Last week The Post published a story about Roger and Shaun Nixon, father and son landlords who by The Post’s calculation owned at least 111 residential and lifestyle properties either in person or through a combination of trusts and companies. (In total across various entities and including commercial, industrial and retail properties the pair apparently own over 300 properties across the length of the country from Kaitaia to Invercargill, including properties on Waiheke Island and Omaha, where former Prime minister Sir John Key had a holiday home).
The story was produced as part of The Post’s Mega Landlords series, and I spoke to journalist Ged Cann on the question whether many of the homes in this property empire would ever re-enter the market for sale. As I explained, at the moment there are no tax incentives such as a capital gains tax or an inheritance tax (what we used to call Estate Duties), which could force the break-up of the Nixon’s holdings.
Estate and Gift Duties were first introduced in the 1890s, and were in part designed to provide a relatively good source of revenue for the Government, but they were also a means of breaking down large estates. The Liberal government of the time was concerned about accumulation of excess wealth and the related issue of inequality which drives a lot of discussion in this area. Inequality will exist in any society, no matter what the tax setting settings are. I think it’s a by-product of any modern capitalist society. Some people are extremely able to use their advantages of natural and inherited capital to make fortunes. And by and large, I don’t have a problem with that at all.
The question we should be addressing is how far we are prepared to accept inequality and what strains it puts on our social system. It’s a difficult question to answer. We have seen a rise in inequality since the 1980s and the end of the post-war consensus where higher taxes were seen as means of equalising society. And I spoke to Ged about one of those tax tools used, Estate Duty which disappeared just over 30 years ago.
Estate and Gift duties were quite a substantial part of the tax revenue for New Zealand governments for a long period of time after the 1890s, right up until probably the turning point with the election of the First National Government in 1949. For the year ended 31st March 1949 the total amount of land tax, estate and gift duties amounted to just under £7 million of the government’s £130 million revenue. In other words, it was the equivalent of 5.3% of the total tax take for that year. If you were to project that forward, it would be the equivalent of $5.7 billion using the June 2022 numbers. So, these taxes were a very significant proportion of past governments’ revenue.
Whatever happened to Estate Duty?
Starting with the election of the First National Government the exemptions from Estate Duty were widened. This started to undermine the theory we’ve often discussed here and which I strongly support, of a broad based, low-rate approach to taxation. The broader the tax base, the lower the tax rate you can apply. And to a large extent this was the case with estate and gift duties.
But what happened was that exemptions for Estate Duties (and Land Tax) began to be expanded. And therefore, as the exemptions expand, the tax base is narrowing and then the tax take starts to fall away. And gradually, over time, the numbers diminished to the point of insignificance. Land tax was abolished in 1990 and Estate Duty reached its end point in 1992. Gift duties, for whatever reason, lingered on until 2011, before they went on the not on reasonable grounds that the barely $2 million revenue collected was far outweighed by the compliance costs.
The question that should come up is whether, in fact, the abolition of Estate and Gift Duties was a wise move on two points, firstly for maintaining a broader tax base. And secondly around this question of inequality, because Estate Duties are something that can hit estates very, very hard particularly where perhaps too much is tied up in illiquid assets, such as property. This is something I’ve seen quite a lot in the UK with the effect of what is now called Inheritance Tax.
To repeat a point I have made before, the absence of Estate and Gift Duties makes our system unusual because we don’t have a capital gains tax. (We’ve also removed stamp duty although by and large, tax theory has that stamp duties are pretty inefficient taxes. Still, they linger on everywhere else). So, we have no taxes which could be part of breaking down large estates. We have to accept whether that’s a good or bad thing.
Following IAG’s move do we need to broaden our tax base to deal with climate change?
My view is that we ought to be thinking about the question of broadening our tax base. And in that context, I’ve been thinking quite a bit on this question of estate and gift duties, because this week there was another reminder of an issue I keep raising – the growing costs of dealing with climate change.
The insurer IAG announced this week it will not offer ongoing insurance for properties in Category 3 of the Government’s Land Categorisation framework for regions affected by the floods earlier this year.
The cost of the property damage this year by those events is currently several billion and climbing. Of course, property owners are the persons that are most closely affected.
One of the doubts I have about National’s proposed foreign buyers tax is about the type of properties foreign buyers are likely to be purchasing. In Auckland, there is a growing number of suburbs where the average price is $2million. But foreign buyers aren’t necessarily wanting to buy a rundown villa in Grey Lynn or Devonport, they’d probably be looking at flashier properties in coastal areas. However, these coastal properties could now be more exposed to climate change which could be a factor in them deciding not to purchase.
Of course property owners, maybe including the Nixons, have already been affected by climate change and if they are struggling to insure their properties, they will be looking to the Government for assistance with this. And so it seems to me we are rapidly reaching a break point because we’re not taxing capital and property in particular. This is going to create a huge issue between those on one hand who have property and want government assistance when their property is flooded out or damaged beyond repair and insurance is limited or not available. On the other hand, there is a group who don’t have property and can’t get onto the ladder, who will, through their taxes end up paying for the former. This dichotomy sets up a whole social strain, which I don’t think we really want.
To repeat, the thing about this story of the megalandlord Nixons is how it illustrates to me this dilemma we have created around the taxation of capital and the preference for property as an asset class.
So why is the New Zealand Super Fund taxed?
There were some very interesting responses to last week’s commentary about the New Zealand Superannuation Fund’s (“the Super Fund”), retiring CEO Matt Whineray’s remarks on the fund’s tax status. (Thank you again to all my readers and listeners for your contributions). The question was asked, ‘Well, why does it pay tax?’ The answer, as I indicated in last week’s podcast, it was designed as such when the Super Fund was being set up prior to when it actually started investing 20 years ago this month.
“There are two main issues surrounding the tax status of the proposed super fund. The first of these is the tax avoidance opportunities that would be created if the fund was tax-exempt. The second is whether poor incentives would be created regarding investment behaviour.
…By making an entity tax exempt, the government effectively gives it an asset that it can trade with taxable entities. Current tax-exempt organisations such as charities have engaged in complicated schemes to take advantage of this kind of opportunity. …
We consider that making the fund tax exempt will create an opportunity for this kind of avoidance activity.”
The driving force of this paper was concern that giving the Super Fund tax exempt status would give it poor incentives. And so, the fund was set up on that basis. (It’s also interesting to note that the paper assumed the Super Fund would be contracting out most of its fund management activity. However, as we know, the Super Fund is now one of the largest fund managers in the country).
Changing the FIF rules
Back when the Super Fund was being established the tax treatment under the foreign investment fund regime was very different. There was what we call a “Grey list” that applied to investments in several countries such as the US, Australia, UK, Germany, Japan and others. Investments here were only taxed on dividends and capital gains would be taxed under the normal rules, similar to those we have now for investing in Australia and New Zealand. The amount of tax payable on these investment would not have been quite significant under those rules.
However, in 2006, proposals were introduced establishing the current Foreign Investment Fund regime which took effect from 1st April 2007. Now, the interesting thing is that I cannot see any commentary or submission to the Finance and Expenditure Committee by the New Zealand Super about the changes, although there’s plenty of commentary from the Corporate Taxpayers Group and others. As I mentioned last week, some 3,400 submissions opposed the changes, and only two were in favour. So of course, the measure went ahead.
