Tax News

Government announces a new business loss continuity rule

8 Mar, 2021 | The Week in Tax

  • Government announces a new business loss continuity rule
  • US drops ‘safe harbour’ demand as progress made on new international tax framework
  • UK Budget has inheritance tax and capital gains tax implications for Kiwis and includes surprise Corporation Tax increase

Transcript

At last week’s International Fiscal Association conference, Revenue Minister David Parker announced that the Government would be proceeding with a new business continuity test to enable tax losses to be carried forward. The general rule is that for tax losses to be carried forward, at least 49% of the shareholding in the company must remain the same between the date the losses arise and when the losses are to be used.

Now, this is regarded as one of the most stringent loss continuity tests in the world, and it has been seen as an impediment for businesses trying to obtain capital in order to innovate and grow their growth.

Companies in their early stages may rack up a lot of losses, but if they want to attract capital and investors shareholding changes may mean a loss of accumulated tax losses. So there’s been pressure for some time to think about easing these restrictions and adding a what we call business continuity test.

The Government announced as part of its initial Covid-19 response last year that they wanted to have a new regime in place. And work has been going on in the background since April last year. They’re now saying that the legislation will be introduced later this month in a supplementary order paper for the tax bill currently going before Parliament, the Taxation (Annual Rates for 2020-21, Feasibility Expenditure, and Remedial Matters) Bill.

The idea is a similar business test will now be able to apply, and even if the 49% threshold might have been breached, the company may continue to carry its losses forward after a change in ownership as long as the underlying business continues. Now, similar tests apply in Britain and in Australia, and the Australian test has been used for the purposes of designing our legislation.

The principle is that losses will be carried forward unless there’s a major change in the nature of the company’s business activities.

In determining this, you’d look at the assets used and other relevant factors, such as business processes, users, suppliers, market supply to and the type of product or services supplied.

There is an expectation that the test will run for the time from the ownership change, which brought about a 49% breach of shareholding continuity, as we call it, until the earliest of the end of the income year in which tax losses are utilised or at the end of the income year, five years after the ownership change. This is subject to one or two exceptions as well as a specific anti avoidance measure to prevent possible manipulation of the rule.

The rule would appear to be retrospectively applicable from the start of the current tax year or 1st April, 2020 for most businesses. But that’s not absolutely specifically spelt out, but is implied by the commentary we’ve received. We’ll know for sure when we see the final legislation in the next week or so.

This is a very positive measure. It’s been one that businesses have been asking for for some time, particularly those in their high growth tech sector, where they rack up a lot of losses during  development before switching to substantial profitability. But they’ve been unable to attract or had difficulty attracting investors because of the existing loss continuity rules.

The fiscal cost is actually quite modest. It’s estimated to be about $60 million per annum, which still does beg the question that perhaps this could have been addressed much sooner. It’s certainly been on the wish list for a lot of investors for some time and was a matter we raised on the Small Business Council.  It’s a good development and I imagine that it will be taken up with some enthusiasm.

The US changes its tune

Moving on, I’ve recently discussed the issues around the taxation of digital companies, particularly in relation to Facebook’s stoush with the Australian government. The OECD, as I mentioned in previous podcasts, has been working through what it called a new global framework and two options to this Pillar One and Pillar Two.

This week, there was a major development with the US Treasury Secretary, Janet Yellen, (the equivalent of the finance minister), telling G20 officials that Washington was going to drop the Trump administration’s proposal to allow some companies to opt out of the new global digital tax rules. And this was clearly seen as an impediment to getting these rules through. But the fact that these have now been dropped and that the US is no longer advocating for a safe harbour in relation to Pillar One is very important.

So that’s a very positive development. As I said, in relation to the Facebook and Australia stoush, some form of taxation probably would have been a better approach to the matter than what has been proposed by the Australian government.

UK Budget implications

And finally, on Wednesday night, our time, the UK Budget for 2021 was released. Now, this is of more importance to Kiwis than people might realise because of the global reach of UK capital gains tax and inheritance tax in particular.

To recap, anyone who owns property, commercial or residential in the UK is subject to capital gains tax on a disposal of that property.  So this would affect the some 300,000 Britons or people of British descent like myself who live here in New Zealand. But it also affects Kiwis who come back from their OE but have retained a property for whatever reason in the UK.

The other significant UK tax issue, which I’m seeing a lot more of, is Inheritance Tax. And this applies globally to anyone who has a UK domicile (which is a different concept from tax residency) or assets situated in the UK. Inheritance Tax applies at a rate of 40% on the value of an estate greater than £325,000 (what we call the Nil Rate Band).

But the UK budget has frozen the Inheritance Tax nil rate band at £325,000 right through until 2026. The annual capital gains allowance is also going to be frozen for a further five year period.

One of the things that is perhaps not really appreciated is anyone who is deemed to have a UK domicile are taxed for Inheritance Tax purposes on their global assets. And with the fall in the value of sterling to below two dollars to the pound, combined with the incredible rise in the value of New Zealand property, what I’m seeing is that people now have potentially significant Inheritance Tax issues. Property prices in the UK have not accelerated anywhere near to the fashion that has happened here. To give you an example, I came across this week a client with a London property valued in April 2015 at £775 ,000. Its current value is just £765,000 pounds. In other words, over six years it’s gone backwards. Compare that with what’s going on in the New Zealand market.

