Assessability of employment income derived by a dual resident of Australia and Japan from working in Japan

Are the salary and wages received by a taxpayer, who is a resident of Australia and of Japan, from working in Japan assessable under subsection 6-5(2) of the Income Tax Assessment Act 1997 (ITAA 1997)?

No. The salary and wages received by a taxpayer, who is a resident of Australia and of Japan, from working in Japan are not assessable under subsection 6-5(2) of the ITAA 1997 as they are exempt under subsection 23AG of the Income Tax Assessment Act 1936 (ITAA 1936).

The taxpayer is a resident of Australia for income tax purposes.

The taxpayer is also a resident of Japan for Japanese tax purposes.

The taxpayer worked in Japan for a continuous period of more than 90 days.

The taxpayer's period of employment spanned two Japanese tax years.

In the first Japanese tax year, the taxpayer worked in Japan for a period of less than 183 days.

In the second Japanese tax year, the taxpayer worked in Japan for a period of more than 183 days.

The taxpayer is employed by an Australian company.

The taxpayer's employer paid their salary while they were working in Japan.

The taxpayer's employer is not a resident of Japan.

The taxpayer's employer maintains a permanent establishment in Japan.

The salary and wages paid by the taxpayer's employer is deductible in determining the taxable profits of the employer's permanent establishment in Japan.

The tax laws of Japan provide for the imposition of income tax on employment income and do not generally exempt such income from tax.

The salary and wages received by the taxpayer are not exempt in Japan 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 salary and wages received by the taxpayer are not exempt in Japan for any other reason.

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 then it is not 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 will be exempt from tax in Australia.

Subsection 23AG(7) of the ITAA 1936 defines 'foreign service' as service in a foreign country as the holder of an office or in the capacity of an employee, and 'foreign earnings' to mean income consisting of earnings, salary, wages, commission, bonuses or allowances.

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).

In determining liability to tax to foreign sourced income received by a resident taxpayer, 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 ITAA 1936 and ITAA 1997 so that those Acts are read as one. The Agreements Act effectively overrides the ITAA 1936 and ITAA 1997 where there are inconsistent provisions (except for some limited provisions).

Schedule 6 to the Agreements Act contains the double tax agreement between Australia and Japan and the Protocol to that agreement (the Japanese Agreement). The Japanese Agreement operates to avoid the double taxation of income received by Australian and Japanese residents.

Article 11(1) of the Japanese Agreement provides that salary and wages derived by an individual who is a resident of one of the Contracting States in respect of an employment will be taxable only in that Contracting State unless the employment is exercised in the other Contracting State. If the employment is so exercised, such part of the income as is derived therefrom may be taxed in the other Contracting State.

However, Article 11(2) of the Japanese Agreement provides that salary and wages derived by an individual who is a resident of one of the Contracting States in respect of employment exercised in the other Contracting State shall be exempt from tax in that other Contracting State if: (a) the recipient is present in that other Contracting State for a period or periods not exceeding in the aggregate 183 days in the year of income or the taxable year as the case may be of that other Contracting State (b) the remuneration is paid by or on behalf of an employer who is not a resident of that other Contracting State, and (c) the remuneration is not deductible in determining taxable profits of a permanent establishment or a fixed base which the employer has in that other Contracting State.

Article 11 of the Japanese Agreement operates on the basis that the individual who receives the salary and wages is a resident of Australia or a resident of Japan. The Japanese Agreement does not contain any tiebreaker rules to determine residency in situations where the individual is a resident of Australia and of Japan.

The Explanatory Memorandum to the Income Tax (International Agreements) Act 1969 which introduced the Japanese Agreement states:

The definitions relating to the residential status of taxpayers may be noted. The terms 'resident of Australia' and 'resident in Japan' are the terms used in each country's taxation law to describe taxpayers who are resident in it for taxation purposes. These terms contrast with the terms 'Australian resident' and 'Japanese resident' which mean a person who is resident solely in one or other of the countries. A person who is a 'dual resident', i.e. both a 'resident of Australia' and 'resident in Japan' will not therefore be entitled to the reliefs which are available under the agreement to 'Australian residents' and 'Japanese residents'.

Accordingly, Article 11 of the Japanese Agreement cannot apply as the taxpayer, being a dual resident, is not a resident of one of the Contracting States. There are no other Articles in the Japanese Agreement that apply to the taxpayer's circumstances.

Therefore, the salary and wages are not exempt from income tax in Japan because of the Japanese Agreement. Paragraphs 23AG(2)(a) and 23AG(2)(b) of the ITAA 1936 do not apply.

As none of the other circumstances in subsection 23AG(2) of the ITAA 1936 apply, the salary and wages received by the taxpayer from working in Japan are exempt under subsection 23AG(1) of the ITAA 1936.

Accordingly, the salary and wages received by the taxpayer, who is a resident of Australia and of Japan, from working in Japan will not be assessable under subsection 6-5(2) of the ITAA 1997.