Taxation is complex at the best of times but even more so when you decide to move overseas. Getting your tax status right requires very careful planning. You need to ensure that you stay within the law but pay the lowest rate of tax applicable to your circumstances. You will need professional advice. But it helps to be aware of the rules first. And this is where we can help.
Everyone’s tax situation is different – depending on income, age, the nature of investments, whether you keep a home in Australia or not, the geographic spread of your assets and so on. The list is almost endless. But there are some rules that apply to everyone, and you need to be right on top of them if you are going to avoid a nasty surprise down the road.
The most critical aspect to consider for your taxation status is whether you will be a resident or non-resident for tax purposes once you move overseas.
If you have a self managed superannuation fund there are certain strict rules to follow to ensure that your super fund retains key tax concessions.
If you keep the family home you need to be aware of any changes in capital gains tax obligations on sale.
If you have a share portfolio or bank deposits there are important tax changes to consider.
Above all, do your homework before you relocate.
TAXATION TIPS AND TRAPS
- Get your tax planning in order before you leave the country.
- A key factor to consider is whether you are to become a resident or non-resident for Australian tax purposes
- Residents for Australian tax purposes are taxed on their world-wide income but they are more likely to qualify for Medicare on visits home and they benefit from most superannuation concessions as well as the tax-free threshold of over $18,000 a year
- Non-residents for tax purposes only pay tax on their Australian income and have valuable tax advantages on their share investments and funds on deposit in Australia. But they lose the tax-free threshold, and will not qualify for Medicare benefits.
- Make sure all your documentation is in order to prove your status as either a resident or non-resident
- Pay particular attention to the tax return for the year of your departure to ensure that you do not trigger a ‘capital gains tax event’.
- The capital gains tax exemption for your family home (principal place of residence) can be retained for up to six years if you rent out your house while you are away or indefinitely if you don’t rent it out.
WHO IS A RESIDENT OR NON-RESIDENT FOR TAX PURPOSES
The first point to be aware of is that you cannot choose to be one or the other - resident or non-resident. It is a matter of fact and a matter of law. It depends on your individual circumstances. Unfortunately, there are no hard and fast rules, just guidelines. At the end of the day, the taxman will decide. But you can organize your affairs to influence the taxman’s ultimate judgement on your residency status.
The first and most important issue to understand is the definition of ‘resident’ for tax purposes.
There are four tests that the Tax office applies to decide whether or not you are a resident.
- The first is residence according to ordinary concepts.
- The second test is domicile and permanent place of abode.
- The third is the 183-day rule.
- The fourth is the Commonwealth superannuation fund test.
In the past, the number of days spent in a particular country was a key issue in determining residency for tax purposes. The 183-day rule (just over six months) was important. This is no longer the case. You can now stay in a country for more than six months in any tax year and still be considered a non-resident or, conversely, you can spend zero days in Australia in any one tax year and still be considered a resident for tax purposes.
The Commonwealth superannuation fund test only applies to government employees, diplomats and the like. For the purposes of the readers of this website, the two important tests are the first two - residence according to ordinary concepts and the domicile and permanent place of abode test.
The first test that the Commissioner of Taxation will apply is whether you reside in Australia under the ordinary definition of ‘reside’. For those who intend to spend just a few months of every year overseas the answer to that question is Yes and you will be a resident for tax purposes and the rest of this section does not apply to you. But for those who are intent on retiring overseas, the answer to that question is ‘No’, and you will need to carefully consider the definition of ‘resident’ and how you wish to be classified.
For those in the latter category, the next step is to look at the extended definition of resident. If the taxpayer’s domicile is considered to be in Australia then he or she will be a resident for tax purposes unless the Commissioner is satisfied that the ‘permanent place of abode’ is outside Australia.
Let us look at this more closely. What does ‘domicile’ mean? And what does ‘permanent place of abode’ mean?
The primary common law rule is that a person acquires a domicile of origin at birth. That domicile will be the country of his or her father’s permanent home.
A person will retain that domicile of origin unless he or she acquires a domicile of choice in another country.
It is quite difficult to establish that you have discarded your domicile of origin and acquired a new domicile of choice.
