Private ruling: Lump sum payment from a foreign superannuation fund
Published: May 2014
Ruling period: Year ending 30 June 2013.
Date scheme commenced: 1 July 2012.

Ruling: Q1: Will any part of the lump sum payment from a foreign pension fund made as a result of permanent incapacity be assessable as applicable fund earnings under section 305-70 of the Income Tax Assessment Act 1997 (ITAA 1997)? | A1: Yes.

Relevant facts and circumstances: You became a member of a foreign superannuation fund (the Pension Scheme prior to becoming a resident of Australia for taxation purposes during 19XX (residency date). Your Pension Scheme membership commenced in 19YY. You were diagnosed with a serious medical condition which has resulted in you being permanently unable to return to work. You applied to the Pension Scheme for an early payment of your deferred benefits because of your ill health and during 2013, you were advised your retirement benefit statement included the following details: • total pensionable pay • total membership days at date of retirement • benefit entitlement as calculated including the total pension payable and the net lump sum payable You commenced to receive a pension from the Pension Scheme which is a retirement fund established and managed outside Australia. The international tax agreement between Australia and the country in which the retirement fund is established and managed provides that the pension is taxable in Australia. Your assessable income includes your pension income. At the commencement of the pension you also received a lump sum payment. The pension became payable after 1 July 1983 and is payable for life, and on your death reverts to your spouse. All the pension is payable to you and the total amount of your contributions, other than employer contributions, was paid to the retirement fund towards your total retirement benefits (pension and lump sum). On the basis of information provided, we calculated the value of the pension entitlement the day before you received the lump sum. The residual capital value of the pension is nil. You were advised your benefits increase in line with movements in the foreign country Retail Prices Index (RPI)/Consumer Prices Index (CPI). No amounts were transferred to the Pension Scheme from another foreign pension fund prior to your residency date. No contributions were made to the Pension Scheme on or after your residency date. Your lump sum payment was paid by the Pension Scheme to your Australian bank account. Reasons for decision Summary The amount assessable as 'applicable fund earnings' in relation to the lump sum payment received from the Pension Scheme in the 2012-13 income year is X . Your annual deductible amount in respect of the pension from the Pension Scheme is Y and will apply from the 2013-14 to 2016-17 financial years. Your part year deductible amount Z will apply for the 2012-13 financial year. Detailed reasoning Lump sum payments from foreign superannuation funds The applicable fund earnings in relation to a lump sum payment from a foreign superannuation fund that are received more than six months after a person has become an Australian resident will be assessable under section 305-70 of the Income Tax Assessment Act 1997 (ITAA 1997). The applicable fund earnings are subject to tax at the person's marginal rate. The remainder of the lump sum payment is not assessable income and is not exempt income. The applicable fund earnings is the amount worked out under either subsection 305-75(2) or subsection 305-75(3) of the ITAA 1997. Subsection 305-75(2) applies where the person was an Australian resident at all times during the period to which the lump sum relates. Subsection 305-75(3) applies where the person becomes an Australian resident after the start of the period to which the lump sum relates. Before determining whether an amount is assessable under section 305-70 of the ITAA 1997, it is necessary to ascertain whether the payment is being made from a foreign superannuation fund. If the entity making the payment is not a foreign superannuation fund, then section 305-70 will not have any application. Foreign superannuation fund A foreign superannuation fund is defined in subsection 995-1(1) of the ITAA 1997 as follows: (a) a superannuation fund is a foreign superannuation fund at a time if the fund is not an Australian superannuation fund at that time; and (b) a superannuation fund is a foreign superannuation fund for an income year if the fund is not an Australian superannuation fund for the income year. Subsection 295-95(2) of the ITAA 1997 defines Australian superannuation fund as follows: A superannuation fund is an Australian superannuation fund at a time, and for the income year in which that time occurs, if: (a) the fund was established in Australia, or any asset of the fund is situated in Australia at that time; and (b) at that time, the central management and control of the fund is ordinarily in Australia; and (c) at that time either the fund had no member covered by subsection (3) (an active member ) or at least 50% of: (i) the total *market value of the fund's assets attributable to *superannuation interests held by active members; or (ii) the sum of the amounts that would be payable to or in respect of active members if they voluntarily ceased to be members; is attributable to superannuation interests held by active members who are Australian residents. Thus, a superannuation fund that is established outside of Australia and has its central management and control outside of Australia would qualify as a foreign superannuation fund . The fact that some of its members may be Australian residents would not necessarily alter