Tax News

A look back at the biggest tax stories of 2020

15 Dec, 2020 | The Week in Tax

    • The response to Covid-19
    • The ongoing debate about taxing capital
    • Inland Revenue’s response and how well is its Business Transformation programme going?

Transcript

This is the last podcast for the year so we will be taking a look back over the main tax stories for 2020.  It’s no surprise that the response to COVID-19 will feature very heavily but looking back, the thing that stands out is how rapidly events developed and then the sheer scale of what we were dealing with.

In the podcast on Friday 16th March, I suggested some actions Inland Revenue could take in response to coronavirus following a week in which first Italy then the UK and finally Australia announced special measures throwing around huge sums of money.  By the following Friday we had the first COVID-19 support package including the first iteration of the wage and subsidy scheme.

From then on it was a frantic blur until late May with barely a week passing without one new measure after another.  Most of those did what they were intended to do: get money into the economy and keep people employed.  Some were more successful than others. The Business Finance Guarantee Scheme for example did not work as anticipated with only $176 million lent to 834 businesses by the end of August.

The Small Business Cashflow Scheme on the other hand was a huge success in getting money out to small businesses very quickly. Currently over $1.6 billion has been lent to close to 100,000 businesses and the Government is now working on making the scheme permanent.

Some of the tax measures that have been announced – such as increasing the provisional tax threshold to $5,000 or increasing the low value asset write off temporarily to $5,000 – are measures that probably would have happened sometime soon, possibly even this year it being an election year.  What COVID-19 did was make the Government bring forward those measures and put them into effect much sooner than otherwise might have happened.

It’s also worth pointing out just how well the Ministry of Social Development and Inland Revenue handled the distribution of funds under the various wage subsidies. The Small Business Cashflow Scheme meant that the billions of dollars got very quickly to where it was needed and both organisations deserve credit for making that happen. However, it undoubtedly put Inland Revenue under considerable strain and we’ll talk about that a little later on.

The immediate legacy of the response to COVID-19 is of course the Government’s books being shot to bits.  Interestingly the latest figures show the tax take has not fallen significantly and the deficit is more down to expenses increasing sharply such as the wage subsidies.

The impression is that the economy has come through the crisis in better shape than was anticipated way back in March.

For all that, the Government faces deficits for the foreseeable future so we had the somewhat unusual situation of it running an election campaign with a promise to increase the income tax rate to 39% for income over $180,000. The increase in the income tax rate to 39% is expected to yield about $550 million a year but I suspect we may find it yields more than that because the economy has been in better shape than expected so far.

Aside from the Opposition, Labour’s proposal also got criticised from various sectors saying that the response was inadequate given the scale of the problem. There was also criticism, and this is going to be a continuing theme, that the income tax increase primarily on labour and earnings was not really where tax changes were needed.

Notwithstanding those issues, there are a number of complicated flow-on effects from increasing the top income tax rate to 39% – such as resident withholding tax and fringe benefit tax. Then of course there are the significantly increased powers for Inland Revenue in respect to requesting information from trustees.

This is something which is going to give trustees and beneficiaries pause for thought before they get involved in aggressive tax planning.  The Government has made it clear that if it sees such activity it will increase the trust tax rate to 39%, something which Inland Revenue recommended should be done.

So the immediate impact of COVID-19 and the Government’s response has been the major tax story of the year.

The second big tax story has been the ongoing capital taxation debate which is something I suspected might happen.  Writing at the start of the year I suggested that although the Government had said in April last year it would not introduce a capital gains tax, that would not mean the end of the story.

And so it proved.

Throughout the year, particularly in the wake of COVID-19 and an unexpected housing price boom, there has been a string of stories looking at the question of taxing capital either in the form of a wealth tax as proposed by the Greens or more recently an extended bright line test.

In one recent article I suggested if the bright-line test is to be extended, a ten year timeline would be consistent with the other land taxing provisions in the Income Tax Act.  (Unsurprisingly how that ten year timeline is measured can differ between the various provisions).