So there’s an increasing number of New Zealanders and Britons who have potentially Inheritance Tax liabilities. And they also will face capital gains tax if they decide to dispose of those properties.  One of the things that’s also increasingly coming into play will be the information sharing under the Common Reporting Standards and The Automatic Exchange of Information. This means the UK HM Revenue & Customs and Inland Revenue here will have a greater understanding of who owns property in which jurisdiction.

So, as I said, this British budget may seem far away, but it’s actually incredibly important to a significantly greater number of people than you might imagine.

There’s also one other thing that’s come into play, which has been a surprise to the tax community and that is the British Government have signalled an increase in the corporation tax rate from its current rate of 19% to 25% for businesses with net profit in excess of £250,000 from 1st of April 2023. That’s a very significant increase. The other thing that the British have also kept in place is what they call a diverted profits tax, of which remains at 6%. This is an anti-avoidance measure aimed at multinationals.

Incidentally if Grant Robertson and Treasury are looking for ideas the UK also has a bank corporation tax surcharge of 8%. This is something which if introduced here would probably be quite popular.

The proposed increase in corporation tax rates is a surprise. But I think this is something that’s gradually become inevitable.  In the wake of both the GFC and Covid-19, government budgets are so badly shot that they need to restore them with significant tax increases at some point. Whether any such increases flow through here to the extent of what’s just happened in the UK remains to be seen. But as always, we’ll keep you abreast of developments.

That’s it for this week. I’m Terry Baucher and you can find this podcast on my website www.baucher.tax or wherever you get your podcasts.  Thank you for listening and please send me your feedback and tell your friends and clients. Until next week Ka kite ano!

Observations on the International Fiscal Association conference

2 Mar, 2021 | The Week in Tax

  • Observations on the International Fiscal Association conference
  • Covid Resurgence Support Payments applications go live
  • Inland Revenue/Treasury analysis of wealth in New Zealand causes a stir

Transcript

Last week I was in Queenstown at the International Fiscal Association’s annual conference. This is probably the most attended tax conference in New Zealand for anyone interested in tax policy.

Traditionally, the conference is opened by the Minister of Revenue, and the Commissioner of Inland Revenue Naomi Ferguson attends together with many of the most senior Inland Revenue policy officials, many of whom make presentations on matters of tax policy.

The conference is held under Chatham House rules, which means I can’t actually say too much about what was said in some presentations, but that does mean there’s a fairly open and robust debate about tax policy, and that is helpful.

Topics on the first day included the implications of the new 39% tax rate, Inland Revenue’s compliance programme (which actually referenced last year’s podcast episode with Andrea Black on the topic), the Taxation of Property, Digital Services Tax, and Anti Avoidance.

Now, last week I said I foresaw issues around actions being taken ahead of the increase in the 39% tax rate. And what was said at the conference has reinforced my concerns.

For example, people will need to look ahead and consider carefully how a change in a shareholder employee’s salary will look to Inland Revenue.

The general consensus, by the way, was that paying dividends before the 31st March year-end should be OK. But I was one of the sceptics because my view is Inland Revenue might ask “You paid a very large dividend last year. Why didn’t you pay a very big dividend this year when you could.”  So all that remains to be seen.

But there’s also a point I hadn’t previously considered. There’s also potentially going to be some very adverse FBT implications if employers are not careful.

This is because the FBT rate will also increase from 49.25% to 63.93% for those receiving benefits who are earning more than $100,000, actually some $132,000.

There’s a risk, therefore, that an employer may apply the new rate to all employees with vehicles rather than just those earning above the threshold. What that means is, there could potentially be some quite significant overpayments of FBT. The problem is managing FBT is very complicated. There’s the matter we’ve talked about previously about what is a work-related vehicle, for example.

But leaving that aside, how you actually go about applying the relevant rates of FBT is complicated. The FBT rules have been around relatively unchanged now for 30 odd years, so as one presenter said it’s probably time to have a closer look at these rules apply and operate.

Inland Revenue intervenes earlier

Moving on, applications for the COVID-19 resurgence payment went live on February 23rd. Now as of 7.30 Thursday morning, 9,500 applications for a total of $28 million had already been received and Inland Revenue had disbursed $6 million. The Commissioner of Inland Revenue and the Minister of Revenue in his opening remarks, both praised the efficiency of the new Business Transformation programme, which has enabled them to deliver very quickly things like the COVID-19 Resurgence Support Payment.

Now, I don’t think the Commissioner will mind me revealing that Inland Revenue had also already picked up what they considered a number of clearly fraudulent applications for the COVID-19 resurgence payment. So clearly the real time data enables them to deal with these applications very quickly, but also identify much more quickly where there’s something wrong.

Inland Revenue looks at ‘wealth’

The new Minister of Revenue, David Parker is also the Associate Minister of Finance, a continuing role from the last Government. Last year in his role as Associate Minister of Finance, he asked Inland Revenue and Treasury to undertake an analysis of wealth in New Zealand. And the report that was prepared for him in August 2020 was released as part of a story on Thursday.