this. Subsection 995-1(1) of the ITAA 1997 defines a superannuation fund as having the same meaning given by section 10 of the Superannuation Industry (Supervision) Act 1993 (SIS Act), that is: (a) a fund that: (i) is an indefinitely continuing fund; and (ii) is a provident, benefit, superannuation or retirement fund; or (b) a public sector superannuation scheme; Provident, benefit, superannuation or retirement fund The High Court examined both the terms superannuation fund and fund in Scott v Commissioner of Taxation of the Commonwealth (No. 2) (1966) 10 AITR 290; (1966) 40 ALJR 265; (1966) 14 ATD 333 (Scott). In that case, Justice Windeyer stated: …I have come to the conclusion that there is no essential single attribute of a superannuation fund established for the benefit of employees except that it must be a fund bona fide devoted as its sole purpose to providing for employees who are participants money benefits (or benefits having a monetary value) upon their reaching a prescribed age. In this connexion "fund", I take it, ordinarily means money (or investments) set aside and invested, the surplus income therefrom being capitalised. I do not put this forward as a definition, but rather as a general description. The issue of what constitutes a provident, benefit, superannuation or retirement fund was discussed by the Full Bench of the High Court in Mahony v Commissioner of Taxation (Cth) (1967) 41 ALJR 232; (1967) 14 ATD 519 ( Mahony ). In that case, Justice Kitto held that a fund had to exclusively be a 'provident, benefit or superannuation fund' and that 'connoted a purpose narrower than the purpose of conferring benefits in a completely general sense…". This narrower purpose meant that the benefits had to be 'characterised by some specific future purpose' such as the example given by Justice Kitto of a funeral benefit. Furthermore, Justice Kitto's judgement indicated that a fund does not satisfy any of the three provisions, that is, 'provident, benefit or superannuation fund', if there exist provisions for the payment of benefits 'for any other reason whatsoever'. In other words, though a fund may contain provisions for retirement purposes, it could not be accepted as a superannuation fund if it contained provisions that benefits could be paid in circumstances other than those relating to retirement. In section 62 of the SIS Act, a regulated superannuation fund must be 'maintained solely' for the 'core purposes' of providing benefits to a member when the events occur: • on or after retirement from gainful employment; or • attaining a prescribed age; and • on the member's death. (This may require the benefits being passed on to a member's dependants or legal representative). Notwithstanding the SIS Act applies only to 'regulated superannuation funds' (as defined in section 19 of the SIS Act), and foreign superannuation funds do not qualify as regulated superannuation funds as they are established and operate outside Australia, the Commissioner views the SIS Act (and the SIS Regulations) as providing guidance as to what 'benefit' or 'specific future purpose' a superannuation fund should provide. In view of the legislation and the decisions made in Scott and Mahony , the Commissioner's view is that for a fund to be classified as a superannuation fund, it must exclusively provide a narrow range of benefits that are characterised by some specific future purpose. That is, the payment of superannuation benefits upon retirement, invalidity or death of the individual or as specified under the SIS Act. Therefore, in order for the amount that was transferred from the Pension Scheme to be considered a payment from a foreign superannuation fund as defined in subsection 995-1(1) of the ITAA 1997, the Pension Scheme must also satisfy the requirements set out in subsection 295-95(2) of the ITAA 1997. This means that the Pension Scheme should not be an Australian superannuation fund as defined in that subsection but must be a provident, benefit, superannuation or retirement fund as discussed above. Looking at the Pension Scheme, it is evident each is established outside of Australia; and the central management and control is outside of Australia. Retirement benefits are payable to members at retirement age. Early retirement pension benefits are payable due to circumstances of ill health and early withdrawals for non-retirement purposes are not permitted. Therefore, on the basis of the information provided, the Commissioner considers that the Pension Scheme is a foreign superannuation fund as defined in subsection 9951(1) of the ITAA 1997 and any transfers from the Pension Scheme needs to be considered under section 305-70 of the ITAA 1997. Applicable fund earnings You became a resident of Australia for tax purposes during 1989 and from the information provided, the transfer of the lump sum payment from the Pension Scheme occurred during the 2012-13 income year. As this date was more than 6 months after you became an Australian resident, section 305-70 of the ITAA 1997 applies to include the 'applicable fund earnings' in your assessable income for the 2012-13 income year. The 'applicable fund earnings' are worked out under section 305-75. As mentioned earlier, subsection 305-75(3) applies where the person becomes an Australian resident after the start of the period to which the lump sum relates. Subsection 305-75(3) of the ITAA 1997 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). In short, you are assessed only on the income earned (the accretion) in respect of the foreign fund transfer less any contributions made since you became a resident of Australia. Further, any amounts representative of earnings during