national superannuation conference · us tax lawyer moodys gartner tax law llp presented by: roy a....

© Roy A. Berg and Marsha F. Dungog, Moodys Gartner Tax Law LLP 2016

Disclaimer: The material and opinions in this paper are those of the author and not those of The Tax Institute. The Tax Institute did not review the contents of this paper and does not have any view as to its accuracy. The material and opinions in the paper should not be used or treated as professional advice and readers should rely on their own enquiries in making any decisions concerning their own interests.

NATIONAL

SUPERANNUATION

CONFERENCE

Session [ 12 ]

The United States Income Tax Treatment of

Australian Superannuation Funds Owned by

US Persons

Written by:

Roy A. Berg

Director, US Tax Law

Moodys Gartner Tax law LLP

Marsha F. Dungog

US Tax Lawyer

Moodys Gartner Tax Law LLP

Presented by:

Roy A. Berg

Director, US Tax Law


Marsha F. Dungog

US Tax Lawyer


National Division

25-26 August 2016

Crown Conference Centre, Melbourne

Roy A. Berg and Marsha F. Dungog US Taxation of Australian Superannuation Funds

© Roy A. Berg and Marsha-laine F. Dungog, Moodys Gartner Tax Law LLP 2016 2

CONTENTS

1 Overview ...................................................................................................................................... 4

2 Current Law And Reason For Suggested Changes .................................................................. 7

3 Background ............................................................................................................................... 12

3.1 National Pension Systems in the U.S. and Australia ................................................................. 12

3.1.1 United States ................................................................................................................... 13

3.1.2 Australia ........................................................................................................................... 14

3.2 Australian Taxation of an ASF .................................................................................................... 15

3.2.1 Contributions Phase ........................................................................................................ 15

3.2.2 Accumulation Phase ........................................................................................................ 16

3.2.3 Benefits ............................................................................................................................ 17

4 Superannuation Guarantee Scheme Should Be Classified As A Social Security Tax For

U.S. Tax Purposes ............................................................................................................................ 18

4.1 Superannuation Guarantee Background .................................................................................... 18

4.1.1 Superannuation Guarantee Scheme ............................................................................... 18

4.1.2 Under Australian Law the Superannuation Guarantee Scheme Constitutes a Tax ........ 19

4.2 Similarities between U.S. Social Security Taxes and Australian Superannuation Guarantee ... 20

4.2.1 Rate and Computation of Tax .......................................................................................... 22

4.2.2 Collections and Liability ................................................................................................... 22

4.2.3 Indemnification ................................................................................................................. 23

4.3 U.S.–Australia Totalization Agreement ...................................................................................... 23

4.3.1 Totalization of Benefits .................................................................................................... 24

4.3.2 Elimination of Double Taxation ........................................................................................ 24

4.4 Role of U.S. Totalization Agreements in General....................................................................... 26

4.4.1 Recap .............................................................................................................................. 27

5 NEITHER SG CONTRIBUTIONS OR VEC AMOUNTS TRANSFERRED TO THE SUPER

CONSTITUTE GROSS INCOME TO THE USP EMPLOYEE-BENEFICIARY UNDER CODE

SECTION 61 PRINCIPLES ............................................................................................................... 28

5.1 Section 61 Should Govern Taxation of ASFs and Not Section 402(b) ...................................... 28


© Roy A. Berg and Marsha-laine F. Dungog, Moodys Gartner Tax Law LLP 2016 3

5.1.1 Constructive Receipt........................................................................................................ 29

5.1.2 Economic Benefit ............................................................................................................. 30

6 TREASURY REGULATIONS PROMULGATED UNDER SECTIONS 402 AND 83 SHOULD BE

CLARIFIED TO EXEMPT THE AUSTRALIAN SUPERANNUATION FUNDS ................................ 33

6.1 Australian Superannuation Fund Classified as an Employee’s Trust and Section 402(b) ......... 33

6.2 Superannuation Guarantee Contributions to the ASF Do Not Arise from an Employment

Relationship and Therefore Should Be Excluded From Section 402(b) ............................................ 35

6.2.1 SG Component of the ASF Constitutes a Separate Grantor Trust with the Australian

Government as Grantor-Trustor ..................................................................................................... 37

6.3 Voluntary Employee Contributions to the ASF Should Be Excluded from Sections 402(b) and

83 .................................................................................................................................................... 40

6.3.1 Voluntary Employee Contributions to the ASF Do Not Fall under Section 402(b) but as

Private Individual Retirement Accounts under Section 408(a) ...................................................... 41

6.4 If Voluntary Employee Contributions Are Subject to Sections 402(b) and 83, the U.S. Should

Allow a Direct or Deemed Paid Foreign Tax Credit ........................................................................... 43

7 SINCE AUSTRALIAN SUPERANNUATION FUNDS ARE THE EQUIVALENT TO A SOCIAL

SECURITY PROGRAM THEY SHOULD NOT BE ANALYZED AS FOREIGN EMPLOYEE TRUSTS

UNDER U.S. TAX LAW ..................................................................................................................... 46

7.1 Recent IRS Positions on Classification of Australian Superannuation Funds as Trusts ........... 46

7.2 Voluntary Employee Contributions in the ASF Should Be Classified as a Separate Foreign

Trust and Afforded Similar Reporting Requirements as Canadian Registered Retirement Savings

Plans (“RRSP”) .................................................................................................................................. 48

7.3 ASFs Should Not Be Classified as Trusts, and Therefore Treasury Regulations Promulgated

under Section 6048 Should Be Clarified to Exclude Reporting on Forms 3520 And 3520-A. .......... 50

8 TREASURY REGULATIONS SHOULD BE CLARIFIED TO EXCLUDE ASFs FROM

REPORTING ON FINCEN 114 (“FBAR”) ....................................................................................... 52

9 SEVERAL AREAS OF U.S. TAX LAW ALREADY EXEMPT SOCIAL INSURANCE PROGRAMS

OF FOREIGN GOVERNMENTS FROM TAX AND REPORTING OBLIGATIONS ...................... 52

9.1 Code Section 6038D Preamble (Form 8938) ............................................................................ 53

9.2 Treasury Regulations Section 301.6114-1 (Form 8833) ............................................................. 53

9.3 Section 409A ......................................................................................................................... 54

© Roy A. Berg and Marsha L. Dungog, Moodys Gartner Tax Law LLP 2016 4

1 Overview

This paper was written by Roy A. Berg and Marsha-laine Dungog, members of the California State Bar, as part of the annual Washington DC delegation submissions co-sponsored by the State Bar of California and Los Angeles County Bar Association Taxation Sections. The paper was presented and discussed with attorney advisors at the U.S. Internal Revenue Service Chief Counsel’s Office and Taxpayer Advocate National, tax advisors at the U.S. Department of Treasury Assistant Secretary (Tax Policy), US House Ways & Means Committee, the US Senate Committee on Finance and the US Joint Committee on Taxation on May 2 & 3, 2016 in Washington D.C.1 The comments contained in this paper are the individual views of the authors who prepared them, and do not represent the position of the State Bar of California or the Los Angeles County Bar Association. Although authors might have clients affected by the rules applicable to the subject matter of this paper and have advised such clients on applicable law, none of the authors has been specifically engaged by a client to participate on this submission.

The U.S. tax consequences to U.S. person participants in non-U.S. social security programs (“foreign

social security programs”) generally mirror the consequences to participants in the U.S. Social

Security programs: contributions and accretions are not taxed however distributions are subject to tax.

When inconsistencies arise, income tax conventions and social security totalization agreements

generally resolve these inconsistencies. However under current U.S. law, when the foreign social

security program is fundamentally different than it is in the U.S. (as in the case of Australia), the older

income tax conventions and social security totalization agreements do not resolve the adverse U.S.

tax consequences to affected individuals. Our paper analyses these differences in the context of

Australia’s Social Security and superannuation programs, and suggests ways to resolve them.

Over the past several years the United States has considered, and rejected, numerous different

proposals to modify its Social Security programs.2 The social security programs as they currently exist

bear the following hallmarks that are important to the analysis that follows: First, payment into the

system is mandatory for all those who are employed or self-employed. Second, a participant’s

benefits are unfunded and unsecured: they are simply a promise (though not a binding promise) by

the State to pay some amount (which is subject to change) at some time (which is also subject to

change) in the future.3 Third, since a participant’s ultimate benefit under the program is unfunded and

unsecured, the participant can expect to receive her benefit (whatever that may be) whenever U.S.

law entitles her to receive it. In sum, it is mandatory, publically administered, unfunded and unsecured

(“Unfunded and Unsecured”).

1 The authors wish to thank the following individuals for their helpful comments and insights: Henry P. Alden II, CPA, of the

Everest Ito Group, LLP, Allison Christians, the H. Heward Stikeman Chair in Taxation, McGill University Faculty of Law, and

Veena K. Murthy, of Mercer Compensation and Benefit Tax, Ltd. The authors also wish to thank Ross Stephens and our

colleagues at the Australian Tax Institute, the Australian Tax Office Authorised Competent Authority and Complex Technical

Unit – Superannuation for their invaluable feedback. 2 Congressional Budget Office, CBO Paper: Social Security Privatization Experiences Abroad (January 1999); Staff of the Joint

Committee on Taxation, Analysis of Issues Relating to Social Security Individual Private Accounts (March 1999) (hereinafter,

“JCX-14-99”). See also, International Pension Reform: Lessons for the United States, 19 TEMP. INT’L & COMP. L.J. 133 (2005). 3 Federal court decisions have held that an individual claimant acquires “no vested rights” in gratuity-type benefits paid by the

Federal government to a veteran or his dependent. See, Elmer F. Wollenberg, Vested Rights in Social-Security Benefits, 37

OREGON L REV. 360, 304 (1957-58); United States v. Teller, 107 U.S. 64, 68 (1982); United States v Cook, 257 U.S. 523, 527

(1922).


5


While the social security programs of many countries remain Unfunded and Unsecured, in the past

two decades approximately 32 countries have modified their mandatory social security programs to

provide that the mandatory withholding is deposited into a State-regulated account over which the

participant has at least some investment control.4 Australia and eight other members of the

Organisation for Economic Co-operation and Development (“OECD”) have modified their social

insurance programs in this manner.5 In sum, these social insurance programs are mandatory,

publically regulated (though not publically administered as in the United States) funded and secured

(“Funded and Secured”). With respect to Australia, however, the Age Pension, the first pillar of

Australia’s system, is unfunded and unsecured. Only the other two pillars – Australia’s mandatory SG

system and additional voluntary contributions – are Funded and Secured.

While there are a multitude of differences between the U.S. Social Security programs and the

Australian Social Security programs, our paper focuses on the U.S. tax consequences that result from

the Unfunded and Unsecured nature of the U.S. Social Security program and the Funded and

Secured nature of the Australian superannuation program. In particular this paper identifies the

overlaps and gaps between the U.S.–Australia Income Tax Treaty6 (the “Tax Treaty”) and Social

Security Totalization Agreement7 (the “Totalization Agreement”) with respect to an Australian

Superannuation Fund (“ASF”),8 and provides recommendations for Treasury and the Internal

Revenue Service (“IRS”) to issue clarifying guidance to affected parties.9

There is considerable U.S. tax uncertainty for individuals subject to both programs regarding their

contributions to ASFs, accretions therein and distributions therefrom. Income tax conventions and

social security totalization agreements (“SSTAs”) between the United States and other foreign

countries10 endeavor to eliminate double taxation and harmonize the qualification of individuals for

benefits of both systems, however, the evolutionary patchwork of such, combined with a similar

patchwork of U.S. domestic law, results in a body of law that can be nearly impenetrable in its

complexity and, at best, result in uncertain tax liability (on the part of the taxpayer) and tax entitlement

(on the part of the sovereign), and withholding requirements (on the part of the employer).

4 Barbara E. Kritzer, Individual Accounts in Other Countries, 66 SOC. SEC. BULL. No. 1 (2005). The countries referenced in the

bulletin include Argentina, Australia, Bolivia, Bulgaria, Chile, China, Colombia, Costa Rica, Croatia, Denmark, Dominican

Republic, El Salvador, Estonia, Hong Kong, Hungary, Italy, Kazakhstan, Kosovo, Kyrgyzstan, Latvia, Mexico, Mongolia, Nigeria,

Peru, Poland, Russia, Singapore, Slovakia, Sweden, United Kingdom and Uruguay. 5 The OECD member countries are: Australia, Austria, Belgium, Canada, the Czech Republic, Denmark, Finland, France,

Germany, Greece, Hungary, Iceland, Ireland, Italy, Japan, Korea, Luxembourg, Mexico, the Netherlands, New Zealand, Norway,

Poland, Portugal, the Slovak Republic, Spain, Sweden, Switzerland, Turkey, the United Kingdom and the United States. The

Commission of the European Communities takes part in the work of the OECD. 6 Convention for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income,

U.S.–AUS., Aug. 6, 1982, 35 U.S.T. 1999 (hereinafter the “Tax Treaty”), as amended by Protocol signed on Sept. 27, 2001. 7 Agreement between the Government of the United States of America and the Government of Australia on Social Security

(Canberra, September 21, 2001) (“Totalization Agreement”). 8 See Subsection 295-95(2) of the Australia Income Tax Assessment Act of 1997; see also T.R. 2008/D5 (June 4, 2008).

Within this paper, the term ASF is used to describe a resident Australian superannuation fund, and does not extend to a non-

resident fund 9 The scope of this paper is limited to identifying the U.S. income tax consequences of contributions, accretions and

distributions from an Australian Superannuation Fund to U.S. citizens and residents of Australia under current U.S. tax laws. It

is not intended to provide a comprehensive analysis of the U.S. tax treatment of Australian Superannuation Funds. 10 The U.S.–Mexico Agreement on Social Security was executed on June 29, 2004, but has not yet gone into effect.

https://www.ssa.gov/international/status.html (last visited Feb. 15, 2016).


6


When analyzing the U.S. tax consequences of State-mandated social insurance programs it is

tempting to classify such programs as deferred compensation arrangements and analyze them with

the broad brush of Section 83 (Property transferred in connection with performance of services),

Sections 401–436 (Deferred Compensation, Etc.), and Sections 3101–3128 (Federal Insurance

Contributions Act), and related sections of the Internal Revenue Code (“IRC”)11 and Code of Federal

Regulations (“C.F.R.”). However, we believe to do so (without the recommendations set forth herein)

would be to overlook the purpose of the SSTAs and income tax conventions. Instead, such programs

should be analyzed in a manner consistent with their true nature: the equivalent to the U.S. Social

Security.

While we focus on Australian superannuation law, our analysis applies in equal measure to all

countries whose State-mandated social insurance or equivalent programs are covered by an SSTA,

regardless of the similarity or difference between such programs and U.S. Social Security.

In order to harmonize the U.S. tax treatment of ASFs (and all social insurance programs subject to an

SSTA) with the U.S. tax treatment of U.S. Social Security tax we respectfully submit the following

suggestions:

Suggestion 1: 26 C.F.R. Section 1.402 should be amended to clarify that arrangements subject to an

SSTA are excluded from the application of the statute.

Suggestion 2: 26 C.F.R. Section 1.83 should be amended to clarify that arrangements to an SSTA are

excluded from the application of the statute.

Suggestion 3: 31 C.F.R. Section 1010.350(c)(4) should be amended to clarify that arrangements

subject to an SSTA are excluded from reporting on the Form FinCEN 114.

Suggestion 4: 26 C.F.R. 1.6048 should be amended to clarify that arrangements subject to an SSTA

are exempt from reporting on the Forms 3520 and 3520-A.

Suggestion 5: 26 C.F.R. Section 31.3111 should be amended to clarify that accretions of benefits

under Social Insurance Programs subject to an SSTA are excluded from an individual’s income in a

manner similar to the exclusion of income found in IRC 3111(c).12

Suggestion 6: 26 C.F.R. Section 1.1298-1T (b)(3)(ii) should be amended to clarify that passive foreign

investment companies (“PFICs”) owned by an arrangement subject to an SSTA be exempt from

reporting on the Form 8621.

Suggestion 7: In the event the foregoing suggestions are not possible, 26 C.F.R. Sections 1.901 and

1.960 should be amended to clarify that a taxpayer beneficiary of an ASF be allowed a direct or

indirect foreign tax credit for the Australian taxes paid by such individual.

It is our belief that Treasury and the IRS could affect the foregoing recommendations in a General

Legal Advice Memorandum or Memorandum of Understanding between the competent authorities.13

11 Title 26 of the United States Code, Internal Revenue Code of 1986, as amended. 12 §3111(c) provides, “During any period in which there is in effect an agreement entered into pursuant to section 233 of the

Social Security Act with any foreign country, wages received by or paid to an individual shall be exempt from the taxes imposed

by this section to the extent that such wages are subject under such agreement exclusively to the laws applicable to the social

security system of such foreign country.”


7


Doing so would afford Treasury the time to make the recommended changes to the regulations while

providing affected U.S. persons certainty of their tax and reporting positions without the fear of civil

and criminal action for failing to file the aforementioned forms.

Several areas of the IRC and Treasury Regulations already exempt social insurance programs of

foreign governments from either reporting obligations or taxation. In particular:

First, the Preamble to the regulations under 26 C.F.R. Section 6038D14 provides that an interest in

social security, social insurance or similar program of a foreign government is not considered a

specified foreign financial asset and is therefore not reportable on the Form 8938.

Further, the same section of the Preamble contains a hyperlink to a chart that compares Form 8938

filing requirements with those required by the FinCEN 114 (Formerly TD F 90-22.1, commonly

referred to as the Foreign Bank Account Report “FBAR”).15 The chart referenced therein indicates that

such accounts are reportable on neither the FBAR nor the Form 8938 though, as noted in Proposal

three above, the regulations do not reflect this conclusion.

Second, 26 C.F.R. Section 1.1298-1T(b)(3)(ii) provides that PFICs that are directly or indirectly held

by trusts exempt from taxation as foreign pension funds exempt from tax under an income tax treaty

are likewise exempt from reporting on the Form 8621.

Third, 26 C.F.R. Section 301.6114-1(c)(1)(vii) provides that filing of the Form 8833 is not required to

invoke the benefits of an SSTA.

Fourth, 26 C.F.R. Section 1.409A-1(a)(3)(iv) provides that arrangements subject to an SSTA are

exempt from the application of the statute.

Fifth, IRC 3111(c) exempts wages paid by employers from the imposition of the tax imposed by that

section when an SSTA is in place.16

2 Current Law And Reason For Suggested

Changes

Pension reform has been an active topic of discussion in nearly all OECD countries for more than a

decade. The OECD published its first comprehensive survey of pensions across the 34 member

countries in Pensions at a Glance: 2005 Public Policies across OECD Countries.17 In that survey the

OECD separated each member country’s national retirement system into three tiers and analyzed the

differences across these tiers.

13 We note that several of the cited statutes do not delegate legislative rule-making authority to Treasury, however, we believe

the clarifications to the regulations in our recommendations are within the IRS’s authority to enact as interpretative regulations

subject to five U.S.C. 553 of the Administrative Procedures Act. 14 IRB 2014-53(II) (b) (5). 15 http://www.irs.gov/Businesses/Comparison-of-Form-8938-and-FBAR-Requirements (last visited Feb. 15, 2016). 16 Supra, note 15. 17 See OECD, Pensions at a Glance 2005 (OECD 2005). See also, OECD, Pensions at a Glance 2013: OECD and G20

Indicators (OECD 2013) available at http://www.oecd.org/pensions/public-pensions/OECDPensionsAtAGlance2013.pdf (site

visited Mar. 14, 2016).

http://www.oecd.org/pensions/public-pensions/OECDPensionsAtAGlance2013.pdf


8


First tier pensions within a country’s pension scheme are mandatory programs designed to ensure

that pensioners are afforded some absolute, minimum standard of living. Second tier pensions

comprise mandatory earnings-based programs designed to achieve a targeted standard of living

compared to the standard of living experienced while the individual was working. Third tier pensions

comprise voluntary programs designed to encourage savings for retirement. Second tier pensions,

and specifically the U.S. tax classification of Australia’s second tier pension (the “Superannuation

Guarantee” or “SG”), is the focus of our paper.

Like most members of the OECD, the first tier pension scheme is publically administered by the IRS

and the U.S. Social Security Administration (“SSA”) as an Unfunded and Unsecured promise to pay

an undeterminable amount in the future. In contrast, the second tier pension schemes in Australia,

Chile, Estonia, Israel, Mexico, Norway, Slovak Republic, Sweden and Russia (though not an OECD

member) are generally privately administered as Funded and Secured plans. Since social security

benefits for second tier pensions in these countries are funded, there is virtual certainty that adequate

contributions will be made.

The United States uses two types of international agreements to coordinate various aspects of its

social security program: the U.S. Model Income Tax Convention (the “U.S. Model Treaty”) and the

SSTA. Coordination between SSTA and the U.S. Model Treaty is addressed either exclusively

through an executive agreement or in a treaty, or simultaneously in both. This bifurcated approach

results in patchwork of law that is sometimes overlapping, sometimes does not address important

areas at all, and is always complex for all stakeholders to administer and comply with.18 As previously

mentioned, the overlap between the U.S.–Australia Tax Treaty and Totalization Agreement19 comes

into sharp focus in the case of the ASF.

As a preliminary matter, we recognize that the use of the term “superannuation fund” for describing

the various forms of superannuation schemes in Australia is most likely a misnomer. Honourable

Justice Graham Hill of the Federal Court of Australia acknowledged that the term “superannuation

fund” mistakenly suggests that every superannuation scheme is actually a fund.20 He elaborated that

this proposition is not true as “most superannuation schemes in Australia… are constituted by trust

deeds, and in consequence they may be properly characterized as funds in which a member might be

said to have an interest (using the word “interest” in a non technical sense).”21 The reality is that there

is much diversity in superannuation schemes in Australia. However, for purposes of this paper, we

have intentionally opted to use the term “superannuation fund” as a generic reference for all types of

superannuation schemes which include numerous different types of superannuation funds, including

(1) corporate or employer-sponsored fund;22 (2) industry funds;23 (3) retail funds and public funds;24

(4) public sector funds; (5) small APRA funds;25 and (6) self-managed superannuation funds

18 Allison Christians, Taxing the Global Worker: Three Spheres of International Social Security Coordination, 26 VA. TAX REV. 81,

84-85 (2006-2007). 19 Agreement between the Government of the United States of America and the Government of Australia on Social Security,

U.S.–AUS. Sept. 21, 2001, https://www.ssa.gov/international/Agreement_Pamphlets/austrlia.html (“Totalization Agreement”). 20 See, Hon. Justice Graham Hill, The True Nature of a Member’s Interest in a Superannuation Fund, 5 J. Austl. Tax’n 1 (2002). 21 See, Hon. Justice Graham Hill, The True Nature of a Member’s Interest in a Superannuation Fund, 5 J. Austl. Tax’n 2 (2002). 22 Funds established for the benefit of employees of the sponsoring employer(s) or group of related entities. 23 Funds established generally for employees under an industrial agreement or award. 24 Funds that offer superannuation products to the public, including master trusts (an umbrella trust or fund that uses a single

trustee and a single common trust deed to operate the superannuation arrangements for unrelated individuals and/or

companies. 25 Funds with fewer than five members that are regulated by Australian Prudential Regulatory Authority (“APRA”).


