Who Is Liable For Income Taxes In Australia
Australian residents are subject to Australian tax on worldwide income. Nonresidents are subject to Australian tax on Australian-source income only. An exemption from Australian tax on certain income is available for individuals who qualify as a “temporary resident.” Temporary residents are generally exempt from Australian tax on foreign-source income (including foreign investment income but not foreign employment income) and capital gains realized on assets that are not taxable Australian property (TAP). For details regarding TAP, see Capital gains and losses.
As discussed below, the Australian tax treatment differs for residents, nonresidents and temporary residents.
In general, a resident is defined as a person who resides in Australia according to the ordinary meaning of the word, and includes a person who meets either one of the following conditions:
- He or she is domiciled in Australia, unless the tax authority is satisfied that the person’s permanent place of abode is outside Australia.
- He or she is actually present in Australia continuously or intermittently for more than half of the tax year, unless the tax authority is satisfied that the person’s usual place of abode is outside Australia and that the person does not intend to reside in Australia.
The residence tests can be met relatively easily. For example, a person who is in Australia for employment purposes for as little as six months may be considered resident in Australia for tax purposes.
A nonresident is a person who does not satisfy any of the above tests.
A “temporary resident” refers to an individual who satisfies the following conditions:
- The individual must be working in Australia under a temporary resident visa (for example, Subclass 456 or 457, or an Electronic Travel Authority; see Section F).
- The individual must not be a resident of Australia for social security purposes (this covers Australian citizens, permanent residents, special visa categories such as refugees and certain New Zealand citizens).
- The individual’s spouse (legal or de facto) must not be a resident of Australia for social security purposes.
The second and third conditions described above must be satisfied at all times. No time limit applies to the temporary resident status.
If an individual applies for Australian permanent residency, temporary resident status ends on the date on which permanent residency is granted and the individual is taxable as a resident (that is, taxable on worldwide income) thereafter.
Income subject to tax. The taxability of various types of income is discussed below. For a table outlining the taxability of income items. Taxable income is calculated by subtracting deductible expenses and losses from the assessable income of the taxpayer.
Employment income. Salary, wages, allowances and most cash compensation is included in the employee’s assessable income in the year of receipt. Most noncash employment benefits received by an employee are subject to Fringe Benefits Tax (FBT), payable by the employer.
Self-employment and business income. The taxable income from self-employment or from a business is subject to Australian tax. Each partner in a partnership is taxed on his or her share of the partnership’s taxable income.
Directors’ fees. Directors’ fees are included in assessable income as personal earnings and are taxed in the year of receipt.
Dividends. The assessable income of resident shareholders includes all dividends received. Franked dividends (that is, dividends paid from taxed corporate profits) paid by Australian corporations are grossed up for the underlying corporate taxes paid. The shareholders may claim the underlying corporate tax as a credit in their personal tax return. Whether additional tax must be paid on the franked dividends by a shareholder depends on the individual’s marginal tax rate. Under certain circumstances, excess credits may be refunded.
Dividends from Australian sources that are paid to nonresidents are generally subject to a final withholding tax of 30% (or 15% under applicable treaties) on the unfranked portion (that is, the portion paid from untaxed corporate profits).
The treatment of foreign-source dividends is more complex. Under the foreign tax offset rules, foreign-source dividends are included in the assessable income of Australian residents. If tax was paid in the foreign country, the net dividend is grossed up to include the foreign tax, and a tax credit (equal to the lower of the foreign tax paid or the amount of the Australian tax payable) is allowed. If the dividends are paid out of income attributed under the Australian attribution tax system (see Accrued foreign company income), Australian residents may receive a foreign tax offset for the taxes withheld on remittance of the dividends, even though the dividends are exempt from Australian tax.
Temporary residents (see Who is liable) are not assessable on foreign source investment income and gains.
Interest, royalties and rental income. Interest, royalties and rental income derived by residents are included in assessable income with a deduction allowed for applicable expenses. Eligibility for building depreciation deductions on a rental property depends on the building’s nature and its construction date.
If tax is paid in the foreign country on the foreign rental income, the resident may claim a foreign tax offset (equal to the lower of the foreign tax paid or the amount of the Australian tax payable).
If the foreign investment results in a tax loss (that is, deductible expenses exceed assessable income), the tax loss can be offset against all assessable income in Australia.
Temporary residents are not assessable on foreign investment income, and they may not offset foreign interest expenses (for example) against other assessable income.
Interest paid by a resident to a nonresident lender is subject to a final withholding tax of 10%. Interest paid by a temporary resident to a nonresident lender (for example, an overseas mortgagee) is exempt from the interest withholding tax. Royalties paid to nonresidents are generally subject to a final withholding tax of 30% (or 10% to 15% under applicable treaties).
