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Ruling

Subject: Lump sum payment from an overseas pension scheme

Question

Is any part of a lump sum payment received from an overseas pension scheme, included in your client's assessable income as applicable fund earnings under section 305-70 of the Income Tax Assessment Act 1997?

Advice/Answer:

Yes.

This ruling applies for the following period

Year ending 30 June 2012

The scheme commenced on

1 July 2011

Relevant facts

Your client, who is over 55 years of age, worked for an overseas government for more than ten years until your client resigned. A document issued to your client by the overseas government states the amount of your client's salary per month on the day before your client resigned.

After a few years your client arrived in Australia and became a resident of Australia for taxation purposes.

Under the relevant overseas legislation, your client is entitled to a retirement benefit upon reaching a specified age. Your client reached that specified age in the relevant income year.

All benefits were paid out of the general revenue of the overseas government.

No contributions were made by your client or an employer in order to obtain benefits under the relevant overseas legislation. The benefit is calculated according to a number of formulae relating to pensionable emoluments and length of service.

Under the relevant overseas legislation your client may elect to take up to a maximum percentage of the retirement benefit as a lump sum with the balance payable as a pension. In this case, your client has elected to receive that maximum percentage of the retirement benefit as a lump sum and the remainder as a pension.

A document was issued to your client by overseas government which provided the following information:

(a) Unreduced Annual Pension at date of resignation/retirement;

(b) Rate of Reduced Annual Pension finally opted before payment;

(c) Reduced Annual Pension at date of resignation/retirement;

(d) Commuted Pension Gratuity at date of resignation/retirement;

(e) Cumulative Pension Increase Factor since the date of resignation/retirement;

(f) Revised Reduced Annual Pension payable;

(g) Revised Commuted Pension Gratuity payable.

The document further states that the deferred pension benefits became payable to your client from the second quarter of the relevant income year.

You state that at the same time, a lump sum payment was deposited directly into your client's Australian Bank account.

The lump sum payment is not taxable in the overseas country. The ongoing annual pension is assessable in the foreign country.

A letter from the overseas government advised the value of the cumulative pension increase factor as at the date your client became a resident of Australia.

Relevant legislative provisions

Income Tax Assessment Act 1997 Subsection 295-95(2).

Income Tax Assessment Act 1997 Subsection 305-55(2).

Income Tax Assessment Act 1997 Section 305-70.

Income Tax Assessment Act 1997 Subsection 305-70(2).

Income Tax Assessment Act 1997 Paragraph 305-70(2)(a).

Income Tax Assessment Act 1997 Subsection 305-70(3).

Income Tax Assessment Act 1997 Subsection 305-75(2).

Income Tax Assessment Act 1997 Subsection 305-75(3).

Income Tax Assessment Act 1997 Paragraph 305-75(3)(a).

Income Tax Assessment Act 1997 Paragraph 305-75(3)(b).

Income Tax Assessment Act 1997 Paragraph 305-75(3)(c).

Income Tax Assessment Act 1997 Paragraph 305-75(3)(d).

Income Tax Assessment Act 1997 Section 305-80.

Income Tax Assessment Act 1997 Subsection 305-80(1).

Income Tax Assessment Act 1997 Paragraph 305-80(1)(d).

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.

Reasons for decision

Summary

A portion of the lump sum payment your client received from the overseas pension scheme is assessable as 'applicable fund earnings'. The applicable fund earnings represents the increase or growth in the foreign pension scheme during the period your client is a resident of Australia.

The applicable fund earnings have been determined and is the assessable amount to be included in your client's income tax return for the relevant income year. This amount is assessable in Australia, notwithstanding that the lump sum payment is not taxable in the overseas country, and is subject to tax at your client's marginal rate of tax.

The remainder of the lump sum payment of is not assessable income and is not exempt income. As such, this amount is tax-free.

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 transferred or received more than six months after a person has become an Australian resident will be assessable under section 305-70 of the Income Tax Assessment Act 1997 (ITAA 1997). The 'applicable fund earnings' is subject to tax at the person's marginal rate of tax. The remainder of the lump sum payment is not assessable income and is not exempt income.

The 'applicable fund earnings' is the amount worked out under either subsection 305-75(2) or subsection 305-75(3) of the ITAA 1997. Subsection 305-75(2) applies where the person was an Australian resident at all times during the period to which the lump sum relates. Subsection 305-75(3) applies where the person becomes an Australian resident after the start of the period to which the lump sum relates.

Before determining whether an amount is assessable under section 305-70 of the ITAA 1997, it is necessary to ascertain whether the payment is being made from a foreign superannuation fund. If the entity making the payment is not a foreign superannuation fund then section 305-70 will not have any application.

Foreign superannuation fund

A foreign superannuation fund is defined in subsection 995-1(1) of the ITAA 1997 as follows:

(a) a superannuation fund is a foreign superannuation fund at a time if the fund is not an Australian superannuation fund at that time; and

(b) a superannuation fund is a foreign superannuation fund for an income year if the fund is not an Australian superannuation fund for the income year.

Subsection 295-95(2) of the ITAA 1997 defines Australian superannuation fund as follows:

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

(c) at that time either the fund had no member covered by subsection (3) (an active member) or at least 50% of:

(i) the total market value of the funds assets attributable to superannuation interests held by active members; or

(ii) the sum of the amounts that would be payable to or in respect of active members if they voluntarily ceased to be members;

is attributable to superannuation interests held by active members who are Australian residents.