9


(“SMSFs”).26 Consequently, we use the term “ASF” in the same way as the Australian tax legislation,

to refer to a superannuation fund which is a regulated fund that (1) is or was established in Australia

or has any asset situated in Australia; (2) has central management and control of funds ordinarily in

Australia; and (3) either has no active members, or at least 50 percent of the total market value of the

fund’s assets attributable to superannuation interests are held by active members who are Australian

residents (hence, an “Australian superannuation fund” or ASF).27

The ASF is a taxpayer-specific government-mandated fund for all Australian workers, which

aggregates contributions from three sources: first, mandatory employer contributions under the

Superannuation Guarantee or (“SG Contributions”); second, concessional employee pre-tax

contributions (the “Voluntary Employee Contribution” or “VEC”); and third, non-concessional

employee post-tax contributions (the “After-Tax Contributions”). However, the problem faced by the

ASF is that the Tax Treaty and Totalization Agreement do not clearly address the U.S. tax

consequences of contributions to, accretions in, and distributions from, an ASF to a U.S. person who

is a member and beneficiary, or to an Australian who is working in the U.S. and is required to file a

U.S. income tax return.

The pension-relevant provisions of the Tax Treaty under Article 18 have not been significantly

updated since it was ratified in 1983, notwithstanding the Protocol, which was signed in 2001.

Consequently, it does not sufficiently address the taxation of contributions, accrued income and

distributions from an ASF (which was implemented pursuant to the Superannuation Industry

Supervision Act of 1993).

In its current version, Article 18(1) of the Tax Treaty provides that pensions and other similar

remuneration paid to a resident of Australia in consideration for past employment shall be taxable only

in Australia. The term “pensions and other similar remuneration” under Article 18(4) covers periodic

payments made by reason of retirement or death, in consideration for services rendered in connection

with past employment.

Hence, one could take the position that payments from the ASF would constitute distributions from a

foreign pension subject to tax in Australia and not the United States. This position must be considered

in light of Article 1(3), under which the United States reserves its right to tax U.S. citizens on a

worldwide basis as if the Tax Treaty were not in force (the “Saving Clause”). It is important to note

that the Saving Clause does not apply to social security (as defined in the Tax Treaty) received by a

U.S. citizen resident in Australia.28

The result could be that a U.S. person (“USP”) who is a resident of Australia and member and

beneficiary of an ASF (“USP employee-beneficiary”) is subject to tax in Australia and the United

States on income from wages constructively received from: (1) SG Contributions and Voluntary

26 Funds with fewer than five members that are regulated by the ATO. 27 See generally, Australian Tax Office, Income Tax: Meaning of “Australian Superannuation Fund” in Subsection 295-95 of the

Income Tax Assessment Act of 1997, TR 2008/9 (Dec. 2, 2008). The alternative

test is that at least 50 percent of the sum of amounts that would be payable to or in respect of active members if they voluntarily

ceased to be members is attributable to superannuation interests held by active members who are Australian residents. See

Income Tax Assessment Act 1997 s 295-95(2) (c) (ii). 28 See Art. 1(4) (a) of the Tax Treaty.


10


Employee Contributions to the ASF; and (2) income accrued to the ASF.29 Alternatively, if the

payments from the ASF were classified as social security benefits, we submit it is logical to conclude

that contributions to the ASF and accretions in the ASF should likewise be exempt from taxation by

the U.S. since the U.S. has ceded its ability to tax social security payments under Article 18(2) of the

Tax Treaty.

If analyzed under current domestic U.S. tax law (without our recommended changes), contributions

and accrued income in an ASFwould constitute part of a USP employee-beneficiary’s “worldwide

income” subject to tax by the United States while such amounts are also taxable in Australia. The

basis for taxation arises because the ASF represents an “accession to wealth”30 for the USP

employee-beneficiary if the ASF is classified as either an IRC Section 402(b) nonqualified retirement

plan, an employee grantor trust under Treasury Regulations Section 1.402(b)-1(b)(6) 31 or a foreign

grantor trust under IRC Sections 671–679.

If the ASF were analyzed as an IRC Section 402(b) plan, contributions and, in certain circumstances,

income accrued to the ASF would likely be subject to current income taxes, thereby resulting in

substantial income tax liabilities for the USP employee-beneficiary (directly under IRC Section 402(b)

or alternatively as an employee grantor trust under Treasury Regulation Section 1.402(b)-1(b)(6))

without any relief available under the Tax Treaty.

If, alternatively, the ASF is treated as a foreign grantor trust under IRC Sections 671–679 of the Code,

all realized income and gains in the ASF arising from superannuation assets would be attributed to

the USP employee-beneficiary, resulting in income taxes and, likely, tax information reporting

obligations from investments held by the ASF that constitute passive foreign investment companies

(“PFIC”)32 under US tax laws. While this option results in arguably less current taxes to the USP

employee-beneficiary up front, it effectively creates an ongoing burden in the form of more

professional fees for the USP employee-beneficiary to become fully tax-compliant with these complex

U.S. tax reporting obligations.

If the USP employee-beneficiary of a ASF ends up being double-taxed by application of IRC Section

402(b), we would propose that Treasury and the IRS permit such a U.S. person to claim foreign tax

credits for Australian taxes paid by the ASF under IRC Section 901 or IRC Section 960 at the very

least, to alleviate the tax burdens incurred by the USP employee-beneficiary. If, alternatively, the USP

employee-beneficiary were subject to double taxation (which could result if the ASF is treated as a

foreign grantor trust), we would request that Treasury and IRS clarify that the foreign taxes paid by the

ASF in Australia on contributions to and accretions on such amounts in the ASF also be creditable

against U.S. income taxes of the USP employee-beneficiary.

29 Mandatory distributions from the ASF that commence at the Pension Phase are only subject to tax in the United States and

generally not in Australia under Article 18 of the Tax Treaty. 30 See Commissioner v. Glenshaw Glass Co., 75 S. Ct. 473 (1955). 31 See, e.g., 26 C.F.R. § 1.402(b)-1(b) (6). Hereinafter, 26 C.F.R. shall be cited as “Treas. Reg.” 32 See IRC § 1297 for definition of a PFIC. The PFIC reporting obligations require the annual filing of a Form 8621,

“Information Return by a Shareholder of a Passive Foreign Investment Company or Qualifying Electing Fund” which may also

cause assessment of taxes, penalties and interest. An ASF account that is treated as a trust triggers potential reporting

complications because getting information necessary to complete Form 8621is almost impossible.


11


In contrast to these two positions, we submit that the SG Contributions to a ASF, as well as accruals

and distributions therefrom, should not be analyzed as a non-exempt employees’ trust, which would

otherwise be subject to IRC Sections 83, 401(a), 402(b) and the like, but as consistent with its true

nature: a social security program. Indeed, most Australians would view the Age Pension as social

security and the SG system as part of their own incomes that they just cannot access until they

retire.33

We propose that the ASF’s classification relative to the Superannuation Guarantee should be

analyzed in a manner that is consistent with (and therefore taxed similarly to) U.S. Social Security. As

such, the SG Contributions would not fall within the scope of IRC Section 402(b) because they do not

arise out of the employer-employee relationship but instead from the taxing authority of the

Commonwealth of Australia (the “Commonwealth”). Therefore, SG Contributions, accruals and

distributions therefrom should not be classified as amounts transferred to the USP employee-

beneficiary “in consideration for the performance of services,” and, consequently, IRC Section 83

should not apply.

Even if IRC Section 402(b) were to apply to both the SG and employee components of the ASF,

which we do not believe to be the correct conclusion, we maintain that contributions and accruals on

an ASF prior to distributions should be excluded from U.S. taxation as the case would be if the Tax

Treaty were revised to incorporate Article 18 of the 2006 and 2016 U.S. Model Income Tax

Conventions (the “U.S. Model Treaties”).

Article 18(2) and (4) of the 2006 Model Treaty34 and Article 18(3) of the 2016 Model Treaty35 applies

to situations where the individual is a U.S. citizen and resident of the host country. It provides that

contributions attributable to employment paid by or on behalf of the individual during the employment

period to a pension fund are deductible or excludible in computing the individual’s U.S. tax; further,

any accrued pension benefits or employer contributions attributable to employment made by the U.S.

person’s employer are not treated as taxable to the individual in the United States.36 Article 18(2) and

(4) of the 2006 Model Treaty and Article 18(3) of the 2016 Model Treaty are excepted from the Saving

Clause of both U.S. Model Treaties.

We also suggest that the ASF does not constitute a foreign grantor trust under IRC Sections 671–679

primarily because the USP employee-beneficiary in an ASF is neither the grantor nor trustee of the

ASF such that he or she would have discretionary powers and control over the ASF under Australian

superannuation law. Consequently, benefits attributable to contributions to, accruals within, and

distributions from an ASF should be treated as constituting foreign social security benefits. Further,

since foreign social security payments are already excluded from U.S. taxation under Article 18(2) of

the Tax Treaty,37 we recommend that the same exclusion should apply to social security contributions

33 Comment from Ross Stephens, Director (Corporate Tax) at KPMG-Australia on August 17, 2016. 34 U.S. DEPT. OF THE TREASURY, 2006 U.S. Model Income Tax Convention (hereinafter the “2006 US Model Tax Treaty”),

available at https://www.irs.gov/Individuals/International-Taxpayers/The-U.S.-Model-Income-Tax-Convention-and-Model-

Technical-Explanation. 35 35 U.S. DEPT. OF THE TREASURY, 2016 U.S. Model Income Tax Convention (hereinafter the “2016 US Model Tax Treaty”),

available at https://www.treasury.gov/resource-center/tax policy/treaties/Pages/treaties.aspx. 36 See STAFF OF THE JOINT COMMITTEE ON TAXATION, COMPARISON OF THE UNITED STATES MODEL INCOME TAX CONVENTION OF

SEPTEMBER 20, 1996, WITH THE UNITED STATES MODEL INCOME TAX CONVENTION OF NOVEMBER 15, 2006 (2007) at 23-24. 37 See Art. 18(2).


12


and accruals (prior to distribution) under the current Tax Treaty and could be clarified with a

Memorandum of Understanding between the competent authorities of both countries.

3 Background

3.1 National Pension Systems in the U.S. and Australia

The lack of guidance regarding the tax classification and treatment of an ASF presents an opportunity

to propose a new framework for understanding, from a U.S. tax perspective, what an ASF is, what it is

supposed to achieve for Australians, how it operates and what, if any, are the similarities between the

ASF and existing retirement vehicles in the United States. Addressing these issues involves a

fundamental understanding of the prevailing retirement systems in Australia and the United States.

As noted in the OECD report Pensions at a Glance,38 generally, both the United States and Australia

have three-tiered retirement systems that consist of (1) a government pension system; (2) an

occupational employment-based pension system; and (3) supplemental voluntary personal savings.39

The first tier is a public pension, while the second and third tiers typically take the form of private

pensions, namely individual retirement savings accounts in the nature of Funded and Secured

plans.40 In a Funded and Secured plan, the “employer simply contributes a specified percentage of

the worker’s compensation to an individual investment account for the worker…such that her benefit

would be based on all such contributions plus investment earnings.”41 In contrast, benefits under an

Unfunded and Unsecured plan may be calculated under many different methods, and distributions are

typically in the form of an annuity, lump sum or a combination of both.42

Commentators43 have noted that, to be eligible for adequate retirement income from these Funded

and Secured plans, employees need to ensure that significant contributions are made to these plans

(the “Contribution Phase”), that those contributions are invested well and retained until retirement

(the “Accumulation Phase”) and that the accumulated retirement savings are used to provide

benefits throughout retirement (the “Pension Phase”).44

38 See OECD (2015), Pensions at a Glance 2015: OECD and G20 indicators, OECD Publishing, Paris, at 123. 39 Jonathan Barry Forman and Gordon D. Mackenzie, Optimal Rules for Defined Contribution Plans: What Can We Learn from

the U.S. and Australian Pension Systems? (UNSW Australian School of Business Research Paper No. 2013 TABL 1000),

available at http://ssrn.com/abstract=1954879. 40 Id. at. 3-4. 41 Id. at 5-6. 42 Id. at 6. 43 Jonathan Barry Forman and Gordon D. Mackenzie, Optimal Rules for Defined Contribution Plans: What Can We Learn from


available at http://ssrn.com/abstract=1954879. 44 Id. at 2.

http://ssrn.com/abstract=1954879


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3.1.1 United States

The U.S. retirement system consists of a universal social security system, a voluntary occupational

pension system and supplemental voluntary savings.45

U.S. Social Security has two programs that provide monthly cash benefits to U.S. workers and

families, i.e., the Old Age and Survivor’s Insurance (“OASI”) program and the Disability Insurance

(“DI”) program (collectively, “OASDI” or “Social Security Benefits”).46 An employee contributes to

these programs by working in employment covered by social security and paying the applicable

payroll taxes. At retirement, disability or death, monthly social security benefits are paid to insured

employees and their dependents or survivors47. The amount of benefits may be adjusted for a variety

of reasons. The primary source of funding for the Social Security Benefits are the payroll taxes

imposed on an employer and its employees as well as on the self-employed.48 The taxes are

deposited in two separate trust funds, the OASI Trust Fund and the DI Trust Fund, which are financial

accounts at the U.S. Treasury.49 Moneys received by the trust funds can be used only to pay benefits

and operating expenses of the Social Security program. Funds not currently needed for these

purposes are invested in interest-bearing securities that are guaranteed by the Federal Government.50

Aside from social security, the United States has a voluntary pension system.51 Employers are not

required to provide a voluntary pension for their employees, however those who choose to provide

one are subject to the requirements applicable to each plan under the IRC and, in most cases, are

subject to regulation under the Employment Retirement Security Act of 1974 (“ERISA”).52 Most

contributions, earnings on contributions and benefits are not included in gross income until amounts

are distributed, even if the arrangement is funded and benefits are vested.53 The employer is entitled

to a current deduction for contributions notwithstanding that those contributions are not currently

includible in the employee’s income.54 Contributions and earnings are held in a tax-exempt trust,

which enables the assets to grow on a tax-free basis.55

45 Id. at 10; see also JXC-14-99. 46 Id. 47 Id. 48 Id. at 11. 49 David Pattison, Social Security Trust Fund Cash Flows and Reserves, 75 SOC. SEC. BULL. 1 at 2-3, 7 (2015); see also Dawn

Nuschler, Social Security: Trust Funds (CONGRESSIONAL RESEARCH SERVICE 7-5700). 50 SOCIAL SECURITY ADMINISTRATION, SUMMARY: FINANCIAL STATUS OF THE SOCIAL SECURITY TRUST FUNDS (July 2015) at 21. 51 Jonathan Barry Forman and Gordon D. Mackenzie, Optimal Rules for Defined Contribution Plans: What Can We Learn from


available at http://ssrn.com/abstract=1954879, at 13; referencing JONATHAN BARRY FORMAN, MAKING AMERICA WORK, 214 (2006),

and Kathryn L. Moore, An Overview of the U.S. Retirement Income Security System and the Principles and Values it Reflects,

33 COMP. LABOR L. & POLICY JOURNAL 5,17 (2011). 52 Id. See also STAFF OF THE JOINT COMMITTEE ON TAXATION, PRESENT LAW AND BACKGROUND RELATING TO THE TAX TREATMENT

OF RETIREMENT SAVINGS 2 (2011); PRESENT LAW AND BACKGROUND RELATING TO TAX-FLAVORED RETIREMENT SAVING AND

CERTAIN RELATED LEGISLATIVE PROPOSALS 4 (2016). 53 Id. at 2. Additionally, many distributions can be rolled over to another plan for continued income deferral. 54 Id. 55 See STAFF OF THE JOINT COMMITTEE ON TAXATION, PRESENT LAW AND BACKGROUND RELATING TO TAX-FLAVORED RETIREMENT

SAVING AND CERTAIN RELATED LEGISLATIVE PROPOSALS 4 (2016).


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3.1.2 Australia

Australia’s retirement system consists of a social security program to provide for retirement, survivors

and disability benefits,56 the Superannuation Guarantee or SG, a mandatory superannuation system

to supplement retirement plans57 and supplemental voluntary savings.58

The Australian Social Security program consists of a flat rate benefit that is funded from general

revenues59 rather than from specific payroll taxes.60 The benefits cover retirement, survivor and

disability benefits,61 which may be reduced by both an income and asset test.62 The retirement

benefits (referred to as “Age Pension”)63 are a means-tested income support benefit for seniors at

age 65.64 Generally, individuals must have lived in Australia for ten years to qualify for full Age

Pension benefits.65

The balance of the Australian system is referred to as Superannuation.66 Employers, employees and

self-employed persons generally contribute to funded pension funds that are administered by trustees.

These pension funds are generally Funded and Secured plans, although some Unfunded and

Unsecured plans remain in existence.67 Generally an individual’s superannuation balance cannot be

accessed until reaching the “preservation age,”68 death, or disability.69 At that time, the benefits

accrued in the ASF can be taken in the form of lump-sum, pension or combination of both.70

56 See U.S. SOCIAL SECURITY ADMINISTRATION PROGRAM OPERATIONS MANUAL SYSTEM (POMS), OVERVIEW OF THE AUSTRALIAN

SOCIAL SECURITY SYSTEM at GN 01743.010, available at http://policy.ssa.gov/poms.nsf/lnx/0201743010 (last visited Feb. 5,

2016). 57 Id. 58 Jonathan Barry Forman and Gordon D. Mackenzie, Optimal Rules for Defined Contribution Plans: What Can We Learn from


available at http://ssrn.com/abstract=1954879. 59 Id. 60 See U.S. SOCIAL SECURITY ADMINISTRATION PROGRAM OPERATIONS MANUAL SYSTEM (POMS), COVERAGE AND CONTRIBUTIONS

UNDER THE AUSTRALIAN SYSTEM at GN 01743.015(A), available at http://policy.ssa.gov/poms.nsf/lnx/0201743010 (last visited

Feb. 5, 2016). 61 Id. at GN 01743.020(A), available at http://policy.ssa.gov/poms.nsf/lnx/0201743010 (last visited Feb. 5, 2016). 62 Id. at GN 01743.010, available at http://policy.ssa.gov/poms.nsf/lnx/0201743010 (last visited Feb. 5, 2016). 63 Id. at GN 01743.020(B), available at http://policy.ssa.gov/poms.nsf/lnx/0201743010 (last visited Feb. 5, 2016). 64 Id. at GN 01743.010, available at http://policy.ssa.gov/poms.nsf/lnx/0201743010 (last visited Feb. 5, 2016). 65 Id. 66 Jonathan Barry Forman and Gordon D. Mackenzie, Optimal Rules for Defined Contribution Plans: What Can We Learn from

the U.S. and Australian Pension Systems? (UNSW Australian School of Business Research Paper No. 2013 TABL 1000) at 11,

available at http://ssrn.com/abstract=1954879. 67 See STAFF OF THE JOINT COMMITTEE ON TAXATION, ANALYSIS OF ISSUES RELATING TO SOCIAL SECURITY INDIVIDUAL PRIVATE

ACCOUNTS (March 6, 1999) available at http://www.jct.gov/jct_html/x-14-99.htm#II; OVERVIEW OF PRESENT-LAW RULES RELATING

TO SOCIAL SECURITY, EMPLOYER-SPONSORED RETIREMENT PLANS AND IRAS at 55/66. 68 See STAFF OF THE JOINT COMMITTEE ON TAXATION, ANALYSIS OF ISSUES RELATING TO SOCIAL SECURITY INDIVIDUAL PRIVATE

ACCOUNTS (March 6, 1999) available at http://www.jct.gov/jct_html/x-14-99.htm#II; OVERVIEW OF PRESENT-LAW RULES RELATING

TO SOCIAL SECURITY, EMPLOYER-SPONSORED RETIREMENT PLANS AND IRAS at 55/66. 69 Id. at 27. 70 Id. at 28.


