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Ruling

Subject: Undeducted purchase price (UPP) of pension

Question

Are you entitled to a deductible amount of the undeducted purchase price (UPP) of your foreign pensions?

Answer

Yes, you're deductible amounts have been calculated in accordance with section 27H(2) of the Income Tax Assessment Act 1936 (ITAA 1936).

This ruling applies for the following period:

2009-10 income year

2010-11 income year

2011-12 income year

The schemes commenced on:

On or after 1 July 1983

Relevant facts and circumstances

You receive pensions from retirement funds established and managed outside Australia.

There is no Taxation Ruling or Taxation Determination published which provides for an alternative calculation or Commissioner's discretion under section 27H of the Income Tax Assessment Act 1936 (ITAA 1936).

The international tax agreement between Australia and the country in which the retirement funds are established and managed provides that the pension is taxable in Australia.

Your assessable income includes your pension income.

At the commencement of the relevant pension you also received a lump sum.

The pensions became payable on or after 1 July 1983.

All the pension is payable to you.

The total amount of your contributions, other than employer contributions, paid towards your total retirement benefits (pension and lump sum) was advised by the funds.

The value of the pension entitlement from the relevant fund the day before you received the lump sum was advised by the fund.

The residual capital value of the pension is nil.

Your pensions from the relevant funds are paid on an annual and monthly basis.

You became an Australian resident for income tax purposes.

Relevant legislative provisions

Income Tax Assessment Act 1936 Section 27H

Income Tax Assessment Act 1936 Subsection 27H(2)

Income Tax Assessment Act 1936 Subsection 27H(3)

Income Tax Assessment Act 1936 Subsection 27H(4)

Income Tax Assessment Act 1997 Section 960-50

Income Tax Regulations 1936 Regulation 9

Income Tax Assessment Regulations 1997 Regulation 960-50.01

Reasons for decision

Explanation

Please note that all references to 'pension' cover both pensions and annuities.

Subsection 27A(1) of the Income Tax Assessment Act 1936 (ITAA 1936) contains the definition of purchase price in relation to a superannuation pension. Subparagraph (a)(ii) of that subsection states that purchase price means the total amount of contributions to a superannuation fund made to obtain superannuation benefits consisting of a pension and other benefits such as a lump sum.

Where a person is entitled to both a pension and a lump sum payment, it must be determined whether part of the personal contributions made to the fund are 'undeducted contributions' relating to the lump sum payment, or form part of the 'purchase price' relating to the superannuation pension.

Taxation Ruling IT 2272 states that where there is no apparent basis for allocating the contributions, the apportioning of the contributions made to obtain both a pension and lump sum is to be calculated on a pro-rata basis as follows -

Purchase of pension = B ; and

(A+B)

Purchase of lump sum = A , where:

(A+B)

A. is the amount of the lump sum benefit received, and

B is the net present value of the pension entitlement at the time when the lump sum benefit is received.

You received both a lump sum payment and a pension from the relevant fund on retirement. You paid personal contributions into the fund to obtain your retirement benefits. Therefore, some of the personal contributions would have been allocated to the lump sum benefit and some would have formed part of the 'purchase price' of your pension.

It is necessary to determine what proportion of the total personal contributions, have been made to obtain your pension. As there is no alternative basis for allocating the personal contributions made to obtain both the pension and lump sum benefit, the above formula will be used.

The proportion of the total personal contributions attributable to the pension is determined using the information you provided.

The percentage calculated is applied to your total contributions paid to determine the purchase price of your pension benefit.

Section 27H of the ITAA 1936 operates to include in assessable income the amount of any pension derived by a taxpayer during a year of income reduced by the deductible amount.

The deductible amount is deemed to be a return of part of your contribution towards the purchase of the pension.

The calculation of the deductible amount is based on the UPP of your pension.

The UPP is the amount you contributed towards the purchase price of your pension for which you did not claim, and were not eligible to claim, a tax deduction in Australia. Contributions made by an employer or by another person under an agreement to which the employer was a party, cannot form part of the UPP of the pension.

