Edited version of your written advice

Authorisation Number: 1051176520163

Date of advice: 23 December 2016

Ruling

Subject: ESAS - International - Foreign Service

Question 1:

Does the Taxpayer include the Australian service portion of the employee share scheme (or ESS) discount in the Taxpayer's assessable income?

Answer:

Yes.

Question 2:

Does the Taxpayer include the foreign service portion of the employee share scheme discount in the Taxpayer's assessable income?

Answer:

Yes.

Question 3:

Is the Taxpayer entitled to claim at least some portion of the Foreign Income and State tax paid in relation to the portion of the employee share scheme discount that relates to service by the Taxpayer in Country X?

Answer:

Yes.

This ruling applies for the following periods:

2014-15 income year

The scheme commences on:

1 July 2009

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

The Taxpayer is an executive employee of company A, a company listed on the Australian Stock Exchange.

The Taxpayer was employed in Australia by company A and was a resident for Australian tax purposes until after the first grant of performance options.

The Taxpayer was employed in Country X and was a tax resident for Country X tax purposes for the next few years.

The Taxpayer returned and became resident for Australian tax purposes recently.

Employee share scheme participation

As an executive of company A, the Taxpayer participated in the company A employee share plan (Plan). Participation in the Plan results in an employee obtaining rights and options to shares and eventually shares in company A. For purposes of the ruling, the grants or awards listed below under the Plan are relevant.

The Plan consists of two elements namely the grant of performance rights and performance options. The Taxpayer participated in the Plan, with grants occurring in certain calendar years and vesting recently. Details regarding the relevant elements of the Plan are set our under the headings - Performance rights details and Performance options details below.

Performance rights - grant and vesting of rights

Two parcels of performance rights were granted to the Taxpayer when employed in Country X and a resident of Country X for income tax purposes, that is, after re-location to Country X.

These performance rights became vested in the Taxpayer shortly after the Taxpayer returned to Australia and resumed Australian residence for Australian tax purposes.

The Taxpayer exercised these performance rights shortly afterward thereby acquiring shares in company A on that date.

Performance options - grant and vesting of options

Three parcels of performance options were granted to the Taxpayer while still employed in and a tax resident of Australia before re-location to Country X.

These performance options vested in the Taxpayer after the return to Australia. The Taxpayer exercised the options and disposed of the shares acquired on the same day shortly afterward.

Two parcels of performance options were granted to the Taxpayer while the Taxpayer was employed in, and a tax resident of Country X.

These performance options vested in the Taxpayer shortly after the Taxpayer returned to Australia. The Taxpayer exercised the performance options shortly afterward, and acquired and simultaneously disposed of company A shares on that date.

Employee share plan rules

The Plan consists to two elements, namely performance rights and performance options.

Performance rights are issued for $nil cash consideration and where they vest, they entitle the holder to subscribe for one share in company A for $nil consideration.

Performance options are also issued for $nil consideration and, where they vest, they entitle the holder to acquire one share in company A at a purchase price equivalent to company A's volume weighted average share price in the week immediately prior to the date of grant.

Performance hurdles for vesting

Both the performance rights and the performance options have vesting conditions. Some of these vesting conditions relate to the performance of company A. Other vesting conditions relate to the performance of the Taxpayer.

The vesting conditions were measured on the vesting date, but elements of the assessment on the Taxpayer relate to a period that ended while the Taxpayer was a resident of Country X.

The relevant vesting conditions were met.

Assumptions

For the purpose of this ruling, it is assumed that there has been or will be some Foreign income tax or State tax paid in relation to the portion of the employee share scheme discount that relates to service by the Taxpayer in Country X.

Relevant legislative provisions

Income Tax Assessment Act 1997 Division 6,

Income Tax Assessment Act 1997 Division 83A,

Income Tax Assessment Act 1997 Division 770,

International Tax Agreements Act 1953 Section 3,

International Tax Agreements Act 1953 Section 4,

International Tax Agreements Act 1953 Section 5 and

Convention between the Government of Australia and the Government of Country X for the avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to taxes on income Article 15

Reasons for decision

Question 1

Summary

The Taxpayer includes the Australian service portion of the employee share scheme discount in the Taxpayer's assessable income.

Detailed reasoning

The employee share scheme provisions are contained in Division 83A of the Income Tax Assessment Act 1997 (ITAA 1997).

