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Authorisation Number: 1051296211105

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Date of advice: 17 October 2017

Ruling

Subject: Lump sum payment from foreign pension schemes

Question 1

Is any part of the lump sum payments received by you from various Country X pension schemes assessable as applicable fund earnings in accordance with section 305-70 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

Question 2

Are you entitled to claim a foreign income tax offset (FITO) for the tax paid on the lump sum payments received from various Country X pension schemes?

Answer

Yes

Question 3

Are you entitled to a deduction for the professional fees incurred to assist with winding up the funds?

Answer

No

This ruling applies for the following period:

Year ended 30 June 2016

The scheme commences on:

1 July 2015

Relevant facts and circumstances

You held interests in the following policies held in pension schemes established and managed in Country X:

Benefits in the pension schemes are only payable in Country X upon reaching retirement age, invalidity, or upon death. Early withdrawals are not permitted.

You are a resident of Australia for taxation purposes.

You became a resident of Australia for taxation purposes (the residency date).

You advised that the gross value, in Country X currency, of your interests on the day before the residency date.

You made contributions into the pension schemes since your residency date.

There have been no transfers into the pension schemes from other foreign pension schemes since you became a resident of Australia.

You received the funds as lump sum payments in your bank account and you advised the value of the interests on the day of receipt.

You no longer have an interest in the pension schemes.

The daily exchange rates published on the ATO website.

You paid tax on the lump sum payments in Country X.

You incurred professional fees in Country X to assist with winding up the funds.

The professional fees were paid to a third party advisor.

Relevant legislative provisions

Income Tax Assessment Act 1997 Subsection 6-5(2)

Income Tax Assessment Act 1997 Section 6-10

Income Tax Assessment Act 1997 Section 305-70

Income Tax Assessment Act 1997 Section 305-75

Income Tax Assessment Act 1997 Section 960-50

Income Tax Assessment Act 1997 Subsection 960-50(1)

Income Tax Assessment Act 1997 Subsection 995-1(1)

Income Tax Assessment Act 1997 Subsection 770-10(1)

Income Tax Assessment Act 1997 Subsection 770-15(1)

Income Tax Assessment Act 1997 Section 8-1

International Tax Agreements Act 1953

Reasons for decision

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

Section 6-10 of the ITAA 1997 provides that amounts that are not ordinary income but may be assessable under another provision are called statutory income.

Subsection 6-10(4) of the ITAA 1997 states that the assessable income of an Australian resident includes statutory income from all sources, whether in or out of Australia.

In determining liability to tax on Australian sourced income, it is necessary to consider not only the income tax laws but also any applicable double tax agreement contained in the International Tax Agreements Act 1953 (the Agreements Act).

Section 4 of the Agreements Act incorporates that Act with the Income Tax Assessment Act 1936 (ITAA 1936) and ITAA 1997 so that those Acts are read as one.

Schedule X to the Agreements Act contains the double tax agreement and the protocol between Australia and Country X (the Country X Agreement). The Country X Agreement operates to avoid the double taxation of income received by Australian and Country X residents.

Article 21 (Other Income) of the Country X Agreement allocates taxing rights in relation to income not dealt with by the preceding Articles of the Agreement. Lump sum payments from pension schemes are not dealt with by any of those Articles and therefore they fall within the scope of Article 21.

Article 21(1) of the Country X Agreement provides that items of income not dealt in a specific article shall be taxed in the country of residence.

Your lump sum payment from the various pension schemes is not covered by any of the other Articles in the Agreement. As you derive the income as an Australian resident, it is taxable in Australia.

Section 10-5 of the ITAA 1997 lists section 305-70 of the ITAA 1997 as a provision which includes statutory income in assessable income.

Section 305-70 of the ITAA 1997 provides that an Australian resident taxpayer who receives a lump sum from a foreign superannuation fund more than six months after becoming an Australian resident must include the 'applicable fund earnings' of the lump sum in their assessable income.

Lump sum payments transferred from foreign superannuation funds

‘Foreign superannuation fund’ is defined in subsection 995-1(1) of the ITAA 1997. In this case, you provided evidence to indicate that each of the foreign schemes meets the requirements of a foreign superannuation fund as defined by the ITAA 1997.

Typically, when a taxpayer transfers an amount from a foreign superannuation fund to Australia, the growth they earned on their foreign superannuation during the period when they were a resident of Australia must be included in their assessable income as ‘applicable fund earnings’ under section 305-70 of the ITAA 1997. If the taxpayer became a member of the foreign superannuation fund before they became a resident of Australia, the amount of growth, or ‘applicable fund earnings’ is calculated under subsection 305-75(3) of the ITAA 1997, which states:

If you become an Australian resident after the start of the period to which the lump sum relates, 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 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 subsection 305-75(3) of the ITAA 1997 is that you are assessed only on the income they earned on their benefits in the foreign schemes. Any amounts attributable to contributions made by or on behalf of the Taxpayer and amounts attributable to transfers from other foreign funds do not form part of the taxable amount when the overseas benefits are 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 (A$). The applicable fund earnings is the result of a calculation from two other amounts and subsection 960-50(4) states that when applying section 960-50 to amounts that are elements in the calculation of another amount you need to:

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

● then, calculate the other amounts.