Thus, a superannuation fund 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 this case, however, the entity making the lump sum payment is a statutory scheme established under the relevant laws of the overseas country.

The entity is not a 'superannuation fund' as that term is normally understood. Monies are not set aside or pooled together in a separate fund (Mahony v. Commissioner of Taxation (Cth)¹ and Scott, Associated Provident Funds Ltd & Belvidere Investments Pty Ltd v Commissioner of Taxation (Cth) [No 2]²). Rather, the benefits are paid out of the general revenue of the foreign country Government.

Subsection 995-1(1) of the ITAA 1997 also defines a superannuation fund as having the same meaning given by section 10 of the Superannuation Industry (Supervision) Act 1993 (SIS Act), that is:

(a) a fund that;

(i) is an indefinitely continuing fund; or

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

(b) a public sector superannuation scheme.

In the present case, the statutory scheme (the Scheme) is not a superannuation fund and thus, not a foreign superannuation fund as defined in subsection 995-1(1) of the ITAA 1997.

However, subsection 305-55(2) of the ITAA 1997 extends the application of Subdivision 305-B, which deals with the taxation of superannuation benefits from foreign superannuation funds, to payments (other than pension payments) received from a scheme for the payment of benefits in the nature of superannuation upon retirement or death, provided the scheme:

(a) is not, and never has been, an Australian superannuation fund or a foreign superannuation fund; and

(b) was not established in Australia; and

(c) is not centrally managed or controlled in Australia.

As noted above, the Scheme is statutory scheme established under the relevant laws of the overseas country. The Scheme is set up for the express purpose of providing for the payment of benefits in the nature of superannuation upon retirement or death. Its central management and control is clearly not in Australia and it is neither an Australian superannuation fund or a foreign superannuation fund.

Therefore in accordance with subsection 305-55(2), Subdivision 305-B of Part 3-30 of Chapter 3 of the ITAA 1997 will apply to lump sum benefit payments from the Scheme made to Australian residents.

Assessable Amount

Your client became a resident of Australia for tax purposes more than 20 years ago. Your client reached the specified age to be entitled to a retirement benefit in the relevant income year. You state that on this date, the lump sum payment was deposited directly into your client's Australian Bank account.

The date on which your client received the lump sum payment is more than six months after your client became an Australian resident. Accordingly, a portion of the lump sum payment will be assessable under section 305-70 of the ITAA 1997.

The applicable fund earnings in relation to the lump sum payment are calculated under subsection 305-75(3) of the ITAA 1997. In this instance, subsection 305-75(3) applies because your client became an Australian resident after the start of the period to which the lump sum relates. Subsection 305-75(3) states:

If you become an Australian resident after the start of the period to which the lump sum relates (but before you received it) 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 amount in the fund that was vested in you just before the day (the start day) you first became an Australian resident during the period;

(ii) the part of the payment that is attributable to contributions to the fund made by or in respect of you during the remainder of the period;

(iii) the part of the payment (if any) that is attributable to amounts transferred into the fund from any other foreign superannuation fund during the remainder of 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 tax);

(c) multiply the resulting amount by the proportion of the total days during the period when you were an Australian resident;

(d) add the total of all previously exempt fund earnings (if any) covered by subsections (5) and (6).

The effect of the calculation of the applicable fund earnings is that your client will be assessed only on the growth in the Scheme (the accretion) while your client was a resident of Australia, less any contributions made since your client became an Australian resident.

Further, any amounts representative of earnings/growth during periods of non-residency and certain capital amounts previously transferred into the paying fund do not form part of the taxable amount when the overseas benefit is paid.

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

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

(b) then, calculate the other amounts.

Consequently, the lump sum payment your client received is translated into AUD at the exchange rate applicable at the time of receipt. Similarly, the amount vested in the fund on the day before your client became an Australian resident is converted to AUD at the exchange rate that applied on that day.

Amounts to be used in the calculation

Applying subsection 305-75(3) of the ITAA 1997 to your client's circumstances, the amounts to be used in calculating the applicable fund earnings are as follows:

· subparagraph 305-75(3)(a)(i) The amount, converted to AUD, vested in your client before your client became a resident of Australia

· subparagraph 305-75(3)(a)(ii) Nil

· subparagraph 305-75(3)(a)(iii) Nil

· paragraph 305-75(3)(b) The amount of the lump sum payment received, converted to AUD

· paragraph 305-75(3)(c) 1

· paragraph 305-75(3)(d) Nil

Calculation of the assessable amount of the payment from Pension Fund 

In accordance with subsection 305-75 (3) of the ITAA 1997 the amounts determined at sub-paragraphs 305-75(3)(a)(i), (ii) and (iii) are added together.

This total is then subtracted from the amount determined under paragraph 305-75(3)(b).

This figure is multiplied by the proportion of the total days determined under paragraph 305-75(3)(c).

To this figure is added the amounts determined under paragraph 305-75(3)(d).

The resultant amount is the applicable fund earnings in relation to the lump sum payment.

Accordingly, under subsection 305-70(3) of the ITAA 1997, the applicable fund earnings to be included in your client's assessable income for the relevant income year is the amount calculated. This amount is subject to tax at your client's marginal rate of tax.

The remainder of the lump sum payment is not assessable income and is not exempt income in accordance with subsection 305-70(3) of the ITAA 1997. That is the remainder of the lump sum payment of is tax-free in your client's hands.