The common law test of domicile of choice is in section 10 of the Domicile Act. “The intention that a person must have in order to acquire a domicile of choice in a country is the intention to make his home indefinitely in that country.”
How do you prove that? For example, it is not good enough to have a working visa for that country, you would need to have a migration visa.
So let us assume that, for most readers of this website, their domicile would remain Australia. In those circumstances, the taxman will consider you to be a resident of Australia unless you can prove that you have established a permanent place of abode elsewhere.
There are no hard and fast rules on the definition of ‘permanent place of abode’. But there have been plenty of cases decided in the courts and that gives us some handy guidelines.
The word ‘permanent’ in this context does not mean everlasting or forever but is used in the sense of being contrasted with temporary or transitory.
Factors that have been considered relevant in the courts and appeals tribunals are the following:
- Length of stay in an overseas country – both intended and actual. For example, you may intend to stay overseas for 10 years or more but actually return after one year due to illness. In this case, the intention would be important. Your home overseas may well be considered a permanent place of abode for the period of your absence from Australia.
- Whether the taxpayer intended to stay in the overseas country only temporarily and then move to another country or to return to Australia at some definite point in time. For example, in the first case if you are travelling the world. And in the second case if you intend to return at the end of a defined employment contract.
- Whether you have established a home (a house or other shelter that is a fixed residence) outside Australia.
- Whether a residence or place of abode exists in Australia or has been abandoned because of the overseas absence.
- The duration and continuity of the taxpayer’s presence in the overseas country
- The durability of association that the person has with a particular place in Australia. For example, maintaining bank accounts; informing government departments such as the Department of Social Services that you are leaving permanently; the place of education of the taxpayer’s children; family ties, etc.
No single factor will be decisive.
The Tax Office has also given some indication of its attitude in its own rulings. It has said that as a broad rule of thumb, a period of about two years would be considered as a substantial period for the purpose of a taxpayer’s stay in another country. And a stay of less than two years would be considered transitory.
It is important to note that an intention to return to Australia in the foreseeable future to live does not prevent the taxpayer in the meantime from setting up a permanent place of abode elsewhere.
The Federal Court has found that the taxpayer’s intention regarding the length of his or her stay overseas was just one factor to be taken into account. More importance was attached to the nature and quality of use that a taxpayer makes of a particular place of abode overseas.
There is an important level of emphasis placed on the permanence of the abode. This does not mean that you have to purchase a house or apartment overseas to convince the taxman that you are a non-resident. But the taxman has to be convinced that your place of abode outside Australia is where you actually ‘live’. If it is weekly or monthly holiday-style accommodation; or a barracks; or single men’s quarters; or a mining camp, then the tax man will not consider this to be a ‘permanent place of abode’.
Another quirk of the law to take into account is travel while overseas. If you are travelling from one country to another (travelling the world if you like, instead of settling in one country) then you are not considered to have a permanent place of abode overseas. There have been cases where a taxpayer has spent say three years in London and then one year travelling throughout Europe before returning to Australia. The taxpayer was considered to be a non-resident for Australian tax purposes for the first three years, but a resident for the last year while he was travelling.
MAKING THE CHOICE – RESIDENT OR NON-RESIDENT?
There are advantages and disadvantages in both categories – resident and non-resident.
For example, as a non-resident, only your Australian-sourced income will be subject to Australian tax. This includes your pension, rental income on any real estate assets in Australia, and income from any businesses you may have in Australia. Income on bank deposits and dividends from Australian shares will not be added to your taxable income but will instead be subject to a withholding tax of 10 to 15 per cent. (If the dividends are fully franked, withholding tax will not apply.) Capital gains tax provisions will continue to apply on any real estate assets you own in Australia but they will not apply to other investments for the period that you are considered to be non-resident. (This is a tricky one and requires close attention. More details below.) However, you will lose the tax-free threshold as a non-resident and hence pay tax from the very first dollar you earn in Australia. As the tax-free threshold now stands at $18,200, this can be a real consideration. Finally, if you are a non-resident for tax purposes, the chances are that you will no longer be eligible for Medicare benefits when you visit Australia.
On the other hand, if you are considered to be a resident of Australia for tax purposes, your world-wide income will be subject to Australian tax. However, you are more likely to be able to obtain Medicare benefits on visits back to Australia and you will maintain the tax-free threshold for any income earned in Australia. There can be real benefits to remaining a resident for tax purposes while overseas.
