Edited version of private advice

Authorisation Number: 1052255952633

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This edited version has been found to be misleading or incorrect. It does not represent the ATO’s view of the relevant law.

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Edited versions cannot be relied upon as precedent or used for determining how the ATO will apply the law in other cases.

Date of advice: 30 May 2024

Ruling

Subject: Foreign income

Question 1

Is the repayment of the foreign currency denominated loan a forex realisation event 4 (FRE4) as described in Item 3 of the table in paragraph 775-15(2)(b) of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

Question 2

Is the tax recognition time for the loan the time you received the currency as described in Item 8 of the table in subsection 775-55(7) of the ITAA 1997?

Answer

Yes.

Question 3

Will subsection 775-15(2) of the ITAA 1997 apply to prevent the FRE4 loss from being deducted from your assessable income?

Answer

Yes.

This ruling applies for the following period:

Year ended 30 June 20YY

The scheme commenced on:

1 July 20YY

Relevant facts and circumstances

You and your spouse purchased a property several years ago in Country Z.

You and your spouse obtained a Country Z mortgage over the Country Z property at the same date the property was purchased.

You and your spouse used the Country Z property as your main residence until you moved to Australia a couple of years ago.

You and your spouse became residents of Australia for taxation purposes shortly after moving to Australia.

You and your spouse continued to treat the Country Z property as your main residence for the period it was rented up until it was sold using the absence rule in Section 118-145 of the Income Tax Assessment Act 1997.

You and your spouse leased the Country Z property out when you left Country Z to come to Australia.

You and your spouse lodged income tax returns in Australia declaring rental income and claimed a 100% deduction for the mortgage interest on the Country Z property.

You and your spouse disposed of the Country Z property in the year after you arrived in Australia.

You and your spouse discharged the loan on the Country Z property at the same time date the Country Z property was sold.

The change in currency value over the duration of the FRE4 event has resulted in you incurring a loss upon the repayment of the loan.

Relevant legislative provisions

Income Tax Assessment Act 1997 Part 3-1

Income Tax Assessment Act 1997 Part 3-3

Income Tax Assessment Act 1997 section 8-1

Income Tax Assessment Act 1997 section 118-110

Income Tax Assessment Act 1997 Division 775

Income Tax Assessment Act 1997 section 775-15

Income Tax Assessment Act 1997 subsection 775-15(2)

Income Tax Assessment Act 1997 subsection 775-15(2)(b)

Income Tax Assessment Act 1997 section 775-30

Income Tax Assessment Act 1997 subsection 775-30(2)

Income Tax Assessment Act 1997 Subparagraph 755-55(1)(b)(ix)

Income Tax Assessment Act 1997 subsection 775-55(2)

Income Tax Assessment Act 1997 subsection 775-55(5)

Income Tax Assessment Act 1997 subsection 775-55(7)

Income Tax Assessment Act 1997 section 775-95

Income Tax Assessment Act 1997 section 775-105

Reasons for decision

Questions 1 and 2

Forex realisation event 4

Division 775 of the Income Tax Assessment Act 1997 (ITAA 1997) applies to the realisation of assets, rights (or part of rights) and obligations (or part of obligations) and explains how to calculate forex gains and losses that are attributable to currency exchange rate fluctuations. Loan accounts are an obligation.

Subsection 775-55(2) of the ITAA 1997 provides that forex realisation event 4 (FRE4) occurs when an entity ceases to have an obligation to pay foreign currency. This applies to cases where the obligation to pay foreign currency arose in return for receiving an amount of Australian currency or foreign currency in accordance with Subparagraph 755-55(1)(b)(ix) of the ITAA 1997.

Subsection 775-55(5) of the ITAA 1997 also provides that you make a forex realisation loss if the amount you paid in satisfaction of the loan exceeds the proceeds (worked out at the tax recognition time) of assuming the obligation or part of the obligation and some or all the excess is attributable to a currency exchange rate effect. The amount of the forex realisation loss is so much of the excess as is attributable to a currency exchange rate effect.

Proceeds of assuming an obligation to pay foreign currency

Section 775-95 of the ITAA 1997 provides that the proceeds of assuming the obligation to pay foreign currency is the total money you receive or are entitled to receive in return for incurring the obligation.

Tax recognition time

Item 8 in the table listed in subsection 775-55(7) of the ITAA 1997 provides that where the obligation to pay the foreign currency was incurred in return for receiving Australian currency or foreign currency, the tax recognition time is the time you originally receive the Australian currency or foreign currency.

Currency exchange effect

Section 775-105 of the ITAA 1997 provides that the currency exchange effect is:

(a)          any currency exchange fluctuations; or

(b)          a difference between:

(i)           an expressly or implicitly agreed currency exchange rate for a future date or time; and

(ii)           the applicable currency exchange rate at that date or time.

Application to your circumstances

You originally incurred the obligation to pay foreign currency when you and your spouse received the loaned funds to purchase the Country Z property.

This is also known as the tax recognition time which is covered in Item 8 in the table listed in subsection 775-55(7) of the ITAA 1997 (as noted above).

You then ceased to have the obligation to pay foreign currency when you and your spouse discharged the Country Z loan at which time FRE4 occurred in accordance with Subsection 775-55(2) of the ITAA 1997.

The discharge of the Country Z loan caused FRE 4 to occur during the relevant income year.

Question 3

Allowable deduction

Section 775-30 of the ITAA 1997 provides that forex realisation losses are deductible for Australian tax residents, however subsection 775-30(2) of the ITAA 1997 prevents a deduction from being claimed where the loss is incurred in relation to a foreign realisation event of a private or domestic nature, mirroring the same concept as the general deduction provisions of section 8-1 of the ITAA 1997.

There is no definition of private and domestic contained in the Income Tax Assessment Act 1997. Therefore, both words take on their ordinary meaning. The ordinary meaning of private is 'belonging to or for the use of one particular person or group of people only' and that of domestic, 'relating to the running of the house or to family relations'. It is our view that the dominant purpose for which the loan is held will determine whether a forex gain or loss resulting from an obligation to pay foreign currency (under an obligation to pay a foreign loan) is private or domestic.

Item 2 of the table in paragraph 775-30(2)(b) provides that losses incurred in respect of a FRE4 of a private or domestic nature will not be disregarded to the extent that the asset acquired with the proceeds of the loan gives rise to a capital gain or loss which is taken into account under Part 3-1 or Part 3-3 of the ITAA 1997.

Application to your circumstances

You and your spouse lived in the Country Z property as your physical main residence until you came to Australia, and despite you renting the Country Z property out from this time up until it was eventually sold, you and your spouse then used the absence rule under Section 118-145 of the ITAA 1997 to continue treating the Country Z property as your main residence until it was sold.

As such, the main residence exemption will apply to the sale of the property in accordance with section 118-110 of the ITAA 1997 and no capital gain or loss will be brought to account under Part 3-1 or Part 3-3 of the ITAA 1997. Accordingly, the FRE4 is regarded to be entirely private and domestic, and as no capital gain or loss will come to account when the property is disposed of Item 2 of paragraph 775-30(b) will not apply to make any part of the gain or losses from the FRE4 assessable.

Therefore, any loss incurred in respect of the FRE4 cannot be deducted from your assessable income.