In ATO Interpretative Decision ATO ID 2015/7 Income tax/Superannuation

Foreign currency translation rules in working out 'applicable fund earnings' under section 305-75 of the ITAA 1997, the Commissioner considered the foreign currency translation rules in relation to lump sum transfers from foreign superannuation funds.

The Commissioner, in considering Item 11A of the table in subsection 960-50(6) of the ITAA 1997, determined that the exchange rate at which it is reasonable to translate amounts used in the method statements set out in subsection 305-75(3) of the ITAA 1997 into Australian currency is the exchange rate applicable at the time of receipt of the relevant superannuation lump sum.

Applicable fund earnings amount – Calculation

The calculation of the applicable fund earnings for the lump sums received from the foreign schemes is shown in the tables below with reference to the facts of the case. As discussed above, any amounts in foreign currency are translated into Australian dollars using the exchange rate applicable on the day of receipt.

This amount is composed of the applicable fund earning amounts calculated from the three payments received from the pension schemes and should be included as assessable income in your income tax return for the 2015-16 income year

Question 2

Article 21(3) of the Country X Agreement provides that income of an Australian resident not dealt with in the foregoing Articles of the Agreement from sources in Country X may also be taxed in Country X.

Your lump sum payment from the foreign superannuation fund is not covered by any of the other Articles in the Agreement. As you derive the income as an Australian resident, the applicable fund earning is included in your assessable under section 305-70 of the ITAA 1997. However as the income is from Country X, it may be taxable also in Country X.

Subsection 770-10(1) of the ITAA 1997 provides that a taxpayer is entitled to a foreign income tax offset (FITO) for foreign tax paid in respect of an amount that is included in assessable income.

Subsection 770-15(1) of the ITAA 1997 defines 'foreign income tax' as tax imposed by a law other than an Australian law, and is:

● tax on income; or

● tax on profits or gains, whether of an income or capital nature; or

● any other tax, being a tax that is subject to an agreement having the force of law under the Agreements Act.

Article 23 of the Agreement provides that where Country X tax paid under the law of that country and in accordance with this Agreement, whether directly or by deduction, in respect of income derived by a person who is a resident of Australia from sources in Country X shall be allowed as a credit against Australian tax payable in respect of that income. If eligible, this amount will be provided in the form of a FITO.

The entitlement to a FITO does not arise until the taxpayer has included an amount in their assessable income for an income year and has also paid foreign income tax in respect of that amount.

To determine the amount of FITO in any particular year, a person must first calculate the total foreign income tax paid on amounts included in their assessable income for the year.

Furthermore, there is a FITO limit. Where the total foreign income tax paid by a person is less than or equal to $1,000, the person is not required to calculate the FITO, i.e. the person's FITO will equal the foreign income tax paid on amounts included in the their assessable income.

The offset limit is in place to ensure that the tax offset only relieves double taxation and does not, in effect, fund part of the foreign income tax. If there were no limit, this situation could occur where the foreign tax rate was higher than the Australian tax rate. The offset limit attempts to avoid this outcome by limiting the tax offset to the amount of Australian tax that would be payable on the foreign income to which the foreign tax relates.

In your case, as a resident of Australia for tax purposes, the applicable fund earnings of the lump sum amount you received from your Country X pension schemes is included in your assessable income under section 305-70 of the ITAA 1997.

You provided that a tax amount being deducted from the lump sum payment. Under the Country X Agreement, Country X has the right to also tax the payment you received. Accordingly, Australia is required to provide taxation relief under Article 23 of the Agreement.

Therefore, you are entitled to a FITO for the tax paid in respect of the lump sum payments from your superannuation fund in Country X under section 770-10 of the ITAA 1997. However the amount of FITO you are entitled is capped at the Australian tax otherwise payable. Any excess FITO is not refundable.

Question 3

Section 8-1 of the ITAA 1997 allows a deduction for all losses and outgoings to the extent to which they are incurred in gaining or producing assessable income except where the outgoings are of a capital, private or domestic nature.

In determining whether a deduction for professional expenses is allowed under section 8-1 of the ITAA 1997, the nature of the expenditure must be considered (Hallstroms Pty Ltd v. Federal Commissioner of Taxation (1946) 72 CLR 634; [1946] HCA 34). The nature or character of the professional expenses follows the advantage which is sought to be gained by incurring the expenses.

In your case, you incurred professional fees in Country X to assist with winding up the funds. It is considered that the professional fees were incurred for early withdrawal of the monies from your pension schemes. The early withdrawal of monies from your pension schemes is an issue of a private nature. There is an insufficient nexus between incurring the professional fees and the gaining of assessable income. The professional fees are also private in nature and therefore not deductible under section 8-1 of the ITAA 1997.