Let us look at a couple of hypothetical cases.
Peggy and Ken have decided to live in Phuket – perhaps for the rest of their lives, perhaps just for a few years. They may return to live in Melbourne at some point. They have kept their family home in Melbourne and rent a comfortable townhouse in Phuket. They anticipate that any major health issues will be handled in Australia. They have kept their private health insurance cover and want to hang on to their Medicare cards. Most of their assets are in their Australian superannuation fund. They hold some Australian-listed shares, about $100,000 worth, in their own names. And they have $60,000 in bank deposits in Australia. They live on the income from their super (a tax free pension because they are both over 60) plus the rental income on their family home, and a small amount of dividends and interest.
Peggy and Ken’s accountant has advised them to try and maintain Australian residency for tax purposes.
- They have no overseas income so it does not worry them that the Australian government wants to tax them on their worldwide income.
- Their pensions from their superannuation savings are tax free
- Their taxable income amounts to $23,000 a year each. (They rent their house for $900 a week but after repairs, maintenance and management fees they net $700 a week or around $35,000 a year. Dividends amount to $8,000 a year and interest on deposits $3,000.)
- Peggy and Ken don’t have a tax problem. The tax free threshold plus the low income and senior’s tax rebate (if they are eligible) would mean that their likely tax bill is based on net income of around $3,000 a year each.
- There are real benefits in maintaining health cover in Australia.
Rhonda and Bill are in a very different situation. Bill likes to trade the share market and he has a substantial sum already invested in the Australian market. They also have $500,000 in cash deposits in their own names and intend to invest this in the stock market over the next couple of years. Like Peggy and Ken they have kept the family home in Australia but their son and his family live in it rent-free. They also have an investment property that is heavily mortgaged – negatively geared.
Rhonda and Bill’s accountant has suggested that they try to become non-residents for Australian tax purposes.
- They can take advantage of the tax provision that allows capital gains on shares to be tax-free for the period that they remain non-residents.
- Their income from dividends on shares and interest on bank deposits will not be subject to Australian income tax at high marginal rates during their absence but instead be liable to withholding tax at the lower rates of 10 to 15 per cent a year.
- Their investment property is negatively geared (that is, no taxable income). But they will be able to accumulate tax credits (on their annual losses) for the period they are non-residents and then use those credits to reduce their income tax bills when they return to Australia.
- The tax advantages that Rhonda and Bill achieve from their non-resident status more than offset generous private health insurance cover in their new country of choice.
WHAT IT MEANS TO BE A RESIDENT FOR TAX PURPOSES
It is important that your affairs are well organized before you leave Australia if you want to retain your Australian residency status.
Get the documentation together that will help you prove residency, just in case the tax man should ever ask for it.
A quick check list would include:
- Proof that you have kept a family home in Australia, even though you may rent it out during your absence. If you have sold your home, documentation showing that you have household goods in storage or a plan to purchase a new home on your return may assist.
- Make a list of family ties that you have in Australia – children, close relatives
- Make copies of documents showing that you have kept bank accounts, investments, private health insurance cover (even if suspended during your absence).
- Proof that your home overseas is rented or, if purchased, has been purchased with the intention of resale at a later point in time
- Whatever proof you can muster, even if just a statement of intention, that your absence from Australia should be considered temporary because you have a firm intention to return and live in Australia in the foreseeable future.
It is also a good idea to be alert to any questions on residency on any government forms you may be required to complete. For example, the immigration forms you routinely fill out when you leave or re-enter Australia. Tick the box for ‘resident departing temporarily’ or ‘resident returning’, whichever is applicable. On your tax returns answer ‘yes’ to the question on whether you are an Australian resident. If your pension is being paid overseas, inform the relevant government departments that your intention is to return to Australia at some point in the foreseeable future.
Keep on top of your income tax obligations. File your tax returns on time every year and pay any tax by the due date. And remember, your liability to tax is an annual event so the question of where a taxpayer resides must be determined annually. So keep your checklist of documents up to date.
