Only partial foreign tax offset for US capital gains

December 11, 2018

A single judge of the Federal Court has agreed with the Commissioner that a taxpayer was only entitled to a 50% foreign income tax offset (FITO) for US tax paid on the sale of investments: Burton v FCT [2018] FCA 1857.

An Australian resident taxpayer sold investment assets located in the US. The whole of the gain was taxed in the US, mostly at the rate of 15%. As the taxpayer was an Australian resident, the sales were also subject to CGT and due to the application of the 50% CGT discount, only half of the gain was included in his assessable income.

The Commissioner contended that the FITO provisions in Division 770 of the Income Tax Assessment Act 1997 are designed to prevent double taxation, which only occurs where both foreign tax and Australian tax has been paid on the same amount of income. As only half of the gain was included in the taxpayer’s assessable income, the amount not included was not double taxed, therefore FITO was only available for the 50% that was included.

The Federal court agreed with this position, and also confirmed that there was no inconsistency between Division 770 and the Australia-US Double Tax Agreement.

DAA Comment

In our view the taxpayer has grounds to appeal this decision.

The Commissioner and the Court have applied a purposive interpretation of section 770-10(1) to find that the object of the FITO is to relieve double taxation and “amounts included in your assessable income”, and have concluded that this section requires an apportionment to reflect this purpose.

However in our view they have ignored the operative section 770-75 which determines how much FITO can be claimed. This section sets a FITO limit broadly equal to the Australian tax payable on foreign income. In our view this section and not section 770-10 provides the only mechanism to restrict the amount of FITO claimed.

The decision also does not appear to address comments in the Explanatory Memorandum that introduced Division 770 that explicitly support the conclusion that the taxpayer in this case should be entitled to the full FITO.

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