From that point the New Zealand Super Fund started to pay a lot more tax. (In the year to June 2008 the fund had a loss of $704 million but had a net tax bill of $164 million because of the changes to the FIF regime). The effect of the FIF regime was described in a submission the New Zealand Super Fund made in 2018 to the last Tax Working Group. It said it would like to be tax exempt because as I noted earlier it’s the only sovereign wealth fund in the world which is taxed. Its tax status also creates some issues when it is investing overseas. In support of tax exempt status, the submission (signed off by then acting CEO Matt Whineray) noted.
“The fund’s tax position can be volatile depending on the performance of the fund and the contributors to that performance. This is often illustrated by our effective tax rate. For example, our effective tax rate was 3% in 2015, 96% in 2016 and 20% in 2017. The main driver of this volatility is how our physical global equities are taxed under the fair dividend rate regime. In simple terms, this means that in any given year, if our return in global equities exceeds 5%, then our tax rate will be lower than 28%. And if our returns are less than 5%, then our tax rate will be higher than 28%.”
Another interconnected issue for the Super Fund is that as so often is the case, I think Governments rather like the tax revenue from the Super Fund. However, as the Fund’s Tax Working Group submission noted if it was tax exempt it would not be forced to sell assets to pay “the Government provisional tax with the Government then turning around to pay the Fund contributions, thereby removing the need for practical work arounds in terms of offsetting provisional tax”.
As I said, way back in 2000 when they were considering the tax status of the New Zealand Super Fund, the FIF regime was very different. And I wonder whether if they had foreseen the impact of the FIF regime that was introduced from 2007, whether they might have rethought the decision to tax the Fund.
Act is now accepting that cannot happen but instead the top rate from 2026 will be 33%. What it has also said, and this is interesting, is that the top 39% rate will remain until then.
One of the proposals in ACT’s “Alternative Budget” is the Government will stop making contributions to the New Zealand Super Fund. But what won’t change, however, is the tax status of the fund, and it will still be taxed.
Now the ACT numbers are quite detailed, and they note that the expected tax revenue from the New Zealand Super Fund will actually drop by about $100 million over the three years to June 2027 period because of lower Government contributions. (Incidentally, in measuring debt-GDP ratio ACT’s Alternative Budget excludes the $65 billion value of the NZSF which rather unfavourably distorts the ratio).
ACT also proposes winding back the KiwiSaver member’s tax credit (the Government contribution you receive if you make contributions of at least than $1,043 a year), for higher income earners. Instead, it will be capped at 5% of a participant’s taxable income. The maximum subsidy amount will reduce by 3% per dollar of income above $48,000, reducing to zero by around $65,000.
Well, that’s all 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 time, kia pai to rā. Have a great day.
Tax continues to feature heavily in the Election with the ongoing debate over the validity or otherwise of National’s proposed foreign buyer tax. But away from the election, it has been a busy week in the tax world. By far the most interesting story, partly because of its source, but also how it speaks to the structure of our tax system, is the commentary from Matt Whineray, the outgoing chief executive of the New Zealand Superannuation Fund (NZSF), about the fund’s tax status.
In an interview with the New Zealand Herald’s Markets with Madison, he remarked on the NZSF’s tax status, noting that since the fund began investing in 2003, it had paid nearly $10 billion in tax, including $2.2 billion for the year to June 2022.
This makes it by far and away the largest single taxpayer in the country. He thought this was rather nonsensical and that the fund really should have tax immunity status in line with many other sovereign wealth funds around the world, (including ACC and the Reserve Bank of New Zealand, both quite substantial investment funds). “My wish would be that we didn’t pay tax because I think that would solve a few issues.”
A nonsensical money-go-round?
He questioned the practice of the NZSF returning money to the Crown in tax, and the Crown in return contributes to the fund annually. “If I take my wallet out of this pocket and put it into this pocket, I haven’t got richer.” The problem, in his view, was exacerbated when the Crown stopped contributing to the fund completely, as it did for almost a decade between 2009 and 2017.
It’s interesting to hear such commentary from Matt Whineray, which highlights an anomaly about the NZSF, in that it is a sovereign wealth fund, but it pays tax, which is highly unusual around the world. In fact, I’m not sure there are any other sovereign wealth funds which do pay tax. (It’s an issue Whineray’s predecessor Adrian Orr also raised, ashas Whineray previously).
Now when the NZSF was set up 20 years ago, the rationale behind it paying tax was this would help it make sound investment decisions based on investment principles and not by tax considerations. And in a broader sense, that’s not unreasonable. I always tell my clients, don’t let the tax tail wag the investment dog. Think in the longer-term investment and returns rather than the short, potentially shorter-term tax implications.
A “Fair” Dividend Rate?
Someone else this week commenting on this question of the tax status of savings was financial planner Rachelle Blanch speaking to Susan Edmonds of Stuff.
Rachelle thought it was time for a review of the Foreign Investment Fund (FIF) regime, particularly in relation to how it applies to portfolio investment entities such as KiwiSaver funds. Now, the FIF regime and the Financial Arrangement regime are the two main reasons the NZSF pays so much tax. That’s because both regimes tax unrealised gains and there will be substantial unrealised gains in investment funds.
As the story in Stuff noted, under the FIF regime KiwiSaver funds and the NZSF must use what’s called the fair dividend rate in respect of their overseas shareholdings. This deems 5% of the opening market value of the investments held at the start of the tax year to be taxable income. Now obviously as KiwiSaver funds grow in size, and they diversify out of the New Zealand market as the NZSF has done, then the amount of tax payable as a consequence of the FIF regime will increase. However, unlike individuals or trusts, who can switch methods to mitigate the impact of a drop in values of some of investment funds by adopting what we call the comparative value method, KiwiSaver funds and the NZSF can’t do that.
How much tax is payable under the FIF regime is not at all clear. The NZSF is probably the only entity which can give a pretty accurate gauge on that. But to give you some idea of the total tax that might be payable – the Financial Markets Authority produces an annual report each year on KiwiSaver funds, and it notes that for the year to June 2022, KiwiSaver funds paid over $256 million in tax for that year. Remember in the same period, the NZSF paid over $2.2 billion.
Rachelle Bland has raised a very good question as to whether, in fact, this is an appropriate tax policy response where people have long term savings. She describes it as effectively a capital gains tax. Another way of looking at this, and it’s how I describe it whenever explaining the regime to overseas clients, is that it operates as a quasi-wealth tax.
As I said, there’s no mitigation for significant falls in stock markets. Unlike a capital gains tax regime which taxes on a realisation basis you can decide to realise capital losses and offset them against capital gains. You can’t do that under a FIF regime. Therefore you have this situation where the value of investments are falling but you’re still paying tax on the value of those investments. And that’s been the scenario for quite a few funds over the past 12 to 18 months.
What about a tax exemption then?