The headline in the paper was that the wealthiest New Zealanders’ average tax rate was 12% on their total income. For this purpose income means all economic gains, including for example untaxed capital gains.  Inland Revenue and Treasury’s definition of the wealthiest New Zealanders means anyone with net wealth exceeding $50 million dollars or more. The report noted that once you included all economic gains then 42% of this group were paying a lower tax rate than the 10.5% starting income tax rate on the first $14,000 of income.

Now, there’s quite a lot to digest in this report and the related fallout is already quite widespread. On Thursday I finished up speaking to Radio New Zealand’s The Panel on that matter and also to Stuff about it. This is just another instance of the ongoing debate around the taxation of capital. Now, the taxation of capital wasn’t a topic that appeared on the International Fiscal Association’s conference this year, but I imagine it will be at some point.

There was a paper on property taxation presented by Young IFA (one of the presenters of which included another previous guest of this podcast, Nigel Jemson.)The presenters were basically saying the taxation of property is an issue we’re going to need to think about changing, and offering up some options.

But one of the things that this survey highlighted is something that I’ve mentioned previously, and that’s we don’t actually have a lot of very good data in this area. The work that was done did included extrapolating data from the NBR’s Rich List along with data from held by the Reserve Bank of New Zealand and income included in tax returns.

There’s an ongoing controversy about the level of taxation paid by the wealthy.  This is slightly distorted by the fact that the wealthy have investments in companies both listed and in their own trading companies. Now, those companies have paid tax imputation credits, but they haven’t distributed them. So there’s a latent amount of taxes which has already been paid and a second layer of tax representing the difference between the company tax rate of 28% and the personal rate will then kick in when the dividends are paid out. An interesting point of note is the top one percent in New Zealand apparently owns close to 70% of all listed companies on the stock market. Their portfolios are obviously much more diverse.

A distorting differential

And this differential emerging between the company income tax rate of 28% and the top individual tax rate of 39% was something that was discussed at the IFA conference. But another presenter pointed out something that has been going on for a long time, and that is if you look at the distribution of taxable income and what you do see is a bell curve with two big spikes and those spikes are around $48,000 of income, which is when the tax rate goes from 17.5% to 30% and around $70,000 when it goes from 30% to 33%.  What’s more these have been in the system for some time.

And it was this which prompted me to say that there does appear to be some income manipulation going on in the self-employed sector. There’s one estimate provided recently to the Tax Working Group which said that the self-employed may be paying 20% less on average relative to someone earning income subject to PAYE.

So there’s going to be an ongoing debate around the taxation of wealth. There’ll be focus, obviously, on the extremely wealthy and we need to know more about what wealth they hold and how it is held.

But we might also see Inland Revenue start to look at this issue of who is reporting income around the $70,000 threshold. It’s quite conceivable, in fact, that people will not do too much around the increase to 39% for income above the $180,000 threshold because it’s obviously going to draw attention.  However, the evidence seems to be that some manipulation has been going on at lower levels of income without attracting too much attention from Inland Revenue and that may change.

And on that note, that’s it for this week. I’m Terry Baucher and you can find this podcast on my website www.baucher.tax or wherever you get your podcasts.  Thank you for listening and please send me your feedback and tell your friends and clients. Until next week Ka kite ano!

An overview of the new Covid Resurgence Support Payment

23 Feb, 2021 | The Week in Tax

  • An overview of the new Covid Resurgence Support Payment
  • What could be the implications of Facebook’s actions in Australia
  • Pre-31st March year end tax planning

Transcript

On Wednesday, the Government passed under urgency, the Resurgence Support Payments bill.

This was introduced in the wake of the move to level three and then level two lockdowns in the Auckland region. This had been in the works for some time, but then just got pushed through under urgency following what we might call the Valentine’s Day mini outbreak.

Resurgence supports payments may be applied for if there is an increase in the alert levels from Level 1 to Level 2 or higher and the alert level remains higher than Level 1 for seven days or more.

It’s going to be available to all businesses in New Zealand each time it activates. So even though Auckland went into a Level 3 Lockdown and then back down to Level 2, because a lot of tourism is currently dependent on tourists from Auckland, the resurgent supports payments will apply nationally.  This is a wise move, which cuts down a lot of administration, but also reflects the fact that Auckland is a prime source of tourism for the very weakened tourist industry.

Businesses are able to apply if they’ve experienced a revenue decrease or a decrease in capital raising ability of at least 30% due to the increase in the alert level. And they need to measure their revenue for that 30% fall over a continuous seven-day period where the first day is on or after the first day of the increased alert level. All seven days must be within the period of the increased alert level. The affected revenue period then needs to be compared against a regular seven-day revenue period that starts and ends in the six weeks prior to the increased alert level.

This scheme is going to be administered by Inland Revenue rather than the Ministry of Social Development as happened with the wage subsidies. Applications should be made through myIR and Inland Revenue is expecting that people receive the resurgence support payment within five working days of their application.

The payment must be used to cover business expenses such as wages and fixed costs. Note that this isn’t a wage subsidy per se, it’s a support payment. And that possibly explains the slightly unusual change from the previous wage subsidy in that this payment is subject to GST now.

Although no income tax deduction will be available for expenditure relating to use of the resurgence support payment, GST registered businesses will be able to claim input tax deductions for any expenditure funded by the resurgence support payment. In other words, if you pay the rent using the resurgence support payment, you won’t get an income tax deduction for it, but you will still be able to claim a GST input tax credit.

