Individual Retirement Accounts and Foreign Investment Fund measures

Does a resident individual taxpayer's assessable income include an amount paid upon closing a traditional Individual Retirement Account (IRA) held in the United States of America (US) under section 99B of the Income Tax Assessment Act 1936 (ITAA 1936)?

Yes. Subject to any exclusions under subsection 99B(2) of the ITAA 1936, the payment made upon closing a traditional IRA (less any amounts that were previously assessed under the foreign investment fund (FIF) measures that are non-assessable non-exempt income under section 23AK of the ITAA 1936) is assessable income under section 99B of the ITAA 1936.

The individual taxpayer is a citizen of the US and is also a resident of Australia for income tax purposes.

During the year of income, the taxpayer closed a traditional IRA held in the US and consequently received a lump sum distribution.

The lump sum distribution consisted of pre-tax contributions made by the taxpayer, contributions made by the US government and investment income derived from investing the contributions in a US mutual fund.

The investment income derived is considered to be 'other income' under the tax treaty between Australia and the US (the US Convention) and Protocol contained in Schedule 2 and 2A to the International Tax Agreements Act 1953 (Agreements Act).

The traditional IRA is a foreign trust and a FIF for the purposes of Part XI of the ITAA 1936.

The taxpayer has declared in their Australian income tax return for an earlier year notional FIF income from the traditional IRA under Part XI of the ITAA 1936.

The lump sum distribution on closing the traditional IRA was included in the taxpayer's US income tax return on which US income tax has been paid.

Subsection 6-10(4) of the Income Tax Assessment Act 1997 (ITAA 1997) provides that the assessable income of an Australian resident includes statutory income from all sources, whether in or out of Australia. Subsection 6-10(2) of the ITAA 1997 states that statutory income are amounts that are not ordinary income, but are included in the taxpayer's assessable income by provisions about assessable income.

Section 10-5 of the ITAA 1997 lists those provisions about assessable income which are statutory income. Included in this list is section 99B of the ITAA 1936 dealing with amounts paid to or applied for benefit of a beneficiary.

Subsection 99B(1) of the ITAA 1936 states that:

Where at any time during the year of income, an amount, being property of a trust estate, is paid to, or applied for the benefit of a beneficiary of the trust estate who was a resident at any time during that year of income, the assessable income of the beneficiary of the year of income shall, subject to subsection (2), include that amount.

Subsection 99B(2) of the ITAA 1936 reduces the amount included as assessable income under subsection 99B(1) of the ITAA 1936 in certain circumstances. Paragraph 99B(2)(a) of the ITAA 1936 provides that so much of the amount representing the corpus of the trust estate is excluded from assessable income.

Subsection 99B(1) of the ITAA 1936 will apply to the lump sum distribution from the traditional IRA subject to the application of subsection 99B(2) of the ITAA 1936. Part of the lump sum amount received by the taxpayer upon closing the traditional IRA represents corpus of the trust estate. This include the pre-tax contributions made by the taxpayer and the contributions made by the US government. The amount of assessable income under subsection 99B(1) of the ITAA 1936 is reduced by these contributions.

The amount included in assessable income under section 99B of the ITAA 1936 is further reduced through the operation of section 23AK of the ITAA 1936. The purpose of section 23AK of the ITAA 1936 is to prevent the double taxation of notional income previously included as assessable income under the FIF provisions.

As the taxpayer has declared notional FIF income under Part XI of the ITAA 1936, any amount that is non-assessable non-exempt income under paragraph 23AK(1)(g) of the ITAA 1936 is also excluded from assessable income under subsection 99B(1) of the ITAA 1936.

In determining liability to Australian tax on foreign sourced income, it is necessary to consider not only the income tax laws but also any applicable tax treaty contained in the Agreements Act.

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

Schedule 2 and 2A of the Agreements Act contain the US Convention and Protocol respectively between Australia and the US. The US Convention and Protocol operate to avoid the double taxation of income received by Australian and US residents.

Article 21(1) of the US Convention provides that items of income of a resident of Australia, wherever arising, not dealt with in other Articles of the Convention shall be taxable only in Australia. As the income received by the taxpayer formed part of the other income category, Article 21 of the US Convention would apply.

Accordingly, the lump sum amount paid upon closing the traditional IRA is assessable income under section 99B of the ITAA 1936 subject to any exclusions under subsection 99B(2) of the ITAA 1936 and excluding amounts that were previously assessed under the FIF measures. Note: The taxpayer will be entitled to a foreign tax credit subject to the satisfaction of the relevant foreign tax credit provisions.