It’s not surprising then that quite apart from this anomalous washing – as Matt Whineray referred to the process of cycling funds from the Crown to the NZSF and then back in the form of tax – there’s also calls for some form of tax exemptions for KiwiSaver funds. You see such tax exemptions around the world for other pension schemes. New Zealand is yet again, a bit of an outlier here. The reason such exemptions were taken away in the late 1980s is they are costly. However, in overseas jurisdictions where tax exemptions apply to pension schemes withdrawals are taxed, whereas in our system we apply what we call a tax-tax-exempt approach where the contributions are made out of after-tax income, the schemes are subject to the ordinary taxation rules, but any withdrawals are exempt.
What’s the most effective approach? Well, that’s still a matter for debate. But one thing to keep in mind is that tax does have an impact on the long-term return of funds. Now, whether anyone is going to do anything about this is very questionable. The FIF regime in its current iteration has been in place now since 1st April 2007, and it generally works pretty well. The rules were very controversial when they were first proposed. There was an absolute storm of protest when they were first proposed, with Parliament’s Finance and Expenditure select committee receiving 3,400 submissions against the introduction of what is now the FIF regime, and only two in favour. In the face of this criticism, they were actually reshaped and now everyone has got used to working with the regime.
And this perhaps is the critical point. Governments appreciate the tax paid by the NZSF and KiwiSaver funds. The total tax for the year ended 30th June 2022 from those two sources probably represents just about 2% of the total tax take for that year. Therefore, changing the tax treatment for the NZSF and for KiwiSaver Funds would be an expensive move even if as a trade-off the Government might not then need to make any more contributions to the NZSF.
Wrong sort of investment signals?
Given the short-term pressures at the moment on the Government’s books, I think any move in this area is not going to happen. But I also consider it underlines a scenario where we’re prepared to tax savings under the current tax system, but generally whole asset classes, such as property, the bright line test excepted, are outside the tax net. This treatment sends an investment signal which politicians aren’t prepared to address.
Where does investment get directed? The evidence we have points to it being directed into relatively unproductive residential property investment as opposed to the likes of KiwiSaver funds, which will invest in productive businesses.
The discussion we’re not having
Now, this is a discussion we’re not having at the moment about how the tax system and investment interacts. As I’ve said in previous podcasts when you consider National is proposing removing commercial property depreciation on non-residential property again, (as is Labour for its part) in both cases to fund some form of tax cuts this to me sends the wrong signals. We’re basically directing funds away from investment in our economy into consumption.
But this is not a discussion we’re going to have because although politicians quietly recognise that whatever we the electorate might say about the impact of tax in the back pockets – and we’ll happily all take tax relief, tax cuts, how you phrase them – we also like the services tax provides. So, this dichotomy exists. We’ve got to maintain services as far as possible but not want to pay for them. But as I’ve said repeatedly, I think the under taxation of capital is an unsustainable position long term.
Donations tax credit review announced
Moving on, Inland Revenue just carries on carrying on regardless of whether the Government is out campaigning. It has been busy churning out quite a lot of interesting material. But two particular initiatives happened this week.
Firstly, on Friday, it announced it is going to undertake a review of the rules relating to the donations rebate rule. This review is part of the Regulatory Stewardship programme required of all state agencies in respect of the rules they administer. In this case, a review is going to assess whether the donations tax credit regime is operating effectively, is achieving its policy intent, and how it compares internationally.
Inland Revenue will open up consultation with an aim of undertaking this review and completing a report, setting out its findings as well as any recommendations by mid-2024. Interested parties will be contacted on this. I imagine you can expect the Charities Commission, some more major charities, would be approached. I think the main accounting bodies, together with the New Zealand Law Society will also be approached for comment on the matter.
A fairer Government debt policy framework?
The second Inland Revenue initiative and probably something that’s going to have more immediate impact ties into the rather strange case we talked about last week involving the Nelson woman who got herself into a whole heap of trouble with Inland Revenue and decided the best way out of avoiding a $365,000 tax debt was to sell her property worth $845,000 to a UK company. The Official Assignee took a dim view of the idea and obtained a court order striking the sale down.
Leaving aside the oddities involved the case is relevant for the important question of tax debt and other debt that’s owed to the Government. According to the New Zealand Herald story reported last week, as of 30th June 2023 Inland Revenue is owed nearly $5 billion.
Now, both the Tax Working Group and the Welfare Expert Advisory Group took a look at the question of debt owed to the Government as part of their reviews, and they recommended there should be some form of all of government approach to debt. Firstly trying to prevent debt arising with the Government, but also how each relevant government agency responds and manages that issue.
Consequently, a policy framework for debts the Government is owed has now been developed and has been signed off by the Cabinet. Inland Revenue this week released its report and background details on this framework.
There’s quite a bit to consider in here, not just the $5 billion Inland Revenue is owed but the other debts built up, primarily with the Ministry of Social Development and also with the Ministry of Justice.
According to this report, at present 762,460 New Zealand residents collectively owe $4.68 billion of debt to these three agencies – Ministry of Social Development, Inland Revenue and the Ministry of Justice. More than a quarter of these persons owe debt to two or more agencies and 6% that’s over 45,000 people owe a debt to all three. Furthermore, around three quarters of this debt, so that’s well over $3 billion, is owed by low-income individuals, many of whom rely on government benefits as well. 13% or just over 99,000 people owe more than $10,000 to the Government.
More than 85% of those who do owe a debt have owed it for more than a year and about 45% cent, an incredible number, have owed debt for at least four years. Finally, Māori and Pacific people are overrepresented in almost all categories of debt a sadly quite typical issue.
The debt policy framework is trying to ensure is that debt recovery is fair and effective and avoids exacerbating hardship. And above all, it aims to prevent debt occurring in the first place and not exacerbate issues.
There are three main parts to the framework. Firstly, a set of overarching principles for creating and managing debt. Then secondly, a purpose centred approach which classifies debt into different groups according to the policy purpose and discusses how different settings might be appropriate for some purpose and others. And then finally, what’s called term to person centred approach, which takes into consideration the personal circumstances, with focus on consideration of financial hardships, as I said.
These debt issues tend to exacerbate and build on each other leading to a circle of despair. $10,000 of debt doesn’t sound like a lot, but for very low-income people it seems like an insurmountable mountain.
Anyway, this framework has been signed off by the Government after feedback from quite a number of interested agencies. For example, the Citizens Advice Bureau, the Methodist Alliance, the New Zealand Council of Christian Social Services, the Salvation Army, and a whole range of other non-governmental organisations. Hopefully this feedback will build a better framework for the practice of managing this debt.
Good but Inland Revenue also needs to do its part
I welcome this initiative, but I also think that as part of it, Inland Revenue needs to be also considering its approach to debt management, such as the effectiveness of the late penalty regime, and how efficiently it is on top of managing debts, because if the debts get away from people, they just give up. That’s what my experience has shown time and again and it’s also what Inland Revenue has experienced.
I think it’s still a good step forward, particularly, in trying to bring a coordinated approach because there’s nothing more infuriating to someone who might be unlucky enough to find ourselves in a position of debt with two or three agencies, and finding that the approach taken by each of those agencies is different.
The Tax Working Group recommended a single Crown agency to manage current debt should be established to deal with this issue. That does not seem to have been part of these recommendations at the moment, maybe it might be picked up at a later stage. Nevertheless, it’s a step forward in the right direction and we’ll hope that it starts to address these issues of managing the debt fairly and efficiently for people.