The payment consists of a base amount of $1,500 dollars per applicant, plus $400 per full time equivalent employee, up to a cap of 50 full time employees. Although payments are capped at 50 full time employees, businesses with more than 50 full time employees may still apply.

There is a further cap in that the amount an applicant may receive will be the lower of the base amount and four times the amount their revenue has declined, as declared by the applicant as part of the application. And I can see Inland Revenue having a bit of work going on in years for larger scale applications here.

Anyway, the measure is now in place and fortunately everyone within the Auckland region, because they are still in level two, will be able to apply for this because they have been at an Alert Level higher than Level 1 for the required seven-day period. I imagine there will be further tweaks to the scheme as we go forward in the event of further outbreaks.

Facebook gives Australia the fingers

Moving on, yesterday across the Ditch, Facebook announced that …

“due to new laws in Australia from today, we will reluctantly restrict publishers and people in Australia from sharing or viewing Australian and international news content on Facebook.”

And with that, it stopped any sharing of Australian news media sites and indirectly, some New Zealand sites could be affected as well.

Now, this stoush has been brewing for some time. The Australian Government is trying to force Google, Facebook and other tech giants to pay more for the media content. Google has played along with this proposal. Microsoft, which runs the Bing search software, is also playing along. But Facebook has pushed back very hard and decided to go very hardball with this move.

Now, barely two years ago, Facebook literally made blood money about live streaming the Christchurch massacre and then wrung its hand about the difficulties of taking down such abominations. But yesterday it basically was able to switch off all of Australia’s major media sites on Facebook just like that. And I’m sure there will be a few pointed comments made about that.

I can’t see how such outrageous behaviour will not draw a strong response. And this is where I think from a tax perspective, things may go. The Australian government has previously been lukewarm about a Digital Services Tax, but Facebook’s actions might prompt a rethink. The Australian Tax Office has done some work on this, and there might be a bill lying around which could be introduced at the drop of a hat in effect saying, “Here, stick this up you”.

Incidentally, during this whole run up to this stoush erupting, at least one tech commentator suggested that a DST would be a better approach instead of what the Australian government was trying to do. We’ll see how this all plays out and it’s going to be very interesting to watch. Facebook just lifted the stakes considerably.

There are, according to the OECD, about 40 countries either with an active DST or considering introducing one. Maybe Australia is about to become number 41.

KiwiSaver makeup

Now, briefly following up from last week’s podcast, Inland Revenue is to pay approximately $6.6 million to compensate over 640,000 KiwiSaver members whose employer contributions were delayed in getting to the providers. Now, this happened last April, when Inland Revenue moved KiwiSaver to its new Business Transformation START platform. And for some reason there was a delay in passing on employer contributions to people’s KiwiSaver accounts.

This story reports delays of as much as six months or more. So people lost out on investment performance over that time. And during that time, the use of money interest rate paid by Inland Revenue dropped to zero which would have been the usual way of compensating for the delay.

Instead, what’s going to happen is Inland Revenue has been given approval to make ex gratia payments of about $6.6 million in total. This is a slight bit of a disappointment for Inland Revenue because as I said, by and large, the Business Transformation programme, controversial as it is, has worked relatively smoothly and improved processes. It’s certainly not a Novopay scale disaster, but it’s just another sign that sometimes with IT projects things go wrong.

End of year planning

And finally, the 31st March tax year end is fast approaching. So it’s time to start thinking about what steps could be done in advance of that. Now, there’s a couple of things in particular people might pay attention to.

Firstly, you have until 16th March to make use of the $5,000 threshold for “low value assets”. Under this you get a full write off for assets up to the value of $5,000 acquired on or before 16th March.

This is an emergency measure introduced a year ago as part of the Government’s initial response to Covid-19. So now’s a good time to see if there’s equipment you want to replace or upgrade and take a full write off.

For assets purchased on or after 17th March, that threshold of $5,000 will be reduced to $1,000 going forward.

Now, the other thing to think about is tied in with the forthcoming increase in the personal tax rate to 39%. And the suggestion would be that companies might want to think about paying dividends out to use imputation credits prior to that date so that the shareholders are taxed at 33% rather than 39%.

Sometimes you might pay a year-end dividend anyway because that’s just part of the regular distribution pattern. But you might also do so because the shareholders might have an overdrawn current account which you want to get into credit.

The thing that complicates matters this year is whether such a move might represent tax avoidance. I don’t believe so. But one thing people must keep in mind is that as part of the increase in the tax rate to 39%, trusts have to provide more information about distributions they’ve made in prior years. So as the commentary on the tax bill said, “this is expected to assist in understanding and monitoring the changes in the use of structures and entities by trustees in response to new 39% rate.”

And that’s what gives me pause for concern about paying large dividends before 31st of March. If there isn’t a regular pattern of large dividends before the increase and then a large dividend isn’t repeated after the rate increase, Inland Revenue may look to argue tax avoidance and effectively tax retained earnings. So approach that one with caution.

I think this is a point where Inland Revenue really needs to come out and be very clear about what is going to happen with dividends paid by companies to trust shareholders, which aren’t then distributed.  I think you’ll have a problem if the pattern was previously such dividends were distributed by the trust, maybe less so if that wasn’t the case. Again it’s a question of watching this space. And we’ll bring you developments as and when they happen.

