Tax implications of investing offshore

SMSF technical expert and columnist for The Australian newspaper
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An increasing number of SMSFs are investing some of their money overseas. As a result, we are fielding more questions about the tax implications of these non-Australian investments.

So what are some of the issues that typically arise?

Double Tax Agreements (DTAs)

Australia has a number of Double Tax Agreements with overseas governments. These agreements override anything in each country’s normal tax code.

We have agreements with most of our major trading partners, which include, I suspect, most of the places that SMSFs might want to invest some of their monies — for example, US, UK, Japan and Germany. You can find a full list of the countries we have them with and the agreements here.

The terms of these agreements are all different. Some tax income in both Australia and the overseas country. Others only tax income where it is earned. Still others again only tax income in Australia for Australian-resident taxpayers.

For example, if you’re receiving income from investments in the US, tax is usually deducted and withheld at a rate of 15% but you need to complete a W-8BEN form – a form from the US Department of Inland Revenue – which certifies you’re not a US resident.

If a Double Tax Agreement says that your income is only taxed in the source country, then it means any overseas income isn’t taxed in Australia and isn’t included in your super fund’s Australian tax return. (Obviously, this means you have the hassle of dealing with the tax authorities in the source country, as well as the ATO’s annual tax and regulatory return for your domestic investments.)

Australian dollars only thanks

If you need to declare foreign income and capital gains or losses in Australia, then our tax system only wants you to use the Australian dollar value of those amounts. Special rules exist for determining the exchange rate you use to convert the income in Aussie dollars.

For income you receive (for example, rental income on property or dividend income for shares), you use an exchange rate that applies on the day you received the income.

For expenses you incur overseas that can be claimed in Australia as a tax deduction, then a similar rule applies.

When preparing your fund’s financial accounts and ATO return each year, you use the exchange rate that will apply at the end of a financial year.

The tax laws also allow you to use an average exchange rate for a period of time, which must be no more than 12 months. In many cases, I think this will create unnecessary hassle and paperwork for SMSFs. (Using an average might be helpful if you want to take advantage of unusually large movements in the $A that occur reasonably regularly.) If you do use an average rate, then make sure you keep records of how it was calculated.

Domestic managed funds (including ASX-listed exchange traded funds)

If you invest in an unlisted or listed managed fund that resides in Australia, which includes ASX-listed ETFs, then you don’t need to worry about your foreign income calculations.

Your fund managers will convert all income, capital gains/losses, and deductions into Australian dollars. Most send you a report each year detailing all the important information. All your unit holdings will only ever be valued in Australian dollars.

If you don’t want the hassle of exchange rates and DTAs, then this may be the easiest way to invest in overseas assets (however you may not get the control you want over the assets that are bought and sold).

Foreign taxes

If you have to declare foreign income or capital gains on your SMSF tax return (as demanded by the relevant Double Tax Agreement), and that foreign income has been taxed overseas, then your super fund can offset the tax already paid overseas. This is called a Foreign Income Tax Offset or FITO.

FITO is non-refundable and is applied after all other tax concessions. If your fund doesn’t pay tax or has no tax to pay, then FITO is lost and can’t be carried forward to later financial years.

If your fund’s FITO claim is no more than A$1,000, then all you need do is record the amount of foreign tax already paid on your tax return. If your FITO claim is more than A$1,000, then you need to calculate the amount. The ATO explains how here. It’s quite complicated and it may be best to ask your fund’s administrator and accountant to assist you.

As Australian super fund pension income isn’t taxed, the FITO your fund has will be lost and won’t be refunded.

If your SMSF has pension and pre-retiree funds, then it must apportion the FITO between the 15% and nil taxed portions and only claim the income for the assets used for pre-retirement purposes.

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.

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