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Ruling

Subject: Foreign income

Question and answer

Are the salary and allowances you receive in relation to your employment in country A exempt from income tax in Australia under subsection 23AG(1) of the Income Tax Assessment Act 1936?

Yes.

This ruling applies for the following period

Year ended 30 June 2012

The scheme commenced on

1 July 2011

Relevant facts

You are an Australian resident for taxation purposes.

You are a permanent employee.

You have been appointed to undertake a deployment to country A on an Australian Agency for project working with a Country A Government Department for nearly 2 years.

Your salary is paid by the Department of Foreign Affairs and Trade (DFAT).

In addition to your salary, you are paid the following allowances:

· Cost of living allowance - for when the cost of living in country A exceeds that in Australia.

· Cost of posting allowance - for the costs of being on posting away from Australia.

· Hardship allowance - for the difficulties of the country A environment.

· Special location allowance - for the security environment; and

· Household maintenance allowance - for assistance with locally engaged staff such as a gardener.

You will not take any breaks other than your recreation leave that accrues as a result of your foreign service.

You are not required to perform any work-related duties if you are on recreation leave.

Australia has a tax treaty with country A.

Country A taxes employment income under its domestic law.

Your foreign employment income is exempt from income tax in country A under the terms of the General Agreement on Development Cooperation (GADC) between the Government of Australia and the Government of country A.

Relevant legislative provisions

Income Tax Assessment Act 1936 Subsection 23AG(1)

Income Tax Assessment Act 1936 Subsection 23AG(7)

Income Tax Assessment Act 1936 Section 23AG

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

Income Tax Assessment Act 1936 Subsection 23AG(6)

Income Tax Assessment Act 1936 Subsection 23AG(2)

International Tax Agreements Act 1953 Sch X-Art Y

Income Tax Assessment Act 1936 Section 23AG(2)(b)

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 of not less than 91 days 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).

To qualify for the exemption the foreign earnings must be derived from the foreign service. That does not mean that the foreign earnings need to be derived at the time of engaging in foreign service. The important test is that the foreign earnings, when derived, need to be derived as a result of the undertaking of that foreign service.

Section 23AG of the ITAA 1936 has been amended so that foreign employment income derived by Australian residents will only be exempt in certain circumstances. These amendments are effective from 1 July 2009.

Subsection 23AG(1AA) of the ITAA 1936 provides that foreign earnings are not exempt from tax unless the continuous period of foreign service is directly attributable to any of the following:

· 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 a public disaster relief fund;

· the activities of the individual's employer being a prescribed institution that is exempt from Australian tax; or

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

In your case, you have been appointed to undertake a deployment to country A on a project with a country A Government Department for a period greater than 91 days (subsection 23AG(1) of the ITAA 1936).

As your deployment is directly attributable to the delivery of an Australian overseas aid program, you satisfy one of the conditions for exemption under subsection 23AG(1AA) of the ITAA 1936.

Salary and overseas allowances

As you receive a salary from your employment in Country A, this salary is considered to be derived from your foreign service.

In addition to your salary, you receive the following allowances:

· Cost of living allowance - for when the cost of living in country A exceeds that in Australia.

· Cost of posting allowance - for the costs of being on posting away from Australia.

· Hardship allowance - for the difficulties of the country A environment.

· Special location allowance - for the security environment; and

· Household maintenance allowance - for assistance with locally engaged staff such as a gardener.

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

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

The exemption does not apply if the income is exempt from tax in the foreign country only because of any of the reasons listed in subsection 23AG(2) of the ITAA 1936. One of these reasons is a tax treaty contained in the International Tax Agreements Act 1953 (the Agreements Act).

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. Australia has a tax treaty with country A which operates to avoid the double taxation of income received by residents of Australia and country A. The country A is listed in section 5 of the Agreements Act.

An article of the country A 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. However, such remuneration will be taxable only in country A if the services are rendered in country A and the individual is a citizen of country A, or did not become a resident of country A solely for the purpose of performing the services.

Taxation ruling TR 2005/8 Income tax: the meaning of particular terms in the Government Service Articles of Australia's tax treaties states that 'governmental functions' is … inclusive of anything that is done by government. This would include providing aid and assistance to foreign countries.

The employment income you receive in relation to your deployment to country A is taxable only in Australia under an Article of the country A Agreement as you are an Australian resident and the income is paid by Australia in respect of services rendered in the discharge of governmental functions.

As the employment income you receive while posted to country A is exempt from tax in country A because of the operation of a tax treaty, paragraph 23AG(2)(b) of the ITAA 1936 would normally apply and the income would therefore not be exempt from tax under subsection 23AG(1) of the ITAA 1936.

However, the income you earn while on posting is also exempt from tax in country A because of the GADC entered into between Australia and country A. The exemption provided by the GADC does not fall under any of the other exemption categories in subsection 23AG(2) of the ITAA 1936 and so your income is not only exempt because of the reasons listed in subsection 23AG(2) of the ITAA 1936. This means that section 23AG(2) of the ITAA 1936 does not apply in your case.

Therefore, you satisfy the conditions for exemption under section 23AG of the ITAA 1936 and the salary and overseas allowance you receive from employment in country A are exempt from income tax in Australia under subsection 23AG(1) of the ITAA 1936.