What Geof Nightingale from the Tax Working Group pointed out in the same article , was that it would be fairer to have a comprehensive capital gains tax at a rate of 33% rather than the muddled approach to capital taxation we have presently and the previously mentioned complexities of increasing the top rate to 39%.

But they are in a position to make quite some noise about it, so the Government will find this story isn’t going to go away.  So, throughout 2021 and beyond there will be a steady stream of stories about what are we going to do about house prices and what role will tax have to play.

The final tax story of the year is the role of Inland Revenue; how it managed its response to COVID-19 and then going forward, how well is its Business Transformation programme really going?

As I mentioned previously Inland Revenue’s immediate response to COVID-19 deserves praise.  It took action to help clients running into difficulties with payments of tax, including a number of measures which effectively wrote off interest on overdue tax where the taxpayer had been adversely affected by COVID-19. It administered the Small Business Cashflow Scheme very efficiently and it worked very closely with the Ministry of Social Development on the wage subsidy schemes.  At its peak Inland Revenue was handling over 15,000 requests for verification from MSD each day in relation to the wage subsidy scheme.

At a tax conference during the year, I asked Inland Revenue representatives there whether they would have been able to manage all the additional demands that came on them because of COVID-19 without Business Transformation, and their response was that it had given them the additional capacity and flexibility to manage the demands put on them.  In particular the upgrade of the computer systems meant they could actually physically cope with what was coming at them

So far so good, but as listeners will know, in recent weeks I’ve raised questions around what exactly has been going on with Inland Revenue in relation to its audit and investigation performance in view of the fact that hours spent on investigation had fallen by two thirds over the past five years from over 680,000 annually to just over 240,000. That led to an interesting response from Inland Revenue Deputy Commissioner Sharon Thompson on the matter.

That exchange caught the eye of Auckland barrister and ex Inland Revenue investigator Riaan Geldenhuys.  What he pointed out was that Inland Revenue was actually under some strain in delivering Business Transformation even before COVID-19 hit.

Riaan noted that in the Minister of Revenue’s regular reports to Cabinet on the progress of Business Transformation in July 2019 then Minister of Revenue Stuart Nash had noted that there were strains emerging because of the unprecedented response to Inland Revenue’s rollout of automatic assessments for all people on PAYE.

Now as you might expect, COVID-19 has exacerbated those strains and in his July briefing to Cabinet this year the Minister of Revenue noted that because Inland Revenue had had to divert staff from audit and collection to maintain services “no new audit or debt collection cases will be opened and existing disputes will be managed as judiciously as possible.” The report then went on to note that “Inland Revenue’s ability to support customers is currently stretched to capacity.”

Now of course an unexpected event like COVID-19 will have some flow-on effects, but what has also emerged from these reports to the Cabinet is that the projected administrative savings that Inland Revenue promised the Government as part of the business plan for the Business Transformation programme have been completely wiped out.

The projection was that Inland Revenue would realise administrative savings for the period ending 30th June 2024 amounting to a total of $495 million. According to the latest report provided to Cabinet in July, none of those administrative savings are now expected to be realised[1] so that’s a $495 million dollar hit to Inland Revenue’s bottom line and effectively the Government’s by extension.

Earlier this year an academic article in the New Zealand Journal of Taxation Law and Policy[2] was critical of Inland Revenue’s Business Transformation programme.  The author thought that Inland Revenue had prioritised staff reductions rather than strengthening its ability to improve collection of taxes, particularly in the area of the cash economy.

On top of these issues of cost overruns and poor audit performance, there’s a growing problem of strains in the relationship between Inland Revenue and tax agents.   Tax agents are increasingly exasperated by Inland Revenue’s actions in directly contacting clients about various tax issues ostensibly in the name of better communication.  More often than not these calls result in confusion and duplicated costs which are often not recoverable.

So, this combination of cost overruns, lower audit and investigation work and a strained relationship with a very significant group of stakeholders, is something which is going to need careful monitoring by the new Minister of Revenue David Parker.  We will be watching with interest.

Well, that’s it for this year.  Thank you to all my guests and to all my listeners and readers. I really appreciate your feedback and your patience in sticking with me throughout a tumultuous 2020.  I suspect it will be well into 2021 before things settle back into what we might call normal.