Accrued foreign company income. Australian law contains several attribution rules that seek to tax residents (but not temporary residents) on income and gains accumulating in certain foreign companies and foreign trusts, even though no actual distribution of income or gains is received by the resident. If a resident taxpayer has a controlling interest in the foreign company or trust and if the company is a resident of a country that does not have a comparable tax system to that of Australia, the attribution rules tax the resident on the resident’s share of the foreign company’s accrued income. Interests in foreign investment funds held by Australian residents may also be subject to tax if the resident does not have a controlling interest, unless an exemption applies. The attribution rules prevent resident investors from deferring tax by accumulating income offshore through controlling and non-controlling interests in foreign entities (for example, offshore companies and trusts). The legislation focuses on the passive activities of the foreign entity.
Temporary residents are exempt from the above tax rules and the associated complex reporting obligations.
The Australian government has introduced draft legislation to repeal and replace the above rules.
Converting transactions denominated in foreign currency into Australian dollar amounts. Taxpayers are generally required to convert income amounts denominated in foreign currency into Australian dollar (A$) amounts at the time of derivation of the income. Likewise, taxpayers must convert expense amounts into Australian dollar amounts at the time of payment. This also results in the deeming of assessable income or allowable deductions for residents (but not temporary residents) who have acquired or disposed of foreign currency rights and liabilities. For resident taxpayers, these rules normally apply with respect to foreign-currency debt (for example, mortgages) and foreign-currency accounts (for example, bank accounts). Special rules apply to the acquisition or disposal of capital assets or depreciable assets.
Taxpayers can elect partial exemptions for certain “Limited Balance” accounts, and for “Retranslation” to apply to certain foreign-currency accounts. These elections can change the amounts of assessable income or allowable deductions arising under the foreign-currency rules and may reduce the compliance burden. However, because of the significant tax implications of the elections, taxpayers should seek specific advice suited to their circumstances.
The above rules provide limited exceptions for certain existing assets and obligations.
Temporary residents may be exempt from the above tax rules on certain foreign-currency denominated accounts that are located outside Australia.
Concessions for individuals who are considered to be living away from home. If an individual is considered to be living away from home (LAFH), several tax-free benefits can be provided. For example, a Living Away From Home Allowance (LAFHA) is an allowance that can be paid to an individual to compensate him or her for the additional expenses incurred as a result of being required to be LAFH to perform his or her employment duties. The LAFHA can consist of an exempt accommodation component and an exempt food component. If the LAFHA is properly calculated and satisfies certain FBT requirements, neither the employer nor the employee is subject to FBT or income tax on the benefit received. Certain other LAFH benefits may be provided on a concessional basis for tax and FBT purposes.
Taxation of employer-provided stock options. Discounts provided to employees on shares or options acquired under an employee share scheme are generally included as ordinary income in the employee’s assessable income in the year they are acquired.
For grants made before 1 July 2009 of “qualifying” shares or options, taxation may be deferred until the “cessation time,” which is the earliest of the following dates:
- If the option is exercised, the date unrestricted stock is acquired or the date forfeiture conditions lapse
- The date the share may be sold
- The date of termination of employment
- The end of 10 years
Alternatively, an employee may elect to be taxed in the year of the grant.
A “qualifying” share or option is a share or option acquired under an employee share scheme that satisfies certain prescribed conditions.
For grants made after 1 July 2009, the time at which tax is payable by the employee is based on the terms of the plan. The extent to which taxation can be delayed from the time of grant to the “deferred taxing point” depends on whether a real risk of forfeiture of the shares or options exists under the conditions of the scheme. A real risk of forfeiture exists if the employee could lose or forfeit the interest other than by disposing of it or exercising it. The taxing time is the later of when the risk of forfeiture ceases or when genuine disposal restrictions present at the outset cease to have effect. The alternative of employees electing to be taxed in the year of grant no longer exists for grants made after 1July 2009.
The discount amount for shares is the difference between the market value of the share and the amount paid for the share by the employee. For options, the discount is the greater of the following two amounts:
- The amount equal to the share value less exercise price
- The value determined according to a formula similar to the Black and Scholes model for valuing exchange-traded options.
For options and shares granted overseas after 26 June 2005, and for options and shares granted overseas to an employee who becomes subject to Pay As You Go (PAYG) tax withholding on salary and wages after 26 June 2005 when the option or share is unvested, a portion of the discount may be assessable in Australia based on the proportion of days worked in Australia during the vesting period. Effective from 1 July 2009, Australian residents are likely to be subject to tax on the entire discount, with a foreign tax offset for any foreign tax paid (up to the Australian tax otherwise payable). Apportionment of the discount would continue for temporary residents.
No tax withholding obligation is imposed in Australia with respect to benefits under employee share schemes unless the employee fails to provide his or her Australian Tax File Number (TFN) to the employer by the end of the financial year.
Employers providing benefits under employee share schemes are required to comply with annual employer reporting obligations to disclose, among other items, the number of awards made and the estimated taxable value of these awards.
Capital gains and losses. Residents (but not temporary residents) are taxable on their worldwide income, including gains realized on the sale of capital assets. Capital assets include real property and personal property, regardless of whether they are used in a trade or business, and shares acquired for personal investment. However, trading stock acquired for the purpose of resale is not subject to capital gains treatment.
Employee shares or options disposed of within 30 days of the cessation time or deferred taxing point (see Taxation of employer-provided stock options) are not subject to capital gains tax (CGT).