Well that’s it for today, I’m Terry Baucher and you can find this podcast on my website www.baucher.tax or wherever you get your podcasts. Thank you for listening and please send me your feedback and tell your friends and clients. Until next week Ka kite ano!

More on the state of Inland Revenue’s Business Transformation

15 Feb, 2021 | The Week in Tax

  • This week more on the state of Inland Revenue’s Business Transformation programme
  • Grant Robertson’s warning to property speculators
  • Inland Revenue’s latest view on tax avoidance.

Transcript

Inland Revenue for the past five years has been involved in a huge upgrade of its capabilities, what it calls its Business Transformation project.  This has been described by Treasury as “complex, high risk and fiscally significant”. The budget for the project is $1.8 billion and it’s now into its final stages with the expectation that it will all be complete by early 2022.

Given the sheer scale of the project, Inland Revenue has been monitored very closely on its progress by Treasury and it also has to provide regular reports to Cabinet.

The transformation status update for October and November 2020 has been published, and it makes for interesting reading.

The status of the programme is said to be light amber overall, which means that there are minor issues in some areas that can be resolved at the programme level.

What would be encouraging to Cabinet is that the project as of 30 June 2020, is $120 million dollars under budget. The cumulative spend to 30 June 2020 is $1,122 million and Stage Four, which is expected to be completed next year, is expected to cost a further $296.5 million.

IT projects will always attract a fair amount of criticism because they can and do overrun on costs substantially. It’s perhaps an unfair comparison, but it was interesting to see this morning that the costs to date of the Covid-19 tracer app have been estimated to be $6.4 million so far. Now in fairness, the Covid-19 tracer app involves a significantly smaller scale of complexity than designing a system that’s going to manage the tax affairs of six, seven or eight million taxpayers and has $80 billion plus running through it each year.

But at this stage, it would be fair to say that Inland Revenue seems pleased with the project’s progress so far given its budget and expectations. Although the latest update does state, “The temptation to overstretch Inland Revenue capability should be resisted until Business Transformation is closed.” In other words, we can do a lot more now, but don’t be expecting us to do heaps more straight away.

But the more interesting document released at the same time was the Programme Business Case Addendum on Business Transformation.

What makes this particularly interesting is it gives more detail about what’s been happening and sets out more reasons why the project is needed and the economic benefits for the Government.

These programme business cases are prepared annually, the previous one was prepared in October 2019 and this one in October 2020.  The most significant update is to the economic case. The commercial and management cases have also been updated, but no changes have been made to either strategic or financial cases for the project.

Digging into the document, you get an idea of Inland Revenue’s improved capabilities. It talks, for example, at some length about how it responded to the implementation of the Small Business Cash-Flow scheme. The scheme went live at one minute after midnight on 12th May 2020. Now it was 39 working days after the initial decision to begin some work, and then was just 10 working days from when the Government confirmed its intention on April 25th to when the scheme was launched.

In its first five to 10 minutes, it received 43 applications and by 1.20 AM, i.e. just a little bit more than an hour or so after it was launched, it had already received 600 applications. As of 9th October 2020, Inland Revenue had received 104,000 applications and approved $1.6 billion in loans. As I’ve said before and am happy to say again, the Small Business Cash Flow Scheme is a very successful scheme and Inland Revenue do deserve a lot of credit for getting this up and running so quickly.

There’s a few wee snippets of things in the system that will need to be improved. The tax system overall. For example, you may remember that back in 2019 it emerged that a considerable number of people – 1.5 million in total – had the incorrect prescribed investor rate. Now, Inland Revenue got onto this and sent out 1.5 million letters saying, “Hey, you’ve got the wrong rate, either too low or too high so you need to contact your KiwiSaver provider to change it”, but only 15 per cent did so.

Fortunately, the law has been changed so that overpaid tax can now be credited, whereas previously if you’d overpaid under the prescribed investor rate regime, you lost it. So, that’s a good result.

But more importantly, and picking up a point I made last week, that the Inland Revenue tax policy work programme includes a look what is going on with charities –  the donations tax credits process has been revamped. For the year to 31 March 2020, Inland Revenue identified 31,000 claims worth $23 million that were either an error or fraud in its view. And of that, 3,000 claims totalling $4.1 million were referred to audit teams to investigate.

So Inland Revenue’s ability to pick up and identify errors earlier and respond more quickly has been enhanced as a result of Business Transformation. Again, what you would hope to see and so far, so good.

The document sets out what Inland Revenue sees as the main benefit areas for the Government and who it calls “customers.” (In this document, customers are referred to 32 times and taxpayers just once). The main benefits are that it’s going to be easier for taxpayers, and the revenue system is much more resilient. You do wonder what could have happened to the old system given its state if a determined hacker had had a go. The Government now has greater ability to implement policy and that’s very significant.

And then it gets into more nonmonetary and monetary benefits which is where it gets particularly interesting. It says the compliance effort has been reduced for small to medium sized businesses. Now, the methodology here is a little outdated. Inland Revenue hasn’t run an up to date survey, but it does estimate that the median time SMEs spent on meeting their tax obligations was 36 hours back in 2013. It’s expecting that Business Transformation will reduce that by 10 to 26 hours a year. And the cumulative value of the time saved will be over $1.3 billion dollars. It will run a new survey on this later this year.