The operation of the employee share scheme provisions in relation to ESS interests for employees who are Australian residents with Australian service for the whole of the period between the grant date and any potential deferred taxing point is not at issue.

In short, the employee share scheme provisions recognise the dual nature of these types of grants as both remuneration and investments. To this end, the employee share scheme provisions provide a mechanism for recognising an appropriate value for remuneration purposes and an adjustment to the purchase price for investment purposes to reflect the amount treated as remuneration.

The employee share scheme provisions achieve this outcome by determining:

● When a taxpayer needs to include any discount received in relation to ESS interests in their assessable income, and

● The amount of the discount.

The attributes of the employee share schemes under which the performance rights and performance options were granted are such that Division 83A of the ITAA 1997 applies to them in the following manner:

● The performance rights and performance options are ESS interests being rights to acquire beneficial interests in shares in a company

● The relationship between the Taxpayer, company A and the grants of performance rights and performance options constituted an employee share scheme

● The performance rights and performance options were granted at a discount to their market value (calculated as at the date of grant)

● The performance rights and performance options meet the conditions to qualify for tax deferral

● The first potential deferred taxing point occurred when the performance rights and performance options vested

The deferred taxing point for both the performance rights and the performance options is determined in accordance with section 83A-120 of the ITAA 1997 as the earliest of the following:

● The earliest time that there are no selling restrictions on the particular performance rights or performance options

● Cessation of employment

● Seven years from the grant date, or

● The earliest date that all of the following conditions are met:

● The forfeiture conditions on the particular performance rights or performance options end

● Any exercise restrictions end (if there were some when they were granted

● Any forfeiture conditions on the shares acquired by exercising the performance rights or performance options end, and

● Any selling restrictions on the shares acquired by exercising the performance rights or performance options end.

The fourth potential deferred taxing point occurred when the forfeiture conditions and exercise restrictions ended. None of the other potential deferred taxing points had occurred by then.

It is not uncommon for the forfeiture conditions to be lifted before the earliest date that ESS interests being rights to acquire shares can be exercised. In fact, ATO ID 2010/61 acknowledges this and considers it to be a factor when determining if ESS interests are at a real risk of forfeiture.

Note that while the ending of employment is a potential deferred taxing point, section 83A-335 of the ITAA 1997 states employment only ends for employee share scheme purposes when an employee is no longer employed by any of the following:

● Their employer in that employment

● A holding company of that employer

● A subsidiary of that employer, or

● A subsidiary of a holding company of that employer.

The Taxpayer has continued to be employed with company A beyond the vesting date.

Employee share scheme statements are generally completed on the basis that all relevant service occurred within Australia and that the whole of the employee share scheme discount is assessable in Australia.

The employee share scheme provisions also contain a source rule that treats any portion of an employee share scheme discount that relates to employment outside Australia as having a foreign source.

This question considers the portion of the Taxpayer's employee share scheme discount that has an Australian source.

Section 6-10 of the ITAA 1997 would include the Australian source portion of the employee share scheme discount in the Taxpayer's assessable income irrespective of whether she was an Australian resident at the deferred taxing point.

The OECD Commentary on its Model Tax Convention on Income and on Capital states that the Article related to employment income applies to employee stock options at least until they are exercised.

Article 15 of the Convention between the Government of Australia and the Relevant Government of Country X for the avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to taxes on income (Relevant DTA) does not prevent Australia from taxing remuneration (including employee share scheme discounts) that have an Australian source.

Consequently, the Australian service portion of the employee share scheme discount is to be included in the Taxpayer's assessable income.

Question 2

Summary

The Taxpayer includes the foreign service portion of the employee share scheme discount in the Taxpayer's assessable income.

Detailed reasoning

This question follows on from the previous question but considers the portion of the Taxpayer's employee share scheme discount that has a foreign source. It does not require a calculation of the amount of the discount that has a foreign source. It is sufficient to acknowledge that some of the employee share scheme discount has a foreign source.

Section 6-10 of the ITAA 1997 would include the foreign source portion of the employee share scheme discount in the Taxpayer's assessable income because she was an Australian resident at the deferred taxing point.

Your contentions

You have not contested the application of section 6-10 or Division 83A of the ITAA 1997.

Rather, you have argued that there is a limitation on Australia's right to tax these ESS interests imposed by paragraph 1 of Article 15 of the Relevant DTA.

