Tax News

Terry looks at what’s ahead in the world of tax this year and finds some big issues.

9 Feb, 2022 | The Week in Tax, Uncategorized

  • Terry Baucher looks at what’s ahead in the world of tax this year and finds some big issues
  • some lingering from the past
  • and some new ones to be grappled with

Transcript

2022 is only four weeks old, but as was the case last year and in 2020, COVID-19, this time in the form of the Omicron variant, will dominate the news and fiscal policy.

Tax responses to the pandemic

What exactly the Government’s fiscal response to Omicron will be is not yet clear. There’s no mention so far of a new round of Resurgence Support Payments or a general wage subsidy. And now, since we’ve moved into the red traffic light setting as of midnight on 23rd January, there’s concern many employees will soon be unable to work because they’re either sick or self-isolating from Omicron.

So what support is available? Well, at the moment it’s just the Leave Support Scheme or the Short-Term Absence Payment scheme. These have replaced the wage subsidy. The Leave Support Scheme is a payment for when a person or a dependent is required to self-isolate due to Covid-19 either because they’ve been exposed to it, or they’re considered high risk if they were to contract it. The Short-Term Absence Payment, on the other hand, is designed to help employees who are self-isolating while they’re awaiting the result of a Covid-19 test. In order to be eligible for the Leave Support Scheme the Short-Term Absence Payment the employee needs to be unable to work from home.

The Leave Support Scheme is paid at a rate of $600 a week for full time workers, those doing more than 20 hours a week, and $359 a week for part time workers, i.e. less than 20 hours a week. The rules around these payments are set out in the Covid-19 guidelines, and for the moment, that’s all that’s available. And by the way, both payments are administered by the Ministry of Social Development and will be made regardless of the financial position of the employer.

Industries such as hospitality, tourism and the performing arts sector have all been hit hard and will be affected by the move to the red traffic light system. But at present, nothing in the form of an updated Resurgence Support Payment or something new has been mentioned.

Any response to this issue is clearly a matter of politics although it will have a fiscal impact. Bernard Hickey, the economic commentator and journalist, has put together an analysis of the impact of the Covid-19 support to date and who has benefited from that, and the numbers are quite eye watering. In his daily newsletter, he says that the government’s interventions to print $58 billion through the Reserve Bank and give $20 billion in cash to business owners helped make owners of homes and businesses $952 billion richer since December 2019. This is one of the greatest transfers of wealth New Zealand has ever seen. It’s also highlighted the pressure on those at the other end of the scale. The poorest New Zealanders now owe $400 million more to MSD and need twice as many food parcels as they did before Covid-19.

Now as I said most of this is political, and we’ll see if the optics of such huge changes will affect how the next form of fiscal support will be designed. Will it be as generous, or, as many people have said, should the funds be going directly to employees and those infected rather than through their employer?

Taxation of capital

More importantly, the never-ending issue of the question of the taxation of capital will re-emerge on this. We’ve already had discussions with one or two other people in the policy space around what we think could be happening in the year ahead and the question of inequality and taxation of capital has popped up again. Although it seems incredible to think the last election wasn’t so long ago, there’s an election next year, and I imagine there would start to be some jockeying around positioning for that.

So Omicron and Covid-19 and God forbid, any further variants, will play out on the economy. What type of support the Government gives and how it funds it will have tax implications. It might be, for example, the Government might have a look again at whether it allows the carry back of tax losses. They were going to push ahead with, a permanent scheme, but dropped it for fiscal costs. They may have a think again because the fiscal cost might not be so great as expected or feared, and can actually be concentrated on sectors which are getting hit hard anyway. So that’s something to look out for.  So, watch this space and we’ll bring you news of developments throughout this year as they happen.

International tax reform

The next area I think we will see, and again repeating a theme from last year, will international tax reform and following through with the implementation of the agreement on the taxation of the largest multinationals and the digital tech giants. This year the detail of that agreement is to be worked out. The OECD released last week the transfer pricing guidelines for multinational enterprises and tax administrations for 2022.

140 odd jurisdictions have committed to the reforms of digital taxation and will be working on making sure that it meets these pretty ambitious deadline to be in place by the end of the year, so we’ll see a string of developments in that field.

How our tax system is run

And finally, on the domestic front, the issue which I think will dominate is what next for Inland Revenue now it’s completed its Business Transformation? Basically this is about how the tax system is run. Now, this may sound like a dry topic, but there’s already been quite a bit of manoeuvring around what is the future of tax administration.

On this, I would recommend reading a paper prepared by Business New Zealand in conjunction with tax experts (some of whom included members of the Tax Working Group, such as Robin Oliver) on the future of tax administration. I understand sometime soon we’ll see a Government Green Paper on tax administration, which would explore what tax administration could look like in future and how to make best use of Inland Revenue’s completed Business Transformation project.