The big expectation is that the amount of assessed crown revenue will increase $2.8 billion 30 June 2024. And that’s a result of the efficiencies brought into the system, allowing earlier identification of non-compliance as well as easier compliance.

So far, Inland Revenue estimates that to 30 June 2020 it has achieved $280 million of that $2.8 billion. This means over the next four financial years to 30 June 2024 it expects to achieve nearly $2.6 billion dollars of additional revenue.  In the year that ends on 30 June this year there will be another $290 million found. Then it substantially jumps up over the next three years with $600 million in the year to June 2022, $750 million in the year to June 2023 and almost one billion dollars in the year to June 2024. That’s a fairly significant amount of money coming in over the next three or four years, which Grant Robertson will be very grateful about. So Inland Revenue has made a rod for its own back, if you like, in terms of these ambitious additional tax revenue it expects.

Now, the other big benefit, and this is a source of some controversy when I spoke about before Christmas, is the cumulative administrative savings Inland Revenue expects to deliver. By June 2024 these are supposed to amount to $495 million.

Now, as of the date of this report, it’s ahead of target, having achieved savings of $118 million compared to the target of $95 million. But it fell short by some $23 million of its target of $80 million for the year to June 2020. Inland Revenue is therefore hoping to save a further $370 million in the next four financial years, so the pressure will be on in that regard. So again, you can expect the Government and ourselves to be paying particular attention to how that is progressing.

But there’s one controversy about Business Transformation that I think’s important. The whole project cost has been enormous. And one of the concerns I would have about this is that New Zealand businesses – that is New Zealand owned businesses – have by and large not had a great deal of input into this.  According to this report, about where it is spent between July 2014 and 2020 and where Inland Revenue spent more than $500,000 on contractors and consultants providing services across Business Transformation the total percentage spend on New Zealand companies was 36%.

Now, if you include companies/contractors resident for tax purposes in New Zealand, then the total New Zealand percentage spend rises to 73%. In other words, although the Government has passed money through Inland Revenue to a business which is overseas owned, that income, by and large, will be taxed in New Zealand. To give you some idea of just how much might be involved according to Inland Revenue’s June 2020 annual report the total spend for contractors and consultants was just under $183 million.

That’s down, by the way, from $206 million dollars in the June 2019 year.

Now just picking up a point from my time on the Small Business Council, this is an area where we saw a lot of frustration from small businesses. They felt they could not get through to deliver services to the Government because of what they saw as excessive gatekeeping and bureaucracy involved in the industry.

New Zealand has a great IT industry just picking up and getting that point about the Covid-19 app that cost $6.4 million which is absolute peanuts. Apparently in Britain, they’ve spent £10 million on one app which was abandoned and do not appear to have anything that works as efficiently as our app. So, the capability is here.

And I feel that there was a great missed opportunity with Business Transformation. Hopefully going forward the percentage of New Zealand businesses that do get involved with the tail end of this work or new work as it arises, will be increased.

But the overall state you can take from this report is Inland Revenue considers Business Transformation is moving in the right direction. We’ll need to pay attention to whether it will achieve its ambitious goals. But certainly, it feels it has the tools available to achieve what the Government will want, that is additional tax revenue to pay down the massive debt that’s been run up because of Covid-19 and no doubt the huge spend going forward for maintaining our infrastructure and health services, as well as regular costs such as superannuation and education.

Robertson on property speculation

Moving on, the Finance Minister Grant Robertson made a speech to the BNZ on Tuesday, about the forthcoming Budget Policy Statement. In the course of his speech he said,

But we can do more or more to manage demand, particularly from those who are speculating New Zealanders are seeing family members being crowded out of the opportunity to purchase a home of their own by speculators and investors.

The housing boom and the resulting pressure on the rental market and vastly increased prices is a concern to the Government as it is getting shot at from all sides. So clearly, this statement from Grant Robertson was a reminder that Inland Revenue does have the tools, which I’ve just explained, it feels it can do a lot more to look into the speculators.

And that leads on to the inevitable discussion of the bright-line test, which to quickly recap applies when any residential property is sold within five years of acquisition. The sale will be taxed unless an exemption applies.

Now, the bright-line test is one of a number of other property taxation clauses within the Income Tax Act. There is Section CB 6 which taxes property bought with an intention or purpose of sale.  The problem with the tax laws around the taxation of property is the absence of a comprehensive capital gains tax. There’s a lot of subjective clauses involved. The bright line test is very largely unique in that it very specifically says if this happens, then it’s taxable subject to exemptions.

On the other hand, section CB 6, which I just mentioned, talks about purpose or intent. There’s also section CB 12 which taxes a subdivision which involves work not of a minor nature.

And so, of course, you’ve got these subjective phrases.  And just to compound those issues is that when you drill into these sections, sometimes they will apply if that particular activity happens within 10 years of acquisition, but maybe within 10 years of a building being completed, the timeline isn’t always the same.

And the exemptions that may be available because it’s a residence or business premises for example, vary as to who can use them. For example, there are four possible exemptions available to someone who’s taxable under section CB 12, which is a subdivision which is not of a minor nature. But two of those exemptions don’t apply if the person involved is a trust.