The $5 billion PREFU hole no-one is worried about
And finally, this week, back to the Election. We’re still hearing plenty about tax in the election campaign. Politicians are all out on the trail telling us everything that’s going to happen or not happen. This week the formal opening of the government books happened with the release of the Pre-election Economic and Fiscal Update (PREFU). There was plenty of differing interpretation about the state of the government’s finances going forward.
But there was a wonderfully interesting little snippet which Newsroom picked up on, and that was the impact of next year’s Matariki public holiday. Matariki always falls on a Friday, and next year it falls on 28th June, which is the last working day of the fiscal year to 30th June 2024. And because of that, the cash that would come in on that day, which represents about $5 billion of GST and provisional tax won’t actually hit the Government’s coffers until the following Monday, which is 1st July and the start of the following tax year. So, on the face of it, the Government’s going to be $5 billion short of cash for the current year ending 30th June 2024.
As a Treasury spokesperson said, “This public holiday effect is expected to affect the Crown’s tax receipts but not tax revenue, since Inland Revenue will calculate accrued tax revenue as at 30 June 2024 as it normally would at any other year end.”
And for the record, this won’t really affect individuals because we file tax returns to 31st March each year. Furthermore, Inland Revenue won’t penalise people for making a payment on 1st July, the first working day after it was due because Inland Revenue hasn’t switched over to a seven-day banking. So nice quirky little story to end the week.
Well, that’s all 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 time, kia pai to rā. Have a great day.
A few weeks back, an issue emerged over in the East Coast and here in Auckland about the potential application of the bright-line test to homeowners who had been forced to move out following Cyclone Gabrielle and the January and February flooding events. The issue was if they had to leave the property for more than 12 months while it was being repaired or because they could no longer live there, the bright-line test could apply if they were forced to sell within the relevant bright-line test period.
The Government this week announced that it is adding a Supplementary Order Paper (SOP) to a tax bill that’s going through Parliament at the moment (and which will be enacted after the election).
The SOP contains proposals to ensure that the main home exclusion from the bright-line test is not affected by a property owner needing to vacate their North Island flood or cyclone damaged home for more than 12 months so it can be remediated or repaired. It also ensures the bright-line and other land-based timing tests, because we have a number of them, are not triggered when local authorities or the crown buyout properties impacted by the 2023 Auckland flood events and or Cyclone Gabrielle. You’ll recall that last month Auckland Council and the Government agreed to a $2 billion package which will be used to buy out homes that were rendered unliveable following Cyclone Gabrielle or the Auckland Anniversary weekend floods.
So, this is a good result. That’s the problem with tests, they can have some harsh results. But as the Government said, by picking up examples from what happened following the Canterbury earthquakes, it will devise tests to ensure that those harsh treatments do not follow.
Fooling around and finding out…
And speaking of harsh treatments, some harsh lessons were learned by a couple of taxpayers about tangling with Inland Revenue. In the first, an Auckland second hand car dealer has been sentenced to six months community detention for tax fraud. The offender Mr Levada created a false identity and then as a director and shareholder set up two companies. The companies were then used to obtain GST refunds totaling $309,000 even though neither company traded. There was a bit of a hard story behind this in that he wanted to help his wife’s family in Ukraine. But he admitted that he knew he was stealing and he has repaid the full amount owing.
Apparently, this got picked up by the Ministry of Business, Innovation and Employment in April 2021. And then obviously from there Inland Revenue realised what was happening. To me this is another example of why we really ought to think hard about GST compulsory zero rating between GST registered businesses. It reduces the opportunity for people to try and defraud the system. They don’t always get away with it, as we’ve just seen here. But maybe remove the temptation in the first place is where I would go with my suggestion.
Avoiding tax by forgoing all income?
But that story is really quite tame compared with a story from Nelson in the New Zealand Herald. As I told the reporter this is an “absolutely wild story”. Mila Amber had run into trouble with Inland Revenue and at the end of 2017 she was told she owed at least $110,000 in taxes, penalties and overpaid Working for Families tax credits. (In fact, the final figure was amended to nearly $365,000).
Amber decided to devise a scheme in cooperation with a UK based company under which she sold her property in Nelson to this company for $847,000. The buyer didn’t have to pay a deposit or any interest and just would simply pay off the property over 25 annual payments with the first payment due a year after settlement. The deal meant that the property was out of the reaches of Inland Revenue if they were going to try and seize the property or force a sale to pay off the debts. Amber was made bankrupt, and the Official Assignee took the case to court to try and overturn the sale. Which is how all these details emerged.
It’s just quite staggering what was attempted and what people thought was going to happen here. This seems to have been one of those cases where the taxpayer got really enraged by Inland Revenue’s actions. She changed the name of her trading company to Abbey Services (Killed by Tax Maladministration) Ltd which as the judge in the decision, called it rather unsubtle and refused to acknowledge the name basically in the judgement. The judge overturned the sale effectively transferring the property to the Official Assignee.
The judgement includes this rather jaw dropping line “It’s hard to see how it is beneficial to avoid tax by forgoing all income” which may be true but didn’t work out for Ms Amber. As I told the Herald, as the property seems to have been mortgage free she basically did herself out of half a million dollars. She’d have done better to have sold the property, pay the tax and move on.
I use this case to repeat something I’ve said many times previously. When you run into trouble with your taxes, talk to Inland Revenue. Go forward and initiate action and in most cases, if you are making reasonable offers and reasonable attempts to meet your liabilities and Inland Revenue can see that you’re being reasonable in your approaches, it will be prepared to find a way forward for everyone. In this particular case going around renaming your company Killed by Tax Maladministration and entering into a quite scandalously scheme to avoid those liabilities got the taxpayer nowhere.
I also think H.M. Revenue and Customs might be very interested as to what was going with the UK company involved. And I would put good money on details of the case having been shared by Inland Revenue with HMRC. I know from experience that Inland Revenue and other authorities share information on a proactive basis. We’ve talked in other podcasts about the Common Reporting Standards for the Automatic Exchange Of Information. Tax authorities are sharing data on a vast scale now.
The cases of this Nelson lady and the second-hand car-salesman are more examples of never underestimating Inland Revenue because it may appear slow, but it will eventually catch up with you.
Having just talked about international tax agreements, it’s very interesting to see the continuing debate around National’s tax proposals, which I discussed last week and in particular the issues around the proposed foreign buyers tax. This has led to quite a debate with National confident that its numbers stack up and that it is legally possible.
The question raised last week continues to be asked ‘Well what about international tax treaties and the so-called non-discrimination clauses?’ It turns out that just after last Friday’s podcast was recorded, National went and sought advice from Robin Oliver, a former Deputy Commissioner of Inland Revenue, member of the Last Tax Working Group and a real guru of tax.
He told RNZ, this is a “very esoteric” area of tax law but it should be possible to introduce the tax.
In his view it would depend on tax residency, not nationality. In relation to the Chinese double tax treaty, it doesn’t allow discrimination on the basis of nationality. The potential argument is that a Chinese national residing in China who purchases property in New Zealand could be subject to the new law, whereas a Chinese national resident in New Zealand could not.