Under subsection 27H(2) of the ITAA 1936, the annual deductible amount of a superannuation pension is ascertained in accordance with the formula:

where:

A = is the relevant share of the pension payable to the taxpayer in relation to the year of income (if all of the pension is payable to the taxpayer, A = 1)

B = is the amount of the UPP of the pension

C = is the residual capital value, and

D = is the relevant number in relation to the pension.

Under subsection 27H(4) of the ITAA 1936, when a pension is payable during the lifetime of a person, the 'life expectation factor' is to be used as the relevant number.

Regulation 9 of the Income Tax Regulations 1936 states that for the purposes of the definition of life expectation factor in subsection 27H(4) of the ITAA 1936, the Australian Life Tables published by the Australian Government Actuary are to be used.

The factors for determining the life expectancy are:

· the date when the pension first became payable;

· your age when the pension commenced;

By substituting the information you provided into the formula, the annual deductible amounts are obtained for your pensions.

Your annual deductible amounts of the UPP will apply for the relevant income year and all subsequent years where the facts, as stated in the ruling, do not change.

As you became an Australian resident during an income year, you are not entitled to claim the full deductible amount of the UPP for that year. The deductible amount therefore needs to be apportioned according to the number of days that you were an Australian resident during the income year.

For the 2003-04 and subsequent income years, subsection 960-50(1) of the Income Tax Assessment Act 1997 (ITAA 1997) requires an amount in a foreign currency to be translated into Australian currency. Subsection 960-50(4) of the ITAA 1997 further requires any foreign currency elements in a calculation to be translated before the final amount is worked out.

In accordance with the currency translation rules contained in section 960-50 of the ITAA 1997 and clarified in Taxation Determination TD 2006/54, pensions received in foreign currency should be translated to Australian currency on the following basis:

(a) if the amount is received at or before the time when it is derived - the amount is to be translated to Australian currency at the exchange rate applicable at the time of receipt; or

(b) in any other case - the amount is to be translated to Australian currency at the exchange rate applicable when it is derived.

As a general rule, the deductible amount is translated to Australian currency using the same exchange rate applying to the pension.

Alternatively, regulation 960-50.01 of the Income Tax Assessment Regulations 1997 (ITAR 1997) and Schedule 2 to the ITAR 1997 allow pensions received in foreign currency and the deductible amount to be translated to Australian currency at the average exchange rate for the income year. This is provided the conditions outlined in Schedule 2 to the ITAR 1997 are satisfied.

Where the pension is received as a single annual amount (or bi-annual payment) the conditions outlined in Schedule 2 to the ITAR 1997 will not be satisfied. Therefore the pension income must be translated at the exchange rate applying when it is received (or derived, if this is earlier).

Similarly, the deductible amount must also be translated at the exchange rate applying when the pension amount is received or derived.

In your case, as the relevant pension is paid on an annual or bi-annual basis, you must use the exchange rate applying at the time that your pension income is received or derived.

Where the pension is received as a series of payments over the course of the income year, and provided the average exchange rate is considered a reasonable approximation of the exchange rates, the conditions outlined in Schedule 2 to the ITAR 1997 will be satisfied.

In your case, as the relevant pension is paid on a regular monthly basis, you are entitled to use the average exchange rate to translate your pension income and the annual deductible amount of your UPP.

The average exchange rates are available from our superannuation information line on 13 10 20 or visit our website at www.ato.gov.au/super.

Other relevant comments

Please note that from 1 July 2007, the legislation has changed in relation to superannuation pensions and benefits paid from complying superannuation funds. However, these changes do not affect any pensions paid from overseas funds which are not considered complying superannuation funds under section 42 of the Superannuation Industry (Supervision) Act 1993 as they are not resident funds.

Therefore, your ruling will still apply in subsequent years in relation to the annual deductible amount of your pension if the material facts do not change. You will need to include your total foreign pension income in your income tax return and claim your annual deductible amount as advised by your private ruling above.

Important information to note

Income tax returns may be amended within two years from the date upon which the Commissioner gives notice of the assessment to the individual (for assessments for the 2004-05 and later income years).

If you choose to rely on this private ruling, when lodging your income tax return, you may include the respective part year and annual deductible amount of the UPP as advised by your private ruling. Please note that the deductible amount should only be included if you have declared your pension income.