The National Government today released their second budget. The budget contained significant changes to the tax system following on from the work done by the Tax Working Group (“TWG”).
Summary of tax changes:
1. Reduction in personal income tax rates
2. GST increases from 12.5% to 15%
3. Company and PIE tax rates fall from 30% to 28%
4. Removal of depreciation claims on buildings
5. Removal of loading on depreciation
6. Changes to the QC/LAQC regime
7. Thin capitalisation changes
8. Extra funding for IRD
9. Compulsory zero rating on land transactions – GST
10. Working for Families changes.
The Tax Working Group found that New Zealand’s tax system risked becoming unsustainable and relied too heavily on those taxes most harmful to growth such as corporate and personal income taxes. It also lacked integrity and fairness. The Working Group found compelling evidence of widespread avoidance, mostly through taxpayers exploiting differing tax rates. In addition, sectors with low effective tax rates, notably property, have expanded at the expense of the rest of the economy.
The Government therefore wanted to achieve two key aims; the first being a ‘fair’ tax system, and the second that the budget was fiscally neutral. As a result of the budget it is estimated that all household income groups will receive on average around a 0.5% to 1% increase in their real disposable income.
1. Personal Tax Cuts
Personal income tax rates will be cut from 1 October 2010 as follows:
|$0 – $14,000
|$14,001 – $48,000
|$48,001 – $70,000
The Government’s intention is that lower personal tax rates reward effort and give people an increased incentive to up-skill, develop new products and services, and get ahead under their own steam.
As these rates change part-way through the year, they have some retrospective effect, e.g. the top personal rate for this year will be 35.5%.
2. Rise in the Rate of GST to 15%
GST was implemented introduced on 1 October 1986 and was increased to 12.5% on 30 June 1989. This marks the first increase in the GST rate since then. The rate of GST will increase from 12.5 per cent to 15 per cent from 1 October 2010. The Government’s commentary is that the additional revenue earned from the increased rate of GST will be used to pay for the personal tax cuts.
The increase has serious implications for contracts entered into prior to 1 October 2010 where time of supply occurs after 30 September 2010 – for example construction contracts.
3. Reduction in Company and PIE rates to 28%
In a surprising move the Government announced that the company tax rate would reduce to 28% from the 2011/12 tax year. This move pre-empts the action announced by the Australian Government last week that they would be reducing their corporate tax rate to 28% by 2014 (although the Henry Review recommended a 25% rate in the medium term).
The Government will allow dividends issued after the new company rate takes effect to be imputed at the existing 30 per cent rate for two years if company tax has been paid at the 30 per cent rate.
The Government’s reasons for the reduction are to be closer to the OECD average of 26.3% and to remain competitive with Australia. Furthermore, they believe it encourages investment in New Zealand and creates jobs.
4. Removal of Depreciation on Buildings
Depreciation is allowed as a deduction against income under Part EE of the Income Tax Act 2007. It is supposed to allow a deduction against income for the decrease in value of an asset used in a taxpayer’s business to generate income. A motor vehicle depreciates over time, and the depreciation regime is intended to allow a deduction approximately equal to the reduction in value of the vehicle over the income year.
It was announced today that taxpayers will no longer be able to claim depreciation on commercial or residential rental properties with effect from the start of the 2011/12 tax year where the building has an economic life of 50 years or more.
The TWG’s argument for removing depreciation on buildings is that buildings generally increase in value over time rather than decrease. This, coupled with the fact that taxpayers can claim deductions for repairs and maintenance to repair the building, means that taxpayers have been entitled to a deduction against their income where no economic loss has been suffered.
The Government states that “building owners will still be able to claim deductions for repairs and maintenance to maintain the condition and value of their properties”. They will also still be able to claim depreciation deductions for “fit outs” not considered part of the building. The Government intends to review the treatment of commercial “fit out” and, if necessary, amend the rules prior to 1 April 2011 to address any uncertainty in this area.”
5. Removal of Loading on Depreciation
Businesses will no longer be able to claim the 20% loading on depreciation rates for new assets.
The change will apply to assets purchased after Budget day. The old rates will continue to apply for assets purchased before this date.
The Government’s reason for removing the 20% depreciation loading was because it distorts people’s decisions about what capital assets to invest in. For example, if a business buys a new car or computer it gets the advantage of the depreciation loading, but not if it buys a second-hand piece of machinery. These sorts of distortions have a real cost to the economy.
6. Changes to the QC/LAQC Regimes
Qualifying Companies (QCs) and Loss Attributing Qualifying Companies (LAQCs) will become flow-through entities for tax purposes – similar to limited partnerships. The objective here is to preclude taxpayers relieving income tax at the top marginal rate when there is a loss and paying tax at the corporate rate when the QC has a profit.
Changes will take effect from income years starting on or after 1 April 2011.
7. Thin Capitalisation Changes
The safe harbour in the inbound thin capitalisation rules – or so-called “thin cap” – will be reduced from 75 per cent to 60 per cent. This means foreign owned companies will only be able to claim tax deductions for interest payments on debt up to 60 per cent of their local asset value. The only exception is if the total multi-national group’s debt ratio is higher than this.
8. Extra Funding for IRD
Inland Revenue will get a $119.3 million funding boost over four years, starting in 2010/11, to increase its audit and compliance activity around debt collection, the hidden economy and property transactions.
9. Compulsory Zero-Rating of Land – GST
Last year the IRD released a paper seeking feedback on a Domestic Reverse Charge (DRC) on high value transactions (>$50m) to stop the use of so-called “phoenix” arrangements. It seems that the submissions made were not in favour of a DRC for several reasons; one being that there was already a mechanism under the Goods and Services Tax Act where a transaction could be made without giving the purchaser a large input credit, namely a zero-rated transaction.
Previously zero-rating was only available for the sale of going concerns (amongst other transactions) and there has been widespread confusion as to when a transaction can be zero-rated. Despite this, however, it would appear that the Government favours zero-rating land transactions, announcing today that transactions between registered persons involving the transfer of land will be zero-rated for GST. This change will take effect from 1 April 2011.
10. Changes to Working for Families
There have been some major changes to how Working for Families (WFF) will be calculated. Investment losses, including losses from rental properties, will no longer be able to be used to reduce family income and therefore enable eligibility for WFF payments from 1 April 2011.
Furthermore, trust income will be counted as part of a family’s total income for the purposes of WFF from 1 April 2011.