And so these inconsistencies and details around the varying times of which rules may apply and when give plenty work for people like myself. But notwithstanding that, they also point to the need for a complete rethink of those rules to bring clarification and some form of internal consistency. Why should one exemption apply to a property owned by a trust, but another exemption not? You would expect it to be consistent across the board. Now that it so happens that Inland Revenue does have such a project on its on its policy work programme. So, we can expect to see something maybe later this year or early next year.

Updating Inland Revenue’s view on what is tax avoidance

And finally, with the increase in the tax rate to 39% coming up, it’s timely to consider the implications of trying to take steps to mitigate that. The Income Tax Act has a number of tax avoidance provisions which Inland Revenue can apply.  Sections BG 1 is the general anti avoidance provision and for those with very long memories who may recall the Penny Hooper case, involving a couple of surgeons, this was the provision applied.

Inland Revenue has got an Interpretation Statement on anti-avoidance but it was issued in 2005. It has now released an updated version for consultation.

And that update came with a five page information sheet, which when something like this comes with an information sheet, you know you’re in for some particularly dense reading.

There’s too much to cover right now so I’ll pick it up at a later podcast when we have had a chance to consider it closely. But this is a reminder that the temptation will be to start making plans to mitigate the impact of the 39% rate. But you need to be aware of Inland Revenue’s possible response.  I’d therefore recommend every tax advisor has a close look at what this new draft interpretation statement is saying.

Well, on that happy note, that’s it for this week. Thank you for listening. I’m Terry Baucher you can find this podcast on my website www.baucher.tax or wherever you get your podcasts. Please send me your feedback and tell your friends and clients. Until next week, ka kite āno.

The potential tax implications of the Climate Change Commission’s draft advice.

9 Feb, 2021 | The Week in Tax

  • A look at the potential tax implications of the Climate Change Commission’s first draft advice to the Government
  • The latest from the OECD on international tax
  • A look at what a recent slew of reports and documents say about the state of Inland Revenue and its priorities

Transcript

Last Sunday, the Climate Change Commission released its draft advice for consultation. The draft advice has already stirred up a great deal of controversy and discussion about the suggested objectives for the country and how they are to be met.

On tax, the Commission’s Necessary Action 3 recommended accelerating light electric vehicle (EV) uptake.  As part of this it suggested the Government –

“Evaluate how to use the tax system to incentivise EV uptake and discourage the purchase and continued operation of internal combustion engine vehicles.”

I’ve covered this elsewhere and my suggestion is that Inland Revenue needs to look at greater enforcement of the fringe benefit tax rules, maybe including an exemption for electric vehicles and looking also at the application of FBT to parking.

What else did the Commission discuss on the taxation side? Well, it noted that the climate transition will impact government taxation and spending and that the Government needs to plan for this. It noted that fuel excise duties, the revenue comes from that which is spent on land transport, will change and probably decline. It also noted that reducing oil and gas production will result in less tax revenue and also affect the balance of exports because of the reduction in oil exports.

On the other hand, the emissions trading scheme will generate income from the sale of emissions units. Obviously the amount raised will depend on the volume of units and the market price for years, but at current estimates are that it could equate to about $3.1 billion over the next five years.

Now, what the Commission has suggested is that maybe these funds could be recycled back into climate change projects. And that’s something I would agree with. In my piece on the Commission’s draft report I suggested that increased FBT take should be recycled into funding a vehicle purchase scheme.

So I think one of the things that comes out of the Commission’s draft report is that its recommended changes are  going to affect the country and the community greatly, and we need to mitigate for that. And if funds are being raised from environmental taxation, my view is they need to be recycled into the economy to mitigate the impact of change.

That, by the way, was also the view of Sir Michael Cullen when he presented the Tax Working Group’s report, which covered environmental taxation, but its interesting observations on that were completely lost in all the hoo-ha over capital gains tax. As the Commission notes, one of the key objectives going forward is a

“process for factoring distributional impacts into climate policy and designing social, economic and tax policy in a way that minimises or mitigates the negative impacts.”

There’s going to be a very interesting debate on this issue which will continue for quite some time. But we are at a point where we’re going to need to take quick action, I believe, which come with consequences. We need to mitigate those consequences as far as possible.

Late last week, the OECD held its 11th meeting of the OECD/2020 inclusive framework on base erosion and profit shifting (BEPS). This is the international project on reforming international taxation.

The (virtual) meeting included a last address from the outgoing Secretary-General of the OECD, Angel Gurría. He talked about what has happened over his 15-year term as Secretary-General. As he said when he took the helm in 2006 –

“tax avoidance and evasion were running rampant. Urgent action was needed, and the aftermath of the global financial crisis presented the opportunity to crack down on these nefarious practices backed by the newly established G20.”

The Secretary-General then ran through the latest developments noting that 107 billion euros of additional tax revenue has been identified as a result of the initiatives such as the Common Reporting Standard and the Automatic Exchange of Information. There have been over 36,000 exchanges of tax rulings between jurisdictions and over 84 million financial accounts have been identified and exchanged in 2019, with a total value of around 10 trillion euros.