You note that paragraph 1 of Article 15 of the Relevant DTA does not allow Australia to tax the foreign source salaries, wages and other similar remuneration of residents of the Country X.

You have argued that the point in time for the purpose of applying Article 15 of the Relevant DTA, should be based on the fulfilment of the performance hurdles rather than the date that the ESS interests vested (being the deferred taxing point).

You have quoted the now withdrawn ATO ID 2011/16 as supporting your position.

The law - Relevant DTA

Subsection 4(2) of the Income Tax Agreements Act 1953 (Agreements Act) states:

The provisions of this Act have effect notwithstanding anything inconsistent with those provisions contained in the Assessment Act (other than Part IVA of the Income Tax Assessment Act 1936) or in an Act imposing Australian tax.

Subsection 5(1) of the Agreements Act includes the Relevant DTA in a list of Agreements and states:

Subject to this Act, on and after the date of entry into force of a provision of an agreement mentioned below, the provision has the force of law according to its tenor.

However, subsection 3(9) of the Agreements Act states:

Where, by virtue of a provision of an agreement, expressions used in, or in a particular provision of, that agreement and not otherwise defined for the purposes of that agreement or of that particular provision have the meanings that those expressions have under the law of Australia relating to income tax, …

Similarly, paragraph 2 of Article 3 of the Relevant DTA states:

As regards the application of this Convention by one of the Contracting States, any term not defined herein shall, unless the context otherwise requires, have the meaning which it has under the laws of that State relating to the taxes to which this Convention applies.

Paragraph 1 of Article 15 of the Relevant DTA states:

… salaries, wages and other similar remuneration derived by an individual who is a resident of one of the Contracting States in respect of an employment or in respect of services performed as a director of a company shall be taxable only in that State unless the employment is exercised or the services performed in the other Contracting State. If the employment is so exercised or the services so performed, such remuneration as is derived from that exercise or performance may be taxed in that other State.

Paragraph 2 of Article 22 of the RELEVANT DTA states:

… United States tax paid under the law of the United States and in accordance with this Convention … in respect of income derived from sources in the United States by a person who, under Australian law relating to Australian tax, is a resident of Australia shall be allowed as a credit against Australian tax payable in respect of the income. The credit shall not exceed the amount of Australian tax payable on the income or any class thereof or on income from sources outside Australia. Subject to these general principles, the credit shall be in accordance with the provisions and subject to the limitations of the law of Australia as that law may be in force from time to time.

Paragraph 2 of Article 27 of the RELEVANT DTA states:

Any exemption from tax by one of the Contracting States provided for in Article … 15 (Dependent Personal Services) … shall be inapplicable to the extent that the income to which the exemption relates is not or, upon the application of the relevant Article of this Convention (prior to application of this paragraph), will not be subject to tax by the other Contracting State.

The law - RELEVANT DTA - Analysis

Taxation Ruling TR 2001/13 provides the following guidance in relation to the interpretation of Double Tax Agreements:

4. Each of Australia's DTAs is a bilateral agreement between Australia and another country under which Australia undertakes to apply its taxation laws in accordance with the terms of the agreement it has negotiated. Australia meets its obligations under its DTAs by incorporating them directly into our domestic law. Each Australian DTA is given the force of law domestically under the International Tax Agreements Act 1953 (the 'Agreements Act') and is incorporated as a schedule to that Act. See, as an example, in relation to the Vietnamese Agreement, section 11ZC and Schedule 38.

5. As well as giving DTAs the force of law, the Agreements Act clarifies the status of DTAs with respect to the 'Assessment Act' and the various income tax 'Rates Acts'. The effect of subsection 4(1) of the Agreements Act, in particular, is that the DTAs are to be interpreted and read as one with the Assessment Act. While each DTA itself is a treaty, and only the other country party to it can take action on it internationally, the provisions of the DTAs become part of Australian domestic law by legislative action, and are just as legally effective in domestic law as the provisions of the Assessment Act. The provisions of a DTA can therefore be relied on, in their implemented form, by individual taxpayers before Australian courts.

6. Subsection 4(2) of the Agreements Act deals with possible conflicts by effectively providing that the terms of the DTAs override those of the Assessment Act (except for Part IVA of the Income Tax Assessment Act 1936, which is a general anti-avoidance provision, and section 160AO of the same Act, dealing with maximum credits) and the Rates Acts, in the event of any inconsistency.