Until then 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 year have a safe and enjoyable Christmas.  Ka kite āno.

[1] “The re-planning of organisation design changes may have implications for Inland Revenue’s ability to realise the administrative savings. The savings have already been removed from outyear baseline funding so the challenge for Inland Revenue is to manage within a reduced funding level. These savings are part of the funding available for transformation. It is too early yet for Inland Revenue to say what the implications will be.” (Para 59)

[2] Not available online publicly

How a common GST mistake cost a client $450,000

21 Sep, 2020 | The Week in Tax

  • How a common GST mistake cost a client $450,000
  • NZ tax residents must report income on worldwide basis
  • Labour’s tax policy announcement does nothing for inequality or the inequities in the tax system

Transcript

GST is frequently touted as a simple tax, and I think that’s partly because there’s only one rate and it applies across the board on almost all goods and services consumed in New Zealand. But like any taxes, it has a number of hooks in it which frequently trip people up.

Some of these hooks shouldn’t be tripping people up because they’ve been known about for some period of time. But surprisingly, I still come across this particular issue time and again. And it’s really quite concerning that it still does happen.

The issue will almost invariably involve land. It’s where someone has purchased land from an individual and then decides that it’s perfect for a development activity or whatever, and then sells that across to a company or sometimes a trust which is registered for GST which then claims an input tax credit.

This is where things go off the rails.  The issue is that the supply from the individual/another company who initially purchased the property to another party which is “associated” with it means that for GST purposes, the GST input tax claim that can be made is limited to the amount of GST paid by the first person.

Now, this provision, section 3A of the GST Act, has been in place since October 2000. It applies to transactions between “associated persons” which given the wide definition in the associated persons rules is very likely applicable when there are common shareholders/trustees/settlors.

What section 3A is designed to do is to stop someone buying a property then on selling it at an inflated price to an associated GST registered entity, which then picks up an increased input tax credit. And the rule basically says that the GST input tax is limited to the amount paid by the original purchaser. And since that purchaser often purchases it off a non-GST registered person, that amount is nil.

And I see this quite a bit. I’m surprised some lawyers and accountants haven’t really got across a measure which is now 20 years old.

The latest example I’m trying to describe is that the individual purchased the property, and then after advice from a lawyer – that for asset protection and business purposes – it would probably be better that the land be sold to a company to carry out the proposed development. That itself is not unreasonable advice. Problem was the lawyer overlooked the impact of GST and the client who is new to New Zealand didn’t get tax advice at the right time, which is another common mistake.

The company actually did get an input tax credit and refund of $450,000. You might well ask why did the Inland Revenue let a GST input tax claim of that amount go through? Fair question but it’s a complicated story.

Anyway, Inland Revenue then took a further look at it and then said, “Oh, no, you’re not entitled to that refund”. So now the client has to find $450,000 dollars and pay it back. They’re not best pleased which is understandable. And I think that is something that should provoke some fairly sharp questions between the client and their lawyer. But it is a common issue I keep seeing.

So, the golden advice here is get advice from your accountant and other advisors before you make the acquisition or get into the project. If you don’t, because you’re trying to save on professional fees, you might well find that trying to save two or three thousand dollars in advice has, like this particular client, just cost you $450,000. Get advice on any GST related transaction because GST has a lot more hooks to it than people realise.

I have a couple of other GST cases going on at the moment where people who said they were GST registered turned out to be not registered, or vice-versa and that has got lawyers at ten paces throwing writs at each other over whose client picks up the GST warranty.

NZ residents must report global tax income

Moving on, another common error I come across is people misunderstanding their income tax obligations where they have assets in more than one jurisdiction. I frequently encounter a position where a New Zealand tax resident also has property or other income source in the United Kingdom, Australia, wherever, and has been complying with that jurisdiction’s requirements to file a tax return.

This often happens involving assets in the UK. A person might have to file UK a tax return because they’ve got a rental property over there. But although they’ve complied with their UK obligations, they overlook the fact that as tax residents of New Zealand, their income is reportable taxable on a global basis. So they should be reporting the UK income here as well.