But even if it could be done, I’m of the view whether you should do that. Both myself and Eric Crampton the chief economist of the New Zealand Initiative think tank, told RNZ that, ‘Well, yes, it might be doable, but on the other hand, what would it do for our reputation internationally?’ We build our trade agreements around being an honest broker in this, that we follow a rules-based approach.
A point that was made at the recent International Fiscal Association trans-Tasman conference is that these tax treaties are often related to trade agreements. So, these sorts of issues would have been on the table and part of the discussions. Having signed an agreement fairly recently and then now looking to apply a workaround to tax nationals from that country doesn’t look good for our international reputation.
Just because you can doesn’t mean you should
What this comes back to is a situation myself and other tax advisers I’m sure will sometimes encounter where we’re asked to advise on something. We look at it and come back and we say, ‘Well, looking at the way the law was written we think it’s possible.’ But then sometimes the question boils down to ‘Well you could, but should you?’ Sometimes in tax just because you can doesn’t mean you should.
Well, that’s all 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 time, kia pai to rā. Have a great day.
It’s been a busy week in the tax world. The Taxation Principles Reporting Bill passed its third reading in Parliament and very shortly will receive the Royal assent. Now this was the bill introduced at the time of the May Budget, the purpose of which was to provide a statutory reporting framework and required the Commissioner of Inland Revenue to provide the Minister of Revenue with an annual report on the operation of the tax system.
This report would outline aspects of the tax system against a set of tax principles such as equity, efficiency and certainty. As commentary provided by Inland Revenue to the Finance Expenditure Committee noted. “These principles are often considered when designing changes to a tax system”.
Tax being political the Government also wants this bill to
…help improve the public’s understanding of the tax system and encourage informed debate about its future. New Zealand has seen several Tax Working Groups and Committees over the last 20 years, with the most recent being the 2019 Tax Working Group These reviews have offered useful insights into the operation of the tax system and suggestions for improvement. These reviews have also highlighted areas of the tax system where information is lacking, which makes a fully informed debate on some aspects of the tax system more difficult.
The bill requires the Commissioner of Inland Revenue to prepare and publish an annual report which considers the tax system measured against the principles included in this bill.
What will happen is Inland Revenue will produce a short form report annually with a full report every three years. The first full report will be produced in 2025 with the shorter version reports produced in the interim years starting later this year. The intention is to align the requirement for this report to be produced the second calendar year of each parliamentary term.
There’s been some discussion around whether we need this bill and how does it sit within the Generic Tax Policy Process (GTPP)? You could say it’s an extension of the GTPP and of course, it does mean that we can have a look at some of the tax policies that have been put out by the various parties and compare them against the principles set out in this bill. And I’ll be doing that a little later on. The politicians may find this new bill is something of a double edged sword.
A Digital Services Tax just in case…
It so happens a digital services tax bill was introduced on the last sitting day of this parliamentary term which is a bit of a surprise. Digital services taxes (DST) have been talked about for some time but have generally not been brought into effect. They’re obviously not favoured by the targets, the digital giants such as Google and Facebook. But they are a tool that many governments around the world have been considering implementing.
The ongoing OECD Pillar One and Pillar Two negotiations are intended to eliminate the need for these taxes. In fact, it’s a condition of the introduction of the OECD model that any digital services tax in effect would be repealed.
The Government’s actually been looking at a DST for some time. There was a discussion document back in 2019 on the topic. That said, it still was a bit of a surprise to see this bill pop up at this particular time. Arguably, you could see it as a bit of politicking. The key thing is the Government is already committed to not introducing a DST until 1st January 2025 at the earliest. Now Inland Revenue and Treasury have said it will be handy to have the legislation ready just in case the OECD deal falls over. So that’s a reason given for this bill being introduced now.
The DST would target multinational multinationals with global revenue in excess of €750 million per year from digital activities and New Zealand revenue from these activities which exceeds $3.5 million per year. The DST taxes the revenues rather than the profits, because then it doesn’t require trying to establish a connection with a multinational’s physical presence in New Zealand. The rate to be proposed is 3%, pretty standard compared with others around the world.
This bill is a more fallback measure and it’s interesting to see where it stands that they’ve made this move now. But many countries have DSTs, Britain is one, France another and India is probably the biggest exponent of them. And as I said, the Government’s basically saying, ‘We want this in our back pocket in case the OECD Pillar One and Pillar Two deals fall over.’ These are still very much up in the air for discussion, as we’ve mentioned in previous podcasts.
National unveils its tax policy
But the big news this week would have been the launch of the National Party’s tax policy on Wednesday, and it landed with quite a thump and contained quite a few surprises. National had already signaled well in advance that it proposes to increase thresholds by 11.5%. As regular listeners to this podcast will know my view is tax threshold increases are long overdue.
What about Working for Families abatement?
National has an identical proposal to that of Labour to increase the Working for Families In-Work Tax Credit by $25 to $97.50 per week starting next April. There’s a commitment that the current $42,700 abatement threshold for Working for Families will rise to $50,000 from 1st April 2026. This is also a Labour Party commitment. But as I said to a number of media outlets, the problem is that the Working for Families abatement threshold already kicks in at very low level and in fact if they had been adjusted for inflation since the last adjustment in July 2018, it would now be $51,800.
Both parties promising to raise the threshold to $50,000 in three years’ time is frankly a little off in my view. It just compounds the problem these families at the lower end of the income scale face with what we call high effective marginal tax rates because of the abatement level of 27 cents per dollar above the $42,700 threshold. This issue isn’t being addressed but instead the can has been kicked down the road.
But on the other hand, there is the proposed FamilyBoost childcare tax credit, which is worth up to $150 per fortnight for couples with childcare costs. This will be no doubt welcome, but the trade-off is the loss of the proposed extension of the Early Childhood Education subsidy that Labour included in its May Budget.
All good but how are you paying it?
In fact, the controversy around National’s plan has broken out over how it’s going to fund this program and of these proposed tax adjustments. There are several surprises here, the first of which was this proposed foreign buyer tax. Currently no one who does not have permanent residency can buy property. National are proposing to keep that in place for properties worth less than $2 million, but to allow properties worth more than $2 million to be purchased. But that would be subject to a 15% tax, which sounds a bit like a stamp duty. We haven’t had stamp duty, by the way, since 1999.
The controversy is around the numbers involved, which do seem very optimistic. Revenue of $700 million a year would imply sales of at least $6 billion in property. I’ve seen a report in the New Zealand Herald which suggests that actually something like 60 to $65 million is more reasonable. But the proposal also runs up against questions that certain of our double tax treaties and trade agreements have clauses that would not allow such a clause to be a tax to be introduced, notably Singapore and Australia.
But now it’s been pointed out that what we call non-discrimination clauses in double tax agreements may apply to this. In which case these income assumptions of tax revenue would be well short.
There is a proposal to close an online casino gambling tax loophole as its described. This would require offshore operators to pay GST and register and report their earnings for tax purposes. The suggested penalty for non-compliance would be IP geo blocking of services. It subsequently emerged that the Government got $38 million in online GST for the year ended 31st March 2023. This is a result of the so-called “Netflix Tax” which, ironically, was introduced by the National Government in 2016.