7. The above analysis reflects the fact that our DTAs have two parallel characters and operate simultaneously on two levels. They first of all represent obligations that Australia has undertaken at the international law level, and on which only the other country may directly rely. Once they are implemented by legislation they also, however, represent domestic law obligations, on which individual taxpayers may rely before Australian courts. While the issues considered by ATO officers will usually relate to the domestic law implementation of DTAs, those issues can only be properly analysed, and their implications fully understood, when the 'parallel lives' of Australian DTAs are kept in mind. Some of the consequences flowing from this character are considered in more detail below, particularly at Parts 3 and 4 of this Ruling.

…

9. The main structural mechanism by which a DTA avoids double taxation is to 'distribute' or 'allocate' taxing rights over 'income' between those countries that are parties to the DTA and to require the 'residence' country to relieve double taxation for any 'source' taxation levied in accordance with the treaty. By this means they essentially reconcile competing domestic law taxing claims based on the residence of the taxpayer and the source of the income concerned.

…

Part 4: General treaty interpretation rules

Overview: characteristics of DTAs that may affect their interpretation

85. Some of the specific features of DTAs that in practice impact on their interpretation include:

● DTAs are written in very much more general terms than domestic law so that there is perhaps more room for courts to give an interpretation based on purpose, the consideration of 'substance over form', etc.;

● DTAs use an international tax terminology which may not exist in domestic law (or if it does was usually drawn from treaties so that the international treaty meaning applies; for example, see the consideration of the domestic tax law definition of 'royalties' (which was influenced by treaty meanings) in TR 98/21 on cross border leasing);

● there are internationally accepted OECD Commentaries on the meaning of tax treaties which need to be taken account of to fully understand the DTA and its international usages and context where the DTA reflects the OECD Model Commentaries. As noted below, the same can apply for some UN Model materials;

● because of the common terms used internationally and the Commentaries, treaties are the subject of a much broader and internationally focused jurisprudence in cases, texts and administrative rulings than domestic tax law, and foreign case law may be particularly relevant; and

● tax treaties often have a life of 20 to 30 years and so have to be flexible enough to cope with many changes in domestic law, while remaining true to the negotiated bargain and the agreed balance of obligations and concessions between the two countries.

86. These characteristics necessitate a different conceptual approach to interpretation than is required in construing a statute. In an important article on the interpretation of tax treaties, a group of international DTA experts noted that '[a] point to be made at the outset is that treaty interpretation is a subject in itself and not merely an extension of statutory interpretation, as has sometimes been thought in common law countries where treaties normally take their effect by virtue of a statute.' The authors' approach on this point is in accord with the approach taken by Australian courts in DTA and other treaty cases and represents ATO practice.

The approach of Australian courts

87. In Shipping Corporation of India Limited v. Gamlen Chemical Company Australasia, the High Court of Australia considered that, despite the fact that a treaty had been enacted as domestic law, it should be interpreted broadly in a way conducive to producing a uniform international interpretation. The Court said:

It has been recognised that a national court, in the interests of uniformity should construe rules formulated by an international convention . . . 'in a normal manner appropriate for the interpretation of an international convention, unconstrained by technical rules of English law, or by English legal precedent, but on broad principles of general acceptation', to repeat the words of Lord Wilberforce in James Buchanan and Co Ltd v. Babco Forwarding and Shipping (UK) Ltd [1978] AC 141, at p. 152.

88. The legislature, when legislating the DTA into domestic law, is therefore taken to expect that it be interpreted in the light of the normal rules for interpreting treaties. As noted above, Brennan CJ in Applicant A recognised the prima facie legislative intention that the text of a treaty transposed into an Act is to be read in accordance with normal treaty interpretation principles.

…

The requirement to interpret treaties 'liberally'

93. Some debate surrounds the requirement just noted that DTAs be interpreted 'liberally'. Some have interpreted this to mean that this requires the terms of DTAs to be read as broadly as possible. The ATO considers, however, that the requirement for a 'liberal' interpretation of a DTA is directed to the rules of construction to be adopted, rather than being directed at the width and ambit of the content of particular DTA provisions.

94. In other words, when the courts speak of DTAs being given a more 'liberal' interpretation than domestic legislation, in the ATO's view they mean that the rules of construction will not be as detailed and rigid as they might be if the courts were to interpret domestic legislation or domestic instruments, and gaps, imprecision and ambiguities should be accepted as sometimes inevitable in such a text, and to some extent accommodated or 'smoothed over' in a way that addresses the context and meets the object and purpose of the DTA.

