TaxBlog

Given S & P recently put NZ on a credit watch negative suggestions are arising that we need to trim our budget deficits.

Several changes have been mooted this morning by John Whitehead in this NZ Herald article.

Whitehead said tax was one of a number of important policy areas. Although the company tax rate was reduced to 28 per cent in the Budget, it was not low by international standards.

The Savings Working Group was looking at a range of options for reforming capital taxation as a means of promoting savings and investment.

“And, as you are probably already aware, the Treasury has previously explored the introduction of a capital gains tax as a means of removing significant distortions from the tax system.”

Is anyone else confused? in an article about reducing the deficit he is discussing cutting the corporate tax rate.

28% represents a move in the right direction, especially as it is lower than Australia at 30%.

If we were to reduce it to 25% over the next 5 years or so then we would be able to convince Companies to move from Australia to NZ, becoming the finance hub John Key wants us to be.

Chris

Bookmark to:
          

There was an interesting article in the Herald yesterday showing that majority of people are unhappy with the tax changes.

A nationwide HorizonPoll survey of 1558 people between November 16 and 19 found 8.2 per cent felt better off because of the changes, 53.5 per cent thought they were worse off while 35.6 per cent felt their situation was unchanged.

Of lower income households, 71.5 per cent earning less than $20,000 a year felt worse off while 60 per cent of those earning between $20,000 and $30,000 felt the same.

Among households earning between $100,001 and $150,000, 39.3 per cent a year felt worse off (19.6 per cent better off) and 53.2 per cent of those in households with incomes of $200,000 plus felt worse off (24.6 per cent better off).

Of households earning $30,000 to $50,000, 5.5 per cent felt better off, 54.3 per cent worse off.

Among middle-income households earning $50,001 to $70,000 a year, 11 per cent felt better off, 45.9 per cent worse off.

A further poll on the Herald website shows that the split is more 50/50 than the Horizon Poll and at the time of writing had 12,000 votes.

I find these results surprising as the middle classes would be significantly better off under the tax realignment. How much you are better off, depends on what percentage of your income you spend of course, and an earlier survey showed most people were using their extra money to pay off debt. That being the case they would be better off after the changes.

Perhaps the poll results show a perception problem for the Government, that the increase in GST attracted more headlines than the decrease in PAYE, or perhaps the left did a good job in convincing workers that the tax cuts benefited the rich.

Personally I think the move was in the right direction, although the timing of the GST increase hits hard especially at the petrol pump where prices had only recently increased due to the carbon tax. In a recession perhaps putting a greater price on spending is the way to help realign Kiwis behavior.

Chris

Bookmark to:
          

The Government announced in the 2010 Budget that changes will be made to the QC / LAQC regime with effect from the first tax balance dates commencing on and after 1 April 2011.  Legislation for the changes is expected to be passed by Parliament by year-end.

Shareholders will have the following options in the transitionary rules under the proposed QC changes:

(a) Elect for the company to become a “Look Through Company” (LTC)

If you elect LTC, any profits of the company will be taxed to the shareholders at the shareholder’s marginal tax rate based on their shareholder interest in the company.  Any tax loss transfers to shareholders based on their shareholding in a similar manner to LAQC losses, provided the shareholder’s share of the tax loss does not breach the loss limitation rules being similar to that applied to limited partners in limited partnerships.  Any unused tax loss carries forward to the next tax year.  The sale of shares in the LTC will be treated as a sale of that person’s share of the underlying assets and liabilities subject to a de minimus rule.

For existing QCs and LAQCs, the election to be a LTC must be signed by all shareholders and filed with Inland Revenue within six months of the existing LAQC legislation ceasing to apply, i.e. by 30 September 2011 for a 31 March 2011 tax balance date company and 30 June 2012 for a 31 December 2011 tax balance date company.

The election must be signed by all shareholders and, for under 18 year old shareholders, a guardian, and shareholders with legal incapacity, their guardian, holder of Power of Attorney or legal representative.

To be a LTC the company must have:

-       one class of share;

-       must be a New Zealand resident company;

-       must have five or fewer shareholders where relatives are counted as one person.

Where a QC’s shareholders’ elect the company to be a LTC, the shareholders are jointly and severally liable for any unpaid PAYE and treated as one employer for PAYE purposes using the company’s name.

Any tax losses carried forward by an existing QC will be transferred to the shareholders in the LTC based on their effective interest.  The shareholder can only use the QC tax losses against taxable income from interests held in LTCs.