National assume the measure will raise $180 million, and I admit I raised my eyebrows when I saw that suggestion. This seemed high to me particularly when I considered that the proposed DST I mentioned earlier is expected to raise about $55 million a year. Online gambling would seem to be a similar type of activity, if not quite identical, so assuming they’re going to raise 2 to 3 times as much as a DST struck me as optimistic.
National Party documents seem to be saying this is essentially a corporate income tax. In which case, it appears this particular tax could also be caught by the anti-discrimination articles in double tax agreements. And that could mean a $140 million shortfall in National’s projections.
Good news for singletons…ironically
On the other hand I do think the proposal to increase the Independent Earner Tax Credit threshold to $70,000 from its current $48,000 is a good initiative. I’ll be honest, I was a bit surprised that Labour didn’t think to do something similar as part of its budget earlier this year. But there is actually a little bit of an irony in that this Independent Earner Tax Credit was actually going to be abolished by National under the last budget it published in May 2017. But that measure never went through because of the change of government later that year.
A counter-productive proposal and more irony
But I think one of the measures that should attract more controversy, is the proposal to remove depreciation for commercial property which includes factories. Now this is something that Labour have also proposed to pay for the proposed removal of GST on fresh and frozen fruit and vegetables.
This is a counterproductive move in my view. The proposal refers to “commercial building” but the depreciation deduction covers all sorts of property such as factories, farming sheds etc. These all depreciate. It was recognised by the last tax working group, that depreciation on commercial and industrial buildings should really be re-introduced, introduced and is actually quite common around the world.
A measure that takes it away seems to be counterproductive particularly if we’re talking about encouraging investment in productive assets. There’s also the added irony that this would be the second time that a National government had removed that depreciation to pay for tax cuts.
Overall there’s an awful lot to pick apart here and the devil is always in the detail. This does seem to point to the revenue forecasts being on the optimistic side, certainly in relation to the foreign buyer online gambling taxes.
Good news for landlords…mostly?
On the other hand, there was also no surprise about the reintroduction of interest deductibility for residential properties. But what is interesting about this move is that’s it’s not simply being fully restored as of a change of government. What’s proposed is for it to be brought back in over a two-year period from 1st April 2024. At present the proportion which would become non-deductible is due to rise to 75%. Instead it will stay at 50% non-deductible and then starting 1 April 2025 the non-deductible proportion will year drop down to 25% before becoming fully deductible with effect from 1st April 2026.
Reducing the bright-line test back down to two years will be welcome for a lot of people. The unintended consequences arising from the extension of the period to first five and then ten years were giving me and plenty of other advisors a lot of work as we try to unpick where the boundary was, and what transactions were caught. So that’s probably quite welcome.
On the other hand, there’s a surprise that nothing has been said about allowing losses from residential property investment (“loss ring-fencing”) to again be offset against other income. This hasn’t been allowed since 2019. It also appears that the proposed increase in the trustee tax rate to 39% will still go ahead. I had heard whispers to that effect, and although there’s been plenty of pushback on the proposed increase it will be interesting to see what eventually emerges.
Now about those Tax Principles…
Having just got a new Tax Principles Reporting Act in place, it is interesting to compare the principles set out in there against these policies. You’d have to say for now, not entirely a big pass. Indexing the thresholds is a reasonable measure, as I said, but that’s a minor point. The tax on foreign homebuyers probably could be said to be questionable in terms of equity. Why should one group of people suddenly get a far higher tax charge than other groups of people in reasonably similar circumstances.
The removal of depreciation for commercial and industrial buildings doesn’t seem to fit with the tax principles. And since we’re talking about things that wouldn’t pass that bill, I’d have to say removing GST on fresh and frozen fruit and vegetables wouldn’t pass muster either.
Sucks to be a student…and an Auckland ratepayer?
But to summarise, tax is politics, so we can expect plenty of politicking. There’s no doubt that the tax relief in terms of the changes in the thresholds will be welcome, but there’s going to be quite a few losers as well. Following the announcement I spoke to a student radio station in Christchurch who were wondering about the impact for students. The answer was not very much and if the proposal to remove the 50% discount on public transport goes ahead, students would be worse off as a consequence.
Auckland ratepayers are also probably worse off with the proposed abolition of the Auckland Regional Fuel tax. Mayor Wayne Brown has already said that could mean a $2 billion funding shortfall. How is that gap going to be funded?
Overall National’s proposals are very much a sort of the Lord giveth and the Lord taketh. And where you sit on that spectrum depends on how well you end up. If you’re a landlord and high-income earner, and you don’t use public transport, you’ll be reasonably okay.
On the other hand, if you’re on lower incomes, perhaps receiving Working for Families income and you do use public transport, you’re going to be worse off. But this is politics, the electorate will decide in six weeks exactly which tax policy is fair.
Well, that’s all 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 time, kia pai to rā. Have a great day.
My guest this week is Tammy McLeod, Managing Director of North Shore based firm Davenports Law. Tammy is a trust and asset structuring specialist with over 25 years’ legal experience, specialising in the areas of personal asset planning, trust law and Property Relationships Act. Tammy leads the Davenports trust team and has been a principal in the firm since 2006. Kia ora Tammy. Welcome to the podcast. Thank you for joining us.
Tammy McLeod
Thank you so much for having me, Terry. It’s a pleasure.
TB
Not at all. The Trust Act 2019 came into force on 30th January 2021, and it’s caused quite a big upheaval in the trusts ecosystem. What have you seen as the main changes coming out of the implementation of the act?
Tammy McLeod
A couple of things. The first one is that there’s been a major shift towards the rights of beneficiaries and knowledge of beneficiaries regarding trusts. So, I guess if you think about the shift that we’ve seen over the last ten, 15 years from employer to employee, employees have more rights, landlords/tenants. Now there seems to be a shift from trustees to beneficiaries, to the beneficiaries being entitled to ask for more information and holding trustees to account has really shifted the whole landscape. That’s the first thing.
The second thing is I think that a lot of people are actually deciding whether they actually need a trust anymore. So particularly through the 2000s, we used to set trusts up left, right and centre because their accountant might see the need for a trust, or the neighbours had a trust and it just seems to be the thing to do.
And a lot of people are now taking stock and seeing whether they still actually need a trust or whether it’s something that they don’t need any more given the extra compliance costs that have come about, in particular because of new changes to the law, not just the Trust Act, but also changes to the Income Tax Act and the way trusts report to the IRD.
TB
Yes, that’s a good point, that last one. I’ve seen quite a bit of rethinking about what role the trust has in relation to income tax purposes with the increased disclosure requirements Inland Revenue asked for in the March 2022 and March 2023 years. And now we have, as you may be aware, the bill going through Parliament, which proposes increasing the trustee tax rate to 39%.
A lot of interesting commentary is going around. Many trusts, the majority in fact, rarely distribute their income and have minimal income. Once you aggregate that trusts income with those of the principal settlors, they’re well short of the $180,000 threshold where the 39% tax rate kicks in. So, there’s quite a rethinking going on in that. And that’s certainly what I’ve been seeing.
A lot went on in the nineties and early noughties, as you say, in terms of trust setting up. But right now, as that generation of business owners passes through into retirement, they’re thinking about winding up trusts.