You have placed considerable emphasis on analysis of the OECD Commentary about Double Tax Agreements and the explanatory memoranda supporting the employee share scheme amendments in 2005 and 2009. However, the discussion points you have raised are focussed on determining the earning period as a component of the method used to give a source to the employee share scheme discount.

This is factored into the strategy behind the 2005 and 2009 employee share scheme amendments. The explanatory memorandum for the New International Tax Arrangements (Foreign-owned Branches and Other Measures) Bill 2005 makes the following introductory statements:

Outline of chapter

4.1 Schedule 4 to this Bill more closely aligns the taxation of shares or rights acquired under an employee share scheme (employee shares or rights) with international norms developed by the Organisation for Economic Co-operation and Development (OECD). These amendments will be relevant where an individual works in more than one country or changes country of residence.

4.2 These amendments will help prevent double or nil taxation of employee shares or rights and provide greater certainty for individuals. This is achieved primarily by allowing employee shares or rights to benefit from existing mechanisms to prevent double taxation, and clarifying the treatment of individuals with employee shares or rights who subsequently become employed in Australia. Additional rules clarify capital gains tax (CGT) interactions, and make other improvements.

4.3 Unless otherwise indicated, all legislative references are to the Income Tax Assessment Act 1936.

Context of amendments

4.4 These amendments are part of the Government's response to the Board of Taxation's report to the Treasurer on international taxation. They will reduce the potential for double or nil taxation of income from employee shares or rights in the international context. Providing a more internationally consistent treatment of employee shares or rights will ensure a fairer and more certain outcome for relevant individuals. It will also assist Australian businesses in attracting skilled workers.

4.5 Employee shares or rights provided at a discount can be seen as a substitute for employment income. The discount may relate to employment over a long period. Hence problems can arise in respect of individuals who acquire such shares or rights and who subsequently change their country of residence, work in more than one country, or work in one country while resident of another. Many of these problems arise as countries tax employee shares or rights in many different ways. To help address these problems, the OECD recently approved revisions to the Commentary to its Model Tax Convention on Income and on Capital clarifying the tax treaty treatment of employee rights.

4.6 The OECD commentary on the articles of the model tax convention is relevant in interpreting Australia's tax treaties. The revised commentary treats the benefit accruing up to the exercise of a right as an employment benefit to which Article 15 (Income from Employment) of the model tax convention applies. The commentary recognises that the facts and circumstances of the particular case will determine the period of employment to which the right relates. The number of days worked in a treaty country during this employment period then determines the extent of that country's source taxing rights.

4.7 These amendments do not seek to incorporate the OECD approach into Australian domestic law. Rather, the amendments align the domestic law more closely with the OECD approach by emphasising the employment income nature of employee shares or rights, clarifying residence and source country taxing arrangements, and improving the interaction of the employee share scheme and CGT provisions.

Summary of new law

4.8 Individuals acquiring employee shares or rights will have access to existing offshore employment income exemptions. Similarly, the foreign tax credit and foreign loss provisions will apply to employee share scheme income in the same way as other assessable employment income.

4.9 The amendments make clear that the employee share scheme provisions also apply to individuals who become employed in Australia (Australian employees) after acquiring employee shares or rights relating to that employment. The concessional treatment available for qualifying shares or rights will extend to such cases. Further, amounts that relate to employment offshore while not a resident will not be assessable income.

The attitudes in the 2005 employee share scheme amendments reflected the operation of section 23AG of the ITAA 1997 to other forms of salary and wages at that time. Generally, an exemption was provided to foreign source employment income up until 2009.

That exemption for foreign sourced employee share scheme discounts is continued beyond 30 June 2009 in relation to ESS grants before 1 July 2009 by paragraph 83A-5(4)(a) of the Income Tax (Transitional Provisions) Act 1997.

Note that this exemption was provided by Australia's domestic law and not by the Relevant DTA.

From 1 July 2009, the general exemption on foreign sourced employment income was largely removed and the re-write of the employee share scheme provisions into Division 83A of the ITAA 1997 reflected this. The explanatory memorandum for the Tax Laws Amendment (2009 Budget Measures No. 2) Bill 2009 states:

Foreign employment

1.347 Consistent with the treatment of most other types of income, whether an amount is included in a taxpayer's assessable income under the new employee share scheme rules will depend on the taxpayer's residency status and the source of the income.