periods of non-residency, and transfers into the paying fund 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) states when applying section 960-50 to amounts that are elements in the calculation of another amount you need to: (a) first, translate any amounts that are elements in the calculation of other amounts (except special accrual amounts); and (b) then, calculate the other amounts Amounts to be used in calculation The Pension Scheme advised the transfer value as A and that your benefits would be increased by reference to indexation from the date you left the Pension Scheme to the date of payment. From this information, we calculated the value of your benefits on the day before you became a resident (the residency date) as B . This amount will be used as the amount that was vested in you on the day before you became a resident of Australia. This is converted into Australian dollars at the exchange rate that applied on that day which converts the amount of B to AU $C (cents ignored). You have advised there were no contributions made to the Pension Scheme on or after the residency date. No amounts were transferred into the Pension Scheme from other foreign superannuation funds during the period of membership. The Pension Scheme advised the transfer value amount of D (the lump sum payment) was paid to your Australian bank account. This amount is converted into Australian dollars at the exchange rate that applied on that day which converts the amount of D to AU $F . The amount vested in you on the day before the transfer occurred is $F (cents ignored). In accordance with the Commissioner's view 'the period' for the purposes of paragraph 305-75(3)(c) of the ITAA 1997 commences on the day on which the person first became an Australian resident and ceases on the day the lump sum is paid. In your case, that period is from your residency date to the payment date and you were a resident for the whole of that period. Therefore, the Australian resident days and the total days are the same, and so the proportion to be used in the calculation is 1. There are no previously exempt fund earnings in relation to the lump sum transfer. Therefore, applying subsection 305-75(3) to your circumstances, the amounts to be used in calculating the applicable fund earnings are as follows: 305-75(3)(a)(i) $C 305-75(3)(a)(ii) Nil 305-75(3)(a)(iii) Nil 305-75(3)(b) $F 305-75(3)(c) 1 305-75(3)(d) Nil Calculation of the assessable amount of the payment from foreign superannuation fund In accordance with 305-75 (3) of the ITAA 1997 the amounts determined at sub-paragraphs 305-75(3)(a)(i), (ii) and (iii) are added. $C + nil + nil = $C . This total is then subtracted from the amount determined under paragraph 305-75(3)(b), $F . $F less $C is $G. This figure is multiplied by the proportion of the total days determined under paragraph 305-75(3)(c) - '1' $G x 1 = $G To this figure we add the amounts determined under paragraph 305-75(3)(d) - nil $G + nil = $G Therefore, $G will be included as 'applicable fund earnings' under section 305-70 of the ITAA 1997 in the 2012-13 income year. The undeducted purchase price (UPP) of your foreign pension Apportioning contributions where both a lump sum and pension is paid The definition of purchase price is contained in subsection 27H(4) of the ITAA 1936. It states that 'purchase price' includes the contributions made by a person to any foreign superannuation fund to obtain a pension and so much of contributions considered reasonable by the Commissioner as having been paid by a person to a foreign superannuation fund to obtain superannuation benefits including a pension. Where a person is entitled to both a pension and a lump sum payment, it must be determined whether part of the personal contributions made to the fund are 'undeducted contributions' relating to the lump sum payment, or form part of the 'purchase price' relating to the superannuation pension. Taxation Ruling IT 2272 Income tax: Eligible termination payments and superannuation pensions - determination of undeducted contributions and undeducted purchase price 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 as follows: Purchase of pension = B (A + B) Purchase of lump sum = A (A + B) where: A = is the amount of the lump sum benefit received, and B = is the net present value of the pension entitlement at the time when the lump sum benefit is received. You received both a lump sum payment and a pension from the Pension Scheme on retirement. You paid personal contributions into the fund to obtain your retirement benefits. Therefore, some of the personal contributions would have been allocated to the lump sum benefit and some would have formed part of the 'purchase price' of your pension. It is necessary to determine what proportion of the total personal contributions, have been made to obtain your pension. As there is no alternative basis for allocating the personal contributions made to obtain both the pension and lump sum benefit, the above formula will be used. The proportion of the total personal contributions attributable to the pension from the Pension Scheme is determined as a percentage on the basis of the information as provided by the Pension Scheme. This percentage is applied to your total contributions paid to determine the purchase price of your pension benefit. How the annual deductible amount is calculated Section 27H of the ITAA 1936 operates to include in assessable income the amount of any pension derived by a taxpayer during a year of income reduced by the deductible amount. The deductible amount is deemed to be a return of part of your contribution towards the purchase of the pension. The calculation of the deductible