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The Superannuation Guarantee (“SG”) component of the Superannuation scheme consists of SG

Contributions to private pension funds to supplement benefits payable under the Social Security

program.71 Commentaries on the Australian SG scheme have noted that all SG Contributions are fully

funded and fully preserved (i.e., they must be kept together with investment earnings in

superannuation funds until the statutory access age is reached)(“Funded and Secured”),72 vested

and portable.73 The Australian Taxation Office (“ATO”) provides government oversight for the SG.74

3.2 Australian Taxation of an ASF

While ASFs are essentially trusts that hold superannuation assets, they are not taxed as trusts under

Australian tax laws. An ASF has special rules in place that modify general tax principles for calculating

taxable income.75 The starting point is always assessable income (but excluding exempt income and

non-assessable non-exempt income), from which deductions are applied to arrive at taxable

income.76 Complying ASFs77 in particular receive preferential tax treatment across three stages: the

Contributions Phase; the Accumulations Phase; and the Drawdown Phase. This means that it will not

only be taxed at concessional rates, but also will be entitled to certain special deductions, exemptions

and other concessions.78 A fund that meets the definition of a superannuation fund but that does not

satisfy the conditions for being a Complying ASF is taxed at the top marginal rate (currently 47%). A

fund that does not meet the definition of a superannuation fund at all will be generally assessed tax

under the ordinary Australian trust tax law provisions as a trust.79

3.2.1 Contributions Phase

The assessable income of an ASF includes certain contributions.80 During this phase, tax

concessions available for contributions received by the ASF include (1) tax deductions for employer

contributions and certain individual personal contributions (generally those from self-employed

71 See U.S. SOCIAL SECURITY ADMINISTRATION PROGRAM OPERATIONS MANUAL SYSTEM (POMS), OVERVIEW OF THE AUSTRALIAN

SOCIAL SECURITY SYSTEM at GN 01743.010, available at http://policy.ssa.gov/poms.nsf/lnx/0201743010 (last visited Feb. 5,

2016). 72 George Kudrna, Does pre-funding of retirement incomes work? The case of Australian’s superannuation (October 2013) in

Pre-Funded Pension Plans: Theory, Practice, and Issues Does Pre-funding Work – Abstracts by ARC Centre of Excellence in

Population Ageing Research (CEPAR) and the Research Institute for Policies on Pension and Aging (RIPPA) (Project on

Intergenerational Equity). 73 See STAFF OF THE JOINT COMMITTEE ON TAXATION, ANALYSIS OF ISSUES RELATING TO SOCIAL SECURITY INDIVIDUAL PRIVATE

ACCOUNTS (March 6, 1999) at 55/66, available at http://www.jct.gov/jct_html/x-14-99.htm#II. See also CONGRESSIONAL BUDGET

OFFICE, SOCIAL SECURITY PRIVATIZATION: EXPERIENCES ABROAD at 46 (January 1999). 74 Id. 75 R.L. DEUTSCH, M.L. FRIEZER, I.G. FULLERTON, R.J. HANLEY, T.J. SNAPE, THE AUSTRALIAN TAX HANDBOOK (2014) 1565-66. 76 Id. at 1565. The taxation of a superannuation entity is governed under Div. 295, Income Tax Assessment Act of 1997, which

modifies general tax rules applied to an ASF. 77 Id. at 1566-67. As previously noted, a complying ASF is one that has received an unrevoked notice under the SIS Act stating

that it is a complying fund. The notice is sent under SISA s 40 stating that it is a complying fund. For SMSFs, complying status

is determined separately under SISA s 42. 78 R.L. DEUTSCH, M.L. FRIEZER, I.G. FULLERTON, R.J. HANLEY, T.J. SNAPE, THE AUSTRALIAN TAX HANDBOOK (2014) at 1566. Non-

complying Supers are taxed at 45 percent on all taxable income. Id. at 1568. 79 Id. The governing trust tax laws applied to a non-complying ASF is Div. 6 of Pt. III ITAA 1936, where it will be taxed as a trust

or a public trust (if applicable). 80 Id.


16


persons); (2) a tax offset for superannuation contributions made for the benefit of a low-income-

earning spouse of the contributor; and (3) an entitlement to a government co-contribution where

personal contributions are made by low-income earners.

As previously discussed, both SG Contributions and VEC are included in the assessable income of an

ASF in the income year received. Such contributions are subject to a 15 percent contributions tax in

the hands of the ASF.81 SG Contributions and VEC are subject to a yearly cap of $35,000 (if the

member is aged 50 or over) or $30,000 otherwise.82 SG Contributions in excess of the concessional

contributions cap for the year are included as assessable income that is then taxed at the employer’s

marginal tax rates. Concessional employee contributions that exceed the annual cap amount are

included in the individual’s assessable income for the year.83

Non-concessional employee contributions (i.e., additional After-Tax Contributions) are generally not

included in the assessable income of the ASF. However, the member is liable for tax on excess non-

concessional contributions that exceed annual caps, which are indexed annually.84 Non-concessional

employee contributions are capped at six times the under age 50 concessional cap for the year (thus,

presently $180,000).85 Amounts in excess of the cap are taxed on the excess at a rate of 49 percent

(for 2016/2017).86 In addition to non-concessional contributions, members can also make additional

non-concessional contributions of up to $540,000 over any three-year period pursuant to the “bring

forward” rules without incurring extra tax.

3.2.2 Accumulation Phase

The ASF remains subject to tax while the contributions are growing in the fund during the

Accumulation Phase. In addition to the tax on contributions, the other taxable income87 of an ASF is

taxed at 15 percent if it is a complying ASF for that year.88 Otherwise, the highest marginal tax rate

will be applied, currently at 47 percent. The taxable income of an ASF includes, but is not limited to,

the following: (1) contributions; (2) ordinary earnings; (3) capital gains; (4) interest; (5) dividends; and

(6) rent.89 It is noteworthy, however, that income earned from assets held by the fund to provide for

81 See Income Tax Assessment Act of 1997, Subdiv. 290-C. 82 Recent proposals for Superannuation Reform would reduce this annual cap for concessional contributions from $30,000 /

$35,000 to $25,000 at all ages. See, Commonwealth of Australia Budget 2016-17, “Making our tax system more sustainable”

released May 3, 2016 available at http://budget.gov.au/2016-17/content/glossies/tax_super/html/ (hereinafter, “Federal

Budget 2016-17”). 83 Income Tax Assessment Act of 1997, s 291-15. In addition, for years prior to July 1, 2014, the individual is liable to pay an

excess concessional contributions charge on the increase in the tax liability as a result of having excess concessional

contributions for the relevant year. See Superannuation (Excess Concessional Contributions Charge) Act of 2013. 84 Income Tax Assessment Act of 1997, s 292-85(2). Currently, the cap is $180,000 for 2015/2016 for members aged 65 years

but less than 75 years old and $540,000 over a three year period for members under age 65 years. The proposed federal

budget would replace these annual non-concessional cap limits with a lifetime non-concessional contribution limit of $500,000,

applicable to all non-concessional contributions made from July 1, 2007. See, Federal Budget 2016-17 at 4. 85 Income Tax Assessment Act of 1997, s 292-85(2). For members aged 65 years but less than 75 years old, the cap is

$180,000 for 2015/2016. For members under age 65, the cap is $540,000 over a three year period. 86 Income Tax Assessment Act of 1997, s 292-80, s 292-85(1). 87 i.e., both ordinary and statutory income derived from all sources. 88 i.e., both ordinary and statutory income derived from all sources. 89 Id. at 1570.

http://budget.gov.au/2016-17/content/glossies/tax_super/html/


17


pensions benefits once the income stream is commenced is exempt from income tax as exempt

current pension income.90

3.2.3 Benefits

In the Drawdown Phase, the accumulated contributions plus the earnings from investing such

contributions less any Super expenses are usually paid in the form of member benefits once a

member reaches the “preservation age”91 and meets one of the statutory conditions of release.92 The

preservation age is the earliest age that retirement benefits can be paid from an ASF with

concessional tax treatment. The preservation age varies for members depending on their date of birth.

In the event of death before retirement, the member benefit is paid to the member’s dependents.

Some conditions of release restrict the form of the benefit or amount of benefit that can be paid (a

“Cashing Restriction”).93 For example, the payment may be an income stream (pension) or a lump

sum, depending on the circumstances. Payments to members that do not meet a condition of release

are not treated as lump sum or income stream superannuation benefits; rather, these are taxed as

ordinary income at the member’s marginal tax rates.94 The ATO views such events as incidents where

a benefit has been unlawfully released, and significant penalties must apply.95

If the ASF has paid tax on contributions and earnings, benefits paid, either as lump sum or pension,

are generally tax-free for people aged 60 and over. However, where the ASF has not paid tax on

contribution and earnings (as is the case for some funds, typically in the public sector), the benefits

paid from such ASFs are taxed.

90 Id. at 1582. 91 Access to benefits in an ASF is generally restricted to members who have reached preservation age. This ranges from 55 to

60 years of age and is determined according to their date of birth. 92 SUPERANNUATION IN AUSTRALIA (CCH) at ¶ 8-110 et. seq., available at http://iknowserver.www.iknow.cch.com.au (last visited

Dec. 2015). 93 See Schedule 1 of the Superannuation Industry (Supervisory) Regulations, which sets out the Conditions of Release and

Cashing Restrictions for the purposes of the preservation rules. We note that there are no Cashing Restrictions in the event of

retirement, death, terminal medical condition or permanent incapacity or upon reaching age 65. However, Cashing Restrictions

apply to all other circumstances. For a quick guide on Conditions of Release and Cashing Restrictions, see SUPERANNUATION IN

AUSTRALIA (CCH) at ¶ 8-110 et. seq., available at http://iknowserver.www.iknow.cch.com.au (last visited Dec. 4, 2015). 94 SUPERANNUATION IN AUSTRALIA (CCH) at ¶ 12-500 available at http://iknowserver.www.iknow.cch.com.au (last visited Dec. 4,

2015). 95 Id. at ¶ 8-270 et. seq., available at http://iknowserver.www.iknow.cch.com.au (last visited Dec. 4, 2015)


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4 Superannuation Guarantee Scheme Should

Be Classified As A Social Security Tax For

U.S. Tax Purposes

4.1 Superannuation Guarantee Background

4.1.1 Superannuation Guarantee Scheme

As previously mentioned, all employers in Australia are required to make superannuation

contributions into a complying superannuation fund or Retirement Savings Account (“RSA”) for the

benefit of their eligible employees in accordance with minimum prescribed levels. The minimum level

of employer contributions are administered by the ATO pursuant to the SG Scheme under the

Superannuation Guarantee (Administration Act) of 1992 (the “SGAA”), its Regulations (“SGAR”) and

the Superannuation Guarantee Charge Act of 1992 (the “SGCA”).

Superannuation system was traditionally a system of voluntary private pensions provided through

employers which was expanded in the 1980s and 1990s.96 The first expansion, called the Award

Superannuation, was sought by the labor unions spearhead by the Australian Council of Trade

Unions (ACTU) seeking a universal 3 percent employer contribution to a pension fund instead of a

wage increase.97 The central wage bargaining that took place in 1985 and 1986 resulted in an

agreement between employers and labor unions that has been incorporated into employment

contracts since June 1986.98 The second expansion called the Superannuation Guarantee (SG), took

place in 1992, when the government mandated employers to provide superannuation to workers99

through contributions that are vested immediately and fully portable. Although the proposal originally

envisioned a matching contribution from the government, this provision was replaced with a tax rebate

effective in fiscal year 1999-2000.100

In strict legal terms, the SGAA is structured as a piece of tax legislation, where employers who fail to

make the correct amount of contributions are subject to a tax, which is imposed by the SGCA.101 The

SGAA was structured in this way for constitutional reasons, as the Australian Constitution vests the

powers that would be necessary to mandate employers to make contributions in the States rather

than the Federal Government.102 In introducing the SGAA, the Federal Government relied on the

taxing power as well as the pension power103 (as discussed further below).

96 Congressional Budget Office, CBO Paper: Social Security Privatization Experiences Abroad at p. 45 (January 1999). 97 Id. at 46. 98 Id. 99 Id. at 45. 100 Id. at 46. 101 Comment from Ross Stephens, Director (Corporate Tax) at KPMG-Australia on August 17, 2016. 102 Id. 103 Id.


19


The minimum level of SG Contributions under the SG Scheme is a prescribed percentage, referenced

as the “charge percentage”, of the employee’s ordinary time earnings in each quarter, subject to a

maximum contribution base. Currently, the charge percentage is 9.5 percent until 2021. The

maximum contributions base limits the employer’s contributions by providing a ceiling on an

employee’s earnings base or salary in a quarter. For example, for 2015/2016, the maximum

contribution base per quarter is $50,810.

The SG Contributions can be made to any complying superannuation fund or RSA or to an approved

clearinghouse that will forward the contributions to the appropriate fund.104 Employers are required to

offer employees their choice of fund for receiving the SG Contributions, or risk additional increase in

their SG Charge liability as “choice penalty.”

An employer who fails to pay the prescribed rate of SG Contribution in each quarter on a self-

assessment basis is liable for the SG Charge. An SG Charge comprises the SG Shortfall105 amount

plus interest and an administrative charge.106 To avoid incurring the SG Charge, an employer must

make SG Contributions by the 28th day after the end of the quarter. If there is an SG Shortfall, the

employer must lodge a statement with the ATO together with the SG Charge payment. The SG

Shortfall component of the SG Charge is generally paid by the ATO to a superannuation fund for the

employee or the SHSA. An employer’s failure to comply with its SG obligations may not only result in

an SG Charge liability, but may also incur an administrative penalty, general interest charge or

prosecution by the ATO. Unlike the SG Contribution,107 an SG Charge is not tax deductible to the

employer.108

4.1.2 Under Australian Law the Superannuation Guarantee Scheme Constitutes a

Tax

It is undisputed that an SG Contribution is a mandatory contribution by the employer of a percentage

of its employee’s salary to provide for the employee’s own retirement.109 The SG Contribution itself,

and accruals thereafter, do not constitute income to the employee in Australia,110 notwithstanding that

it is paid to an ASF that is intended to provide superannuation benefits for the employee in retirement.

Rather, both the SG Contribution amounts and accruals thereafter are taxed to the ASF at a low-tax

104 For employers with less than 20 employees, they may opt to make SG contributions through a clearinghouse. 105 The SG Shortfall amount is calculated by multiplying the employee’s salary or wages for the relevant quarter by the reduced

charge percentage (i.e., the charge percentage less the level of superannuation support actually provided). 106 ROBIN WOELLNER, STEPHEN BARKOCZY, SHIRLEY MURPHY, CHRIS EVANS & DALE PINTO, CCH AUSTRALIAN TAXATION LAW

(2013) at ¶¶ 23-810, 23-820. 107 See generally Income Tax Assessment Act of 1997, s 290-60. 108 Id. 109 Finch v. Telstra Super Pty Ltd [2010] HCA 36 at ¶ 35 (Oct. 20, 2010). The High Court of Australia in Finch v. Telstra Super

Pty. Ltd stated the purpose of the SG contribution as follows:

A further factor is the public significance of superannuation. The federal government has attempted to

reduce outflows by reducing the dependence of retired persons on the old-age pension funded out of

general revenue. The taxation concessions now provided pursuant to Pt 3-30 of the Income Tax

Assessment Act 1997 (Cth) are designed to encourage citizens to make provision for their retirement by

investing in superannuation and to encourage their employers to create superannuation funds in their favor.

The Parliament also has required employers to contribute a certain percentage of the employee's salary for

these purposes. 110 See, Australian Tax Office, Income Tax: Superannuation Contributions, TR 2010/1 at ¶ 104.


20


rate of 15 percent. Distributions made by the ASF during the Drawdown Phase are generally tax-free

to the employee.

If an employer fails to pay its required SG Contributions to the ASF, however, the difference between

what is actually paid and what is owed (the “SG Shortfall”), is charged to the employer by the

Commonwealth with interest and penalties i.e., the SG Charge.111 The SG Charge is paid by the

employer directly to the ATO and deposited into the Consolidated Revenue Fund and, thereafter, the

SG Shortfall amount would be paid by the ATO to the corresponding RSA, complying ASF or an

approved deposit fund (“ADF”) or SHSA for the benefit of the relevant employee in the amount of the

SG Shortfall.112 It is important to note that SG Shortfall component amounts paid by the ATO to

superannuation funds or accounts authorized by SGAA are not actually payable to the employee until

the occurrence of a pensionable event.113 Indeed, in Roy Morgan v. Commissioner of Taxation, the

High Court of Australia pointed out that the operative provisions [Section 65] of the SG Scheme

providing for payout of the SG Shortfall by the ATO,

…does not provide for a payment of the amount of superannuation benefit directly to an employee. Rather, s. 65

provides for payment to a fund to be held against the invalidity or old age of the employee.114

Based on the above reasons, the High Court ultimately concluded that the SG Charge imposed by the

SGC Act and SGA Act is an exaction for public purposes and therefore a valid tax imposed on

employers pursuant to Section 51 (xxiii) of the Commonwealth of Australia Constitution Act, otherwise

known as the “Pension Power”.115 Specifically, the SG Charge is a compulsory exaction to “encourage

all Australian employers to contribute to the financial needs of all Australian employees in old age or

infirmity”.116

4.2 Similarities between U.S. Social Security Taxes and Australian

Superannuation Guarantee

As previously mentioned, Australia’s current Superannuation system includes the Superannuation

Guarantee, which is a privatized mandatory savings scheme that pre-specifies a minimum amount of

contributions from employers on behalf of their employees.117 All contributions are portable, fully

111 See Taxation Administration Act of 1953, (Cth), Sched 1, s 255-5(1) (a). 112 See Pt eight of the Superannuation Guarantee (Administration) Act of 1992 (Cth). The SG Shortfall and interest component

of the SG Charge is paid by the ATO to the employee’s superannuation fund and thus makes up for the delinquency in SG

Contributions of the employer. 113 See Roy Morgan Research Pty. Ltd. v. Commissioner of Taxation, [2011] HCA 35 (Sept. 28, 2011) at ¶¶ 10-13, interpreting

section 65(1) of the SGAA. 114 See Roy Morgan Research Pty. Ltd. v. Commissioner of Taxation, [2011] HCA 35 at ¶ 91 (Sept. 28, 2011), explaining the

effect of Part eight of the SGA Act with respect to Section 65. 115 See Roy Morgan Research Pty. Ltd. v. Commissioner of Taxation, [2011] HCA 35 at ¶¶ 93-94 (Sept. 28 2011), concluding

that the SG Charge is a tax within section 51(ii) of the Constitution for reasons stated in the text above. 116 See Roy Morgan Research Pty. Ltd. v. Commissioner of Taxation, [2011] HCA 35 at ¶ 74 (Sept. 28, 2011). The High Court

of Australia stated in part, “In our respectful opinion, an exaction, for the purposes of which is to encourage all Australian

employers to contribute to the financial needs of all Australian employees in old age or infirmity is an exaction for public

purposes.” Id. 117 George Kudrna, Does pre-funding of retirement incomes work? The case of Australian’s superannuation (October 2013) in



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funded and fully preserved (i.e., they must be kept together with investment earnings in the ASF until

the statutory access age is reached). Hence, presumably Funded and Secured.118 Once received by

the ASF, the contributions are managed by the ASFs, which are generally private sector entities119

and generally held in individual accounts and invested on behalf of the employee individuals.120 Fund

investment earnings are added to superannuation assets that may be withdrawn upon reaching the

statutory eligibility age,121 and also used to compute eligibility for the Age Pension,122 which is

intended to operate as a safety net for those who cannot provide for themselves in retirement. At the

time of its implementation, the belief was that the Superannuation system would eventually build up

and reduce the Age Pension to a simple welfare measure by the Commonwealth to pay a destitute

payment or supplement only.123 Indeed, it was anticipated that, as the system fully matured, payments

from Australia’s social security network would decrease substantially as payments from the ASFs

increase.124

Australia’s expectation to replace the Age Pension with the entitlements in ASFs to provide for

retirement needs is reflected in the Social Security (International Agreements) Act of 1999 (“SSIA”),125

which was enacted after the expansion of the Superannuation system in 1992 which imposed

mandatory employer contributions under the SGAA.. The SSIA’s scope explicitly references

Australia’s existing social security laws and the Australian SGAA as the two primary regimes in

Australia that would be subject to an international agreement on social security with another country

(a “scheduled international social security agreement” or “totalization agreement”)126 that would

override Australia Social Security law.127

Closer scrutiny of the SG Contribution amounts payable by an Australian employer under the SG

Scheme provides compelling similarities to a U.S. employer’s mandatory payment of FICA and SECA.

The similarities between the SG, FICA and SECA taxes are as follows:

Population Ageing Research (CEPAR) and the Research Institute for Policies on Pension and Aging (RIPPA)(Project on

Intergenerational Equity). 118 George Kudrna, Does pre-funding of retirement incomes work? The case of Australian’s superannuation (October 2013) in



Intergenerational Equity). 119 See Jerry W. Markham, Privatizing Social Security, 38 SAN DIEGO L. REV. 747 at 813 (2001). 120 George Kudrna, Does pre-funding of retirement incomes work? The case of Australian’s superannuation (October 2013) in



Intergenerational Equity). 121 Id. 122 Prof. Markham has observed that unlike Social Security, Australian Age Pension is viewed as a safety net for those unable

to provide for themselves in retirement. Income to the recipient of an Age Pension or assets (excluding the pensioner’s home

and capital value of superannuation funds) in excess of specified levels will result in the reduction or elimination of benefits.

See, Id. at 814 citing CENTRELINK, Age Pensions: All You Need to Know 4 (May 2000). 123 See Jerry W. Markham, Privatizing Social Security, 38 SAN DIEGO L. REV. 747 at 813 (2001) 747 at 814-819 (2001). 124 Id. 125 See OFFICE OF PARLIAMENTARY COUNSEL (CANBERRA), Social Security (International Agreements) Act of 1999, at Part 1(4)

(compiled Jan. 1, 2016). SSIA was enacted in March 2000 to form part of Australia’s social security law. 126 See, Id. at Part 2(5) and 2(6). 127 See SSIA Part 2.6(1), which states, “The provision of a scheduled international social security agreement have effect despite

anything in social security law.” Id.


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4.2.1 Rate and Computation of Tax

Employers in the United States and Australia are both required to pay tax measured on the amount of

wages paid with respect to employment. Similarly, employers in the United States are required to pay

an excise tax equivalent to 6.2 percent of their employees’ gross wages up to an annual cap as

compared to the 9.5 percent of the mandatory SG Contributions required from employers in

Australia.128 The employer portion of the FICA tax is computed by applying the rate in effect at the

time that wages are paid. This is the same computation for the SG Contribution and SG Charge.

4.2.2 Collections and Liability

Both employers in the United States and Australia are required to self-assess and remit the

appropriate amount of the tax. In Australia, employers remit SG Contributions to the ASF and pay SG

Charges directly to the ATO and deposited into the Consolidated Revenue Fund, which is where tax

collections are deposited.129 Failure to remit the SG Charge is treated as an indebtedness owed by

the employer directly to the Commonwealth.130 SG Charges deposited into the Consolidated Revenue

Fund are subsequently disbursed by the ATO thereafter to the extent of the SG Shortfall amount as

payment to the applicable superannuation fund for the benefit of the relevant employee.131 It is

important to note that SG Shortfall component amounts paid by the ATO to the superannuation funds

or accounts authorized by SGAA are not actually payable to the employee until the occurrence of a

pensionable event.132

On the other hand, employers in the United States also have a duty to compute, collect and deduct

the employee-portion of the FICA from the gross amount of the employee’s wages. The employer

then remits and pays the employer- and employee-portion of the FICA tax directly into the general

fund of the Treasury and where it is then appropriated to the OASI Trust Fund and DI Trust Fund.133

The employer remains liable for the employee portion of the FICA if it fails to withhold from its

employee’s wages and remit accordingly to the IRS (even if it has already remitted the employer

portion of FICA), whether or not the tax is collected from the employee.134 The reason for this is

because the liability for the FICA payment does not arise out of the employment contract but rather is

created by the Federal Government’s taxing authority.135

128 See IRC § 3111(a). See generally, Steward Machine Co. v. Collector of Internal Revenue, 301 U.S. 548 (1937); Helvering v.