And then there’s the other area where I get asked to help quite a bit. And that’s where you’ve got beneficiaries or trustees overseas. People think of trusts and think of tax. That’s not really why we use trusts, is it? What’s the real purpose of trusts?
Tammy McLeod
No, and in fact what I was taught early on was to never mention tax in the first three things that you talked about the benefits of trusts, simply because that shouldn’t be the only reason.
From a lawyer’s perspective, or from a legal perspective, I think asset protection to asset protection, still should be the number one driver. So, if you are in a position of risk, say the director of a company, own your own business and you could be at risk for because of your actions, then very, very simplistically put, because if your assets are in a trust, that could actually help protect in the event that you were sued for whatever reason, or something went wrong with your business.
And it does date back to the days of the Crusades when the knight would ride off to the Crusades and leave his estate in the hands of the neighbours to look after for his wife and family. Because if he didn’t have someone holding that in trust, then it’s likely that it could have been taken for taxes or just taken. So asset protection is still a big driver.
With relationship property, a trust is not the panacea to all ills when it comes to relationship property. But they certainly help with segmenting estates and ring-fencing assets that people might receive by way of inheritance from relationship property pools. And it’s a really good way of protecting those assets.
Another reason is often people may want to treat their children differently. Under a trust, you can’t claim against a trust in the same way that you can make a claim against an estate. So this is a really good way of estate planning, sort of outside the normal rules around will making and estates and how they’re distributed.
And then lastly, people that have assets might just want to keep it in trust for future generations. So think of a family holiday home as an example, or a family business that’s wanting to be kept for future generations. There’s a number of reasons why trusts can be very, very helpful with asset structuring.
TB
Yes, I’ve come across all of those scenarios and in some sad cases you actually have to ringfence the assets because either the beneficiary is incapable or is an addict sometimes.
On trusts and the government’s proposed 39% trustee tax rate rise, one of the points of debate that I saw raised in submissions to Parliament, it’s a question of will trusts. Because they initially were saying, oh well, they will be taxed at 33% for the first 12 months, but that’s way too short a period in my view. What in your view will be more likely period? More realistic?
Tammy McLeod
Well, I think that probably flagging the 12 months because in estate matters, usually everything’s distributed within 12 months on the grounds of probate. But obviously there’s often times where assets are held on trust under an estate for a much longer period of time, you’ve got minor beneficiaries is the usual rule.
But I would say that probably 85 to 90% of estates are distributed within the first 12 months. So, I think that’s where they’ve got it from.
And another one of those perhaps tax rules where you wind up paying your advisors a whole lot more to sort out what should be something that is quite simple and quite straightforward. But it doesn’t seem fair if you like, for assets or money that’s being held on trust for a minor beneficiary to be taxed at 39 cents, it’s highly unlikely a minor beneficiary would be paying 39 cents on the dollar.
TB
And then as I’ve occasionally come across, there’s disputes over who’s to get what which will delay winding up. Whenever these erupt the only people, in my view, who ever win are the lawyers and accountants.
Tammy McLeod
Without a doubt. Lawyers in particular.
TB
As I said, one of the things I see quite a bit of is – we’ve got a very mobile population – people, beneficiaries, trustees, moving settlors, all moving around the place. What’s your experience with this? How often do you encounter those scenarios?
Tammy McLeod
At the moment, all the time, as you say, particularly after we’ve been shut down in the country, I guess for two years plus, people are just moving all over the place. A lot of people are moving to live in Australia in particular and it’s a real moving feast. There seems to be a lot of the next generation moving to Australia and other places.
And so that’s something that trustees have to be hugely aware of and I think there’s a real onus on trustees to ensure that they are aware of the movement of beneficiaries because it might have an impact on how they’re taxed in relation to the country that they’re in. So for an example, an Australian tax resident beneficiary will be taxed on a distribution from a New Zealand trust, and so proper advice needs to be taken upfront.
And I think that’s one benefit to having an independent professional trustee, is that they should be keeping on top of these issues and flagging these issues. And every time a distribution is made from a trust to a beneficiary, where that beneficiary is situated, should be considered.
Therefore, any trust that we are a trustee of, we ensure that we have regular meetings and it’s one of our agenda items, the location of some of the beneficiaries and making sure that you’re on top of that and then planning for that. Because it’s not even a distribution being made during the lifetime of the parents if they’re settlors and trustees of the trust. It’s what happens if the children are to receive as beneficiaries of the trust assets upon both parents death So it might not be in the immediate picture, but it could be something in the future, it should be planned for.
TB
That’s quite an issue. Particularly in Australia, there are two things. There are the beneficiaries who should qualify for the temporary residence exemption in some cases. That applies to exempt non-Australian sourced income so long as the beneficiary is not a citizen.
And that’s something I think trustees now need to be aware of as people become Australian citizens, then those rules where previously a distribution from New Zealand trust or New Zealand income would not be taxable in Australia. The easier ability to become an Australian citizen changes everything.
And then of course the other one, and I’m sure you’ve seen this, is when a trustee wanders across to Australia and they don’t tell you. I’m sure you’ve encountered that quite a few times.
Tammy McLeod
Many times. And I think it’s one that we’ve been more aware of and there’s been a lot more talk of. But I think the beneficiary one is really becoming an issue because as you say, the population is so mobile and one year you could be in Australia the next year, that could be in the UK, in Singapore, it’s just people are moving around. All over the show.
TB
Distributions to persons in Australia who are not Australian citizens, are manageable. But the real headaches I keep encountering are distributions to people in say Britain, particularly Britain, or America, where the rules can be quite brutal. You can be looking at a 45% tax rate because we use discretionary trusts so much, that can be really quite disadvantageous.
One of those things I see crop up, is that there is a certain proprietorial interest, “this is my trust”. Say the family set it up and were told you can self-manage this and then were sent away. A lot of those got set up during the 1990s..
How do you manage that? You come in, you find someone wants to do something, and then you find out that they’ve done a lot of things they shouldn’t have done in trust law. But what’s the process there?
Tammy McLeod
My pet peeve is how you can manage your own trust. And one thing that really frustrates me is where a lot of professionals are now saying they don’t want to be trustees, and so they’re setting up trustee companies that only mom and dad are the only directors and shareholders, often saying that’s a different entity for Mum and Dad. And I just think that’s wrong.
To me, having an independent trustee is what really makes your trust robust. And so that’s where you can put your hand on the heart and say, I can’t sell this, a trustee has to think “I can’t mortgage this property, I can’t borrow this money or buy this business without my independent trustee knowing. It’s not my decision anymore”.
And to me, that’s the first line of defence of what actually is a trust. Funnily enough, it’s not a legal requirement or one of the certainties of trusts. But from a robustness perspective, definitely having an independent trustee is important. And what has also happened over the last five years in particular, but maybe 5 to 10 years, is that the independent trustees are tending to become professional trustees.
So previously people would often use a family member, or a family friend. And I think the landscape has changed. Not only because of the risk to trustees, and so professional trustees understand the risk, know the risk and can insure against the risk.
I always say professional trustees care, but they don’t care. The numbers on the page are just numbers to us. Whereas for a friend or family member to know how much money the trust is losing, how quickly it’s paying down the debt, that can be too, too much.