What Business New Zealand and its working group have done, is put together a roadmap including a series of revised tax principles applicable for tax administration. This is talking about the delivery of tax policy and administration, not about actual tax policy settings, per se.

One of the things that’s stands out from this paper is that Business New Zealand, and from my initial discussions with Inland Revenue on the topic, see Inland Revenue moving more to focus on system management and partnering and assisting a wide range of participants in the tax system other than taxpayers themselves. This is a bit of a change in the whole approach. Inland Revenue is no longer adopted a top down “It’s my way or the highway” around how tax is administered and delivered.

The paper sets out seven tax administration principles. Firstly, “The purpose of ongoing reform is to reduce the risks and costs for all participants in the tax system and improve national wellbeing”. Nothing too controversial about that, totally agree.

Secondly, “The tax system is built to assist those who voluntarily comply, with robust enforcement for those who do not.”

I wholeheartedly agree with that. Voluntary compliance is undermined if Inland Revenue does not throw the book at those who are not complying.

One of the issues raised in this paper and which has been picked up in other papers on tax administration I’ve seen from around the world, is that sometimes this means tax authorities have to take an approach to a particular sector or area of enforcement where it might not necessarily see there’s a lot of money in it for them. For example, the fringe benefit tax issue around the infamous twin cab Ute. Inland Revenue has said, “Well, yeah, we think there’s an issue there, but we don’t know whether it’s worth our while”. Under this tax administration principle, it’s, “No, you really do need to look at that, there are wider integrity issues as to why you should do so”.

Three. “Everyone understands their rights and obligations through clear, unambiguous legislation and guidance.”

Very strong support of that principle. And as we talked about last year, one of the pressures that’s coming into the tax system is we’re getting less clear legislation and guidance. This is because the Government is doing things a little bit ad hoc as it responds to pressures, inevitable pressures sometimes, but the tax policy process has not been as robust as it could have been.

And there are two obvious example to talk about here. Firstly, the interest deduction rules and secondly, the proposals to ask high wealth individuals to provide more details about their assets and how they’re held. Both those policies have been done one would argue, a little bit on the hoof, and this certainly caused pushback as a result.

Following through on this, the fourth principle is “Tax rules are designed and administered in a way which reduces compliance and administration costs.” And again, everyone can get behind this. Business NZ paper points out this is something that’s actually much more important for small businesses and microbusinesses where the costs fall heaviest on them, and often they don’t have the tools in terms of the resources to manage their tax liabilities.

The fifth principle is “Tax policy proposals are critically evaluated against the ability to automate outcomes.” Very straightforward. No issues there.

Sixthly, “A well-functioning tax system recognises the role and importance of intermediaries.” Now, regular listeners of the podcast will know that sometimes as tax agents, we felt unhappy about how Inland Revenue had interacted with us and about how the Business Transformation process was implemented.

And what this paper points out is intermediaries such as tax agents and other software designers are incredibly important to the tax system going forward. To be fair to Inland Revenue, that seems to be also coming through on what I’m hearing from them. A very important change there and a welcome one, too.

And finally, “Taxpayers and intermediaries are held responsible only for matters within their knowledge or control.” This is a fair point setting some boundaries so that taxpayers are not held accountable for errors beyond their control or knowledge.  This might happen because sometimes information wasn’t available or can never be made available to a taxpayer or an intermediary. At present the tax system can come down hard on the reporting person because they should have known, when in fact they may not have done or could not have done.

The paper suggests for example that Inland Revenue which has better knowledge should be responsible for advising taxpayers and intermediaries of incorrect tax rates and tax codes.  So this is an issue of increasing fairness in the tax system.

Now I understand that Inland Revenue is going to produce a Green Paper for discussion and is considering holding a symposium later this year to discuss these matters. Although it sounds like an arcane topic it’s certainly, going to be quite an important issue for the year going forward. And as always, we will bring you developments as they happen.

Well, 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 send me your feedback and tell your friends and clients. Until next time, kia pai te wiki, have a great week.

The proposed income insurance scheme

8 Feb, 2022 | The Week in Tax

  • the proposed income insurance scheme
  • Inland Revenue’s view on those who respond to the 39% disincentive
  • The OECD’s view on how we tax ourselves

Transcript

The big news this week was the Government’s proposed income insurance scheme. Interestingly, this is a joint approach between Business New Zealand, the New Zealand Council of Trade Unions and the Government. The idea had been floated in the run up to the 2020 election, and it appears in the wake of Covid-19 to be moving forward with some urgency.

Basically, the scheme proposes to pay members who lose their jobs up to 80% of their wages or salary for up to six months. As well as redundancy and layoffs it would also cover people who have lost their jobs due to health conditions and disabilities. It’s also intended to provide coverage for contractors and the self-employed.