Davis, 301 U.S. 619 (1937). 129 Roy Morgan Research Pty. Ltd. v. Commissioner of Taxation, [2011] HCA 35 at ¶ 92 (Sept. 28, 2011). 130 See Taxation Administration Act of 1953, (Cth) Sched. 1, s 255-5(1) (a). 131 See Pt eight of the Superannuation Guarantee (Administration) Act of 1992 (Cth). The SG Shortfall and interest component

of the SG Charge is paid by the ATO to the employee’s superannuation fund and thus makes up for the delinquency in SG

Contributions of the employer. 132 See Roy Morgan Research Pty. Ltd. v. Commissioner of Taxation, [2011] HCA 35 at ¶¶ 10-13 (Sept. 28, 2011) interpreting

SGAA s 65(1). 133 See Rev. Ruling 81-211, 1981-2 C.B. 179. See also Steward Machine Co. v. Collector of Internal Revenue, 301 U.S. 548,

570 (1937); Helve ring v. Davis, 301 U.S. 619 (1937) cases addressing constitutionality of Titles II and IX of the Social Security

Act of 1935 (Act of August 14, 1935, c. 531, 49 Stat. 620, 42 U.S.C. c 7 (Supp.)) imposing excise tax on employers. See also,

David Pattison, Social Security Trust Fund Cash Flows and Reserves, 75 SOC. SEC. BULL. 1 at 2-3, 7 (2015); see also Dawn

Nuschler, Social Security: Trust Funds (CONGRESSIONAL RESEARCH SERVICE 7-5700). 134 See IRC § 3102(b), Treas. Reg. §31.3102-1(d). 135 See Rev. Ruling 81-211, 1981-2 C.B. 179.


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4.2.3 Indemnification

With respect to the employee-portion of the FICA tax, the U.S. employer is indemnified against all the

claims and demands of any persons for the amount deducted and paid to the Federal Government.136

Similarly, the Australian employer cannot be sued directly by the Australian employee for any unpaid

SG Contribution amounts determined due and owing to the employee’s superannuation fund.137 The

SG Charge is a debt payable by an employer to the Commonwealth and may be recovered by the

ATO Commissioner directly against the employer.138 In certain cases, even directors may be

personally liable for the unpaid SG liabilities of the employer-corporation,139 similar to the trust fund

liability exposure of officers of US employers who do not remit their FICA and other payroll taxes to

the Federal Government.

4.3 U.S.–Australia Totalization Agreement

Schedule 13 to the Social Security International Agreements Act of 1999 constitutes the U.S.–

Australia Totalization Agreement.140 It covers: (1) contributions made under the Federal OASDI

program of the United States; (2) acts forming the Social Security law of Australia;141 and (3) the law

concerning the SGAA, the SGCA and the SGAR.142 In this regard, more than one U.S. agency (i.e.,

the SSA, the Department of Treasury, Department of Justice, and the IRS) has acknowledged the

need to eliminate overlapping social security coverage (“dual social security coverage”)143 and

double taxation of social security contributions between Australia and the United States, including the

Australian Superannuation Guarantee program.144

136 See IRC § 3509, Rev. Rul. 86-111, 1986-2 C.B. 176. See also Navarro v. U.S., 72 AFTR2d 93-5424 (W.D. Tex. 1993)

(unreported opinion.); See Umland v. PLANCO Financial Services, Inc., 542 F.3d 59 (3d Cir. 2008) (FICA does not create a

private right of action for worker against employer for refund of employment taxes relating to her misclassification as

independent contractor); McDonald v. Southern Farm Bureau Life Ins. Co., 291 F.3d 718 (11th Cir. 2002). But see Ford v.

Troyer, 25 F. Supp.2d 723 (E.D. La. 1998) (employee has private right of action against former employer alleging wrongful

classification as independent contractor insofar as claim relates to failure to withhold FICA and FUTA taxes, but not for failure to

withhold income taxes). 137 SUPERANNUATION IN AUSTRALIA (CCH) at ¶ 12-420 ET. seq., available at http://iknowserver.www.iknow.cch.com.au (last

visited Dec. 2015). 138 Id. at ¶ 12-390 et. seq., available at http://iknowserver.www.iknow.cch.com.au (last visited Dec. 2015). 139 Id. at ¶ 12-420 et. seq., available at http://iknowserver.www.iknow.cch.com.au (last visited Dec. 2015). 140 See Schedule 13 to Social Security (International Agreements) of 1999 – Agreement between the Government of Australia

and the Government of the United States of America on Social Security, U.S. – AUS. (Oct. 1, 2002). 141 Age pension; disability support pension for the severely disabled; pensions payable to widowed persons; and carer payment.

See Article 1(b)(i) of the Totalization Agreement. 142 See Article 2(b) (ii) of the Totalization Agreement. 143 A dual social security coverage situation occurs when a person from one country works in another country by maintaining

the employee’s coverage under the social security system of the country where the work is performed and exempting the

employee from coverage and taxation in the other country. See Rev. Rul. 92-9, 1992-1 C.B. 344 (Feb. 10, 1992); see also,

BNA BLOOMBERG PORTFOLIO 392: WITHHOLDING, SOCIAL SECURITY AND UNEMPLOYMENT TAXES ON COMPENSATION at footnote

330 citing 20 C.F.R. §404.190(a). 144 See U.S. SOCIAL SECURITY ADMINISTRATION PROGRAM OPERATIONS MANUAL SYSTEM (POMS), OVERVIEW OF THE AUSTRALIAN

SOCIAL SECURITY SYSTEM at GN 01743.001, http://policy.ssa.gov/poms.nsf/lnx/0201743010 (last visited Feb. 5, 2016). The U.S.

Treasury Department

and IRS share the same views as the U.S. Social Security Administration concerning the general function of totalization

agreements, stating:


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4.3.1 Totalization of Benefits

The provisions of the U.S.–Australian Totalization Agreement permit people to qualify for social

security benefits based on combined U.S. and Australian coverage credits limited to the following

types of benefits: (1) U.S. retirement, survivor and disability benefits under title II of the Social Security

Act (except Medicare benefits,145 Supplemental Security Income (“SSI”) or Special Age 72

benefits);146 and (2) Australian Social Security retirement, survivor and disability benefits.147 In this

regard, it is interesting to note that the scope of benefits under the Totalization Agreement is limited to

OASDI benefits under U.S. law and does not cover Medicare benefits.148

4.3.2 Elimination of Double Taxation

The provisions of the U.S.–Australian Totalization Agreement that eliminate double taxation of salary

or wages apply to: (1) U.S. Social Security taxes, including the Medicare tax portion;149 and (2)

Australia’s Superannuation Guarantee contributions.150

The SSA’s explanatory annotations to Congress regarding Article 2(b) of Part II of the U.S.–Australia

Totalization Agreement explicitly reflect the view of the SSA that SG Contributions are equivalent to

These (totalization) agreements are intended to minimize the potential application of two different

employment taxes, and correspondingly coordinate the benefits under two different social security

systems.

(Parenthetical added). See Application of Section 409A to Nonqualified Deferred Compensation Plans, 70 Fed.

Reg. 57,939 (proposed Oct. 4, 2005) (to be codified at Treas. Reg. §1.409A-1 through §1.409A-6). Indeed, the U.S.

Treasury Department and IRS have expressed their view that amounts contributed or benefits paid under a foreign

social security system by a service provider that is the subject to a totalization agreement do not constitute

nonqualified deferred compensation plans that would be subject to federal income taxation under the rules of

Section 409A. Id. at 5793, 5798. “Benefits and other amounts deferred under a government mandated social

security system, (which a service provider is entitled to receive under the foreign jurisdiction social security system)

are no subject to Section 409A.” Id. 145 See Thomas Bissell, International Aspects of U.S. Social Security and Unemployment Taxes, TM FOREIGN INCOME

PORTFOLIOS NO. 6830 at Part III: Totalization Agreements. 146 Except Sections 226, 226A and 228 of Title II of the U.S. Social Security Act (42 U.S.C. §§401-433). See Totalization

Agreement, Art. 2(1) (a). 147 See U.S. SOCIAL SECURITY ADMINISTRATION PROGRAM OPERATIONS MANUAL SYSTEM (POMS), SCOPE OF THE U.S.-AUSTRALIAN

AGREEMENT at GN 01743.110(A), http://policy.ssa.gov/poms.nsf/lnx/0201743010 (last visited Feb. 5, 2016). 148 See Thomas Bissell, International Aspects of U.S. Social Security and Unemployment Taxes, TM FOREIGN INCOME

PORTFOLIOS NO. 6830 at Part III. 149 For an excellent discussion on Social Security Totalization Agreements, see Thomas Bissell, International Aspects of U.S.

Social Security and Unemployment Taxes, TM FOREIGN INCOME PORTFOLIOS: PORTFOLIO 830 at Part III(A); see also, Online

Annotation to Article 2(1) of the U.S.-Australia Totalization Agreement at

https://www.ssa.gov/international/Agreement_Texts/Australia.html#part2 (last visited Feb. 5, 2016), which states:

For the United States, the Agreement applies to title II of the U.S. Social Security Act and the

corresponding tax laws (the Federal Insurance Contributions Act and the Self-Employment Contributions

Act of 1954) and any regulations pertaining to those laws. However, the Agreement does not apply to

Medicare provisions (section 226 and 226A of the Social Security Act) or provisions for special payments to

uninsured individuals age 72 or over under section 228 of the Social Security Act. Persons to whom the

Agreement applies who qualify independently for Medicare hospital insurance or age-72 payments will be

entitled to receive such benefits. 150 See U.S. SOCIAL SECURITY ADMINISTRATION PROGRAM OPERATIONS MANUAL SYSTEM (POMS), SCOPE OF THE U.S.-AUSTRALIAN

AGREEMENT at GN 01743.110(B), http://policy.ssa.gov/poms.nsf/lnx/0201743010 (last visited Feb. 5, 2016).


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U.S. social security taxes, which are FICA, and its counterpart legislation for self-employed individuals,

SECA:

For Australia, the Agreement applies to the laws on the Social Security benefits listed in Article 2.1(b) (i) and to the

laws on Superannuation Guarantee (SG) in Article 2.1(b) (ii). The “age pension” referred to in Article 2.1(b) (i) (A) is

payable at age 65 to men and age 61½ (as of 2001) to women and is referred to in these annotations as an “old-age

pension”.

In accordance with Article 1.1(e), the provisions of Part II of the Agreement, which eliminate dual Social Security

coverage and taxation, do not apply to the Australian benefit programs listed in Article 2.1(b) (i) since these benefits

are financed entirely from general revenues and not from earmarked payroll taxes. Instead, Part II applies to the

Superannuation Guarantee, which is the Government regulated program requiring employers either to pay

contributions to employee retirement plans at specified minimum rates or pay a special SG Charge. As a result, when a

worker is subject to U.S. laws and exempt from Australian laws in accordance with Part II, the worker’s employer will

be exempt from the SG requirements.151

The above explanatory annotation from the SSA to Congress provides clear guidance that under the

U.S.–Australian Totalization Agreement, the employer and eligible employee would be exempt from

making SG Contributions (or equivalent) in the United States where the employee is temporarily

working as long as the employer continues making SG Contributions for them in Australia. The ATO

example confirms this outcome:

Jack is an Australian resident working in Australia for an Australian employer. His employer intends to send him to the

United States to work for a year. Jack’s employer must make compulsory social security (including Super) contributions

for him under United States law. In addition, Jack’s employer also must make super contributions for him in Australia.

Before Jack leaves Australia, his employer requests a Certificate of Coverage from us [ATO]. This is to check and

certify that the agreement between the United States and Australia applies to his situation. Jack and his employer are

exempt from making contributions under United States law. However, Super contributions must continue to be made

for Jack in Australia. Similarly, if an employee in the United States is sent to work temporarily in Australia and their

employer has obtained a Certificate of coverage, they are exempt from Australia’s super guarantee law and the

employee and their employer must continue to make social security contributions under the United States’ system.152

The above procedures detailed by the ATO to avail of the benefits of the Totalization Agreement

falls within the pre-existing operational framework established by the IRS to implement SSTAs

entered into by the United States. Revenue Procedure 80-56153 and Revenue Procedure 84-54154

were issued by the IRS to provide guidance on procedures to be followed for implementing

amendments to Sections 1401(c), 3101(c) and 3111(c) of the Code. These procedures require the

U.S. person to substantiate her exemption from FICA and SECA by obtaining a statement from the

authorized official or agency of the foreign country involved that makes an affirmative statement that

(1) there is a totalization agreement between the foreign country and the U.S.; and (2) pursuant to

151 See U.S. Social Security Administration Explanatory Annotations to Congress regarding Article 2(1) of the U.S.-Australia

Totalization Agreement at https://www.ssa.gov/international/AustraliaAnnFile/AustraliaAgreeArt%202%201%20a.html

(last visited Feb. 5, 2016). 152 See, AUSTRALIAN TAX OFFICE, Bilateral Agreements – What are my super obligations when my employee is working

overseas? https://www.ato.gov.au/Business/Super-for-employers/Working-out-if-you-have-to-pay-super/Employees-working-

overseas/ (last visited Jan. 31, 2016). 153 1980-2 C.B. 851. 154 1984-2 C.B. 489.


26


such agreement, wages received or paid to the employee by the employer are subject to taxes or

contributions under the system of such a foreign country.155 If the SSA-equivalent agency of the

foreign country does not provide such a statement, the SSA itself will issue the statement that U.S.

person’s earnings are not covered by the U.S. Social Security system.156

The issuance of the above Revenue Procedures coordinating claims for exemptions from U.S.

Social Security taxes and other foreign country indicates that the IRS was cognizant that SSTAs

would exclude certain income earned by U.S. taxpayers overseas from U.S. Social Security taxes to

the extent that an equivalent foreign tax was being paid on those same amounts. It supports our

position that, with regard to the US–Australia Totalization Agreement, the SSA, IRS and ATO were

aware that the SG Contributions would constitute foreign taxes that were equivalent to U.S. Social

Security taxes, and therefore must be incorporated into the SSTA to prevent inadvertent double

taxation of the U.S. person’s overseas income.

4.4 Role of U.S. Totalization Agreements in General

An SSTA is an arrangement between the United States and another country where both countries

agree as to which country will be responsible for the payment of retirement benefits to recipients who

earned income and paid social welfare taxes to both countries.157 The aim of U.S. totalization

agreements is to maintain the coverage of as many workers as possible under the system of the

country where they are likely to have the greatest attachment, both while working and after

retirement.158 To this end, U.S. totalization agreements have two features, i.e., (1) relief from double

taxation with respect to social security taxes paid on the same employment or self-employment

income, such that social security tax is only paid to one of the two countries;159 and (2) totalization of

benefits, “such that an individual who has paid social security tax in both countries may still qualify for

benefits in one or both of the countries, even if there is not enough accumulated coverage to qualify

for benefits in both of the countries.”160 In Revenue Ruling 92-9161 the IRS stated that totalization

agreements provide for rules to maintain an employee’s coverage “under the system of the country

where the work is performed and exempting the employee from coverage and taxation in the other

country.”162

155 See, § 4.0 of Rev. Proc. 80-56, 1980-2 C.B. 851 as amplified by § 2.02 and § 4.02 of Rev. Proc. 84-54, 1984-2 C.B. 489. 156 Id. 157 These agreements are referenced as “totalization agreements” because they allow workers to aggregate or “totalize” periods

of coverage to qualify for Social Security benefits. See Streng & Davis, Retirement Planning: Tax and Financial Strategies §

21.02[2]. 158 See Paul Butcher & Joseph Erdos, International Social Security Agreements: The U.S. Experience, 51 SOC. SEC. BULL. 9 at

7-12 (September 1999). 159 Id. 160 Id. 161 1992-1 C.B. 344. 162 Id.


27


The Code itself provides for exemptions for the Federal Income Contributions Act (“FICA”) and the

Self Employment Contributions Act (“SECA”) taxes when a totalization agreement is reached between

the United States and the foreign country where the U.S. person has contacts.163 The following

provisions were added to the Code by IRC Section 317(b) of the Social Security Amendments of

1977;164 Section 1401(c) (relating to SECA), Section 3101(c) (relating to the employee’s share of

taxes imposed by FICA) and Section 3111(c) (relating to the employer’s share of FICA taxes).

It has been observed that the United States includes fewer programs in its social security agreements

than other countries.165 In fact, the only U.S. benefit program that can be affected by a U.S.

totalization agreement is the OASDI program,166 while other countries include worker’s compensation,

cash sickness, maternity benefits and family allowance programs.167 To date, the United States has

25 totalization agreements.168

4.4.1 Recap

As set forth above, there are substantial similarities between the U.S. Social Security taxes FICA,

SECA and the Superannuation Guarantee. The similar nature of these taxes has been acknowledged

and placed within the scope of coverage of the U.S.–Australia SSTA. Indeed, FICA and SECA

explicitly do not apply during a period when employee wages are subject to the social security system

of a foreign country pursuant to a totalization agreement between the United States and such other

foreign country.169 As discussed in the prior section, FICA and SECA do not apply when a U.S.

person is subject to Australia’s Superannuation Guarantee Scheme. The SSTA confirms that the

Superannuation Guarantee is, in fact, equivalent to the U.S. Social Security taxes FICA and SECA.

163 Id. Sections 1401(c) (relating to SECA), Section 3101(c) (relating to the employee’s share of taxes imposed by FICA) and

Section 3111(c) (relating to the employer’s share of FICA taxes) are Code provisions granting an exemption from the payment

of social security taxes imposed by SECA and FICA where a totalization agreement is in place. According to the IRS, such

exemptions were added to the Code by Section 317(b) of the Social Security Amendments of 1977. See Rev. Proc. 80-56,

1980-2 C.B. 851 amplified by Rev. Proc. 84-54, 1984-2 C.B. 489. 164 1978-1 C.B. 462, 467. 165 Paul Butcher & Joseph Erdos, International Social Security Agreements: The U.S. Experience, 51 SOC. SEC. BULL. 9 at 9

(September 1999). 166 Id., noting that Section 233 of the Social Security Act allows additional provisions to be made to social security agreements

that are not inconsistent with Title II (Federal OASDI). Id. 167 Id. 168 See https://www.ssa.gov/International Programs/International Agreements (last visited May 2016). 169 See IRC § 3111(c) referencing Section 233 of the U.S. Social Security Act. Self-employed individuals are also granted an

exemption from taxes under SECA under Code § 1401(c). See also Rev. Proc. 80-56, 1980-2 C.B. 851 as amplified by Rev.

Proc. 84-54, 1984-2 C.B. 489.


28


5 NEITHER SG CONTRIBUTIONS OR VEC

AMOUNTS TRANSFERRED TO THE SUPER

CONSTITUTE GROSS INCOME TO THE USP

EMPLOYEE-BENEFICIARY UNDER CODE

SECTION 61 PRINCIPLES

5.1 Section 61 Should Govern Taxation of ASFs and Not Section

402(b)

The pressing U.S. tax issue with respect to the ASF is whether the SG Contributions and VEC paid to

the ASF should constitute part of the USP employee-beneficiary’s worldwide taxable income. From a

high-level overview of the ASF, it would appear that all concessional employer and employee

contributions to the ASF (and income accretions therefrom) are portable, fully funded and fully

preserved (“Funded and Secured”) from the moment contribution for the benefit of the USP employee-

beneficiary. Tax practitioners appear to have fixated on this one aspect of the ASF, i.e., the employer-

employee relationship, as the dispositive basis for applying Section 402(b) to an ASF notwithstanding

that ASFs are (a) not established exclusively by private contract between an employer and its

employee, and (b) not a foreign tax-deferred retirement plan.170 Most importantly, the Australian

courts and tax practitioners have themselves acknowledged the folly of analyzing a member’s

interests in an ASF within the context of contractual rights arising from an employer-employee

relationship.171 Honorable Justice Graham Hill of the Federal Court of Australia has pointed out that a

member’s interest in an ASF is blurred by the existence of two distinct legal relationships that

simultaneously overlap in the ASF— the first relationship governed by a deed of trust between the

trustee, the trust property and beneficiary; and the second relationship arising from a plan between

employer and employees that evidence the terms of their contractual relationship.172 We believe that

Section 61 provides a more comprehensive framework for determining the taxability of the ASF to its

USP employee-beneficiary for U.S. tax purposes. After all, both employer and employee contributions

to the ASF, at first blush, reflect a “clear accession to wealth,”173 notwithstanding that such

contributions are deposited into a fund or trust. To make this determination, the contributions to and

income accretions within an ASF must be examined in light of the constructive receipt doctrine and

economic benefit doctrine.

170 As discussed elsewhere in this paper, contributions made to an ASF, and income accruing thereafter, are subject to current

taxes in Australia, albeit at lower tax-favorable rates than ordinary income tax rates. Moreover, employer contributions paid

directly to the ASF as Superannuation Guarantee or SG Contributions are made under compulsion of Australian law and not on

a voluntary basis. The nature of these SG Contributions is very similar to U.S. social security, notwithstanding that U.S. and

Australian social security programs are administered very differently. 171 See, Hon. Justice Graham Hill, The True Nature of a Member’s Interest in a Superannuation Fund, 5 J. Austl. Tax’n 1 (2002). 172 Id. at. p. 17. 173 See Commissioner v. Glenshaw Glass Co., 75 S. Ct. 743 (1955) (stating, “…here we have instances of undeniable

accessions to wealth, clearly realized, and over which the taxpayers have complete dominion…” Ellipsis added).


29


5.1.1 Constructive Receipt

The issue that arises under Section 61 is whether a USP employee-beneficiary recognizes income

when concessional contributions from employer and employees are made to the ASF and income

accumulations accrue to such accounts (the “accruals”) even where the USP employee-beneficiary

has not actually received such monies or have any access to such amounts. Treasury Regulations

Section 1.451-2(a) state that income is constructively received by a taxpayer when it is,

“credited to his account, set apart for him, or otherwise made available so that he may draw upon it at any time or so

that he could have drawn upon it during the taxable year if notice of intention to withdraw had been given.”174

(Emphasis added).