1.348 Under the core rules of the Australian income tax system, an Australian resident taxpayer is subject to income tax on their worldwide income. A foreign resident taxpayer is only subject to Australian income tax on their Australian sourced income.

1.349 Under the existing law, this outcome is achieved by excluding discounts from interests acquired under employee share schemes from tax under the employee share scheme tax rules, to the extent that they relate to foreign service of a taxpayer.

1.350 This mechanism operates in a manner inconsistent with core rules. The new rules use the core rules to achieve the desired outcome. The new rules instead include source rules and rely on the core rules to the exclude foreign sourced income of foreign residents from Australian income tax. That is, the employee share scheme rules attribute a source to discounts received on securities acquired under employee share schemes.

1.351 To the extent that a discount on an ESS interest relates to employment outside Australia, the discount is taken to be from a foreign source. In the case of an ESS interest that is subject to a deferred taxing point, it is the amount included in your assessable income that is attributed a source (that is, both the discount and subsequent gains are attributed with a source). The attribution is done in manner consistent with the rule applying to discounts. [Schedule 1, item 1, subsections 83A-25(2) and 83A-110(2)]

1.352 The apportionment between foreign sourced and Australian sourced income is to be done in a manner consistent with Organisation for Economic Development and Cooperation (OECD) practice, as explained in the explanatory memorandum to the New International Tax Arrangements (Foreign-owned Branches and Other Measures) Bill 2005.

1.353 Source is attributed to amounts 'included' in assessable income either upfront or under the deferral method at the ESS deferred taxing point. The inclusion in assessable income is merely notional as all amounts included in assessable income must pass through the core rules before being taken into account in the calculation of taxable income. At this time foreign sourced income of foreign residents will be removed from the calculation of taxable income.

1.354 Whether the discount on the ESS interest acquired under an employee share scheme relates to employment in Australia or outside Australia is a question of fact that needs to be determined on a case-by-case basis.

1.355 Australian resident taxpayers are subject to Australian income tax on all discounts they receive under employee share schemes regardless of whether they received it in relation to employment in Australia or outside Australia. However, this may be affected by Australia's double tax treaties and the temporary residents rules.

1.356 Foreign resident taxpayers are only subject to Australian income tax on discounts they receive under employee share schemes to the extent that the discount relates to the employment in Australia. The core rules are contained in sections 6-5 and 6-10 of the ITAA 1997.

1.357 The outcome effectively mirrors the tax treatment of employment income. It has been necessary to modify the treatment of employee share scheme discounts received in respect of employment outside Australia in order to bring the employee share scheme rules into closer alignment with the ordinary treatment of salary and wage income and to prevent taxpayers avoiding the recent changes to section 23AG of the ITAA 1936 (exemption for foreign employment income).

It has already been accepted that the employee share scheme discount for the 2014-15 income year has both Australian and foreign components and therefore in part has a foreign source which is considered to be foreign source income for the purpose of completing the Taxpayer's income tax return.

However, you are seeking to use this analysis to select an earlier date as the date at which paragraph 1 of Article 15 of the Relevant DTA is applied. At that date, the Taxpayer was a resident of the Country X and Australia would not appear to have a taxing right in relation to this foreign sourced income.

As an example, you submit:

… that the options granted in [date specified] and vested in [date specified] were derived exclusively from employment rendered in Country X and that no part of the employment was rendered in Australia. The testing period ended on [date specified] when the Taxpayer was employed in Country X and a resident of Country X for tax purposes.

The fact that vesting or payment only occurred in [date specified] is irrelevant - it is payment for prior services rendered exclusively in Country X.

The key term in your submission and the key term in paragraph 1 of Article 15 of the Relevant DTA is 'derived' as in 'salaries, wages and other similar remuneration derived by an individual who is a resident of one of the Contracting States'. The term 'derived' is not defined in the Relevant DTA or within the Agreements Act.

The term 'derived' is mentioned in the definitions in subsection 995-1(1) of the ITAA 1997 without actually being defined. It merely states that its meaning is affected by subsection 6-5(4) of the ITAA 1997 which expands the concept of 'received'.

However, the definition to be ascribed to the term 'derived' has to be appropriate for the context in which it is used.

