Edited version of your written advice

Authorisation Number: 1051402741925

Date of advice: 19 July 2018

Ruling

Subject: Foreign superannuation fund

Question 1

Is any part of the proposed transfers from the two foreign pension schemes assessable as ‘applicable fund earnings’ under section 305-70 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

Question 2

Is the Taxpayer entitled to a deductible amount in respect of the pension to be commenced from a foreign pension scheme?

Answer

Yes.

This ruling applies for the following period:

Year ending 30 June 2019

The scheme commences on:

1 July 2018

Relevant facts and circumstances

The Taxpayer holds interests in two pension schemes (the Schemes) which are located and controlled overseas.

In 2013 the Taxpayer moved to Australia and became a tax resident (the Residency Date).

The Taxpayer provided evidence to indicate that each of the Schemes meet the definition of a foreign superannuation fund.

There were no contributions or pension amalgamations to the Schemes while the Taxpayer was a resident of Australia.

The Taxpayer intends to retire in the third quarter of 2018 and receive payments from the Schemes when retirement occurs as follows:

● Scheme A

● lump sum payment representing a portion of the interest in this scheme; and

● commence a pension with the remaining interest in this scheme.

● Scheme B

● a lump sum payment representing the entire interest in this scheme.

You provided the values of the Taxpayer’s interests in the Schemes as at the day before the Residency Date.

You provided the estimated values of the Taxpayer’s interests in the Schemes as at a particular transfer date.

The pension to be paid from Scheme A:

● is payable for life;

● is partially reversionary;

● has a residual capital value of nil;

● will commence at the same time as the lump sum payment from this scheme;

You provided the total amount of personal contributions paid to Scheme A.

The Taxpayer’s date of birth is provided.

The spouse’s date of birth is provided.

Relevant legislative provisions

Income Tax Assessment Act 1936 section 27H

Income Tax Assessment Act 1997 section 960-50

Income Tax Assessment Act 1997 section 305-70

Income Tax Assessment Act 1997 subsection 305-75(3)

Income Tax Assessment Act 1997section 960-50

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

Reasons for decision

Summary

A portion of the lump sum payments that the Taxpayer will receive from the Schemes should be included as assessable ‘applicable fund earnings’ in the Taxpayer’s income tax return for the 2018-19 income year. The amounts that should be included depend on the value of the Taxpayer’s interests in the Schemes on the date of the transfer and the foreign exchange rate on that date.

The Taxpayer is entitled to a deductible amount in respect of the pension to be commenced from Scheme A. As the Taxpayer’s pension will be paid for part of the 2018-19 income year, a pro-rated amount will apply to that income year.

Detailed reasoning

Lump sum payments transferred from foreign superannuation funds

‘Foreign superannuation fund’ is defined in subsection 995-1(1) of the Income Tax Assessment Act 1997 (ITAA 1997). In this case, the Taxpayer provided evidence to indicate that the Schemes are foreign superannuation funds 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 the Taxpayer is assessed only on the income they earned on their benefits in the Schemes during the period in which they were a resident of Australia. Any amounts attributable to contributions made by the Taxpayer and amounts attributable to transfers from other foreign funds do not form part of the taxable amount when the overseas benefit is 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. The applicable fund earnings is the result of a calculation from two other amounts and subsection 960-50(4) of the ITAA 1997 states that when applying section 960-50 of the ITAA 1997 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, 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 – Example calculation

The Taxpayer has yet to receive their two lump sums from the Schemes. Until the time the payments take place, we are unable to advise the actual figure to be included as assessable ‘applicable fund earnings’ in the Taxpayer’s tax return. However, we will demonstrate how the applicable fund earnings are calculated by using an example had the transfer of the Taxpayer’s benefits occurred on a particular transfer date. Please note that when the payments are actually made the applicable fund earnings amount will need to be recalculated using the correct transfer values.

The example calculation of the applicable fund earnings for lump sums received from the Schemes using a transfer date is shown in the table below. Any amounts in foreign currency are translated into Australian dollars using the exchange rate applicable on the day of receipt.

Scheme A – a proportionate approach is allowed

It is the Commissioner's view that where an individual commences a pension from the foreign superannuation fund at the same time as the superannuation lump sum is paid from the fund, subsection 305-75(3) of the ITAA 1997 is applied having regard only to the individual's lump sum entitlement. That is, regard is had only to so much of each of the relevant vested amounts that was, at the relevant times, payable as a lump sum. The part of the vested amount that relates to the pension is disregarded.

This approach ensures that the individual is not assessed on earnings that have, in effect, accrued in relation to the pension that will be paid from the foreign superannuation fund. This is consistent with the Commissioner’s view in ATOID 2012/49.

As the Taxpayer intends to receive a lump sum amount that is a portion of their interest in Scheme A, this proportion will be used to calculate the applicable fund earnings in relation to this lump sum amount to be received.

Please note that when the payment is actually made the exact portion will need to be recalculated using the correct transfer value at item E, and applied to the relevant column at Item I, in the table above.

Scheme B – no proportionate approach

Where an individual receives a superannuation lump sum from a foreign superannuation and that amount only represents a part of the amount vested in them at the time of payment, it is the Commissioner’s view that there is no basis for applying a proportionate approach in working out the applicable fund earnings. This is consistent with the Commissioner’s view in ATOID 2012/48.

Total applicable fund earnings

Therefore, a part of the lump sum payments to be made from the Schemes should be included as assessable ‘applicable fund earnings’ in the Taxpayer’s income tax return for the 2018-19 income year if the payments are made in the third quarter of 2018.

When the transfers do occur, the amounts in Item E in the table above will most likely be different. This will affect the amounts in Items F and I.

Pension

Personal contributions

Where a person is entitled to both a pension and a lump sum payment, it must be determined what proportion of the total personal contributions, have been used to obtain the pension and what was included in the lump sum.

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.

In this case, the Taxpayer will receive both a lump sum payment and a pension from Scheme A. The Taxpayer has paid personal contributions into the scheme to obtain these retirement benefits.

A portion of the interest in the Scheme A will fund the pension. Therefore, the same portion of the personal contributions will form part of the ‘purchase price’ of the pension. The exact percentage to be applied to the personal contributions will need to be recalculated at the commencement of the pension.

The deductible amount

The part of the annual pension which represents a return to the Taxpayer of their personal contributions is free from tax. The tax-free portion is called the deductible amount.

The deductible amount is calculated by dividing the UPP of your pension by either the term of the pension (if fixed), or a life expectancy factor - that applies to the Taxpayer or their spouse if they have a greater life expectancy - according to life expectancy statistics.

The Australian life tables are published by the Australian Government Actuary, and the life expectancy is taken from when the pension first became payable.

The annual deductible amount is calculated using the following formula:

A = relevant share of the pension payable to you

(if all the pension is payable to the Taxpayer then A = 1)

B = is the amount of the UPP of the pension, which in this case is a portion of their personal contributions.

C = is the residual capital value (if any), which in this case is nil.

D = is the relevant number.

The annual deductible amount is worked out using the above formula. Please note that when the pension payment is actually made the exact annual deductible amount will need to be recalculated using the correct percentage at item B of the above formula.

Part year calculation

As the Taxpayer’s pension will be paid for part of the 2018-19 income year, a pro-rated amount will apply that year.