For decades, U.S. courts and the Service have applied the doctrine of constructive receipt to cases

where the taxpayer has an unqualified, vested right to receive immediate payment of income 175 and

has not delayed a payment that would otherwise be due to him.176 Application of the constructive

receipt doctrine to contributions to and income accretions within an ASF would not result in any gross

income attribution to the USP employee-beneficiary. This is because the ASF has satisfactory title to

all assets177 appearing on the ASF’s Annual Statement of Financial Position, and such assets are

held separately from any assets that its members, employers or trustee may hold in their separate

capacities.

The ASF’s future obligation to fund a member’s benefits upon reaching preservation age is reported

on its financial statements as a liability for accrued benefits.178 Indeed, a USP employee-beneficiary

does not have any immediate right to payment of amounts accumulated in the ASF until the

preservation age is reached. Once preservation age is attained, assets in the ASF are liquidated and

allocated to the member’s account for distribution. The member then has an immediate right to

payment of benefits from the ASF, which he may opt to receive in lump-sum or periodically, but must

at a minimum withdraw at least 5179 percent of the account balance yearly. Consequently, the

member’s right to payment of his entitlements within an ASF and his or her control over the manner in

which benefits are received at preservation age would support the assertion that the USP employee-

beneficiary has actual and constructive receipt gross income subject to US taxation at preservation

age but not prior to such period. We would argue that contributions and income accretions in the ASF

do not constitute gross income to the USP employee-beneficiary until such time when these amounts

constitute preserved benefits. Until that time, there are several cashing restrictions that prevent the

USP employee-beneficiary from obtaining unfettered access to and control over amounts contributed

to and income accretions accumulated in an ASF. We would like to note, however, that we are far

from conceding the issue of the taxability of the ASF at the drawdown phase. As more fully explained

174 Treas. Reg. §1.451-2. 175 Ross v. Commissioner, 169 F. 2d 483, 490 (1st Cir. 1948) 176 Gale v. Commissioner, T.C. Memo 2002-54, 83 T.C. Memo (CCH) at 1278. The tax court has noted that the doctrine of

constructive receipt was conceived by the US Treasury in order to prevent a taxpayer from deliberately turning his back on the

income and selecting a year in which to report it and reduce the same to possession. Gale v. Commissioner, T.C. Memo 2002-

4, 83 T.CM (CCH) 1270, 1278 (2002)(quoting Hamilton National Bank v. Commissioner, 29 B.T.A. 63, 67 (1933). 177 The assets of a superannuation plan may include contributions receivable, investments of the plan, cash and other monetary

assets, and other assets used in the operation of the plan. See Australian Accounting Standards 25, §27 at p. 16. 178 Financial statements of an ASF are prepared as special purpose financial statements to meet the requirements of the

Superannuation Industry Supervision Act of 1993 and accompanying regulations. 179 This rate is a minimum 4% between age 55 and 65.


30


in the next section on Economic Benefits, even a USP employee-beneficiary’s access to the ASF at

the drawdown phase is not absolute, as there are also limits to the amount and type of benefits that

can be distributed at that stage.

5.1.2 Economic Benefit

The economic benefit doctrine has been called “a limited technical device, created and advanced by

the government in order to collect taxes from cash-basis taxpayers as soon as possible.”180 Under

this doctrine, a cash basis taxpayer recognizes income when he has acquired the economic benefit of

monies that are unconditionally and irrevocably transferred to him or her, although not necessarily

accessible. The Economic Benefit doctrine is frequently applied to attribute income to a taxpayer-

employee in deferred compensation arrangements where the employer has irrevocably set aside

monies in a trust, away from the employer’s creditors, to benefit the employee.181 In the seminal case

of Sproull, E.T. v. Commissioner,182 the board of directors of domestic company irrevocably

transferred $10,500 to a trust to be paid out in 2-installments to U.S. taxpayer who was the CEO of

the company. The amount transferred constituted additional compensation to CEO for work

performed in prior years but underpaid by the Company due to financial conditions. The IRS held that

the expenditure of the $10,500 to set up the trust conferred an economic or financial benefit to the

Taxpayer CEO in the year of transfer. The right to the trust was not contingent on any further action

by the CEO, nor were there any restrictions his right to assign or dispose of his beneficial interest in

the trust. Moreover, no one else had an interest in or control over the monies, save for the Trustee

whose only duties were to hold, invest, accumulate and payout the fund and its increase to the CEO

or his estate.

In determining whether an employer’s SG contributions to an ASF are taxable to a USP employee-

beneficiary under the economic benefit doctrine, three elements must be present: (1) there must be

some fund in which money or property has been placed; (2) the fund must be irrevocable and beyond

the reach of creditors of the payor; and (3) the beneficiary must have vested rights in the money, with

receipt conditioned only on the passage of time.183 This means that only ministerial duties, not

substantial restrictions or conditions, remain until the funds are released.184 Of these three elements,

the most controversial one in the context of superannuation is the third element, i.e. determining the

nature of the beneficiary’s interest in the monies contributed and accrued in the ASF. The main

contention is whether the USP employee-beneficiary has any vested185 rights in the money, receipt of

which is conditioned only with the passage of time as opposed to substantial restrictions or conditions.

180 See Thomas v. United States, 45 F. Supp. 2d 618, 625 (S.D. Ohio 1999). 181 See Pulsifier v. Commissioner, 64 T.C. 245, 246 (1975) (citing Sproull v. Commissioner, 16 T.C. 244); Minor v. United States,

772 F. 2d 1472, 1474 (9th Cir. 1985)(citing Revenue Ruling 60-31,1960-1 C.B. 174, 179). 182 16 T.C. 244 (1951). 183 See Thomas v. United States, 45 F. Supp. 2d 618, 620 (1999) (citing Sproull v. Comm’r., 16 T.C. 244 (1951) aff’d, 194 F. 2d

541 (6th Cir. 1952)). 184 See Kuehner v. Commissioner, 214 D. 2d 437, 440 (1st Cir. 1954) aff’g 20 T.C. 875(1953). 185 The term “vested” has different meanings depending on the context in which it is used. Vested amounts in an ASF for

Australian financial statement purposes are vested benefits which are not conditioned upon the member’s continued

membership of the fund (or any factor other than resignation from the plan) and include benefits which members were entitled

to receive had they terminated their fund membership at the end of the financial statement reporting period. Note 11 to HRM

Pty Ltd Financial Statement ending December 31, 2015


31


Determining the true nature of a member’s interest in an ASF, i.e., whether vested, contingent or

merely a right to be considered for benefits by the trustee, has perplexed Australian courts and

practitioners for decades.186 Honorable Justice Graham Hill has noted that the kind of superannuation

scheme impacts this determination.187 For example, a member’s interest in an accumulated benefits

fund188 upon formation is an equitable property interest with no immediate right to payment.189 This

equitable interest is a conditional interest in the member’s account balance in an ASF where the

member does not have a right to the benefits from the ASF until the conditions are met.190 When the

conditions are met, the member’s interest is altered into two sub-interests, i.e, one that has a right to

immediate payment of the member’s account balance that is not preserved, and one that remains

conditional with respect to that portion of the member’s account balance that is required to be

preserved.191 The preserved portion of the ASF at Drawdown Phase pertains to certain benefits

which may not be paid to the member until the member retires from the workforce and attains a

certain age or the benefits become payable in the event one of the enumerated circumstances set out

in the SISR (for example, early retirement on grounds of incapacity, emigration from Australia, early

death before retirement, and such other circumstances).192

Compared to accumulated benefit funds, a member’s interest in an end benefit scheme193 does not

exist until the occurrence of the event which gives rise to the benefit from the ASF.194 Thus, each

member’s interest in the fund (with respect to preserved benefits) is contingent upon reaching

retirement age before death.195 The unresolved conflict with end benefit schemes is whether trust

beneficiaries, “having more than a spec(ulative) but less than an absolute interest,” has an interest in

each asset of the fund.196

Regardless of whether the fund is accumulated benefits fund or end benefit scheme, Australian

scholars have considered the true nature of a member’s interest in the ASF as either a contingent

equitable interest that converts into a vested interest at pension phase or a mere contractual right to

186 See, Hon. Justice Graham Hill, The True Nature of a Member’s Interest in a Superannuation Fund, 5 J. Austl. Tax’n 1 (2002). 187 Id. 188 The accumulated benefits fund is apparently the earliest and simplest superannuation scheme in Australia. Contributions are

made by the employer and employee on a regular basis and it is required that the accounts of the fund record the contributions

received separately for each member. The trust deed requires the trustees to invest contributions in authorized investments

and allocates the income from such investments yearly to the accounts of members on a pro rata basis. Gains or losses are

also allocated among members. When a member retires (or is incapacitated or some other defined circumstance), the member

is paid out of the fund an amount equal to the member’s interest. When the member dies, a benefit is payable to the legal

personal representative or dependends of the member and the calculation of that benefit is made on the same basis as the

calculation would be made if the member retired rather than died. Id. at 13. 189 Id. at p. 14-15 (quoting Caboche, D.J. & Anor v. Ramsay, R.E. & Ors Bond., J. & Ors Ramsay, R.E. & Ors [1993] 119 ALR

215 (“Caboche”). 190 Id. 191 Id. See also, Caboche at par. 48 192 See for examples, the preservation standards contained in the Occupational Superannuation Standards Regulations

(Statutory Rules Number 322 of 1987). These standards provide that the effect of preservation is that benefits are payable on

the retirement of the member before attaining age of fifty-five years in the form or a non-commutable pension or annuity, no

benefits may be paid to a member until the member retiremes from the workforce, and attains an age of not less than fifty-five

years, or the benefits become payable in one of a number of circumstances set out in Regulation 11(1)(a)(ii). 193 In an end benefit scheme, the trust deed requires the employer to make contributions from time to time in accordance with

actuarial advice. In order to fund the benefits which the deed provides for employees and dependents, benefits may be based

on final end salary, average salary over a period or some other formula. Id. at 15. 194 Id. at 15-16. 195 Id. at 16. 196 Id.


32


benefits from the ASF to be determined by the Trustee. Arguably, neither constitutes a “vested right”

to any part of the ASF’s assets for purposes of the economic purpose doctrine under US tax laws

which requires a present, indefeasible right to the future receipt of property.197 Indeed, the vesting of

an ASF’s assets (benefits) on the USP employee-beneficiary is not dependent on the making of any

demand by or on behalf of the USP employee-beneficiary. This assertion holds water since a USP

employee-beneficiary is not a party to the trust deed that formed the ASF, and his rights as a

beneficiary of the ASF are not contractual in nature as others have jumped to conclude.198 Other

Australian courts have further elaborated on this aspect of a beneficiary’s interest in an ASF, noting

that, “until a beneficiary under a superannuation fund becomes entitled to superannuation benefit, his

or her equitable proprietary interest in the fund remains “inchoate” and uncrystallised” so that neither

the legal nor the beneficial owner of the amount that stands to the credit of his or her account from

time to time.’199

. Based on the above, we do not believe that a USP employee-beneficiary receives a present

economic benefit when the ASF is created by trust deed between the Trustee and employer; or at

drawdown phase when the USP employee-beneficiary reaches retirement age, with only the passage

of time as the sole condition left for their release. Nothing could be farther from reality. There are

additional conditions that may delay or hasten the release of monies in an ASF, particularly one

where the amount of monies held by the ASF are earmarked to be preserved unless a specific event

occurs (as in death, incapacity, emigration from Australia and such other variables).200 Completely

opposite from the foregoing is the scenario where a beneficiary of an ASF at Drawdown Phase is

compelled to take out minimum distributions from the ASF or risk incurring Australian taxes.201 These

scenarios support the argument that a USP employee-beneficiary’s interest in an ASF at Drawdown

Phase remains unvested and confers no present economic benefit to the USP employee-beneficiary

that would be subject to current US taxation.

197 See Sproull v. Commissioner, 16 T.C. 244 (1951); Kuehner v. Commissioner, 214 F. 2d 437, 440 (1st Cir. 1954) aff’g 20 T.C.

875(1953), SWF Real Estate LL Cv. Commissioner, T.C. Memo 2015-63 at 85 (April 2, 2015). See Revenue Ruling 57-37,

1957-1 C.B. 18 (as modified by Rev. Rul. 57-528, 1957-2 C.B. 263); Revenue Ruling 72-25, 1972-1 C.B. 127l, Revenue Ruling

68-99, 1968-1 C. B. 1968-1, 193 198 See Caboche at Par. 62-63. 199 See Espasia Pty Ltd. (ABN 74 057 517 825), In the matter of Farm By Nature Pty Ltd (ABN 13 107 299 730)[2009] FCA

1552 (22 December 229)(Gordon); Re Coram, (1992) 36 FCR 250 at 253-255, Caboche v. Ramsay (1993) 119 ALR 215 at

230; Benson v. Cook (2001) 114 FCR 542 at 550-551, 561, 572 and Cook v. Benson (2003) 214 CLR 370 at 35. 200 See for examples, the preservation standards contained in the Occupational Superannuation Standards Regulations

(Statutory Rules Number 322 of 1987). These standards provide that the effect of preservation is that benefits are payable on

the retirement of the member before attaining age of fifty-five years in the form or a non-commutable pension or annuity, no

benefits may be paid to a member until the member retiremes from the workforce, and attains an age of not less than fifty-five

years, or the benefits become payable in one of a number of circumstances set out in Regulation 11(1)(a)(ii). 201See Schedule 1 of the SIS Regulations which sets out the conditions of release and cashing restrictions for the purposes of

the preservation rules. The preservation and payment rules are prescribed operating standards under the Superannuation

Industry (Supervision) Act of 1993..


33


6 TREASURY REGULATIONS PROMULGATED

UNDER SECTIONS 402 AND 83 SHOULD BE

CLARIFIED TO EXEMPT THE AUSTRALIAN

SUPERANNUATION FUNDS

6.1 Australian Superannuation Fund Classified as an Employee’s

Trust and Section 402(b)

Under Section 402(b), contributions by an employer to a nonexempt employee’s trust are included in

the employee’s gross income when the employee’s right to such contributions is no longer subject to

a substantial risk of forfeiture as determined under Section 83 principles.202 The amount includible in

the employee’s gross income equals the net fair market value of the employee’s interest in the trust

as of the date when vested.203 Moreover, distributions received by the USP employee-beneficiary

from a nonexempt employee’s trust would be taxable to the USP employee-beneficiary in the year

distributed or made available to such USP employee-beneficiary, and limited only to the extent of

such person’s investment in the contract under Code Section 72(w).204

As previously pointed out, we question whether Section 402(b) applies at all to the ASF. Section

402(b) requires an employer-employee deferred compensation arrangement, an “employee’s trust”, to

fall within its scope. Neither the Code nor the Treasury Regulations provide clear guidance on what

constitutes an employee’s trust.205 While the IRS has classified the ASF as a foreign trust206 for U.S.

federal income tax purposes, whether the ASF also constitutes an “employee’s trust” for Section

402(b) purposes remains undefined, unaddressed, and therefore subject to interpretation.

The ASF should not constitute an employee’s trust, and should therefore escape analysis under

Section 402(b) because it does not arise out of a private contractual arrangement between an

employer and employee as other typical (foreign and domestic) pension plans. The ASF is mandated,

and created by Australian law and neither the employer nor the employee have the ability to opt out of

participation. The existence of the ASF, and SG Contributions arise solely by virtue of the taxing

authority of the Commonwealth.

202 Code § 402(b) (1); Treas. Reg. §1.402(b)-1(b) (2). 203 Treas. Reg. §1.402(b)-1(b) (2). 204 Code § 72 treats as nontaxable distributions amounts received by an employee that are attributable to the employee’s

“investment in the contract”. Code § 72(w) provides for purposes of determining the portion of a distribution that is includible in

gross income of a distributee who is a citizen or resident of the United States, the distributee’s investment in the contract does

not include any “applicable nontaxable contributions” or any “applicable nontaxable earnings.” 205 We note that the definition of foreign employees’ trust under Prop. Reg. §1.671-1(h) (2) fails to provide any definitive

guidance on the issue of what constitutes an employee’s trust. Indeed, Prop. Reg. §1.671-1(h) (2) definition provides a

circuitous reference to §402(b) and §7701(a) (31). 206 Code § 7701(a) (30) (B); Treas Reg. § 301.7701-7. See also, I.R.S. Priv. Ltr. Ruling 201538008, 201538007, 201538006

(issued June 11, 2015).


34


In the estate tax context, the Internal Revenue Service (“IRS”) has acknowledged that accession to

wealth arising from U.S. Social Security benefits should be treated differently than the accession to

wealth that arises from an employment relationship. Specifically Revenue Ruling 81-182207 stated that

U.S. Social Security benefits should be excluded from a decedent’s estate because “liability for

payment does not arise out of the employment contract but rather is created by the Federal

Government's taxing authority.”208 Similarly, because the existence of the ASF arises out of the

State’s taxing authority, it should not be classified as an employee’s trust.

Unlike other foreign trust arrangements where the trustee is the legal owner of the trust assets and

the employer is the settlor contributing cash or shares on behalf of employees,209 the ASF is

established by executing a trust deed required under the SIS Legislation along with an initial transfer

of property to the Trustee of the ASF. Execution of the trust deed and receipt of property gives rise to

the ASF. The contributed property may come from the USP employee-beneficiary or other third

parties, not necessarily the employer (although, in practice, the employer does contribute first). There

is no mandatory or necessary employer involvement in the creation of an ASF.

Even if the ASF is classified as an “employee’s trust”, one commentator has noted that the legislative

history of Section 402(b) indicates that the statute was not intended to apply to foreign deferred

compensation arrangements, and instead was “wholly focused on domestic tax qualified plans and

perceived abuses with the U.S. tax-qualified plans by high ranking employees and shareholders.”210

Indeed, in her outstanding review of Section 402(b) legislative history, Murthy concluded:

At no point in the history of §402(b) has there been an indication that Congress, Treasury or the IRS intended to target

and sanction foreign pension plans merely because they are funded plans that fail to satisfy §§401(a)(26) and 410(b).

Nor is there any indication that these legislative and regulatory bodies considered or targeted cross-border

assignees…as persons who somehow abuse funded foreign plans to their benefit.211

Emphasis and ellipsis added.

The application of Section 402(b) to foreign Funded and Secured pension plans is not unique

to the ASF. There are other non-U.S. trust arrangements, such as the New Zealand

superannuation plan; Dutch Stichtings; provident funds in Hong Kong, Singapore, India and

Israel; Irish Employee Benefit Trusts (“EBTs”); United Kingdom EBTs and arrangements

within Swiss “foundations”, which are potentially subject to the burdensome tax impact of

Section 402(b) on contributions and earnings. The main distinction, however, is that some of

the countries have used totalization agreements and tax treaties to override Section 402(b)

consequences to a U.S. person who has beneficial interests in a non-U.S. trust

arrangement.212

If, notwithstanding the foregoing, the ASF were to constitute an employee’s trust that is subject to

Section 402(b), the next step of the analysis would be to determine whether the ASF constitutes an

exempt employee’s trust under Section 401(a). If the ASF were classified as an exempt employee’s

207 I.R.S. Rev. Rul. 81-182; 1981-1 C.B. 179 (Jul. 13, 1981). 208 Id. 209 See Veena K. Murthy, Selected Cross-Border Equity and Deferred Compensation Issues with Funded Foreign Plans, 42

COMPENSATION PLANNING JOURNAL 67 (Bloomberg BNA, 2014). 210 Id. 211 Id. 212 Id.


35


trust, then the SG Contributions and VEC, as well as earnings accrued thereon, would be exempt

from U.S. income taxation under Section 501(a). Conversely, if the ASF were classified as a

nonexempt employee’s trust under Section 402(b)(1), then the SG Contributions and VEC, including

earnings accrued, would be taxable to the USP employee-beneficiary as gross income to the extent

includible pursuant to Treasury Regulations Section 1.83-3 (i.e., to the extent that such contributions

are “substantially vested” or “substantially nonvested”).213

We acknowledge that if the ASF were to be classified as an employee’s trust to which 402(b) applied,

it would be extremely difficult, if not impossible, to be classified as an exempt employee’s trust.

Section 402(b) contains more than a few significant impediments to such classification. First is the fact

that the ASF is a foreign pension plan. Second is the general perception that most foreign plans are

“funded plans” and that a “funded plan” has the same meaning for US tax purposes as a “funded plan”

in Australia.214 Third is that, for U.S. tax purposes, employer contributions to funded foreign pension

plans constitute gross income to the employee, notwithstanding that the employee’s right to such

contributions is deferred. Under Section 402(b), the employee’s right to employer contributions to the

trust constitutes gross income to the employee when it is no longer subject to a substantial risk of

forfeiture.

6.2 Superannuation Guarantee Contributions to the ASF Do Not

Arise from an Employment Relationship and Therefore Should

Be Excluded From Section 402(b)

The SG Charge component of the ASF provides further support to our suggestion that there is no

employer-employee deferred arrangement subject to Section 402(b). SG Contributions made by the

employer are compelled by statute pursuant to the SGAA. Any shortfall in SG Contributions to the

ASF results in the SG Charge, an excise tax owed by the employer to the ATO and paid directly to the

Collections Revenue Fund of the Commonwealth. The ATO thereafter disburses the SG Shortfall

amount to the ASF. There is no employee involvement with respect to the SG Contributions. It is a

statutory obligation between the employer and the Australian Commonwealth, administered through

the ATO. Indeed, the employee cannot bring a lawsuit against the employer for the SG Shortfall

amount, and the employer has no obligation to the employee regarding the SG Shortfall amount.

Rather, the SG Shortfall amount results in an excise tax (the SG Charge) to the employer. Based on

the foregoing, it is apparent that the government (and not the employer) is the party actively involved

in the contribution, investment and distribution of the SG component to the USP employee-beneficiary.

There has been some concern among U.S. tax practitioners that the SG Contributions made by the

employer to the ASF would constitute taxable wages to the U.S. member-beneficiary based on

213 See Treas. Reg. § 1.402(b)-1(a), (b) referencing Treas. Reg. 1.83-3(b) for determination of whether contributions are

“substantially vested” and “substantially nonvested”. See also T.D. 7554 Preamble to Final regulations issued July 21, 1978. 214 Foreign pensions are perceived to be “funded plans” because assets are generally protected from the claims of creditors of

the employer and related entities. See Veena K. Murthy, Selected Cross-Border Equity and Deferred Compensation Issues with

Funded Foreign Plans, 42 COMPENSATION PLANNING JOURNAL 67 (Bloomberg BNA, 2014). According to Ms. Murthy, an

employee with an interest in a trust associated with a plan that is not a U.S. tax-qualified plan under Code § 401(a) is

considered funded for U.S. tax purposes because the assets are protected from the claims of creditors and related entities;

referencing PLR 8113107, Rev. Proc. 92-64, 1992-2 C.B. 422, Rev. Proc. 92-65, 1992-2 C.B. 428.