He also made a very important point that in a globalised world, tax cooperation is the only way to protect tax sovereignty. That was true at the start of his term in 2006 and remains the case now.  Without such cooperation each country’s domestic tax policies are at risk. The latest state of play is a reflection of this where if an international solution is not found by the middle of the year, over 40 countries, including New Zealand, are considering or will move ahead with a unilateral digital services tax.

The solution to this is the so-called Pillar One and Pillar Two proposals. Now, these are progressing, and an encouraging fact is that the new United States Secretary of the Treasury, Janet Yellen, as part of her confirmation hearings stated the United States is –

“committed to the cooperative multilateral effort to address base erosion and profit shifting through the OECD/G20 process, and to working to resolve the digital taxation disputes in that context.”

So that’s extremely encouraging.

The Secretary-General also picked up the Climate Change Commission’s draft report, that carbon pricing is an issue that needs to be addressed. As Mr Gurría noted across the OECD 70% of energy related CO2 emissions from advanced and emerging economies are entirely untaxed. And so, as he put it, “putting a big fat price on carbon is one of the most effective ways to tackle climate change by creating incentives to reduce emissions.”

Now, the Climate Change Commission’s recommendations and the ongoing OECD BEPS Initiative are just two of the major policy issues on which Inland Revenue will be needing to provide policy advice and ultimately implementation. Although the Treasury provides advice to the Ministers of Finance and Revenue on tax policy, Inland Revenue is the main tax policy adviser to the Government. That’s actually quite unusual by world standards, where more often it is the Treasury Department that drives tax policy advice.

So where is Inland Revenue at in terms of where it thinks tax policy is going? Well, as part of its general processes it prepares a briefing to each incoming Minister of Revenue. And the briefing Inland Revenue provided to the new Minister of Revenue, David Parker has now been released.

Inland Revenue, in conjunction with Treasury, will develop a tax policy work programme, which is then signed off by the Ministers of Finance and Revenue.  These programmes will show what the priorities are and the expected policy focus over the next 18 months.

Now, obviously, Covid-19 will have some impact on the programme. The five top policy issues that Inland Revenue have identified as key priorities are rebuilding the economy, issues related to misalignment of the top personal tax rate, the role of environmental taxes and what an environmental tax framework should look like, improving data analytics, and international tax settings.

And the briefing then goes on to set out significant current policy issues, most of which reflect these policy priorities.  There is a specific item on taxing the digital economy which notes –

“Ministers will need to make a decision about the suitability of any OECD multilateral solution for New Zealand and whether to progress a unilateral digital services tax.”

But as often is the way it’s what’s not actually said in a document that makes it interesting. Briefings to Incoming Ministers are usually frank in giving an overview of where the department is at, what the main policy issues are as it sees it, and how it proposes that it should deal with the issues. But not everything is revealed.

And there are one or two interesting redactions in here, one of which appears to relate to some form of investigation into taxation of wealth.  At a guess this is identifying the wealthy in the group, usually defined as those with more than $50 million dollars in assets, their tax behaviours, how much tax they pay and what are they doing to mitigate tax.

Interestingly, by the way, the tax concessions charities and not for profits get is going to be reviewed to “ensure they operate coherently and fairly and to ensure the integrity of the tax system is protected.”  As the Tax Working Group noted, it received a number of submissions complaining about tax preference treatment of charities.

The Briefing also talks about Inland Revenue’s Business Transformation project, described as “complex, high-risk and fiscally significant (costing $1.8 billion)” in the separate briefing provided by the Treasury to the Minister of Revenue.

And there are some more very interesting redactions in here relating to funding of the Inland Revenue including references to other reports which have not been provided and which I have therefore requested under the Official Information Act.

What some of these redactions to an issue that in my view the Minister of Revenue and the Commissioner of Inland Revenue, Naomi Ferguson, need to address,  is the poor state of morale.

Inland Revenue’s 2020 Annual Report, released just before Christmas, at the same time as the Briefing to Incoming Minister, puts its staff engagement at a shocking 25%. And it has been bumping around at the 25 to 29% for several years now. And that’s an impact of Business Transformation, which has shaken up the workforce in Inland Revenue quite substantially. In the year to June 2016, the headcount of Inland Revenue was 5,789. As of 30 June 2020, that has fallen to 4,831.

So a substantial amount of change has gone on in the department which doesn’t appear to have been welcomed or met with enthusiasm.  It has certainly had a dramatic impact on the Inland Revenue staff engagement and morale. Whatever you might think about Inland Revenue and its activities, poor staff engagement is not good for tax payers at large.

It should be said that remarkably and consistently Inland Revenue staff in their direct interactions with tax agents like myself and the general public continue to be highly professional, well-mannered and and responsive to our needs. But clearly behind the scenes, there is stuff going on that needs to be fixed and that should be a priority for the Minister of Revenue and the Commissioner of Inland Revenue.

There’s also ongoing controversy around exactly what savings are going to be achieved from Business Transformation. The scale of the Business Transformation project means the Cabinet gets regular updates on progress. So next week I’m going to take a closer look at a couple of the documents that have also been released in relation to Business Transformation.  These report on how it’s progressing relative to what was expected and what changes and additional funding, if any, may be required.

Well, that’s it for today. I’m Terry Baucher and you can find my podcast on website www.baucher.tax or wherever you get your podcasts. Thank you for listening. And please send me your feedback and tell your friends and clients. Until next week, Ka kite āno.