And that’s the bit that often gets forgotten about. Most people seem to be aware there’s a rule against double tax. And they seem to think that by filing a tax return in the country in which the property is situated, they have met their obligations and it’s only taxable in the country in which it’s situated. It’s not, it’s taxable worldwide.

Inland Revenue issued in July a very good Interpretation Statement 20/06 which sets out all the rules overseas rental properties. But I daresay this particular case won’t be the last time I’ll come encounter a situation where someone has reported income overseas, but not in New Zealand.

And it’s a good insight into always try and catch up regularly with your clients and take the opportunity to ask questions, because more often than not, if you don’t ask, you don’t find out. And then something happens after which everyone is going “Oops!” and no one is terribly happy about how that plays out.

Labour’s tax policies

And finally, last week, Labour announced their proposed income tax policy, increasing the top income tax rate to 39% for income in excess of $180,000. This has not been terribly well received, partly and very obviously from those who are likely to be affected. They’re not going to be happy about that. And that’s understandable. Who likes paying more tax? Let’s be frank about it.

But also, more importantly, leaving aside partisan issues such as Labour activists saying it’s too timid, the interesting issue to me is how other people have come out and said it really doesn’t do anything to address the issues of inequality and distortions in the tax system. It’s also been dismissed as just a drop in the ocean in terms of addressing deficits.

There’ve been two such articles in the past week that raised these issues. The first was from Jonathan Barratt a senior lecturer in taxation at Te Herenga Waka — Victoria University of Wellington. And he basically said that both Labour and National are really not doing anything to address questions of inequality. The tax base is too narrow, it benefits the wealthy and punishes the poor. And his key point was that neither major party seems to want to do anything about it.

I do have a view that the “Four legs good, two legs bad approach” to discussing taxation over the last 30 odd years hasn’t helped any constructive conversation in this matter. Also, property has become such an important asset for so many people where sometimes the untaxed growth in the value of the asset exceeds a person’s annual earnings, it’s therefore understandable people are reluctant to have that precious nest egg taxed.

Also coming out and having some fairly harsh, but fair, commentary on Labour’s tax policy was Geof Nightingale, of PWC, who’s been a previous guest of the podcast, but more importantly was a member of the last two tax working groups.

And he begins his article by calling it “Brief and predictable, but disappointing”. And he goes on to point out the 39% rate turns us back to the tax settings at the end of the 20th century when we last increased the top tax rate to 39% rate. The policy “makes the existing equity and efficiency distortions in our tax system worse and will have no significant impact on income or wealth inequality”.

Now, Geof was one of those who backed the introduction of comprehensive capital gains tax. What he’s pointed out here is that the increase in the tax rate to 39% is a progressive move but only in relation to employment and personal services income. It’s quite possible if you’ve got investment income, which is in a portfolio investment entity it’s taxed at 28% and it’s held in a trust it’s going be taxed at 33%.

I really do struggle to understand why Labour is not looking closely at the trust tax rate. It was known to be an issue the last time the top tax rate was 39%. But I suspect they may well come back to that if they get re-elected. There are anti avoidance measures in place, as Geof has said. But the whole point is that the zero percent rate on capital gains still applies and investment returns and capital gains because of the amount of money sloshing through the system now are likely to increase.

So, as he said, one solution is of course, a capital gains tax, which in his view and mine spreads the tax burden more equitably across the economy. And it could also allow lower personal tax rates. What’s often forgotten in the wake of what happened at the end of the Tax Working Group, was that lower tax rates were part of the whole package including capital gains tax. National of course will not do anything in that space. It’s saying it’s sticking to opposing capital gains tax and ruling out tax increases.

So Geof’s article was really quite swingeing in its criticism and fair enough in that regard. He concludes

“Here we are then, a government that wants a second term faced with a major fiscal crisis but backed into the dead end of a 20th century tax policy. Predictable but disappointing.”

Well, that’s it for this week. I’m Terry Baucher. And you can find his 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. Hei konei ra!