amount is based on the UPP of your pension. The UPP is the amount you contributed towards the purchase price of your pension for which you did not claim, and were not eligible to claim, a tax deduction in Australia. Contributions made by an employer or by another person under an agreement to which the employer was a party, cannot form part of the UPP of the pension. Under subsection 27H(2) of the ITAA 1936, the annual deductible amount of a superannuation pension is ascertained in accordance with the formula: A (B - C) D where: A = is the relevant share of the pension payable to the taxpayer in relation to the year of income (if all of the pension is payable to the taxpayer, A = 1) B = is the amount of the UPP of the pension as calculated under IT 2272 C = is the residual capital value, and D = is the relevant number in relation to the pension. There is no Taxation Ruling or Taxation Determination published which provides for an alternative calculation or Commissioner's discretion under section 27H(3) of the ITAA 1936. Under subsection 27H(4) of the ITAA 1936, when a pension is payable during the lifetime of a person, the 'life expectation factor' is to be used as the relevant number. Regulation 9 of the Income Tax Regulations 1936 states that for the purposes of the definition of life expectation factor in subsection 27H(4) of the ITAA 1936, the Australian Life Tables published by the Australian Government Actuary are to be used. The factors for determining the life expectancy are: • the date when the pension first became payable, and • your age when the pension commenced, and your spouse's age when the pension commenced. In Taxation Determination TD 2006/72 Income tax: does the relevant number determined for the purposes of working out the deductible amount of a superannuation pension or annuity under subsection 27H(2) of the Income Tax Assessment Act 1936 take into account the life expectancy of a reversionary pensioner or annuitant? the Commissioner states, in paragraph 1, that the relevant number used to calculate the deductible amount of a superannuation pension that is payable to a person (the original pensioner) for life and on the death of that person is payable to another person for their life (the reversionary pensioner) will be the greater of the life expectancies of the original and reversionary pensioners. Therefore, the components are determined in accordance with TD 2006/72 and the annual deductible amount is determined. Your annual deductible amount of the UPP will apply from the 2013-14 to 2016-17 financial years and all subsequent years where the facts, as stated in the ruling, do not change. How the part year deductible amount is calculated Paragraph 2 of Taxation Determination TD 2006/17 Income tax: is the deductible amount that is excluded from assessable income when a superannuation pension or annuity is paid reduced when the pension or annuity commences or finishes being paid to a taxpayer part-way through an income year? states that where a pension has commenced or finished during a financial year, the deductible amount should be determined under subsection 27H(3) of the ITAA 1936. The deductible amount in these circumstances is the amount that would be calculated under subsection 27H(2) of the ITAA 1936 apportioned in accordance with the number of days the pension was payable to you in that year. Converting foreign currency to Australian currency For the 2003-04 and subsequent financial years, subsection 960-50(1) of the Income Tax Assessment Act 1997 (ITAA 1997) requires an amount in a foreign currency to be translated into Australian currency. Subsection 960-50(4) of the ITAA 1997 further requires any foreign currency elements in a calculation to be translated before the final amount is worked out. In accordance with the currency translation rules contained in section 960-50 of the ITAA 1997 and clarified in Taxation Determination TD 2006/54 Income tax: how does a taxpayer work out the amount to be included in assessable income under section 27H of the Income Tax Assessment Act 1936 for a superannuation pension or annuity that is payable in a foreign currency? , pensions received in foreign currency should be translated to Australian currency on the following basis: 1. if the amount is received at or before the time when it is derived - the amount is to be translated to Australian currency at the exchange rate applicable at the time of receipt; or 2. in any other case - the amount is to be translated to Australian currency at the exchange rate applicable when it is derived. As a general rule, the deductible amount is translated to Australian currency using the same exchange rate applying to the pension. Alternatively, regulation 960-50.01 of the Income Tax Assessment Regulations 1997 (ITAR 1997) and Schedule 2 to the ITAR 1997 allow pensions received in foreign currency and the deductible amount to be translated to Australian currency at the average exchange rate for the financial year. This is provided the conditions outlined in Schedule 2 to the ITAR 1997 are satisfied. Where the pension is received as a series of payments over the course of the financial year, and provided the average exchange rate is considered a reasonable approximation of the exchange rates, the conditions outlined in Schedule 2 to the ITAR 1997 will be satisfied. In your case, as your pension is paid on a monthly basis, you may use the average exchange rate to translate your pension income and the deductible amount of your UPP.



Question 2: Are you entitled to a deductible amount in respect of the undeducted purchase price (UPP) of your foreign pension? | The scheme commences on: The scheme has commenced.