How it will work is if someone loses their job, the employer would need to give the scheme four weeks’ notice and pay the departing worker 80% of their salary/wages for the first four weeks. And then if a worker doesn’t find a job, they then start getting paid by the income insurance scheme for up to six months. It’s going to be run by the Accident Compensation Corporation and operate on a similar principle to the existing ACC scheme.

How would it be paid for? Well, it’s going to be funded by levies on wages and salaries for both employees, and the proposed rate is 1.39%, which is the current ACC employee levy rate.

This proposal represents a departure for New Zealand as it’s equivalent to a Social Security tax when we don’t have those, although they’re very common overseas. In fact, according to the OECD, New Zealand is one of only five countries within the OECD that doesn’t have some form of Social Security tax. Social Security taxes overseas are used to fund schemes similar to the proposed income insurance scheme, but they may also cover other benefits such as pensions and general welfare.

As a result, the cost of these Social Security taxes can vary quite markedly. The highest as a percentage of labour costs is 26.6% in France, which is entirely borne by the employer. But there are eight other jurisdictions where the Social Security contributions can exceed 20% or more. And in five countries, including France and Germany, Social Security labour costs represent at least one third of all labour costs.

Across the OECD on average, Social Security taxes represent the equivalent of 9% of GDP. The proposed scheme is right down at the other end of the scale. It’s an initial step forward into an area where other jurisdictions have been for some time.

I know from my time working in the United Kingdom a lot of tax planning and tax avoidance went on around National Insurance Contributions. As these costs fall on employee and employers it isn’t always welcome. Quite remarkably, some of the same stuff that I was seeing nearly 30 years ago is still going on.

On the other hand, it gives employees, contractors and the others affected some form of security. And as I said, this is a joint approach coming from Business New Zealand and the Council of Trade Unions. No doubt there will be plenty of politics playing out about it, but it’s an interesting way forward and we will monitor the debate. Consultation has started and will continue until 26th April.

39% will bite a bigger group, who may respond to the disincentive

Moving on, earlier this week, it emerged that Inland Revenue had undertaken some analysis of the number of taxpayers affected by the increased 39% tax rate and had found the number of taxpayers who would be affected is some 44,000 more than initially estimated.

It initially thought it would be about 2% of the population, or about 75,000. But based on analysis of the tax returns filed so far for the year ended 31 March 2021 and current year PAYE returns and provisional tax payments, it appears the number is likely to be close to 119,000.   From the Government’s perspective, this means that the tax take is going to be significantly higher than estimated.

The paper in which the Inland Revenue made this analysis has been released under the Official Information Act, and there’s some very interesting commentary from Inland Revenue about what behaviour it is seeing in relation to the increased tax rate.  In the paper Inland Revenue comments

“it has extensive experience in monitoring compliance and 39% rate across 2003 circa 2010, which is the last time the individual marginal rate was significantly higher than the trust in company tax rates. Whilst we anticipate that similar trends and behaviours would be observed this year, we also have access to more real time data from which to derive insights.”

What it’s saying there is, “Yeah, we’ve been here before. We’ve learnt the lessons from what happened when we last increased the tax rate, and we are ready to take action against what we see as potential attempts to manipulate taxable income to avoid paying that top rate”.

The paper then goes on to describe what happened prior to 31st March 2021, and quite predictably, it saw a large number of increased dividend payments to shareholders. According to Inland Revenue during the year to March 2021, $9.45 billion dollars was paid out in dividends to over 46,000 shareholders, representing an average of $204,000. The total amount of dividends paid out was nearly three times higher than the amount paid for the year ended 31 March 2020 and the number of dividend recipients was up 57%.

As the paper notes the likely driver behind paying out of dividends for the March 2021 year was to ensure that they are subject to a maximum tax rate of 33%. The dividends probably represented a number of years of retained earnings rather than a higher-than-average earnings year in 2021. And then the Inland Revenue paper goes on to point out companies are entitled to pay dividends if they are in a position to do so. This was a legitimate option for them.

It’s clear that people have taken steps to avoid dividends being taxed at 39% and Inland Revenue acknowledge this as entirely unsurprising. I’ve been around long enough to remember what happened the last time the tax rate was increased to 39% in March 2000. We did exactly the same thing. Significant dividends were paid out prior to the rate change. It’s not tax avoidance. The paper makes this very clear. If companies could afford it, they could do it.

But where Inland Revenue’s analysis gets really interesting is it then starts to look to see if there’s a decrease in employment income because as obviously people might say ‘I don’t want to pay myself above the $180,000 threshold because I’m going to be taxed at 39%.’ Inland Revenue has carried out some initial analysis about what’s been happening here. It has a split between what it terms customers who don’t have an ownership or control association with their employer and those who do.