For an asset held at least 12 months (not including the dates of purchase and sale), only 50% of the capital gain resulting from the disposal is subject to tax.
Assets acquired before 19 September 1985 are generally exempt from CGT. In general, any gain (or loss) derived from the sale of an individual’s principal residence is ignored for CGT purposes. However, special rules may apply if the principal residence had been used to generate rental income.
Capital losses in excess of current year capital gains (before the 50% discount is applied, if applicable) are not deductible against other income, but may be carried forward to be offset against future capital gains.
Nonresidents and temporary residents are taxable only on gains arising from disposals of “taxable Australian property” (TAP).
The following assets are considered to be TAP:
- Australian real property
- An indirect interest in Australian real property
- A business asset of a permanent establishment in Australia
- An option or right to acquire any of the CGT assets covered by the first three items above
- A CGT asset that is deemed to be TAP as a result of the taxpayer making an election to disregard any deemed gain or loss arising on leaving Australia
Anti-avoidance measures ensure that nonresidents and temporary residents continue to be taxable on disposals of interests in companies, whose balance sheets are largely comprised of real property assets, including mining interests.
Australian residents who are not temporary residents just before breaking residence are subject to a CGT charge on the deemed disposal of all assets held at the date of breaking residence that are not TAP. The taxpayer may elect that this deemed disposal charge not apply. However, such an election deems the asset to be TAP until residence is resumed or the asset is disposed of (even if the asset would not otherwise be TAP). As a result a CGT charge is imposed if the assets are disposed of while the individual is non-resident.
Temporary residents are generally exempt from tax on gains derived from assets that are not TAP. However, temporary residents who acquire shares and options under employee share schemes may be subject to CGT on a portion of gains derived from disposals of these assets.
Deductions
Deductible expenses. Expenses of a capital, private or domestic nature, and expenses incurred in producing exempt income, are not deductible.
Specific documentation requirements must be fulfilled for all expenses if employment-related expenses exceed A$300 a year. Client entertainment expenses are not deductible.
Personal tax offsets. Tax offsets are available to resident taxpayers and temporary residents. Tax offsets are subtracted from tax calculated on taxable income. The amount of offset that may be claimed varies depending on the income of the taxpayer and spouse (if applicable) and whether the taxpayer or spouse is eligible for Family Tax Benefits.
Nonresidents may not claim tax offsets.
Business deductions. Losses and expenses are generally fully deductible to the extent they are incurred in producing assessable income or are necessarily incurred in carrying on a business for that purpose.
Specific records are required for business travel and motor vehicle expenses.
Deductions are allowed for salaries and wages paid to employees, as well as for interest, rent, repairs, commissions and similar expenses incurred in carrying on a business.
Expenditure for the acquisition or improvement of assets is not deductible, but a capital allowance may be claimed as a deduction. Expenditure for acquisitions or improvements may be added to the cost base of an asset for CGT purposes and may reduce any taxable gain arising from a later disposition.
B. Flood levy
Individuals who have a taxable income over A$50,000 in the 2011–12 financial year will be liable to the flood levy. This levy, which will be imposed for one year only, is designed to assist affected communities recover from various natural disasters.
C. Social security
Medicare Levy. Technically, Australia does not have a social security system. However, a Medicare Levy of 1.5% of taxable income is payable by resident individuals for health services (provided that they qualify for Medicare services). This is the only levy imposed in Australia that is equivalent to a social security levy. An exemption from the Medicare Levy may apply if the individual is from a country that has not entered into a Reciprocal Health Care Agreement with Australia.
No ceiling applies to the amount of income subject to the levy. However, relief is provided for certain low-income earners. High income resident taxpayers who do not have adequate private health insurance may be subject to an additional 1% Medicare Levy surcharge. High-income taxpayers whose hospital insurance carries an excess payment (amount for which the insured is responsible before the insurance begins to pay) of more than A$500 for single individuals or A$1,000 for couples or families are also subject to the Medicare Levy surcharge.
Superannuation (pension). Australia also has a compulsory private superannuation (pension) contribution system. Under this system, employers must contribute an amount at least equal to 9% of the employee’s “ordinary time earnings” (OTE) base to a complying superannuation fund for the retirement benefit of its employees. In general, OTE consists of salary and wages and most cash compensation items paid for ordinary hours of work. Transitional measures can apply for certain pre-existing superannuation earnings base arrangements. The maximum OTE base for each employee for the year ending 30 June 2011 is A$42,220 per quarter. No obligation is imposed to make contributions with respect to OTE above that level.
If an employee comes from a country with which Australia has entered into a bilateral social security agreement, it may be possible to keep the employee in his or her home country social security system under a certificate of coverage issued by his or her home country and therefore remove the obligation to make the Australian superannuation contributions outlined above.
Australia has entered into such agreements with Belgium, Chile, Croatia, Finland, Germany, Greece, Ireland, Japan, Korea (South), Macedonia, the Netherlands, Norway, Portugal, Switzerland and the United States.
An exemption from superannuation may be available in limited circumstances for senior foreign executives who hold a certain business visa.
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