(a) Transfer the QC / LAQC activity

Existing QC’s / LAQC’s can transfer into a limited partnership, ordinary partnership or natural person sole trader with no tax cost.  The assets will transfer at tax values where the acquiring person is deemed to own the asset from the date the QC originally purchased it.  The QC / LAQC will need to either be liquidated or be registered as a non-active company following transfer.

For shareholders in QC’s / LAQC’s with negative equity (insolvent companies), it may be necessary to recapitalise the QC /

LAQC to avoid taxable income arising on liquidation from debt remissions.

The QC status must be revoked and, prior to this, the Commissioner must receive notice that the transfer to sole trader or partnership is intended.  The sole trader must be the only shareholder on 31 March 2011 or the first balance date falling after 31 March 2011 for those companies with non-31 March approved balance dates.

Similarly, the partnership acquiring the company’s activity must be made up of the same persons with the same percentage entitlements they had              in the QC.

Care will need to be taken if this option is being adopted and professional advice sought.

(a) Revoke the existing QC status

Revoke the existing QC status effective from 1 April 2011 and have the company treated as a normal company for income tax purposes.

(b) Do nothing

Do nothing in which case the company remains a QC and is no longer a LAQC.  This means the company pays tax on its profits (28% tax rate) and retains any tax loss for use against future taxable income.  Dividends from the QC will continue to be taxable to the extent the dividend can be fully imputed and be exempt tax to New Zealand resident shareholders to the extent the dividend cannot be fully imputed.

From the announcements to-date we expect many shareholders in QC / LAQCs would likely decide to take no action and maintain the existing QC status.  For those companies that are trading at a loss, and solvency issues are arising as a consequence, we would suggest shareholders / directors consider increasing the share capital of the company to such an extent that company borrowings can be repaid / reduced to a level that the company can then operate at a net profit.

The interest on bank debt that a New Zealand resident shareholder incurs in order to acquire the new shares on issue should be tax

deductible to the shareholder.  Any non-cash dividend that the shareholder benefits from sourced from a QC is offset against any interest deduction or share finance to fund shares in a QC that the shareholder is entitled to for income tax purposes.

For QC / LAQCs owned by trusts, the preferred option may be to revoke the QC status effective 1 April 2011 so that the company is taxed under normal rules and take appropriate action to ensure the company’s debt is reduced sufficiently to enable the company to trade at a profit.  This aspect can be discussed further with us.

The nature of a LAQC’s business activity will determine the action to take.  For a trading company where limited liability is important, the options are either to elect LTC status, limited liability partnership status or remain as a QC.  Converting to a limited partnership may be costly as the existing LAQC must be either liquidated or be registered as non-active with the result there may be legal expenses on conveyance of property and refinancing loans from the LAQC to the limited partnership.

For those LAQCs with rental properties, if it is not possible to refinance loans to the company to shareholder loans to acquire shares, then a conversion to either LTC registration or sole trader / partnership consisting of existing shareholders in the LAQC within six months of LAQC status ceasing may be the appropriate option.

The Government is proposing a review of the tax rules for dividends paid by closely held companies and further changes to the taxation of QCs may arise at that time.  In brief, a closely held company is a company where five or fewer natural persons hold a combined voting interest in the company of more than 50% which is similar to the rules to be a QC (i.e. shareholders limited to five, treating parents and their children as one shareholder).

A review of QC / LAQCs should also be made prior to 31 March 2011 to ascertain whether dividend distributions of equity should be made prior to the new rules coming into force, especially where the company has unimputed retained earnings and capital gains and the shareholders / directors will likely elect to revoke the company’s QC / LAQC status.

Bookmark to:
          

BUDGET ANNOUNCEMENTS

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:

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.

Bookmark to:
          

Brahma Sharma the Partner in Charge of tax at KPMG has said:

Braham Sharma, senior tax partner at KPMG, said the New Zealand business tax rate was now well above the average 29.99 per cent across the Asia-Pacific region and the 30 per cent rate in Australia.

Companies looking to invest in other countries looked first at headline corporate tax rates and then to investment and tax incentives, such as tax holidays and accelerated depreciation provisions, he said.

Generally, New Zealand did not offer incentives and its tax rate was relatively high, which put it behind other countries looking to invest here, he said.

This comes after KPMG’s recently release global tax survey.

What I find interesting about this story is that KPMG has of late been seeking more publicity. Murray Sarelius published an article in the NZ Herald last week on the how the new tax rules will affect international expatriates. KPMG seem to shy away from publicity and it is usually PWC’s tax partner John Shewan who is quoted. It will be interesting to see if the trend continues, or if theses were two one off events.

Bookmark to: