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Ruling

Subject: Assessability of foreign income

Questions and answers

Question:

Are the dividends you received from shares held in an overseas company assessable income in Australia?

Answer:

Yes.

Question:

Are you entitled to claim a franking credit?

Answer:

No.

This ruling applies for the following periods:

Year ending 30 June 2012

The scheme commenced on:

1 July 2011

Relevant facts and circumstances:

You are a resident of Australia for taxation purposes.

You receive dividends from company overseas.

The dividends in the overseas country attract 40% tax made up of the normal 25% company tax and 15% tax for individuals who receive the dividend.

The dividends are paid from profits of the company.

Relevant legislative provisions:

Income Tax Assessment Act 1936 Subsection 44(1)

Income Tax Assessment Act 1997 Section 6-10

Income Tax Assessment Act 1997 Section 10-5

Income tax Assessment Act 1997 Div 700

Income Tax Assessment Act 1997 Div 700-10

Income tax Assessment Act 1997 Div 777-75

International Tax Agreements Act 1953 Section 4

International Tax Agreements Act 1953 Article 10

International Tax Agreements Act 1953 Article 23

Reasons for decision

Section 6-10 of the ITAA 1997 provides that a taxpayer's assessable income includes statutory income amounts that are not ordinary income but are included in assessable income by another provision. The assessable income of an Australian resident includes statutory income from all sources, whether in or out of Australia (subsection 6-10(4) of the ITAA 1997).

Section 10-5 of the ITAA 1997 lists those provisions about assessable income. Included in this list is subsection 44(1) of the Income Tax Assessment Act 1936 (ITAA 1936) which deals with dividends. Subsection 44(1) of the ITAA 1936 provides that the assessable income of a resident shareholder of a company (whether the company is a resident or a non resident) shall include dividends paid by the company out of profits derived by it from any source.

"In determining your liability to pay tax in Australia it is necessary to consider not only the domestic income tax laws but also any applicable double tax agreements.

Section 4 of the International Tax Agreements Act 1953 (Agreements Act) incorporates that Act with the 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. The overseas country Agreement is listed in section 5 of the Agreements Act.

The agreement is located on the Austlii website (www.austlii.edu.au) in the Australian Treaties Series database. The agreement operates to avoid the double taxation of income received by residents of Australia and The overseas country.

Article 10(1) of the Agreement provides that dividends paid by the overseas country company to a resident of Australia may be taxed in Australia.

Article 10(2) of the Agreement provides that the dividends may also be taxed in the overseas country but that the rate of tax is not to exceed 15% of the gross amount of the dividends.

Article 23(1) of the Agreement provides that, subject to the provisions of the law of Australia, a credit for any tax paid in the overseas country will be allowed against Australian tax payable on income from the overseas sources.

The dividend income you received from the overseas country forms part of your assessable income in Australia.

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.

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.

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 FITOs will need to be utilised 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 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.

As foreign tax has been paid in relation to this income a foreign tax credit will be allowed. If the overseas country tax paid on the dividends is less than the Australian tax that will be payable, the taxpayer will be entitled to a full credit for the overseas tax paid.

Franking credit

Dividends paid to share holders by Australian resident companies are taxed under a system known as imputation.

It is called an imputation system because the tax the company pays is imputed, or attributed, to the shareholders. The tax paid by the company is allocated to shareholders by franking credits attached to the dividends they receive.

You include an amount equal to the franking credit attached to your dividend in your assessable income.

The company is not a resident Australian company and therefore no franking credit refund is available to you.