Interestingly, for the group without a control interest the total employment income for the year to March 2022 is estimated to be down 13%.  The number expected to be receiving over $180,000 is also expected to be down 9% to around 68,000. The average employment income of this group is going to fall from $228,000 to $217,000.

The paper then considers the group where there is an ownership control relationship with the employing entity, that is directors or shareholder-employees in the company. Inland Revenue estimates this group’s total employment income will fall by 15%, although there will be only a small change in the number of income people earning above $180,000. It’s expecting the average employment income for this group of people with control over a business will fall from $191,000 to $166,000.

At which point the paper delivers this kicker “in an ordinary arm’s length situation we wouldn’t expect an employee’s income to decrease (except to the extent in the current environment that they are impacted by COVID 19)”.

But as the paper notes in fact there is this fall in income. Inland Revenue is clearly flagging its concern, and that it’s going to be looking at this issue when the returns for the March 2022 year start to be filed in another eight weeks or so, at the earliest. These are just projections from Inland Revenue, and it may be that these projections may change because of large end-of-year bonuses and other lump sum payments made towards the end of the year through the shareholder employee mechanism then. Whatever the reason Inland Revenue is basically running up a flag and saying, “We’re watching.”

What it’s also been watching for is if there’s been any restructuring to lower tax rates in what it terms “the target population” (the group of taxpayers with income over $180,000). And the paper says that since November 2020, this group has formed 10,633 new companies, 2,630 new trusts and 362 new partnerships. This represents “a 28% increase in the volume of new entities established by this population from the prior 12 month period.”

The paper goes on “Our next steps include integrating other data to further analyse these entities to identify any specific patterns or trends”. So again, Inland Revenue’s running up the red flag and saying, “We’re watching”. The paper also points out that the new trust disclosure rules will give it further information.

And one other thing Inland Revenue has been picking up on is transfers of shares which have been previously held individually and but have been transferred to a company or a trust thing. What that is pointing out is if you held the shares individually, previously any dividend received would be taxed at 33%, but now would be taxed at 39%. But on the other hand, if it’s held by a trust, the tax rate is capped at 33%.

Again, Inland Revenue is flagging that they’re watching. As noted above Inland Revenue learnt a lot from what happened the last time the top tax rate was 39%. They were, to be frank, caught on the hop back then and the issue doesn’t appear to have been picked up on until three or four years after the tax change happened. This time, Inland Revenue told the Government, you should increase the trustee tax rate to 39% as well.  Overall, the clear message here is Inland Revenue are watching and taxpayers should move with due caution as a result.

We are assessed by the OECD

And finally, in what’s been a busy week, the OECD released its latest economic survey of New Zealand. The headlines focused on the OECD’s suggestion the Government scrap the first home buyers KiwiSaver withdrawals mechanism and various other policies targeted at first home buyers. Incidentally, at the start of the year the OECD released a paper on the taxation of housing which noted how owner occupied housing is very highly tax preferred.

The OECD economic survey reviews progress on four tax changes it’s previously recommended. One has been implemented in full and that is restricting the deductibility of property losses and not only allowing them to be offset against future rental income. That’s been in place since 1st April 2019. It’s also recommended, as did the Tax Working Group, limiting KiwiSaver tax credits to low-income members.

The OECD has for a long time pushed the idea of a general capital gains tax, but as we all know, that has been knocked back repeatedly. The survey does note the bright-line test has now been extended to 10 years. The OECD’s other recommendation is for the mutual recognition of imputation and franking credits with Australia.  However, that’s been held up on the Australian side because of the cost to Australia of such a move which would be of greater benefit to New Zealand companies.

Interestingly, the latest survey takes a look at environmental taxation, and it notes that revenue from environmentally related taxes in New Zealand is relatively low. This will probably come as a shock to everybody, but transport fuel costs taxes are lower than most other OECD countries, and most fossil fuel uses outside their sector are not taxed.

The OECD acknowledges more effective pricing of carbon and other greenhouse gas emissions should be pursued through the Emissions Trading Scheme. It suggests that taxation can be used to address environmental externalities that the Emissions Trading Scheme can’t address. For example, taxes for fuels used in transport could be increased to “internalise social costs linked to transport such as local air pollution and congestion.” As technology improves congestion charging could be adopted.

The survey notes the Government is expanding the national waste disposal levy and is considering other environmental taxes. One option I’ve mentioned previously is perhaps we should be looking at fringe benefit tax being charged on the basis of emissions as is done in the UK and Ireland. Anyway, there are some very interesting recommendations and we might see more on environmental taxation as the year develops.

Well, 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 send me your feedback and tell your friends and clients. Until next time, kia pai te wiki, have a great week.