It is clear from the manner of the use of the term 'derived' in paragraph 1 of Article 15 of the Relevant DTA and from the OECD Commentary mentioned above that it is not intended to be used as a timing mechanism.

When considered as an element within the whole clause, the term 'derived' in the context that it is used in paragraph 1 of Article 15 of the Relevant DTA merely links remuneration to particular services. Therefore, the term 'derived' is a mechanism for determining source. This then forms the basis of determining whether there is a limitation on the taxing rights of the other Contracting State (not the country of residence). This also provides a basis for enforcing an obligation on the country of residence to allow a credit for tax paid in the other Contracting State in accordance with Article 22 of the Relevant DTA on income that has a source within that other Contracting State. (See also paragraph 9 of Taxation Ruling TR 2001/13.)

Further, paragraph 2.2 of the OECD Commentary on Article 15 (about employment) states:

'The condition provided by the Article for taxation by the State of source is that salaries, wages or other similar remuneration be derived from the exercise of employment in that State. This applies regardless of when that income may be paid to, credited to or otherwise definitively acquired by the employee.'

This commentary notes a distinction between the term 'derived' which it likens to 'earned' and 'acquired' which we would consider to represent the timing element in the statement.

We note that a payment of salary or wages is assessable upon receipt and it would be assessable in Australia if it was received by an Australian resident even if it represented back pay and related to a period of foreign service that occurred at a time when the recipient was not an Australian resident.

We also note your reference to the now withdrawn ATO ID 2011/16 and that factually it does not support your position as it referred to an instance where the whole of the earning period for rights to acquire shares occurred while the taxpayer was an Australian resident but the taxing point under Australia's domestic tax law occurred after that taxpayer left Australia. Article 15 of the Relevant DTA was applied as at the cessation time (being the taxing point under Australia's domestic tax law) and not at the end of the earning period.

ATO IDs 2007/173 and 2007/174 provide another instance where ESS interests were earned while the taxpayer was a resident of Country X, but was taxable in Australia. The Commissioner concluded that paragraph 1 of Article 15 of the Relevant DTA did not limit Australia's taxing right, but Article 22 forced Australia to allow a foreign tax credit.

While Australia's domestic tax law has changed since these ATO IDs were written, the Relevant DTA has not.

Class Ruling CR 2013/9 considers the same matter in the context of employment undertaken in Singapore and while focussed on the extent to which foreign income tax offsets are claimable it concludes at paragraph 18 that:

18. The ESS interests granted after 30 June 2009 meet the conditions for deferred taxation under Subdivision 83A-C. Consequently, there will be no tax payable on the discount until the earliest deferred taxing point. As the participant is a resident of Australia at the time of the deferred taxing point, his or her assessable income in Australia includes the whole gain on the ESS interests as at the deferred taxing point.

This is relevant as paragraph 1 of Article 11 in the Agreement between the Government of the Commonwealth of Australia and the Government of the Republic of Singapore for the avoidance of double taxation and the prevention of fiscal evasion with respect to taxes on income is essentially identical to paragraph 1 of Article 15 of the Relevant DTA and reads:

… remuneration or other income derived by an individual who is a resident of one of the Contracting States in respect of personal (including professional) services shall be subject to tax only in that Contracting State unless the services are performed or exercised in the other Contracting State. If the services are so performed or exercised such remuneration or other income as is derived therefrom shall be deemed to have a source in, and may be taxed in, that other Contracting State.

As an additional point, we note that you have not actually advised the extent to which the performance rights and performance options will be assessable in Country X as dependent personal services in accordance with Article 15 of the Relevant DTA.

Paragraph 2 of Article 27 of the Relevant DTA could potentially invalidate any attempt to claim this exemption if the performance rights and performance options are not fully taxable in Country X.

For the reasons given above, the ATO is not prevented by the Relevant DTA from taxing the whole of the employee share scheme discount as the Applicant is a resident of Australia at our taxing point.

Question 3

Summary

The Taxpayer is entitled to claim at least some portion of the Foreign income tax and State tax paid in relation to the portion of the employee share scheme discount that relates to service by the Taxpayer in Country X.

Detailed reasoning

Division 770 of the ITAA 1997 allows the Taxpayer to claim a foreign income tax offset in relation to foreign income tax paid in respect of foreign source income that is included in her assessable income.

Please refer to the Guide to foreign income tax offset rules 2014-15 for assistance in calculating the amount of the foreign income tax offset that can be claimed.