36


language found in Revenue Ruling 57-528215 and Revenue Ruling 57-37.216 In these Revenue Rulings,

the IRS concluded that employer contributions to an Unfunded and Unsecured deferred

compensation arrangement should be included in the employee’s income based on the doctrine of

constructive receipt.217 As a result, the income constructively received was taxable to the employee

under Section 402(b) of the Code, and, as a corollary, Treasury Regulation 1.402(b)-1(a) (1).218

One key distinction between the SG Contributions and employer contributions in the above Revenue

Rulings pertains to the element of compulsion. As previously discussed, the employer’s obligations to

make SG Contributions to an ASF do not arise because of the employer-employee relationship but

from the taxing authority of the Commonwealth of Australia. In Roy Morgan v. Commissioner of

Taxation, the High Court of Australia noted:

…The SGA Act and the SGC Act do not operate to substitute a new statutory obligation for a pre-existing private

obligation in an employer to make a payment to any employee. Rather, the legislation exacts a payment from an

employer; and that payment is paid to the Consolidated Revenue Fund. While payments from the Consolidated

Revenue Fund pursuant to s. 65 of the SGA Act are made by the Commissioner for the ultimate benefit of individual

employees, that benefit is only received by an individual employee in the event of infirming or retirement...219


In short, the SG Contributions and SG Charge imposed by the SGC Act and SGA Act constitute an

exaction for public purposes220 and, therefore, a valid tax imposed on employers pursuant to Section

51(xxiii) of the Commonwealth of Australia Constitution Act (aka the “Pension Power”).221 This

treatment is consistent with the USP employee-beneficiary’s treatment of the SG Contributions and

SG Charge as a non-event for purposes of her own Australian tax liability. As previously mentioned,

the SG Contribution itself, and accruals thereafter, do not constitute income to the employee in

Australia.222 Ironically, however, this same exempt amount in Australia is constructively taxed to the

USP employee-beneficiary by the U.S.

The IRS has already determined that a compulsory levy and contribution made by a foreign employer

pursuant to its domestic law constitutes a tax. In Revenue Ruling 89-104,223 the IRS reviewed the

compulsory 13 percent contribution imposed by the Saudi Arabian government on an employer

pursuant to Saudi Social Insurance Law (of which five percent could be paid by the employer by

withholding five percent from an employee’s wages), which were paid to the Annuity Branch224 of the

General Organization for Social Insurance Corporation (“GOSI”). The inclusion of foreign workers in

215 See 57-258 C.B. 263. 216 See 1957-1 C.B. 18. 217 The employer contributions conveyed fully vested and non-forfeitable interests into a separate independently controlled trust,

forming part of a plan to provide unemployment and other benefits for its employees. 218 See Rev. Rul. 60-31, 1960-1 C.B. 176 as modified by Rev. Rul. 64-279 and Rev. Rul. 70-435. 219 Roy Morgan Research Pty. Ltd. v. Commissioner of Taxation, [2011] HCA 35 at ¶ 92 (Sept. 28, 2011). 220 Specifically, the SG Charge was a compulsory exaction to “encourage all Australian employers to contribute to the financial

needs of all Australian employees in old age or infirmity”. Id. 221 Commonwealth of Australia Constitution Act s 51(xxiii) (pertaining to the power of the Parliament to make laws with respect

to invalid and old-age pensions). 222 See, Australian Tax Office, Income Tax: Superannuation Contributions, TR 2010/1 at ¶ 104 (Feb. 10, 2010). 223 1989-2 CB 4. 224 The Annuity Branch of the GOSI provides social insurance benefits in the case of invalidism, old age (retirement) and death.

The other branch of the GOSI, the Occupational Hazards Branch, provides insurance coverage for employment injuries and

occupational diseases. Id.


37


the Annuity Branch was terminated by the Saudi government by royal decree in 1987 and GOSI

issued benefit cancellation payments in exchange for an irrevocable surrender of rights to receive

GOSI benefits. The IRS held that the contributions made by a U.S. taxpayer while working in Saudi

Arabia that were made pursuant to a GOSI assessment constituted taxes and were not made

pursuant to an employer-employee contract. Hence, the mandatory employer contributions to the

Annuity Branch on behalf of the employee did not create an “investment in the contract” for purposes

of Section 72(e) or basis for purposes of Section 1001. Consequently, the GOSI benefit cancellation

payments received by a U.S. taxpayer from the Saudi Government constituted gross income under

Section 61(a), notwithstanding that Saudi Arabia did not tax the GOSI cancellation payment. There is

no tax treaty between the US and Saudi Arabia that would have otherwise made these cancellation

payments exempt from taxation.

The SG Contributions of the ASF bears an interesting similarity with the GOSI Annuity Branch

assessments. Both are statutory obligations of employers to make employer contributions to provide

for the old age, retirement and death of its employees. Both are paid directly by the employers to the

State and treated as a tax. With Saudi Arabia, the GOSI scheme is subject to control and change at

the discretion of the state, as the SG is subject to strict regulation and administration by the ATO and

various regulatory agencies.

Based on the above discussion and precedents, we suggest that the SG component of the ASF is

properly characterized as a foreign social security tax that is similar to or in the same nature as U.S.

Social Security taxes, which are excise taxes on the employer for U.S. tax purposes225 and are not

derived as a direct result of a contractual employment relationship.

6.2.1 SG Component of the ASF Constitutes a Separate Grantor Trust with the

Australian Government as Grantor-Trustor

Since SG Contributions are the foreign equivalent of U.S. Social Security taxes, which are excise

taxes to the employer, both the earnings accrued in and distributions arising from the SG Contribution

portion of the ASF would have been taxable but for Article 18(2) of the Tax Treaty which exempts

social security benefit payments from Australia from U.S. federal income taxation.

We acknowledge that SG Contributions under Australia’s Superannuation system are distinct from

FICA and SECA under the U.S. Social Security program in that SG Contributions to the ASF are fully

funded, fully preserved and portable from an Australian perspective and arguably, “Funded and

Secured” from a US tax perspective, whereas FICA and SECA tax payments are made for future U.S.

Social Security benefits, which are “Unfunded and Unsecured.”226 Indeed, in the decision of the

225 See IRC § 3111(a). 226 Indeed, federal court decisions have held that U.S. social security benefits are gratuity-type benefits paid by the government

in which the individual claimant acquires “no vested rights”. See Elmer F. Wollenberg, Vested Rights in Social-Security Benefits,

37 OREGON L. REV. 360, 304 (1957-58); United States v. Teller, 107 U.S. 64, 68 (1982); United States v Cook, 257 U.S. 523,

527 (1922). U.S. government agencies have argued before the U.S. Supreme Court that OASDI is a gratuity, as there is no

express contract of insurance between the federal government and the individual payer of social security benefits. See Elmer F.

Wollenberg, Vested Rights in Social-Security Benefits, 37 OREGON L. REV. 360, 300 (1957-58) citing the Department of Labor

and Treasury Department submissions have held this same view. Id. at 303. See also, Nestor v. Fleming, 363 U.S. 603 (1960).

This is quite possibly the only way to explain why thousands of individuals have qualified of OASDI benefits on the basis of

earnings records where no social security taxes were paid and even where no tax liability was incurred. Id.


38


United States Supreme Court in Fleming v. Nestor227 explained that the U.S. Social Security system is

a form of social insurance in which the employee only bears a “noncontractual interest” such that the

employee does not accrue property rights to social security benefits.228 It follows therefore, that U.S.

Social Security contributions and accruals thereto are not taxed to the U.S. employee beneficiary until

such amounts are actually paid out.

We suggest that the Funded and Secured nature of the SG Contributions in the ASF do not constitute

grounds taxing contributions and accruals differently than contributions and accruals under U.S.

Social Security.229 Implicit in the SSTAs is that the foreign country’s social security program is similar

enough to the U.S. Social Security, and differences between the two do not justify different U.S.

domestic tax treatment.

We agree with the House Committee Report to the 1969 Tax Reform Act which found little practical

difference between Funded and Unfunded deferred compensation:

… [i]t is anomalous that the tax treatment of deferred compensation should depend on whether the amount to be

deferred is placed in a trust or whether it is merely accumulated as a reserve on the books of the employer corporation.

An employee who receives additional compensation in the form of a promise to pay him that compensation in the

future made by a large, financially sound, corporation, is probably as likely to receive the compensation as an

employee whose deferred compensation is placed in trust...230


SG Contributions and accruals are preserved benefits in the ASF that will not be payable to the USP

employee-beneficiary until retirement age or, if earlier, until a condition of release is met. Until such

time, SG Contributions are “substantially nonvested”.231 We are aware that it is likely the

nonforfeitability of the SG Contributions in the trust which triggers the current tax on the USP

employee-beneficiary under Section 402(b) because “…it embodies the taxation theory that when an

employer contribution, which is placed in trust for the employee, is nonforfeitable at the time it is

contributed, the employee has received an economic benefit that is taxable on a current basis…”232

227 363 U.S. 603. 228 Id. 229 The seminal IRS guidance on deferred compensation which would become the cornerstone for taxation of funded and

unfunded pension plans is Revenue Ruling 60-31, 1960-1 C.B. 174, modified by Rev. Rul. 64-279, 1964-2 C.B. 121; Rev. Rul.

70-435, 1970-2 C.B. 100. For insightful legal commentaries on the origins of taxation of deferred compensation and legislative

initiatives to abolish Section 402(b)’s distinction between funded pension plans (current income inclusion) versus unfunded

pension plans (no current income inclusion), see Commentary, Implementing Policy Objectives in the Taxation of Deferred

Compensation Arrangements, 1978 DUKE L.J. 1460 (1978); David R. Goode, Deferred Compensation Under the Tax Reform

Act of 1969, 5 U. RICH. L. REV. 235 (1970-1971); Ralph S. Rice, The New Tax Policy on Deferred Compensation, 59 MICH. L.

REV. 381 (1960-61); and Richard S. Millerick and William A. Neilson, Non-Qualified Deferred Compensation After Tax Reform,

22 SUFFOLK U. L. REV. 43 (1988). 230 See REPORT OF THE COMMITTEE ON WAYS AND MEANS TO ACCOMPANY H.R. 13270, H.R. REP. NO. 91-413 (Part 1), 91ST CONG. ,

1ST SESS. 89-91 (1969) as reproduced in Comment, Implementing Policy Objectives in the Taxation of Deferred Compensation

Arrangements, 1978 Duke L. J. 1460 at 1473 (1978). ); David R. Goode, Deferred Compensation Under the Tax Reform Act of

1969, 5 U. Rich. L. Rev. 235 at 246 (1970-1971) (“Goode”). The House provision was deleted by the Senate at the request of

the Treasury Department, which indicated that the matter required further study and that alternative solutions would be

preferred. See Goode at 1475, referencing 1969 S. REP. 307 reprinted in [1969] U.S. CODE CONG. & AD. NEWS 2027, 2346. 231 See Treas. Reg. §1.83-3(b). 232 See Comment, Implementing Policy Objectives in the Taxation of Deferred Compensation Arrangements, 1978 DUKE L. J.

1460 at 1468 (1978).


39


However, we suggest that the there is no economic benefit to the USP employee-beneficiary derived

from the SG Contribution into the ASF because it is not property of the employee until the requisite

conditions of release are satisfied. Until such time, SG Contributions are property of the

Commonwealth. For example, in Roy Morgan v. Commissioner of Taxation, the High Court of

Australia pointed out that the operative provisions [Section 65] of the SG Scheme provides for SG

Charge to be paid directly to the ATO, which is then deposited into the government’s revenue

collections fund and not disbursed to the USP employee-beneficiary until certain conditions of release

are satisfied:

…The SGA Act and the SGC Act do not operate to substitute a new statutory obligation for a pre-existing private

obligation in an employer to make a payment to any employee. Rather, the legislation exacts a payment from an

employer; and that payment is paid to the Consolidated Revenue Fund. While payments from the Consolidated

Revenue Fund pursuant to s. 65 of the SGA Act are made by the Commissioner for the ultimate benefit of individual

employees, that benefit is only received by an individual employee in the event of infirming or retirement...233


We also further point out that, if the SG Contributions are currently taxable to the employee based on

the economic benefit rule, the value of the USP employee-beneficiary’s interest in the SG

Contributions does not equate to the full market value of the SG Contributions at the time of transfer

to the ASF. Australian courts have described the nature of a beneficiary’s rights in a superannuation

fund as one that is of “inchoate nature”234 as first stated by the Federal Court of Australia in Re Coram,

R.A.: Ex Parte Official Trustee in Bankruptcy and Ors:235

…Until the happening of a prescribed event that will crystalize his right into an actual entitlement, a member of a

superannuation fund is neither the legal nor the beneficial owner of the amount that stands to the credit of his account

from time to time...236


Re Coram, R.A. consolidated judicial dicta in various cases supporting the proposition that the

present right of a member of a superannuation fund is no more than an expectancy.237 His

entitlements are all in the future and are all dependent upon the happening of a prescribed event, of

which the most common was the attainment of an agreed retirement age.238 Indeed, a member’s

inchoate interest in ana ASF is such that a member-beneficiary of an ASF has no direct interest in the

underlying assets of the trust fund.239 The beneficiary’s interest is of an “equitable proprietary nature,

albeit one which does not carry an immediate right to payment.”240

If the SG Contributions are classified as foreign social security taxes and benefits, which we believe is

the correct treatment, then SG portion should not fall within the purview of Section 402(b) which

233 See Roy Morgan Research Pty. Ltd. v. Commissioner of Taxation, [2011] HCA 35 at ¶ 92 (Sept. 28 2011). 234 See, Re Coram, RA.: Ex Partner Official Trustee in Bankruptcy and Ors, [1992] FCA 425. Hereinafter, “Re Coram, R.A.” 235 Id. 236 Id. at ¶¶ 13-16. 237 Id. 238 Id. See also Honorable Justice Graham Hill, The True Nature of a Member’s Interest in a Superannuation Fund, 5 J. AUSTL.

TAX’N 1 (2002). 239 See, M. Scott Donald, What’s in a Name? Examining Consequences of Inter-Legality in Australia’s Superannuation System,

33 SYDNEY L. REV. 295, 302 (2011). 240 See Benson v. Cook, [2001] FCA 1684 citing Caboche & Bond v. Ramsay, [1993] 119 ALR 215 at 230.


40


applies only to Funded and Secured pension plans that arise from a voluntary employer-employee

contractual arrangement. None of the SG Contributions constitute property transferred in connection

with the performance of services between an employer and employee. Rather, the SG portion of the

ASF constitutes a separate and independent foreign trust (the “SG Trust”). In this regard, both the

Commonwealth and the employer would be considered the grantors of the SG Trust, however, only

the Commonwealth would be treated as owner of the SG Trust.241 The employer would not be treated

as owner of the SG Trust because the SG Contributions would fail to qualify as gratuitous transfers to

the extent that the employer is reimbursed by the Commonwealth through tax deductions equivalent

to such amounts.242 It is the Commonwealth, and not the employer, who indirectly transferred property

to the SG Trust (through the employer).

We would further suggest that the SG Trust constitutes a foreign grantor trust with the Commonwealth

as grantor and owner. The Commonwealth exercises dominion and control over the SG Trust under

Section 673-679 principles such that all SG Contributions and accruals are attributable to the

Commonwealth as the owner and not the USP employee-beneficiary. Further, the foreign grantor trust

status of the SG Trust meets Section 672(f) and Treasury Regulation Section 1.672(f)-3 because the

Commonwealth has the power to revest SG Trust assets back to itself. Ultimately, neither the SG

Contributions, nor accruals nor distributions should be taxable to the USP employee-beneficiary

because these would constitute foreign social security taxes and social security payments thereon

under Article 18 of the Tax Treaty; and further, SG Contributions and accruals constitute income to

the Commonwealth as the grantor-owner of the SG Trust and not the USP employee-beneficiary.

6.3 Voluntary Employee Contributions to the ASF Should Be

Excluded from Sections 402(b) and 83

We do not believe that the SG portion of the ASF alone is distinguishable from treatment as a foreign

grantor trust with the Commonwealth as foreign grantor-owner for the purposes of Section 402(b). We

are of the opinion that the employee portion of the ASF, i.e., the VEC, is also not appropriately

classified under Section 402(b) in the absence of any employer-employee arrangement to defer

compensation. The ASF’s structural framework varies significantly from other non-U.S. trust

arrangements243 where the employee’s right to the trust assets may be subject to service or

performance conditions that must be satisfied in order for the employee’s right to be non-forfeitable

and in order for the employee to receive a future distribution of cash or a transfer of legal ownership in

the shares from the trustee.244 We believe that there are a few compelling reasons why the ASF, while

generically a Funded and Secured trust for the benefit of the USP employee-beneficiary, is unlike

other private employer-funded foreign pension plans.

241 See Treas. Reg. §1.671-2(e). 242 Id. 243 See Veena K. Murthy, Selected Cross-Border Equity and Deferred Compensation Issues with Funded Foreign Plans, 42

COMPENSATION PLANNING JOURNAL 67 (Bloomberg BNA, 2014). According to Ms. Murthy, non-U.S. trust arrangements include

Australian and New Zealand superannuation plans, arrangements within Dutch Stichtings, Hong Kong provident funds (as well

as provident funds in other countries such as Singapore, India, Israel, etc.), Irish Employee Benefit Trusts (EBTS),

arrangements within Swiss Foundations and United Kingdom EBTS. 244 See DAVID W. ELLIS, ESQ., STRUCTURING INTERNATIONAL TRANSFERS OF EXECUTIVES §27:5.01(c); Veena K. Murthy, Selected

Cross-Border Equity and Deferred Compensation Issues with Funded Foreign Plans, 42 COMPENSATION PLANNING JOURNAL 67

(Bloomberg BNA, 2014).


41


6.3.1 Voluntary Employee Contributions to the ASF Do Not Fall under Section

402(b) but as Private Individual Retirement Accounts under Section 408(a)

With respect to the VEC (and accruals thereto) made by a USP employee-beneficiary to the ASF, our

position is that these amounts should not be deemed as gross income to such person, either under

the constructive receipt doctrine or economic benefit rule under Section 402(b) and the employee

grantor trust rules of Treasury Regulation Section 1.402-1(b) (6). As previously stated, an employee-

beneficiary’s interest in an ASF is characterized by Australian courts as one that is merely incipient in

nature, undeveloped and inchoate245, equitable and proprietary in nature but not one which carries an

immediate right to payment of benefits. Rather, such interest is no more than a mere expectancy of

future entitlements until the prescribed event occurs.

The nature of the USP employee-beneficiary’s beneficial interest in the VEC, combined with the

significant Cashing Restrictions, investment and borrowing restrictions on the ASF under SIS

Legislation, gives support to our contention that USP employee-beneficiary’s interests in an ASF is

indeed one that is “substantially nonvested.”246 As previously discussed, there are investment,

Cashing Restrictions and conditions of release requirements under SIS Legislation which gives us

reasonable grounds to assert that the beneficial interest of the USP employee-beneficiary in the

employee-portion of the ASF is nontransferable and remains subject to a substantial risk of forfeiture.

Indeed, a USP employee-beneficiary’s entitlement to preserved benefits under the ASF remains

subject to revisions, repeal and amendment by the Australian Parliament, including but not limited to

amending a beneficiary’s interests in the assets of an ASF include introduction of new bankruptcy

laws which gave a bankruptcy trustee powers to claw back amounts contributed to an ASF by a

bankrupt,247 as well as provisions in bankruptcy laws which limited exemption to a bankrupt’s interest

in a superannuation fund to a specified amount.248 Consequently, amounts contributed and accruing

in the ASF remain subject to a substantial risk of forfeiture and [are] not transferrable to any other

party at any stage, from Contribution Phase to Accumulation Phase to Drawdown Phase,

notwithstanding that contributions made to the ASF are deemed fully funded, fully preserved and

portable.

Our understanding of the inchoate and incipient nature of a USP employee-beneficiary’s interest in

the ASF combined with the substantial restrictions prohibiting such USP employee-beneficiary from

accessing funds in the ASF leads us to question whether the fully funded, fully preserved and portable

nature of the Voluntary Employer Contributions is at all equivalent to the US tax law concept of a

245 Rudimentary, not fully yet formed, immature, incipient interest. 246 Treas. Reg. § 1.83-3(b) defines property as being “substantially nonvested” when it is subject to a substantial risk of

forfeiture and it is nontransferable. Conversely, property is “substantially vested” of such purposes when it is either transferrable

or not subject to a substantial risk of forfeiture. Under Treas. Reg. § 1.83-3(d), property is transferrable if the person receiving

the property can sell, assign or pledge (as a collateral for a loan or as security for the performance of an obligation or for any

other purpose) his interest in the property to any person other than the transferor of such property and if the transferred is not

required to give up the property or its value if a substantial risk of forfeiture materializes. Treas. Reg. § 1.83-3(e) defines the

term “property” as including a beneficial interest in assets (including money), which are transferred or set aside from the claims

of creditors of the transferor, for example, in a trust or escrow account. 247 See Australia Bankruptcy Act of 1966 ss 128A through 128N, introduced in July 2006 to enable trustees to void certain

superannuation contributions made with intent to defeat creditors. 248 See Section 116(2)(d), 116 (5)-(9) of the Superannuation Industry (Supervision) Consequential Amendments Act of 1993

(Act No. 82), the relevant part of which commenced in July 1994 as discussed in Victor J. Bennetts, Bankruptcy and

Superannuation, 11 QUEENSLAND U. TECH. L.J. 157 (1995).


42


“funded pension plan” which Section 402(b) is supposed to address. Section 402(b) provides that

employer contributions to a nonqualified funded plan are not includible in the employee’s gross

income until such time as his rights in the trust are transferrable249 or no longer subject to a

substantial risk of forfeiture.250 The Code provides that the rights of a person in property are subject

to a substantial risk of forfeiture if the rights to full enjoyment of such property are “conditioned upon

the future performance of substantial services by any individual.”251 This is not applicable to the ASF

because the SG Contributions and VEC are not predicated at all on an employer-employee

relationship such that the employee’s rights to the ASF are conditioned on future performance of

services. Indeed, the ASF does not fit into a typical “funded pension plan” under Section 402(b).