WHAT IT MEANS TO BE A NON-RESIDENT FOR TAX PURPOSES
It is much trickier to prove that you are a non-resident of Australia for tax purposes than it is to retain your residency. A cynical person could suggest that this is because it benefits the tax man to keep you as a resident for tax purposes – he can tax your world-wide income, ensure that your dividend and interest income will be taxable at your top marginal rate rather than at the lower withholding tax rates, and, as a bonus, he can also tax the capital gains realized on any of your Australian investments.
Get the documentation together that will help you prove that you are a non-resident, just in case the tax man should ever ask for it.
A quick check-list would include:
- Proof that you have sold your family home or, if that is not the case, that you have rented it out on a long-term lease. (A two year lease with an option to renew would be far better than a six month lease, for example.)
- Proof that you have established a permanent place of abode in an overseas country. This would include evidence of the lease or purchase of a home or apartment; any club memberships; any bank accounts in that country; evidence of the purchase of a car and/or a driver’s license in your new country; a long term or retirement visa; passport stamps showing the length of time you are spending in your adopted homeland.
- It would help if you had surrendered your Medicare card and cancelled your private health insurance.
- Proof that your family ties with Australia do not include, for example, children at school within Australia
- Inform relevant government departments that you are leaving Australia permanently.
Not all of these items on the checklist will apply to you – and some of them may be unpalatable. The list is simply an indication of elements that may be helpful in proving your status as a non-resident.
Once you, and your accountant, are satisfied that you will qualify for the status of non-resident for tax purposes, there are a number of further steps that you should take before you leave the country.
- Inform your bank and other financial institutions where you may have funds on deposit that you are now a non-resident and the 10 per cent withholding tax should be deducted at source from your interest receipts.
- If you have shares in Australian companies inform your stockbroker (or alternatively inform the companies directly) that you are now a non-resident and that the 15 per cent withholding tax should be deducted at source from the unfranked portion of your dividends .
- Determine the capital gains tax status of all your share investments and any other investments other than real estate. This is important.
Capital Gains Tax Events for Non-Residents
When you cease being an Australian resident, you trigger what is known as a ‘capital gain tax event’.
This means that all assets that you own (apart from real estate) are assessed for capital gains tax on the date you become a non-resident even though you haven’t sold them.
You can, however, opt out of this position. You can opt to make a choice that the assets are considered to be taxable Australian property until the earlier of:
i) their sale OR
ii) the date that you again become a resident for tax purposes.
The general rule is that you must make a choice to defer your capital gain liability by the day you lodge the tax return for the year in which you become a non-resident. That first tax return in the year you become a non-resident is really important.
Even though you are a non-resident for tax purposes, you will still need to lodge an Australian tax return every year if you have any rental income in Australia, sell any assets that may attract capital gains, or have any Australian employment income or business income. Australian pensions and annuities must also be included in your tax return. You will not pay the Medicare levy and you will not be entitled to Medicare health benefits.
If you buy shares in Australian public companies while a non-resident, those shares will be free of capital gains tax for the period that you are overseas. When you return to Australia, the shares will become subject to capital gains tax on sale, but only on the gains made in excess of market value from the date at which you returned and took up Australian residency once again. Dividends on those shares are subject to withholding tax at the rate of 15 per cent for as long as you are a non-resident.
THE FAMILY HOME OR PRINCIPAL PLACE OF RESIDENCE
One of the jewels of the Australian tax system is the capital gains tax exemption on your principal place of residence. A big question for those who choose to Sell Up Pack Up and Take Off is what happens to the tax status of the family home if you decide to rent it out while you are away.
The good news is that you can choose to have a dwelling (house or apartment) as your main residence for capital gains tax purposes even if you don’t live in it.
There is one fundamental rule – you can only treat one residence as your main residence for capital gains tax purposes at any one time.
If you don’t rent out the dwelling you can treat it as your main residence (for capital gains tax) for an unlimited period after you stop living in it.
If you do rent out the dwelling, you can choose to treat it as your main residence for capital gains tax for up to six years after you cease living in it.
If you rent it out for more than six years, then when you sell it you must pay capital gains tax on the gain from the date it was first used to produce income to the sale date.
If you wanted to extend this six year period, you could rent it out for the first six years after you cease living in it and then leave it vacant until you sell it (unless of course you have returned to live in it, in Australia, by that time.)