Income Tax Assessment Act 1936 (ITAA 1936) provides that foreign earnings of an Australian resident derived during a continuous period of foreign service at least 91 days of employment in a foreign country are exempt from tax in Australia. Foreign earnings include income consisting of salary, wages, bonuses or allowances (subsection 23AG(7) of the ITAA 1936).

The salary you receive from your foreign employment is considered to be derived from your foreign service.

The allowances are designed to cover various costs and hardship of the foreign service. As they are paid to compensate for costs arising from the foreign service and for the hardship attributable to the foreign service, they are considered to be derived from your foreign service.

Therefore, your salary and overseas allowances are foreign earnings from foreign service for the purposes of subsection 23AG(1) of the ITAA 1936.

However, subsection 23AG(2) of the ITAA 1936 provides that the exemption in subsection 23AG(1) of the ITAA 1936 will not apply where the income is exempt from income tax in the foreign country because of any of the conditions listed in this section. One of the reasons listed is where the income earned by the resident in the foreign country is made exempt by the operation of a tax treaty (paragraph 23AG(2)(b) of the ITAA 1936).

It is therefore necessary to consider not only the income tax laws but also any applicable tax treaty.

Australia has a tax treaty with Country X. The Country X Agreement operates to avoid the double taxation of income received by residents of Australia and Country X.

An article of the Country X Agreement provides that remuneration paid by Australia to any individual in respect of services rendered in the discharge of governmental functions shall be taxable only in Australia.

Your salary and allowances you earn while posted in Country X are exempt from tax in Country X in accordance with the provisions of the Australian treaty (Treaty) between Australia and Country X which grants exemption from income taxes or other taxes on salaries and allowances.

As a result, your salary and allowances are not exempt from tax in Country X solely because of any of the reasons listed in subsection 23AG(2) of the ITAA 1936. Therefore, subsection 23AG(2) of the ITAA 1936 do not operate to deny the foreign earnings exemption under subsection 23AG(1) of the ITAA 1936.

As from 1 July 2009, subsection 23AG(1AA) of the ITAA 1936 provides that foreign earnings derived by an Australian resident from 91 days continuous foreign service will only be exempt if the foreign service is directly attributable to:

· the delivery of Australia's overseas aid program by the individual's employer;

· the activities of the individual's employer in operating a developing country relief fund or an overseas public disaster relief fund;

· the activities of the individual's employer, being a prescribed institution that is exempt from Australian income tax.

· the individual's deployment outside Australia by an Australian government (or an authority thereof) as a member of a disciplined force.

· an activity of a kind specified in regulations.

Accordingly, as you are working in Country X for a period of at least 91 days, as part of the ADF staff, your salary and allowances from Country X are exempt from tax in Australia under subsection 23AG(1) of the ITAA 1936.

Note

Foreign earnings exempt under section 23AG of the ITAA 1936 are taken into account in calculating the tax payable on other income derived by a taxpayer. This method of calculation referred to as exemption with progression prevents the exempt income from reducing the Australian tax payable on the other income. This income needs to be included as exempt foreign salary and wages income in your Australian tax return.