For this reason, we hesitate to dwell further on Section 402(b). Specifically, we are concerned that

applying Treasury Regulations Section 1.402(b)-1(b)(6) (the “employee grantor trust rules”) to the SG

Contributions and VEC in an ASF would open a can of worms for the USP employee-beneficiary,

because he or she would be treated as (1) the substantially vested USP employee-beneficiary of a

foreign employer’s contributions paid to a foreign non-grantor trust (the ASF); and (2) the grantor-

owner of a portion of the non-incidental employee contributions in an ASF with uncertain tax

consequences. This regulatory exception to Section 402(b) (3) undermines legislative intent to give

restraint on the application of the grantor trust rules in a Section 402(b) context. According to Murthy,

legislative history apparently indicates that Section 402(b)(3) was enacted to clarify that income

earned by a trust which remains undistributed to the employee would not be taxed to an employee

prior to distribution,252 which “in turn implies an intention or expectation that an employee would rarely

be treated as grantor.”253

We also note that the practical application of Treasury Regulation Section 1.402(b)-1(b) (6) would be

extremely difficult, if not impossible, to administer in the case of the Australian Superannuation system.

Treasury Regulation Section 1.402(b)-1(b) (6) states, in pertinent part:

...where the contributions made by the employee are not incidental254 when compared to contributions made by the

employer, such beneficiary shall be considered to be the owner of the portion of the trust attributable to contributions

made by the employer, if the applicable requirements of such subpart E apply [meaning the grantor trust rules].


Essentially, the above regulation provides an exception to the general rule under Section 402(b)(3),

which provides that the beneficiary of any trust under Section 402(b)(1) would not be considered the

owner of any portion of such trust under subpart E of part I of subchapter J. Treasury Regulation

Section 1.402(b)-1(b)(6) carves out an exception to Section 402(b)(3) where a beneficiary of a

Section 402(b) trust would be treated as a grantor-owner of that portion of the trust attributable to

contributions made by the employee. If the regulation applies, then earnings on the portion of the trust

249 One commentary has noted that the Code a circular definition for the concept of what constitutes a nontransferable

contribution to a trust, noting the “the rights of a person in property are transferrable only if the rights in such property of any

transferee are not subject to a substantial risk of forfeiture.” See, Comment, Implementing Policy Objectives In the Taxation of

Deferred Compensation Arrangements, 1978 DUKE L.J. 1460 at 1467, fn. 44 (1978). 250 The forfeitability requirement in § 402(b) is cross –referenced to the forfeitability requirements in § 83(a). 251 § 83(c) (1). 252 See Veena K. Murthy, Selected Cross-Border Equity and Deferred Compensation Issues with Funded Foreign Plans, 42

COMPENSATION PLANNING JOURNAL 67 (Bloomberg BNA, 2014). 253 Id. 254 Query: would the Service be willing to rule on what amount or percentage constitutes an “incidental” contribution?


43


attributable to the employee’s contributions are considered individual income and noncompensatory,

such as capital gains, interest, depending on the nature of the earnings.255 Yet, there is no clear

guidance on what would constitute an employee’s contribution and an employer’s contribution for

purposes of this regulation, and, more importantly, what would constitute an incidental employee

contribution.256

Aside from the difficulty in applying the above regulation to the ASF due to the dearth in guidance on

what constitutes incidental employee contributions, there is also potential difficulty in implementation.

The regulation implies that a particular ASF might be treated concurrently as (1) partially a Section

402(b) non-exempt employees’ trust; and (2) partially a grantor trust according to what is considered

an incidental or non-incidental employee contribution. The employer portion and the incidental

employee portion would qualify as a Section 402(b) employee’s trust, with income inclusion to be

governed by Sections 72 and 83. The non-incidental employee contributions would lead to immediate

income recognition with possible nightmarish PFIC tax and reporting for the underlying investments.

As a practical matter, tracing specific contributions to investments that constitute PFICs would be so

difficult as to render such requirement nearly impossible.

Since SG Contributions to the ASF are mandatory and all employee contributions are voluntary or

elective, one employee’s ASF might be treated only as a Section 402(b) employee’s trust because no

non-incidental employee contributions have been made. Meanwhile, another employee may be

required to bifurcate his or her ASF and treat the SG Contribution and the incidental employee

contributions (not to mention related accretion inside the ASF) as a Section 402(b) employee’s trust

and the non-incidental employee contribution and related accretion as a foreign grantor trust. The

bottom line is that someone would have to keep track of these bifurcated contributions and balances

on an annual basis since the amounts and percentages of employee contributions may well vary from

one year to the next. Of course, as a practical matter, many employees might be forebear voluntary

contributions in order to avoid this morass, a tendency that runs directly counter to the general policy

of encouraging retirement savings.

6.4 If Voluntary Employee Contributions Are Subject to Sections

402(b) and 83, the U.S. Should Allow a Direct or Deemed Paid

Foreign Tax Credit

Without the clarifications we suggest in this paper, current U.S. tax law could be interpreted to require

a USP employee-beneficiary of an ASF to include in his or her gross income all of the SG

Contributions, VEC, and accruals of income within the ASF because it constitutes a Funded and

Secured pension plan which is not subject to any substantial risk of forfeiture. In that event we

suggest that the USP employee-beneficiary of the ASF should be allowed to claim either a direct or

deemed paid foreign tax credit against her or his U.S. income tax for Australian taxes paid by the ASF

pursuant to Article 22 of the Tax Treaty.

255 See Veena K. Murthy, Selected Cross-Border Equity and Deferred Compensation Issues with Funded Foreign Plans, 42

COMPENSATION PLANNING JOURNAL 67 (Bloomberg BNA, 2014). 256 Id.


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Our foreign tax credit suggestion is consistent with present U.S. tax law. Section 901 allows a direct

credit for the amount of income, war profits or excess profits tax paid to any foreign country. Treasury

Regulations Section 1.901-2(a) (2) specifically provides:

A foreign levy is also considered an income tax, if it requires a compulsory payment pursuant to the authority of a

foreign country to levy taxes. [However]... a foreign levy is not pursuant to a foreign country’s authority to levy taxes to

the extent a person subject to the levy receives (or will receive), directly or indirectly, a specific economic benefit from

the foreign country in exchange for payment pursuant to the levy.

Brackets and ellipsis added.

The above regulation declares that a “tax” or levy in exchange for which a governmental authority

confers a “specific benefit” will not be considered a creditable tax. This differs from the more general

benefits that taxpayers expect to receive from the government levying the tax. It is therefore

reasonable to ask the question of whether social security taxes are or are not too directly related to

the “specific benefits” that the employee will receive in retirement.

Treasury Regulation Section 1.901-2(a)(ii)(C) clarifies that a foreign levy imposed on individuals to

finance retirement, old age, death, survivor, unemployment, illness or disability benefits or “for some

substantially similar purpose”257 is not a requirement of a compulsory payment in exchange for a

specific economic benefit as long as the amounts required to be paid by the individuals subject to the

levy are not computed on a basis reflecting the respective ages, life expectancies or similar

characteristics of such individuals.258

In the instant case, the foreign levy on the ASF under SIS Legislation is imposed on (1) the SG

Contribution itself, (2) the Employee Contribution and (3) accruals of income thereafter at a rate of 15

percent upon contribution and another 15 percent on accumulation. The levy is not based on the

employee’s age, life expectancies or similar characteristics of individuals but on the mere fact that a

contribution to the ASF has been made to benefit the employee upon retirement. Also, the 15 percent

tax on contribution and accumulation may not be the only tax imposed if non-concessional

contributions in excess of the annual cap amounts were also made that same year.

However, there are important distinctions to be made with respect to the taxes paid within the

Australian Superannuation system. First, Australia imposes the levy on the ASF itself on SG

Contributions, Employee Contributions and accrued income, not directly on the employer or the

employee. Second, the SG Contribution is mandatory to the employer, whereas the VEC are not

compulsory. The employee is not subject to a mandatory levy.

We do not believe that these distinctions, while important, are relevant to the scenario where the U.S.

employee-beneficiary is compelled by operation of Section 402(b) and Section 83 to include in his or

her worldwide income all contributions made to the ASF and accretions of income thereafter. If the

USP employee-beneficiary is to be taxed again by the United States for these same amounts under

Section 402(b) and Section 83, or, in the alternative, as a grantor trust with the USP employee-

beneficiary as grantor-owner under Treasury Regulations Section 1.402(b)-1(b)(6), it would follow that

he or she should be able to claim either direct or indirect foreign tax credits under Section 901 or

257 Treas. Reg. § 1.901-2(ii) (C). 258 Id.


45


Section 960 against his or her U.S. income taxes for the Australian taxes paid by the ASF on the VEC

made by the USP employee-beneficiary.

Our suggestion to extend a foreign tax credit to the USP employee-beneficiary for Australian taxes

paid by the ASF does not extend to the portion of the ASF that constitutes SG Contributions and

accretions because such contributions and accretions constitute foreign social security taxes, which

are not creditable pursuant to Revenue Procedure 80-54:259

.04 Section 317(b)(4) of the Social Security Amendments of 1977 provides that, notwithstanding any other provision of

law, taxes paid by any individual to any foreign country with respect to a period of employment or self-employment that

is covered under the social security system of such foreign country in accordance with the terms of an agreement

entered into pursuant to section 233 of the Social Security Act shall not, under the income tax laws of the United States,

be deductible by, or creditable against the income tax of, any such individual.

We do not anticipate contrary positions to be taken by the IRS with respect to our proposal to extend

foreign tax credits to USP employee-beneficiaries of ASFs for Australian taxes paid by the ASF with

respect to the VEC and accruals thereto. Prior to the introduction of social security totalization

agreements, the IRS ruled that foreign social security tax payments paid through employee

contributions were generally creditable as compared to employer contributions.260

In 1977, Congress amended the Social Security Act to authorize the President to enter into social

security totalization agreements with foreign countries.261 New subsections were simultaneously

added to the Internal Revenue Code (“IRC”), which deny a foreign tax credit to an individual who

receives wages that are exempt from U.S. Social Security taxes FICA or SECA pursuant to Section

233 of the Social Security Act.262 This disallowance has been affirmed in two cases involving the

French contribution sociale généralisée and contribution pour le remboursement de la dette sociale.263

259 See also, § 1401to the Act of December 20, 1977, Pub. L. No. 95-216, 91 Stat 1509, 1540 (1977). 260 See, e.g., Rev. Rul. 68-411, 1968-2 C.B. 306 (Canadian social security tax payments creditable); Rev. Rul. 69-338, 1969-1

C.B. 194 (Venezuelan social security tax payments creditable to employee due to compulsory nature but not on employer’s

share of the payments that is not measured by employer’s income); Rev. Rul. 75-279, 1972-2 C.B. 441 (U.K. national insurance

act taxes paid by U.S. employees creditable but not portion levied on employers). Both rulings were pursuant to section 901(a).

The Supreme Court has ruled that the tax imposed by I.R.C. § 3101 was an additional income tax in cases challenging the

constitutionality of federal employment and self-employment taxes. Helvering v. Davis, 301 U.S. 619, 635 (1937); Cain v.

United States, 211 F. 2d 375, 378 (1954), cert. denied, 347 U.S 1013 (1954). 261 Act § 317 of the Social Security Amendments of 1977, Pub. L. No. 95-216, 91 Stat. 1538, codified as § 233 of the Social

Security Act, 42 U.S.C. § 433(a). 262 Id., at Act § 317(b) (2), creating I.R.C. §§ 3101(c), 3111(c) and 1401(c); and Act § 317(b) (4), which creates a note to IRC §

1401, which denies the foreign tax credit. This curious approach to drafting the disallowance of the foreign tax credit has been

ruled to be valid law in Eshel v. Comm`r, 142 T.C. 11 (Apr. 2, 2014), appeal pending; Erlich v. U.S., Fed. Claims Ct. (No. 08-

832T, Mar. 2, 2012). The purpose of these new provisions is to ensure that the U.S. employee subject to foreign social security

tax is no better off than a U.S. employee subject to FICA payments. In the case of tax payments made to the U.S. social

security, there is no credit granted against U.S. income tax. Similarly, there should therefore not be a foreign tax credit against

U.S. income tax for payments to a foreign social security. 263 Eshel v. Comm`r, 142 T.C. 11 (Apr. 2, 2014), appeal pending; Erlich v. U.S., Fed. Claims Ct. (No. 08-832T, Mar. 2, 2012).


46


These tax payments were found to be social security tax payments of a foreign country “made in

accordance with the terms of an agreement pursuant to section 233 of the Social Security Act.”264

The U.S.–Australia Totalization Agreement clearly identifies the Superannuation Guarantee as the

other Australian Social Security tax that would be equivalent to U.S. Social Security taxes (FICA,

SECA) in addition to the Australian Social Security taxes.265 Hence, an argument could be made that

the SG Contributions to the ASF should not be creditable to the U.S. employee-beneficiary. On the

other hand, the Australian tax imposed on an employee’s Voluntary Employee Contribution or salary

sacrifice is not within the scope of the Totalization Agreement. Therefore, the VEC (and accruals of

income attributable thereto) should still be creditable for U.S. foreign tax credit purposes, under either

a direct or deemed paid credit mechanism, as they are specifically exempted under Sections 3101(c),

3111(c) or 1401(c) for U.S. Social Security taxes. It follows therefore that the note to Section 1401

disallowing a foreign tax credit should not apply and the older principles enunciated in the revenue

rulings cited above ought to apply to permit a direct or deemed paid foreign tax credit for these

Australian taxes to the extent that they otherwise correspond to items of income subject to current U.S.

taxation.

7 SINCE AUSTRALIAN SUPERANNUATION

FUNDS ARE THE EQUIVALENT TO A SOCIAL

SECURITY PROGRAM THEY SHOULD NOT

BE ANALYZED AS FOREIGN EMPLOYEE

TRUSTS UNDER U.S. TAX LAW

7.1 Recent IRS Positions on Classification of Australian

Superannuation Funds as Trusts

The IRS recently published three private letter rulings (“PLRs”)266 that held that a foreign trust

providing superannuation benefits to its members constituted a trust for U.S. federal income tax

purposes under Treasury Regulations Section 301.7701-4(a).267 In all three PLRs, the foreign social

264 Note to § 1401 under Pub. L. No. 95-216 (effective Dec. 20, 1977). 265 See U.S.–Australia Totalization Agreement Art. 2: 1(b) (ii). 266 Priv. Ltr. Ruls. 201538008, 201538007 and 201538006. In all three PLRs, the foreign trust was governed by foreign

legislation and regulated by several government entities. The trust, which had the sole purpose of providing superannuation

benefits to its members and their beneficiaries, was managed by trustees. All funds were derived from employer and employee

contributions and investment income. The trustees had a duty to manage funds in a responsible order to protect and preserve

superannuation and provide an annual statement to beneficiaries stating information about the foreign trust as required by law.

The trust was subject to a foreign audit by an approved auditor and members of the trust could not unilaterally assign or

transfer their benefits in the trust to another person. 267 Id.


47


security arrangement was governed by foreign legislation and regulated by several government

entities. The arrangement, which had the sole purpose of providing superannuation benefits to its

members and their beneficiaries, was managed by individuals referred to in the PLRs as trustees. All

funds were derived from employer and employee contributions and investment income. The trustees

had a duty to manage funds in a responsible order to protect and preserve superannuation and

provide an annual statement to beneficiaries stating information about the foreign trust as required by

law. The trust was subject to a foreign audit by an approved auditor and members of the trust could

not unilaterally assign or transfer their benefits in the trust to another person.

A close reading of PLRs leads the authors to conjecture (without affirmation or confirmation from the

IRS) that they both likely pertain to ASFs. In both of the PLRs, the IRS was asked to assume that the

social security programs at issue were employee trusts for U.S. purposes. Therefore (again, this is our

conjecture and without affirmation or confirmation from IRS), the conclusion reached in the PLRs was

not dependent on an analysis of whether the underlying arrangement as an employee trust. In light of

our position that ASFs should be analyzed in a manner consistent with U.S. Social Security, and not

as employee’s trusts, we believe these rulings should be reexamined and clarified as appropriate.

Treasury Regulation Section 301.7701-1(a) (1) makes clear that the foreign classification of an entity

does not control its classification under U.S. law.268 In light of our suggestion that Supers are the

equivalent of U.S. Social Security we do not agree that the arrangements in the PLRs should have

been classified as foreign trusts for U.S. tax purposes, notwithstanding that Australia views ASFs as

“essentially trusts” established to hold and invest in superannuation assets.269 This is because ASFs

are creatures of Australian legislation and do not arise out of private contractual arrangements

between employer and employee, grantor trustee and beneficiary. General principles of Australian tax

law were intentionally modified270 to carve out a preferential tax scheme for ASFs rather than impose

ordinary trust tax law provisions applicable to ordinary and public trusts.271

We believe that the ASF’s classification for U.S. tax purposes should be bifurcated into two

components. The SG Contribution (and accretions thereto) would constitute a foreign grantor trust

(i.e., the SG Trust) with the Commonwealth as grantor of foreign social security taxes and benefits.

The SG Contributions as foreign social security taxes and accruals thereto (as social security

benefits) would be exempt from U.S. income tax under Article 18(2) of the Tax Treaty.

The portion of the ASF which corresponds to the VEC (and accretions thereto) would constitute a

private individual retirement account (“PIRA”) with the USP employee-beneficiary as grantor-owner of

the PIRA trust. As grantor-owner of a PIRA, contributions, accretions and distributions would be

subject to tax by the United States unless specifically exempted under Article 18 of the Tax Treaty.

Unfortunately, the Tax Treaty does not possess comprehensive pension provisions under Article 18 to

exempt a PIRA with a USP employee-beneficiary and grantor-owner from U.S. taxes. We would

therefore urge the IRS and Congress to fashion an administrative remedy for this issue such that only

268 The regulation specifically provides, “The Internal Revenue Code prescribes the classification of various organizations for

federal tax purposes. Whether an organization is an entity separate from its owners for federal tax purposes is a matter of

federal tax law and does not depend on whether the organization is recognized as an entity under local law.” Treas. Reg.

301.7701-1(a) (1). 269 R.L. DEUTSCH, M.L. FRIEZER, I.G. FULLERTON, R.J. HANLEY, T.J. SNAPE, THE AUSTRALIAN TAX HANDBOOK (2014) at 1566. 270 Super taxation is governed by Div. 295 of the Income Tax Assessment Act of 1997. 271 Ordinary trusts and public trusts are taxed under Div. 6 of Part III of ITAA of 1936. See, R.L. DEUTSCH, M.L. FRIEZER, I.G.

FULLERTON, R.J. HANLEY, T.J. SNAPE, THE AUSTRALIAN TAX HANDBOOK (2014) at 1566.


48


actual distributions from an Australian IRA (i.e., from an ASF) would be taxable by the U.S. Such

administrative remedy could include a Memorandum of Understanding between the competent

authorities. With such remedy in place all Voluntary Employee Contribution amounts and accruals

thereon would be deemed received by the USP employee-beneficiary as grantor-owner and

exempted from U.S. tax, though subject to other limits such as the contribution limit found in Section

415.

7.2 Voluntary Employee Contributions in the ASF Should Be

Classified as a Separate Foreign Trust and Afforded Similar

Reporting Requirements as Canadian Registered Retirement

Savings Plans (“RRSP”)

The ASF is not the first pension plan to have been initially classified as a foreign nonqualified trust

under Section 402(b) in the absence of definitive guidance from the IRS regarding its U.S. tax

classification. The IRS has previously addressed this same issue with the Canadian RRSP, which the

IRS initially determined was equivalent to a U.S. individual retirement account that did not meet the

strict qualifications of Section 408(a).272 Indeed, the IRS views the beneficiary of a Canadian

retirement plan as subject to current U.S. tax on accrued yet undistributed income in the plan unless

the plan constitutes an employees’ trust under Section 402(b) and the individual is not a highly

compensated employee under Section 402(b)(4)(A).273 As a consequence, U.S. residents with

contributions to, distributions from and ownership of a Canadian trust, for which an election to defer

U.S. tax on accrued income under Article XVIII (7) is available, would be obligated to file Form 3520

and Form 3520-A returns under Section 6048.274

Admittedly, RRSPs do not constitute a social security program in Canada and, in fact, are not covered

by the U.S. – Canada Social Security Totalization Agreement.275 Notwithstanding this distinction,

USP employee-beneficiaries of Canadian RRSPs and Registered Retirement Income Funds (“RRIF”)

have been explicitly exempted from foreign employee trust reporting requirements while USP

employee-beneficiaries of the ASF do not have such clear guidance.

In Revenue Procedure 89-45,276 the IRS described the RRSP as an individual retirement account that

did meet the qualification requirements under Section 408(a), resulting in earnings accrued in the plan

272 See infra, I.R.S. Rev. Proc. 89-45, 1989-2 C.B. 596, superseded by I.R.S. Rev. Proc. 2002-23, 2002-1 C.B. 744. Rev. Proc.

89-45 provided guidance for applying former Article XXIX(5) of the United States-Canada Income Tax Convention, signed on

September 26, 1980, as amended by Protocols signed on June 14, 1983, March 28, 1984, March 17, 1995, and July 29, 1997

and Sept. 21, 2007 (the “U.S.-Canada Treaty”). 273 U.S. – Canada Treaty Article XVIII (8). See also, I.R.S. Rev. Proc. 2014-55 IRB 753 (Oct. 7, 2014) at § 2.01. 274 See I.R.S. Rev. Proc. 2014-55 at § 2.04. 275 Agreement between the Government of the United States of America and the Government of Canada with Respect to Social

Security, signed on March 11, 1981, 35 U.S.T. 3403 (the “US-Canada Social Security Agreement”). 276 1989-2 C.B. 596, superseded by I.R.S. Rev. Proc. 2002-23, 2002-1 C.B. 744. Rev. Proc. 89-45 provided guidance for

applying former Article XXIX(5) of the United States-Canada Income Tax Convention, signed on September 26, 1980, as

amended by Protocols signed on June 14, 1983, March 28, 1984, March 17, 1995, and July 29, 1997 (the “U.S.-Canada

Convention”).