This week a look at the new Wage Subsidy Extension scheme

15 Jun, 2020 | The Week in Tax

  • This week a look at the new Wage Subsidy Extension scheme
  • Capital gains tax is back on the agenda
  • Time to top up your KiwiSaver contributions

Transcript

From last Tuesday, businesses and the self-employed can now apply for the Government’s Wage Subsidy Extension.

Eligible businesses can get a lump sum payment for a further eight weeks of $585.40 per week per full time employee. The criteria for this has changed from the original wage subsidy scheme. Now a business to qualify must have had a revenue loss of at least 40% for a 30 day period in the 40 days before they apply, compared with the previous closest period last year. So, for example, you’d look at your revenue in this month, June 2020, and compare it with the revenue for June 2019.

Applications for this are open until 1st of September. And as in the case of the existing wage subsidy scheme, it will be administered by the Ministry of Social Development who will be working closely with Inland Revenue on this matter. As I understand it, what happens is the application comes in and MSD will check and then if they’ve got any enquiries, they’ll give Inland Revenue a call.

The tax treatment of this subsidy amount remains the same as previously advised. That is, it is not subject to GST, is non assessable and non-deductible for the employer, although when the payments are made to the employees, they’re taxed as regular income through PAYE.

This does lead to a rather cumbersome tax and accounting treatment and some of us are looking at this and thinking for ease of accounting and to avoid slip ups, it may be better for the employer to treat it as all taxable and deductible. The net effect is the same anyway.  We’re looking at the accounting treatment of this, which can get a little awkward because of this mismatch between the wage subsidy payment being non-deductible for the employer but remaining taxable for the employees.

Speaking of ongoing government support, last Friday after I recorded last week’s podcast, the Finance Minister announced that the Small Business Cashflow Scheme would now be extended until 24th of July. This has been an extremely successful initiative for small businesses. So far, $1.33 billion dollars has been lent to well over 70,000 businesses.

And as I discussed last week, it had taken the space that the Government’s Business Finance Guarantee Scheme had not filled. And the comparison between lending under both schemes is quite stark. As I mentioned, the Small Business Cashflow Scheme has been accessed by approximately 70,000 businesses and they’ve borrowed $1.33 billion dollars.

By comparison, lending under the Business Finance Guarantee Scheme has been $86 million to just 503 businesses, according to the latest business lending numbers from the Bankers Association.

Now, it’s not like the banks are not lending. In fact, according to the Bankers Association, business lending since March 26th has been quite extensive. They’ve lent over $10 billion dollars to over 16,000 customers, as well as the separately reducing the loan payments on another $12.5 billion for 13,000 customers. In addition, they’ve deferred all loan repayments on one billion dollars owed by 3,105 customers.

So, the banks have been working in the background. It’s just that the Business Finance Guarantee Scheme, which was quite a headline project at the time, isn’t designed to do the type of lending that businesses are looking for right now. That is short-term, immediately accessible and with an uncomplicated process.

Unfortunately, the Business Finance Guarantee Scheme ticks none of those boxes and that possibly is down to the design of it and the understandable wish of Treasury to protect the Government’s risk.

As I said last week, one of the things about the benefits of the Small Business Cashflow Scheme is it deals with a matter of resourcing for small businesses. The process to borrow under the scheme is very straightforward and money is delivered quickly.

And the process small businesses go through when applying for loans to the banks, they struggle with that. They have to get a lot of material together. It costs some money to get if they bring in their accountant to assist. And there’s no guarantee they’ll get the funds.

So as I said last week, I think once we’ve gone through everything, the Government should look very carefully at how a future scheme to help small businesses could be designed.  Maybe we want to have a look at what the Small Business Administration in America does. How it guarantees loans and works together with banks on lending.

A simpler process for small businesses could be very helpful for the future growth of our country. Because it’s accepted by all that, we’re going to have to grow our way out of this recession if we are to get the massive amount of debt that the Government has rightly borrowed for this emergency under control again.  [Update, it appears that preliminary discussions about a permanent iteration of the Small Business Cashflow Scheme have taken place.]

