Termination payment received by Australian resident in consequence of termination of engagement on qualifying service on an approved project

Will a termination payment be 'exempt from income tax under the law of the foreign country' for the purpose of paragraph 83-240(1)(f) of the Income Tax Assessment Act 1997 (ITAA 1997) if it is received in consequence of termination of engagement on qualifying service on an approved project in relation to a foreign country which does not impose income tax on the payment?

Yes. As the foreign country does not impose income tax on the termination payment the payment is exempt from income tax under the law of the foreign country for the purpose of paragraph 83-240(1)(f) of the ITAA 1997.

The taxpayer is an Australian resident and was engaged on qualifying service on an approved project within the meaning of section 23AF of the Income Tax Assessment Act 1936 (ITAA 1936) in relation to a foreign country.

The taxpayer received a termination payment in consequence of the termination of their engagement on qualifying service on the approved project.

The law of the foreign country does not provide for the imposition of income tax on the termination payment.

The eligible foreign remuneration from the service is exempt from income tax under section 23AF of the ITAA 1936.

Section 83-240 of the ITAA 1997 operates so that a termination payment received by an Australian resident taxpayer is not assessable income and is not exempt income if it is received in consequence of the termination of engagement on qualifying service on an approved project in a foreign country and satisfies certain requirements.

Paragraph 83-240(1)(f) of the ITAA 1997 requires that the termination payment 'is not exempt from income tax under the law of the foreign country'.

The word 'exempt' in the expression 'not exempt from income tax' in paragraph 83-240(1)(f) of the ITAA 1997 is not defined in the ITAA 1997. The Macquarie Dictionary defines the word 'exempt' as meaning: verb (t) 1. To free from an obligation or liability to which others are subject; release: to exempt someone from military service; to exempt a student from an examination. adjective 2. Released from, or not subject to, an obligation, liability, etc.: exempt from taxes. noun 3. Someone who is exempt from, or not subject to, an obligation, duty, etc.

The dictionary definition would therefore permit the word 'exempt' to be interpreted broadly as meaning to release someone or something from an obligation or liability to which others are subject or, in contrast, as meaning simply that someone or something is not subject to an obligation or liability.

Since the meaning of 'exempt' in paragraph 83-240(1)(f) of the ITAA 1997 is 'ambiguous or obscure', it is appropriate to have regard to extrinsic material which may assist in ascertaining the meaning of the provision (refer section 15AB of the Acts Interpretation Act 1901).

Section 83-240 was introduced into the ITAA 1997 by the Tax Laws Amendment (Simplified Superannuation) Act 2006 . In relation to section 83-240 of the ITAA 1997 the Explanatory Memorandum (EM) to the Tax Laws Amendment (Simplified Superannuation) Bill 2006 at page 142 provided that: 4.63 Termination payments related exclusively to overseas employment or service are treated differently to employment termination payments resulting from domestic employment. 4.64 The treatment of these payments reflects the existing treatment of exempt non-resident foreign termination payments and exempt resident termination payments as contained in the ITAA 1936. Payments that meet the conditions in sections 83-235 and 83-240 are not subject to tax in the hands of the recipient (ie, they are not assessable). They are, however, not exempt income. [Schedule 2, item 1, Subdivision 83-D]

The expression 'exempt resident foreign termination payment' was defined in the former section 27A of the ITAA 1936 which provided that a payment related to the termination of qualifying service would only satisfy the definition of 'exempt resident foreign termination payment' if: ...the payment is not exempt from taxation under the law of the country from sources in which the eligible foreign remuneration in relation to the qualifying service was derived. (emphasis added)

The former section 27A of the ITAA 1936 also previously provided that a payment related to the termination of employment, where the foreign earnings from the employment were exempt under section 23AG of the ITAA 1936, would only satisfy the definition of 'exempt resident foreign termination payment' if: ...the payment is not exempt from taxation under the law of the foreign country ... (emphasis added)

The definition of 'exempt resident foreign termination payment' was introduced into the former section 27A of the ITAA 1936 by the Taxation Laws Amendment Act (No. 4) 1994 . The EM to the Taxation Laws Amendment Bill (No. 4) 1994 states in relation to the former section 27A of the ITAA 1936: 7.146 The employment must be for service in a foreign country or the qualifying service in respect of an approved project for the purposes of section 23AF and the payment must not be exempt from tax under the law of the foreign country (that is, the payment must be taxed in the foreign country ). (emphasis added)

The expressions 'not exempt from taxation under the law of the country' and 'not exempt from taxation under the law of the foreign country' in the former section 27A of the ITAA 1936 are almost identical to the expression 'not exempt from income tax under the law of the foreign country' in paragraph 83-240(1)(f) of the ITAA 1997. Since the treatment of termination payments under section 83-240 of the ITAA 1997 was intended to reflect the treatment under the former section 27A of the ITAA 1936, the expression 'not exempt from income tax under the law of the foreign country' in paragraph 83-240(1)(f) of the ITAA 1997 therefore requires the payment to be taxed under the law of the foreign country.

Section 23AG of the ITAA 1936 also supports the view that if the foreign country does not impose income tax then the income is exempt from income tax in that country for the purpose of paragraph 83-240(1)(f) of the ITAA 1997.

Subsection 23AG(2) of the ITAA 1936 states in part: An amount of foreign earnings derived in a foreign country is not exempt from tax under this section if the amount is exempt from income tax in the foreign country only because of any of the following: ... (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)... (emphasis added)

Since the expression 'exempt from income tax in the foreign country' in section 23AG of the ITAA 1936 is almost identical to the expression 'exempt from income tax under the law of the foreign country' in paragraph 83-240(1)(f) of the ITAA 1997, the meaning of 'exempt' should be interpreted consistently in both expressions.

Accordingly, if the foreign country does not impose income tax on the termination payment then it is exempt from income tax under the law of that foreign country for the purpose of paragraph 83-240(1)(f) of the ITAA 1997. Note: Such a termination payment would therefore not satisfy the requirements of section 83-240 of the ITAA 1997 to be treated as non-assessable non-exempt income.