49


as currently includible in the gross income of the beneficiary for U.S. tax purposes (while Canada

deferred taxes on earnings until actual distribution).277 Further, distributions received from an RRSP

were also includible in gross income of the beneficiary under Section 72, concurrent with Canadian

taxation of the same amounts upon distribution. In 2002, the IRS issued Revenue Procedure 2002-

23,278 which allowed United States and Canadian beneficiaries of an RRSP and RRIFs to file an

election to defer U.S. taxation on income accrued279 in the RRSP until an actual distribution is

received. Shortly thereafter, the IRS announced a new simplified reporting regime pending design of a

new form that would be more appropriate for reporting RRSP and RRIF interests.280 This new

reporting regime was “in lieu of” filing obligations under Section 6048 (Form 3520 and Form 3520-A)

that would otherwise apply.281

U.S. or Canadian beneficiaries of RRSPs or RRIFs making an election under Article XXIV(7) to defer

taxation on accrued income in the RRSP or RRIF until actual distribution were not required to provide

as much detailed information. According to IRS Notice 2003-75,282 the new simplified reporting regime

was instituted under the authority of Section 6001 for tax compliance purposes and, consequently, no

further reporting obligations under Section 6048(d) (4) were required with respect to RRSPs or RRIFs

with beneficiaries and annuitants subject to the new simplified reporting regime.283 No associated

penalties under Section 6677 were to apply to RRSPs and RRIFs, although a beneficiary or annuitant

may have been subject to other penalties.284

Revenue Procedure 2014-55285 introduced the most recent changes to the RRSP cross-border

taxation regime by replacing all then-existing procedures that a beneficiary of a Canadian retirement

plan must follow in order to make an election under Article XVIII(7) of the Convention with just two

different procedures. Under the first method, the taxpayer who is an eligible individual286 would elect

to apply Article XVIII (7) by reporting on his U.S. federal Form 1040 all income recognized from the

plan upon receipt of distributions.287 Under the second method, taxpayers who have previously

277 Id. at § 2. The Rev. Proc. 89-45 provided U.S. citizen beneficiaries of an RRSP with an election to defer U.S. income taxes

on the current-year undistributed earnings of the RRSP for a year, provided the contributions were made during the periods of

Canadian residency. 278 See I.R.S. Rev. Proc. 2002-23, 2002-1 C.B. 744 (Mar. 26, 2002), providing guidance for applying new Article XVIII (7) of the

U.S.–Canada Convention. 279 Only income accrued in the RRSP was subject to deferral, not the RRSP contributions in all cases. 280 See I.R.S. Notice 2003-75, 2003-2 C.B. 1204 (Nov. 26, 2003), superseded by I.R.S. Rev. Proc. 2014-55, 2014-44 IRB 753

(Oct. 7, 2014). 281 We note, without confirmation or affirmation from IRS, that the reporting obligations for Canadian RRSPs may have been

excepted from the reporting obligations of foreign trusts because Article XVIII(7) and (8) of the U.S.-Canada Treaty exempts

contributions and earnings from taxation in the U.S. If so, exemption from taxation under the appropriate income tax convention

could be a condition precedent to IRS’s willingness to exempt USP employee-beneficiaries from reporting similar pensions from

reporting as foreign trusts. 282 See supra note 299. 283 See I.R.S. Notice 2003-75, § 3. 284 Id. 285 IRS Rev. Proc. 2014-55 at § 4, 2014-44 IRB 753 (Oct. 7, 2014) 286 See I.R.S. Rev. Proc. 2014-55 at § 4, providing examples of what constitutes an eligible individual as a beneficiary of a

Canadian retirement plan, at any time he is or was a U.S. citizen or resident, has satisfied his U.S. federal income tax return

filing obligations, has not reported his accrued earnings in the Canadian plan as gross income for U.S. tax purposes and has

reported all distributions received from the Canadian plan as if he had made an election under Article XVIII(7) to defer tax on

accrued income in the plan until distribution. 287 Id. at § 4.02. Individuals who did not make the election under Article XVIII (7) would be treated as having made the election

in the first year in which the individual would have been entitled to make such an election. An election is effective for all years

until a final distribution is made from the Canadian plan.


50


reported all of the undistributed accrued income earned in a Canadian retirement plan on their

previously filed Form 1040 could make an election under Article XVIII(7) by requesting the

Commissioner’s consent to apply Article XVIII(7) of the Convention.288 The Revenue Procedure

provides that any election made pursuant to the revenue procedure is made on a plan-by-plan basis,

regardless of whether the beneficiary was a resident of Canada at the time contributions were made

to the plan.

Lastly, Revenue Procedure 2014-55 eliminated any further requirements on beneficiaries and

annuitants of a Canadian retirement plan to report contributions to, distributions from and ownership

of Canadian retirement plans under the simplified reporting regime of IRS Notice 2003-75 (obsoleting

as a consequence Form 8891) or pursuant to reporting obligations imposed by Section 6048 (Form

3520). It did not, however, affect any reporting obligations for IRS Form 8938 under Section 6038D or

FinCEN Form 114 imposed by 31 USC Section 5314.289

7.3 ASFs Should Not Be Classified as Trusts, and Therefore

Treasury Regulations Promulgated under Section 6048 Should

Be Clarified to Exclude Reporting on Forms 3520290 And 3520-

A.291

Section 6048 imposes various reporting obligations on foreign trusts and persons making transfers to

or receiving distributions from foreign trusts. In particular, a USP employee-beneficiary that is treated

as an owner of any portion of a foreign trust is required to provide information with respect to the trust,

in addition to ensuring that the trust complies with its reporting obligations.292

In light of our above technical issues with the classification of the entire ASF (i.e., both SG

Contributions and VEC portions) as a foreign trust under Section 7701(a) (31) or Funded and Secured

foreign pension plan under Section 402(b) with an employee-grantor trust under Treasury Regulations

1.402(b)-1(b) (6), we propose that USP employee-beneficiaries of an ASF should be held to the same

reporting obligations as beneficiaries of other foreign trusts. To do so would require the USP

employee-beneficiary, who is presumably a grantor and beneficiary of an ASF, to information

reporting requirements and penalties with respect to the ASF under Section 6048, and, as a corollary,

potentially annual PFIC reporting requirements293 under Section 1298, which may cause the taxpayer

to incur significant tax compliance costs.294

288 Id. at § 4.04. 289 Id. at § 5. 290 Form 3520 Annual Return to Report Transactions with Foreign Trusts and Receipt of Certain Foreign Gifts. 291 Form 3520-A Annual Information Return of Foreign Trust With a U.S. Owner (Under section 6048(b)). 292 STAFF OF THE JOINT COMMITTEE ON TAXATION, GENERAL EXPLANATION OF TAX LEGISLATION ENACTED IN THE 111TH CONGRESS

(Comm. Print 2011) at 242. 293 See, H.R. REP. NO. 104-737 at 330-338 (1996); TD 9650 Definitions and Reporting Requirements for Shareholders of

Passive Foreign Investment Companies, 78 Fed. Reg. 79,602 (proposed temporary regulations Dec. 31, 2013) (to be codified

Treas. Reg. §1.1291-1T through 1.1298-1T; §1.6038-2T, §1. 6046-1T). 294 Some U.S. expatriates in Australia have commiserated at the expensive tax compliance costs for preparing and filing a Form

8621 for each foreign mutual fund held in the Fund. One U.S. expatriate noted that he ended up filing 300 Form 8621s in one

year alone. If the U.S. person were to make a QEF election to report his or share of the ordinary earnings or capital gains of the


51


Treasury Regulations295 promulgated under Section 6048 require both grantors of foreign trusts and

beneficiaries of foreign grantor trusts to file the Form 3520 (in the case of an ordinary transfer to the

trust) and a Form 3520-A, (foreign grantors), to report their activities and interest. The regulations

cover a wide range of activities that are likely to complicate activities conducted by or on behalf of the

ASF, and therefore cause it to file a U.S. tax form. Currently, foreign trusts that are constitute Section

402(b) nonqualified deferred compensation trusts are exempted from this tax filing requirement under

Section 6048(3) (B) (ii) and regulations promulgated thereunder, including Treasury Regulation

Section 16.3-1. These sections state that contributions made to a nonqualified foreign trust under a

plan that provides for pensions, profit-sharing, stock bonus, sickness, accident, unemployment

welfare and similar benefits or combination of such contributions are not required to be reported under

Section 6048. Consequently, there is no affirmative obligation to file Form 3520 or Form 3520A.

Our proposal bifurcates tax classification of the ASF as a special hybrid trust entity under Australian

law that comprises two independent foreign trusts: (1) the SG Trust with the Australian

Commonwealth as grantor and owner, and trust assets comprised entirely of SG Contributions,

accruals and distributions that are equivalent to social security taxes and income that comprises

social security benefits; and (2) a foreign PIRA with the USP employee-beneficiary as the grantor-

owner that comprises VEC, accruals and distributions that would be subject to special administrative

reporting procedures similar to the administrative relief extended by the IRS to Canadian RRSPs.

Absent such administrative relief, it would seem that the foreign PIRA would be exempt nonetheless

from filing Forms 3520 and Form 3520-A if it qualifies as a Section 402(b) nonqualified trust as

provided under Section 6048(3)(B)(ii) and Treasury Regulations Section 16.3-1.

Rules that apply to ASFs are needed to clarify that USP employee-beneficiaries of an ASF are also

not subject to Section 6048 reporting requirements with respect to income, gains and earnings from

the ASF. To fail to do so would cause U.S. expats with ASFs in Australia further aggravation arising

from the requirement that they file their U.S. income returns in a manner that is consistent with the

information that is received from the ASF under Section 6048.296

We would recommend that regulations under Section 6048 be amended to clarify that entitlements

within ASFs and other similar arrangements that are subject to an SSTA be excluded from reporting

on Form 3520 and Form 3520-A.

PFIC in order, perhaps, to be eligible for preferential capital gains rates, it is not clear whether the necessary information would

be readily available. It is worth noting that most commercially available foreign mutual fund investments do not qualify to allow

the owner to make a QEF election since the information requirements of §1295(a)(2)(B) cannot be satisfied. Hence, the grantor

trust classification of the ASF is very likely to lead to egregious over-taxation and burdensome and expensive tax reporting for

no good policy reason. 295 See Treas. Reg. § 404.6048-1(a) (1); Treas. Reg. §16.3-1(c). See also I.R.S. Notice 97-34, 1997-1 C.B. 422, Information

Reporting on Transactions with Foreign Trusts and on Large Foreign Gifts. 296 See H.R. Rep. No. 105-220 at 551 (1997).


52


8 TREASURY REGULATIONS SHOULD BE

CLARIFIED TO EXCLUDE ASFs FROM

REPORTING ON FINCEN 114 (“FBAR”)

There is also confusion as to whether ASFs constitute foreign financial accounts that are subject to

FBAR reporting requirements.297 There is no explicit exemption in the FBAR regulations that excludes

ASFs from reporting on the FBAR. We believe that the IRS should amend the regulations to provide

for an exemption for ASFs from FBAR reporting, or, at the very least, clarify that the ASF and similar

arrangements subject to an SSTA do not constitute foreign financial accounts for FBAR purposes.

Neither the Preambles nor the text to 31 C.F.R. Section 1010.350 confirm an exemption for interests

in a social security-type program such as the ASF.

Notwithstanding the foregoing, we note that the Preamble298 to Section 6038D and the IRS website299

both exclude from reporting interests in social security, social insurance or similar programs of a

foreign government from the definition of “foreign financial asset.” It baffles us that the ASF would be

treated as a foreign financial account under FBAR where it is clearly exempted as a nonfinancial

foreign asset for FATCA purposes.

In light of the foregoing, we would request that the IRS clarify the regulations under 31 CFR Section

1010.350(c) (4) be amended to clarify that ASFs and similar arrangements subject to an SSTA are

excluded from reporting on Form FinCEN 114.

9 SEVERAL AREAS OF U.S. TAX LAW ALREADY

EXEMPT SOCIAL INSURANCE PROGRAMS

OF FOREIGN GOVERNMENTS FROM TAX

AND REPORTING OBLIGATIONS

We propose to bifurcate the U.S. tax treatment of the ASF into two separate trusts, namely (1) the SG

Trust comprising SG Contributions to the ASF as social security taxes and income accruals and

distributions derived thereafter as social security benefits paid by the Australian Government to a USP

employee-beneficiary of an ASF; and (2) a Voluntary Employee Contribution trust (“VEC Trust”),

which would include all other contributions. Our proposal to bifurcate the classification of the ASF into

an exempt portion and non-exempt portion does not create new reporting obligations neither does it

complicate existing reporting obligations.

297 See generally 31 C.F.R. § 1010.350. 298 T.D. 9706 Reporting of Specified Foreign Financial Assets, 79 Fed. Reg. 73,817 at 73,823-24 (Final Regulations Dec. 12,

2014) (codified as Treas. Reg. §§ 1.6038D-2, 1.6038D-3, § 1.6038D-4, § 1.6038D-5, § 1.6038D-6, § 1.6038D-7). 299 See https://www.irs.gov/Businesses/Comparison-of-Form-8938-and-FBAR-Requirements (last visited Feb. 7, 2016).


53


Treasury and the IRS have already exercised their authority under Section 6001 to exempt interests

in social security, social insurance and similar programs from affirmative tax reporting obligations in

several different provisions of the Code. It is entirely within the authority of Treasury and the IRS to

tailor new administrative procedures to remedy the U.S. income taxation and tax compliance travails

currently faced by U.S. beneficiaries of ASFs. We believe that Treasury and IRS have the authority to

accomplish this pursuant to the authority granted under Section 6001 and cite the following as

examples of areas in which they have created similar relief.

9.1 Code Section 6038D Preamble (Form 8938)

The Preamble300 to the temporary Treasury Regulations under Section 6038D and instructions to

Form 8938, specifically excludes from the definition of “specified foreign financial asset” an “interest in

a social security, social insurance or other similar program of a foreign government,”301 which

exempts such interests from reporting. As addressed earlier, a chart on the IRS website302 comparing

reporting requirements between Form 8938 and FBAR reporting requirements also listed these same

programs as excluded from the definition of foreign financial assets under Treasury Regulations

Section 1.6038D-3(b)(1). Consequently, there is no current requirement to report the SG Trust

component of the ASF on Form 8938 because it would not constitute a foreign financial asset under

Section 6038D.

Similarly, the VEC Trust component of the ASF should be also exempted from the definition of foreign

financial asset to the extent that such a component constitutes an indivisible component of the ASF.

Currently, there is a predisposition to treat the VEC Trust component (as well as the SG Trust

component) as a foreign retirement or pension account under Section 402(b), which would cause the

US employee-beneficiary to report her interest on Form 8938 as a foreign financial account under

Section 6038D.303

9.2 Treasury Regulations Section 301.6114-1 (Form 8833)

Under Section 6114(a), a taxpayer that takes a position that a treaty (whether the treaty pertains to

income tax, estate and gift tax or a friendship, commerce and navigation treaty) overrules or modifies

a provision of the Code is required to disclose that position to the IRS. The disclosure is made by filing

Form 8833.304

The IRS has waived305 the requirement to file a Form 8833 in the case of return positions that an

SSTA or Diplomatic or Consular Agreement reduces or modifies the taxation of income derived by the

300 T.D. 9567 Reporting of Specified Foreign Assets, 76 Fed. Reg. 78,594 (proposed rules Dec. 9, 2011) (to be codified as

Treas. Reg. §§ 1.6038D-2, 1.6038D-3, § 1.6038D-4, § 1.6038D-5, § 1.6038D-6, § 1.6038D-7). 301 Id. at Part D. 302 See https://www.irs.gov/Businesses/Comparison-of-Form-8938-and-FBAR-Requirements (last visited Feb. 7, 2016). 303 See T.D. 9706 Reporting of Specified Foreign Assets, 79 Fed. Reg. 73,817 at 73,819-20 (final regulations and removal of

temporary regulations, Dec. 12, 2014); Treas. Reg. § 1.6038D-1(b)(2). We note that the Preamble to the Final Regulations

under § 6038D specifically modified the definition of a financial account under the 2011 Temporary Regulations (which adopted

the definition under Chapter four of financial account with an exception for certain retirement and pension accounts) to include

retirement and pension accounts as a financial account for purposes of § 6038D to require consistent reporting. 304 Form 8833: Treaty-Based Return Position Disclosure Under Section 6114 or 7701(b). 305 See IRC § 6114(b); Treas. Reg. § 301.6114-1(d).


54


taxpayer.306 Consequently, USP employee-beneficiaries of an ASF should not be required to disclose

the SSTA on a Form 8833 in order to claim their totalization benefits under the SSTA. In the same

vein, Article 18(2) of the Tax Treaty exempts the SG Trust from current U.S. income taxation.

9.3 Section 409A

In June 2009, the U.S. Advisory Committee on Tax Exempt and Government Entities (“ACT”)

released a report on International Pensions that identified the U.S. taxation of foreign pension plans

as an area that required clarifying guidance from the IRS.307 Specifically, ACT concluded that U.S.

persons who participated in funded non-U.S. retirement plans were subject to U.S. income taxation

under Section 402(b)(4) because the foreign plan could not constitute an exempt plan under Section

401(a).308 ACT recommended that clarifying guidance be issued to confirm that Section 402(b) “was

never intended to apply to foreign plans that were established as foreign nonqualified plans.”309 As a

result thereof, U.S. participants are subject to less favorable U.S. tax rules under Section 402(b)(4),

which taxes the employee on the employer’s contributions to the trust during the applicable tax year

for which the trust is not exempt, to the extent the employee’s interest in the trust is vested.310

The need to issue clarifying guidance to exempt funded foreign pension plans from inadvertent

income taxation under Section 402(b) is more acute with the ASF because it presents a tax issue that

has no precedent in the Code: cash basis U.S. taxpayers are taxed on foreign employer contributions,

which constitute Australian social security benefits that have not yet been paid or made available to

them by operation of Australian law. If no clarifying guidance is forthcoming, this fact alone arguably

raises constitutional problems311 and issues with overall tax fairness. This same issue arises with

respect to the Section 402(b) taxation of employee contributions to the ASF, which have also yet to be

paid or distributed to the U.S. taxpayer.

306 Treas. Reg. § 301.6114-1(c) (vii). 307 See ADVISORY COMMITTEE ON TAX EXEMPT AND GOVERNMENT ENTITIES (ACT), INTERNATIONAL PENSION ISSUES IN A GLOBAL

ECONOMY: A SURVEY AND ASSESSMENT OF IRS ROLE IN BREAKING DOWN THE BARRIERS (June 10, 2009). 308 According to ACT, a foreign funded pension would fail coverage testing required under Section 501(a) because it would not

meet Section 401(a) (26) or Section 410(b); the plan would fail because of the requirement to ignore coverage of nonresident

aliens participating in the plan with U.S. expatriates. Id. 309 Id. at p. 44. See also Letter from ABA Tax Section to Hon. Mark W. Everson, IRS Commissioner (Feb. 22, 2006) regarding

Nonqualified Deferred Compensation Focusing on Foreign Plan Aspects under IRC Section 409A Proposed Regulations

(stating that foreign funded retirement plans such as U.K. and Canada registered retirement plans and like arrangements,

which are already taxable under IRC § 402(b), should be excepted from § 409A since foreign funded retirement plans “are not

the target of IRC § 409A.”). 310 Id. at 43-44. 311 We note that constitutionality issue raised by Mr. Richard Skillman of Caplin & Drysdale in his thoughtful comments to

Treasury regarding Proposed Section 1.4090-4(g) was limited to the issue of income subject to income tax under the Sixteenth

Amendment. See, Letter from Richard W. Skillman, Caplin & Drysdale LLP, to the IRS (Aug. 6, 2010). In his comments, Mr.

Skillman pointed out that income must represent an “accession to wealth,” under Commissioner v. Glenshaw Glass Co., 348

U.S. 426 (1955), for such income to be subject to income tax under the Sixteenth Amendment. In the instant case, the

constitutionality issues are not limited to whether social security benefits and employee contributions to the Super, which are

mere foreseeable and anticipated accessions to wealth, should constitute income subject to income tax notwithstanding such

amounts remain subject to contingencies that may result in nonpayment. See Murphy v. IRS, 493 F. 3d (D.C. Cir. 2007), cert.

denied, 553 U.S. 1004 (2008). Rather, the constitutionality issues also extend to issues with the U.S.–Australian Tax Treaty,

which explicitly reserves taxation of Australian social security benefits paid to a U.S. resident to the Australian Government [Art.

18(2)], and the U.S.–Australian Totalization Agreement, which explicitly prevents taxation of wages subject to Australian social

security taxes from concurrent taxation by the United States.


55


There is precedent for IRS and Treasury excluding foreign retirement arrangements from the

application of U.S. tax law. Most recently this happened in 2007 when final regulations were issued

under Section 409A.312 The final regulations contained a provision which explicitly exempted foreign

nonqualified pensions from U.S. income taxation as deferred compensation under Section 409A if

certain conditions were met. These conditions are that the foreign pension plan (1) have an applicable

tax treaty that excludes contributions made to a foreign nonqualified deferred compensation plan from

U.S. federal income taxes;313 (2) be a broad-based foreign retirement plan under Section 409A;314 or

(3) be subject to a totalization agreement.315 The IRS stated:

Commentators also requested that the amounts contributed or benefits paid under a foreign social security system that

is the subject of a totalization agreement be exempted from coverage under section 409A. ...The Treasury Department

and the IRS believe that section 409A was not intended to apply to benefits to which the service provider is entitled

under foreign jurisdiction social security system. Accordingly, these types of plans have been excluded from the

definition of nonqualified deferred compensation plan for purposes of Section 409A. Similarly, for jurisdictions not

covered by a totalization agreement, these regulations provide that amounts deferred under a government mandated

social security system are not subject to Section 409A.316

312 See T.D. 9321, Application of Section 409A to Nonqualified Deferred Compensation Plans, 72 Fed. Register 19,234 at 19,

244 (Apr. 17, 2007) (codified Treas. Reg. §1.409A-0 through §1.409A-6). 313 See Preamble to T.D. 9321, Section H (1) at 72 Fed. Reg. 19, 244 (Apr. 17, 2007) and Treas. Reg. § 1.409A-1(a) (3) (i). 314 See Preamble to T.D. 9321, Section H (2) at 72 Fed. Reg. 19, 244-45 (Apr. 17, 2007) and Treas. Reg. § 1.409(A)-1(a) (3)

(VI). 315 See Treas. Reg. §1.409A-1(a) (3) (v). 316 See Application of § 409A to Nonqualified Deferred Compensation Plans, 70 Fed. Reg. 57,939 (Proposed Oct. 4, 2005).

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