Edited version of your written advice

Authorisation Number: 1013025625248

Date of advice: 1 June 2016

Ruling

Subject: Assessability of income received from a foreign rental property

Question 1

Is the rental income earned from a foreign property and taxed in that country subject to income tax in Australia?

Answer:

Yes.

Question 2

Does the Convention between Australia and that country exclude the income having to be returned in Australia?

Answer:

No.

Question 3

Are you entitled to a foreign income tax offset for the relevant foreign taxes paid in relation to the foreign rental property?

Answer:

Yes.

This ruling applies for the following periods:

Year ended 30 June 2015

Year ended 30 June 2016

The scheme commenced on

1 July 2014

Relevant facts and circumstances

You are an Australian resident for taxation purposes under the Social Security Act.

You own and have rented out a property in a foreign country.

Under Section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) a resident taxpayer must include all income from both Australian and foreign sources.

You obtained an oral ruling from the ATO which advised that under the Convention:

• If the Australian taxpayer holds only a temporary residence visa under the Migration Act, then only foreign employment income needs to be returned in Australia, not rental or other income from a foreign country.

• If the taxpayer is deemed to be an Australian resident under the Social Security Act, then all foreign income needs to be returned to Australia.

You have obtained independent professional advice from the foreign country that under the Convention you pay taxes only in the country in which you have the real estate and not in Australia.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

International Tax Agreements Act 1953 section 4

International Tax Agreements Act 1953 section 5

The Explanatory Memorandum to the International Tax Agreements Amendment Bill (No. 1) 2007

Convention between the Government of Australia and the Government of the relevant foreign country for the avoidance of double taxation with respect to taxes on income and the prevention of fiscal evasion and protocol [2009] ATS 13

Reasons for decision

Subsection 6-5(2) of the Income Tax Assessment Act 1997 (ITAA 1997) advises that the assessable income of an Australian resident includes ordinary income derived directly or indirectly from all sources, whether in or out of Australia, during an income year.

Income from rental properties is generally included as assessable income.

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 Income Tax Assessment Act 1936 (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 relevant 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 and operates to avoid the double taxation of income received by residents of Australia and the foreign country.

Article 6 of the Agreement states (emphasis added):

Income from real property, including income from an agricultural, pastoral or forestry property, may be taxed in the Contracting State in which that property is situated.

Taxation Ruling TR 2001/13 Income tax: Interpreting Australia's Double Tax Agreements provides guidance on the manner in which Double Tax Agreements (DTA) are interpreted.

With respect to the words used to allocate taxing rights, paragraph 22 explains that the words 'may be taxed' does not affect the taxing right of the other Contracting State. Paragraph 23 points out that it is a common mistake for the phrase 'may be taxed' to be taken that the country referred to (usually the source country) is the only one entitled to tax that category of income.

Paragraph 24 then advises the phrase 'shall be taxable only' provides exclusive taxing power to the country concerned:

The words used to allocate taxing rights

22. It is important to note that the distributive rules in the DTAs allocate taxing rights on a 'shall be taxable only' or 'may be taxed' (by one of the countries) basis. As demonstrated by the decision in Chong v FC of T ^F20, the inclusion of the word 'only' in the former case denotes the allocation to one of the Contracting States of an exclusive taxing right over the category of income flow concerned. The latter formula ('may be taxed') does not itself affect the taxing right of the other Contracting State although, as noted already, the Methods of Elimination of Double Taxation Article may require the residence country to give relief by means of a credit or exemption.

23. A common mistake in the practical consideration of a DTA is to see the phrase 'may be taxed' as indicating that the country referred to (usually the source country) is the only one entitled to tax that category of income, but that it need not do so (because of the word 'may') while viewing the phrase 'shall be taxable only' as requiring the country mentioned (usually the residence country) to tax that income. In fact, a country is never required by a DTA to exercise a taxing right under that DTA if it does not wish to. What the phrase 'may be taxed' normally means is that the country mentioned (the source country) has a non-exclusive entitlement to tax the income. Under normal international tax principles, the other (residence) country may also continue to tax its residents (where its domestic law so provides) on the income, wherever sourced, unless the DTA explicitly prevents it from doing so.

24. Correspondingly, the phrase 'shall be taxable only' limits the exercise of a domestic law taxing power to the country concerned - that country has an exclusive taxing right. For the other country to exercise a domestic law taxing right would be contrary to the DTA, and that attempt would be ineffective at domestic law anyway, to the extent that the treaty as implemented takes precedence (in the country's domestic law) over other domestic law in the event of a conflict.

The Agreement does not preclude the rental income from being taxable in Australia and is therefore assessable in Australia as 'ordinary income' under section 6-5 of the ITAA 1997.

Foreign income tax offset

A foreign income tax offset (FITO) is a non-refundable tax offset that will reduce the Australian tax payable on foreign income that has been subjected to foreign income tax.

In accordance with Article 23(1) of the Agreement and to avoid any double taxation, the relevant foreign country tax you have paid in respect of income derived by you from sources in a foreign country, shall be allowed as a credit against Australian tax payable in respect of that income.

Relevant taxes for the purposes of calculating a FITO are contained in Taxation Ruling IT 2507 Income tax: foreign tax credit system - foreign taxes eligible for credit against Australian income tax.

ATO Interpretative Decision ATO ID 2002/548 Income tax: Foreign tax credits - taxes imposed on (a foreign) rental property has been withdrawn due to the reference to the former section 160AF of the ITAA 1936. However, the document points out that some taxes imposed in that country are not relevant taxes for the purposes of calculating a FITO.