Assessability of employment income received by an Australian resident taxpayer while working in Mexico

Are the salary and wages received by an Australian resident taxpayer, while employed in Mexico, assessable under subsection 6-5(2) of the Income Assessment Act of 1997 (ITAA 1997)?

No. The salary and wages received by an Australian resident taxpayer, while employed in Mexico, are not assessable under subsection 6-5(2) of the ITAA 1997 as they are exempt under subsection 23AG(1) of the Income Assessment Act of 1936 (ITAA 1936).

The taxpayer is a resident of Australia for tax purposes.

The taxpayer provided dependant personal services in Mexico.

The taxpayer's employer is not a resident of Australia or Mexico.

The employer has a permanent establishment in Mexico.

The taxpayer works under a cyclical roster of 4 weeks on and 4 weeks off recreation leave which they spend in Australia.

The taxpayer has been engaged in continuous foreign service for more than 91 days.

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 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).

Paragraph 7 of Taxation Ruling IT 2441 states that where an Australian resident taxpayer is employed in a project in a foreign country, leave taken in circumstances similar to those mentioned in Taxation Ruling IT 2015 would be treated as recreation leave forming part of a period of foreign service under subsection 23AG(6) of the ITAA 1936. Taxation Ruling IT 2015 refers to the application of paragraph 23AF(3)(d) of the ITAA 1936 where employees are engaged in uninterrupted cycles of 5 weeks on site on an onshore oil drilling project and 5 weeks leave in Australia. IT 2015 states that the employees will be taken to have been engaged on an approved project for a period of qualifying service equal to the total number of days they are engaged under the 5 weekly cyclical arrangements.

As the taxpayer's circumstances are similar to that described in IT 2015, the periods of time off spent by the taxpayer in Australia form part of their foreign service period.

However, 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 reasons listed. One of the listed reasons is where the income earned by the resident in the foreign country is made exempt by the operation of a double tax agreement (paragraph 23AG(2)(b) of the ITAA 1936).

Therefore it is necessary to consider not only the income tax laws but also any applicable tax treaties 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 in some limited situations).

Schedule 47 to the Agreements Act contains the tax treaty between Australia and Mexico (the Mexican Agreement). The Mexican Agreement operates to avoid the double taxation of income received by Australian and Mexican residents.

Article 15(1) of the Mexican Agreement provides that salary and wages derived by an individual who is a resident of Australia in respect of employment shall be taxable in Australia unless the employment is exercised in Mexico, the salary and wages may be taxed in Mexico.

However, Article 15(2) of the Mexican Agreement provides that remuneration derived by a resident of Australia in respect of employment in Mexico shall be taxable only in Australia if: (a) the taxpayer is present in Mexico for a period or periods not exceeding in the aggregate 183 days in the year of income; (b) the remuneration is paid by, or on behalf of, an employer who is not a Mexican resident; and (c) the remuneration is not deductible in determining the taxable profits of a permanent establishment or fixed base which the employer has in Mexico.

Article 15(2)(a) and (b) are satisfied as you will be present in Mexico for a period or periods not exceeding in the aggregate 183 days during the Mexican fiscal year of income, and the employer is not a resident of Mexico.

Article 5(2)(f) of the Mexican Agreement states that, for the purposes of this agreement, a permanent establishment includes a mine, an oil or gas well, a quarry or any other place of extraction of natural resources. The employer carries on extraction of natural resources in Mexico. As a result, Article 15(2)(c ) of the Mexican agreement is not satisfied, as the remuneration may be deductible in determining taxable profits of a permanent establishment which your employer has in Mexico.

Therefore, Article 15(2) of the Mexican Agreement will not be applicable.

As the taxpayer is a resident of Australia for income tax purposes, Article 15(1) of the Mexican Agreement applies, and as the employment is exercised in Mexico, the remuneration may be taxed in Mexico.

Paragraph 23 of Taxation Ruling 2001/13 provides that the phrase 'may be taxed' normally means that the source has a non-exclusive entitlement to tax the income. However, under normal international tax principles, the other country may also continue to tax its residents on income, wherever sourced, provided it is permissible under domestic law and the double tax agreement does not explicitly prevent it from doing so.

The Mexican Agreement does not explicitly prevent Australia from taxing the taxpayer on the Mexican sourced income. However, under Australian income tax laws, subsection 23AG(1) of the ITAA 1936 will operate to exempt the income received from Mexico, as the taxpayer is engaged in foreign service for a continuous period of not less than 91 days.

Accordingly, the salary and wages received by the taxpayer from employment in Mexico will not be assessable under subsection 6-5(2) of the ITAA 1997, as it is exempt under subsection 23AG(1) of the ITAA 1936.