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Are the salary and wages received by a resident taxpayer from serving as a member of the Australian Defence Force (ADF) in the Republic of Kiribati (Kiribati) with the Pacific Patrol Boat Project assessable income under subsection 6-5(2) of the Income Tax Assessment Act 1997 (ITAA 1997)?

No. The salary and wages received by a resident taxpayer from serving as a member of the ADF in Kiribati with the Pacific Patrol Boat Project are not assessable under subsection 6-5(2) of the ITAA 1997 as the salary and wages are exempt under subsection 23AG(1) of the Income Tax Assessment Act 1936 (ITAA 1936).

The taxpayer is an Australian resident for income tax purposes.

The taxpayer is a member of the ADF.

The taxpayer served in Kiribati for a continuous period of not less than 91 days as part of Australia's contribution to the Pacific Patrol Boat Project.

The Pacific Patrol Boat Project is a part of Australia's Defence Cooperation Program. The program's aim is to support Australia's defence relationships in the Pacific region by contributing to the maintenance of regional security and assisting with the development of security capabilities of various South Pacific countries, including Kiribati.

The taxpayer received salary and wages from the ADF.

A certificate under paragraph 23AD(1)(a) of the ITAA 1936 has not been issued by the Chief of the Defence Force to the effect that the taxpayer is on eligible duty with a specified organisation in a specified area outside Australia.

The Income Tax Law of Kiribati provides for the imposition of income tax on employment income and does not generally exempt such income from income tax.

The salary and wages received by the taxpayer were not exempt in Kiribati because of a law (or regulations) corresponding to the International Organizations (Privileges and Immunities) Act 1963 or under an international agreement to which Australia is a party that deals with privileges and immunities of persons connected with international organisations or relating to diplomatic or consular matters.

The taxpayer's salary and wages were exempt from income tax in Kiribati under the terms of a Memorandum of Understanding (MoU) between the Governments of Australia and Kiribati.

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

Salary and wages are ordinary income for the purposes of subsection 6-5(2) of the ITAA 1997.

Subsection 6-15(2) of the ITAA 1997 provides that if an amount is exempt income it is not included in assessable income. Section 11-15 of the ITAA 1997 lists those provisions dealing with income which may be exempt. Included in this list is section 23AG of the ITAA 1936 which deals with overseas employment income.

Subsection 23AG(1) of the ITAA 1936 provides that, where a resident taxpayer is engaged in foreign service for a continuous period of not less than 91 days, any foreign earnings derived from foreign service will be exempt from tax in Australia. 'Foreign service' includes service in a foreign country in the capacity as an employee and 'foreign earnings' includes income consisting of salary and wages (subsection 23AG(7) of the ITAA 1936).

Subsection 23AG(2) of the ITAA 1936 provides that the exemption in subsection 23AG(1) of the ITAA 1936 will not apply where the income is exempt from income tax in the foreign country only because of any of the following reasons: (a) a law of the foreign country giving effect to a double tax agreement (b) a double tax agreement (c) provisions of a law of the foreign country under which income covered by any of the following categories is generally exempt from income tax: (i) income derived in the capacity of an employee (ii) income from personal services (iii) similar income (d) the law of the foreign country does not provide for the imposition of income tax on one or more of the categories of income mentioned in paragraph (c) (e) a law of the foreign country corresponding to the International Organizations (Privileges and Immunities) Act 1963 or to the regulations under that Act (f) an international agreement to which Australia is a party and that deals with: (i) diplomatic or consular privileges and immunities (ii) privileges and immunities in relation to persons connected with international organisations (g) a law of the foreign country giving effect to an agreement covered by paragraph (f).

Under paragraph 23AG(2)(b) of the ITAA 1936, where income is exempt from income tax in the foreign country as a result of the operation of a double tax agreement, that income is not exempt under subsection 23AG(1) of the ITAA 1936.

Therefore, 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 (Agreements Act).

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

Schedule 34 to the Agreements Act contains the double tax agreement between Australia and the Republic of Kiribati (the Kiribati Agreement). The Kiribati Agreement operates to avoid the double taxation of income received by Australian and Kiribati residents. [PARAGRAPH DELETED 27 April 2007] [PARAGRAPH DELETED 27 April 2007]

Article 19(1) of the Kiribati Agreement provides that remuneration paid by Australia in respect of services rendered by an Australian resident in the discharge of governmental functions shall be taxable only in Australia. As the resident taxpayer renders services in the performance of the Australian government's defence functions, this remuneration is exempt from tax in Kiribati. This exemption is provided by a double tax agreement, as outlined in paragraph 23AG(2)(b) of the ITAA 1936.

However, in circumstances where the foreign earnings are exempt from tax in the foreign country both because of an event listed under subsection 23AG(2) and another reason not contained in subsection 23AG(2) (for example, a MoU - as in this case - and/or a specific exemption in the foreign country's tax law), subsection 23AG(2) of the ITAA 1936 will not apply to deny the exemption under subsection 23AG(1) of the ITAA 1936. This is because the foreign earnings are not exempt in the foreign country solely because of events listed in that subsection. As the taxpayer's remuneration is also exempted from tax in Kiribati because of a MoU, subsection 23AG(2) does not apply.

Accordingly, as subsection 23AG(2) of the ITAA 1936 does not apply, the salary and wages received by an ADF member from serving in Kiribati will be exempt from income tax under subsection 23AG(1) of the ITAA 1936 and will not be assessable income under subsection 6-5(2) of the ITAA 1997. [HISTORY: This ATOid was amended on 27 April 2007 to clarify the document.]