So, my view is always have independent trustee, and ideally a professional independent trustee. And it also helps with the management as well. The things that we’ve just been talking about with Australian beneficiaries, if you’ve just got Ma and Pa as the only trustees, how can they keep on top of these issues without the input of a third independent person? So I’m hot on having a professional trustee.
TB
I mean, are you seeing as a result of two things – suppose that the greater rights for beneficiaries, as you mentioned in the start, but are you seeing more issues emerge from those Ma and Pa trusts set up 20, 30 years ago. Are they starting to boil over in difficult ways? What issues are those leading to?
Tammy McLeod
The major difficulty with those ones at the moment, and I’m sure there’ll be more issues that come out over time, but the big thing at the moment is if Ma or Pa dies, or in particular loses capacity, or one’s died and the others lost capacity, who are the trustees now and how are they appointed? Who are they going to be? Often children fighting between themselves. So that can be an issue. And children trying to influence aging, elderly parents. Whereas if you do have the professional in there, A you’ve got a referee, and B you’ve got a platform for how these types of issues are to be managed.
TB
That last point you made about losing capacity is one that makes me very nervous. I talk with clients on this because I’m just encountering it in tragic circumstances. If a trustee loses capacity, am I right in thinking that that means that you probably have to go to court to get things done?
Tammy McLeod
No, not anymore. So under the new Trusts Act, that’s another one of the changes, if a trustee loses capacity, then he or she is then deemed to be incapable of being a trustee going forwards and are immediately removed by virtue of the statute.
So that’s new. Previously there were no rules around who could be a trustee. The other thing the new act has also done is put in place vesting rules. Previously you had to go to court, unless the trustee had said otherwise, to enable a new trustee to be registered on titles to properties and companies, shareholding registrars and so forth.
Whereas now under the new act is an automatic deeming or vesting of the trust assets on the capable trustees. The difficulty can be assessing what capable means.
And just to give an example, I talked to a client last week and one of the settlors is verging on the early stages of dementia and he’s heavily involved in the family businesses. And the question was asked, at what point do we say that he’s not capable?
There’s this balance – is he’s capable of being a trustee? At the moment he understands what he’s doing. Can he make good decisions for the trustees going forward? How do we deem him to be incapacitated? And it might be different for him than it might be for someone else in a similar set of circumstances.
So, if you had an incapacitated, or bordering on incapacitated settlor, who doesn’t have the sophistication of understanding business, etc., that might be a different level of capacity to be a trustee.
So this is a whole minefield. And lawyers have to ask some pretty hard questions and also talk quite robustly with family, doctors, geriatricians and the like particularly with an ageing population.
If you think back about the comments that we’ve made around the lots of trusts being set up in the 1990s and early 2000s, some 20 years on we’ve got a whole raft of settlors and trustees heading towards their mid to late eighties and nineties. It’s a bubble that’s moving through which is going to create lots of issues because the other thing to remember is that enduring powers of attorney don’t fit with trusts.
TB
I was just about to ask you about that one.
Tammy McLeod
So your enduring power of attorney relates to your personal property, it doesn’t relate to your powers as a trustee. There can be mechanisms within trust deeds which help with who has the power to appoint or remove trustees or a settlor who loses capacity. But it’s not a given that the powers of attorney and the trustees have any connection at all, you need to go back to the source documents and see what’s there.
TB
What do you see going forward with trusts? Do you see much change in this area?
Tammy McLeod
I see massive change and I’m seeing it already, probably in the last three or four years, rather. We’re still setting up a lot of trusts. But we’re winding up as many, if not more probably, than what we’ve been setting up. There are still great reasons, as we talked about earlier, for people to have trusts and most people are still putting in place asset structuring.
But I see there’s a lot more dispute. A lot of the work that I’m now doing – I used to say that my legal practice is all about the good, positive things of setting up, good positive structures for people, for the future. And now a lot of it is actually how do we unwind the structure of these trustees not doing what I want them to do?
How do I make this beneficiary behave? There are disputes after Mum and Dad have died between beneficiaries as to what’s to happen with the trust assets. It’s disputes between trustees, disputes between beneficiaries.
So it’s become a lot more fraught, bordering on litigation type issues. A lot more people separating, the impact on relationship property. That’s how I sort of got more into that area was people separating, myriads of trusts which had to be unwound which were complicating factors.
What I do nowadays is more quasi litigation rather than setting up structures. And I guess that’s interesting from a purely legal perspective as well as my practice matures. So that’s interesting as well, but definitely very, very different to what it was five, ten years ago.
TB
As I said, the explosion of trusts, and we don’t actually know how many trusts we have in the country, and it’s one of those per capita starts we probably shouldn’t be too proud of.
With the administration of trusts you’ve mentioned trustees’ meetings. How critical are they in this process, particularly what you just talked about with the potential incapacity, etc., and the professional trustee?
Tammy McLeod
I think that companies, to give as an example, as opposed to trusts, are quite easy to manage in a way because the Companies Act 1993 is quite prescriptive about what you need to do to make sure that your company carries on as a company with the Annual Return and so forth.
Trusts aren’t like that. So even under the new act, there’s no real prescription there. But that’s your only evidence really, of having a trust, because trusts are this kind of ethereal being, I can’t give you something and say, here, this is a trust for your record keeping.
So having those trustee meetings are imperative to go over the kinds of things that we’ve been talking about today. Where are the beneficiaries? What’s the capacity of the trustees? Tax issues, etc.
And in fact, I’m presenting a seminar next week at the North Harbour stadium which got around 600 people registered for. And we’re going to be covering things like this. So why do you need a trust is often the first question I get asked about in trustee meetings “Remind me again why I need this trust.”
I’ll be talking about things like capacity, powers of attorney, the changes to the act, disclosure of information to beneficiaries. So, I’ll be covering all that at the seminar next week. Those are the sorts of things that we talk about at the annual trustee meetings.
TB
I’d agree trusts are quite ethereal. Sometimes you see on companies’ office documents that the ABC trust holds the shares in this. Which is not correct at all. It’s the trustees that should be named as shareholders.
So, there’s a lot of sloppy or untidy administration out there and it can lead to quite a number of issues. We’ve mentioned beneficiaries overseas. What I get very concerned about in tax is when settlors or trustees move overseas, particularly in the case of Australia if a trustee goes over there, the New Zealand property could become taxable subject to Australian capital gains tax, even if the gain is distributed to a New Zealand resident. So heaps of things going on.
I think that might be a good place to leave it there. If you’ve got this seminar coming up, I know I’ve seen you present, that will be well worth attending with 600 attendees. I’m sure you can squeeze a few more in.
My thanks very much to you, Tammy, for coming along and talking to us on this podcast. Good luck with the seminar next week.
Tammy McLeod
Fantastic. Thank you so much, Terry. I really appreciate it. We’ve been friends for a very long time, so it’s nice to get a spot on the podcast.
TB
I can very highly recommend Tammy, she’s a highly experienced veteran of the trust field. You’ll be in very good hands and the seminar will be well worth attending.
Well, that’s all 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 time, kia pai to rā. Have a great day.