Still a live public policy debate

And as part of getting the Government’s debt to GDP ratio under control again, capital gains tax has popped up on the agenda again in a couple of instances this week. Firstly, James Shaw, the co-leader of the Green Party, talking to Jenée Tibshraeny raised it as something that we should be considering. Shaw’s view was that a capital gains tax made more sense now,

“It was our policy when we entered parliament in 1999; it remains our policy today. The extent to which we’ll lead with that or with something else [at the election] is yet to be revealed,”

And talking of rebuilding and still on the tax side, PricewaterhouseCoopers (PWC) issued a report called Rebuild New Zealand, which set out seven planks, as it called them, to rebuild New Zealand.

One of these is about addressing tax reforms.  And what it says about that, to pick up a theme of last year’s Tax Working Group, is that tax reform must be considered to broaden the Government’s revenue base and remove investment bias. It refers to the elephant in the room being a capital gains tax. It’s probably no coincidence that Geof Nightingale, who’s a partner at PWC, was also a member of the Tax Working Group.

The report goes on,

“In our view, there is now a greater need than ever to broaden New Zealand’s tax base so it relies less on taxing income. So is it time to look again at a simple, broad based CGT?”

The report cites the example of the introduction of a broad-based GST over 30 years ago as a model for designing a future CGT, and goes on to say,

“The debate on CGT would be very different if New Zealanders had a better understanding of the extent to which it could actually impact them during their lives and also the trade-off that there might be an eventual trade-off between CGT and income tax.”

And this is something I think should be considered: by broadening the tax base to include capital gains tax the need to increase the top rate of income tax, for example, is minimised. There is a trade-off here and I agree with PWC we should be having that discussion. I don’t think we had a great discussion last year.

We’ll probably see more discussion about this during this election. And it will be interesting to see how the parties all fence around the issue. As I said, in April in this Top Five piece, COVID-19 means we are going to need to have a look at the tax system. Whether tax rates rise or CGT comes in are all on the table for discussion.

Getting the max KiwiSaver

And finally, you have until 30th of June to make sure you have contributed a minimum of $1,042 86 to your KiwiSaver scheme in order to qualify for the maximum government top of $521.43 cents. Now, the government contribution isn’t a lot, but it’s free money, so you should take advantage of it if you can.

Incidentally, PWC’s Rebuild New Zealand report suggested the question of boosting savings should be considered in order to help address the funding of New Zealand Superannuation.  It noted “While there is much to be admired with Kiwisaver, it remains a lightweight compared to the compulsory savings regimes in other countries, notably Australia”.

The report doesn’t say so but we’re still paying for the decision in 1975 by Muldoon’s third National Government to scrap the compulsory superannuation savings scheme established by the third Labour Government.  In my view that decision by the Muldoon Government probably ranks as the single most economically harmful act by any New Zealand government in the past 50 years.

As I said, we’ve been paying for it for the last 50 years, particularly since the Baby Boomer generation reached retirement. And the matter will not go away. The Tax Working Group noted that structural deficits would be increasingly likely by the latter part of this decade. So the issue of addressing the cost of superannuation – how it’s funded – isn’t going to go away.

And on that bombshell, 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. Please send me your feedback and tell your friends and clients.  Until next time, Kia Kaha,  stay strong.

 

Changing tax thresholds and capital gains tax are back on the agenda

24 Feb, 2020 | The Week in Tax

    • Changing tax thresholds and capital gains tax are back on the agenda
    • Inland Revenue warns the hospitality industry
    • OECD estimates international tax reform could be worth USD100 billion annually

Transcript

Last week began with Simon Bridges, the National Party leader, outlining the party’s proposed economic platform for the coming year. And in that speech he alluded to the expectation of tax cuts before, in what was possibly a casual use of language, he said that persons on their average wage should not be paying a third of their income in tax.

This prompted a bit of a pile on because it was quickly pointed out that someone earning the average wage of about $65,000 per annum pays on average 19.2% in income tax. And in fact, some nerd calculated only a person earning $3 million or more, would actually have an average income tax rate of 33%.

And this is a reflection, as I explained to Wallace Chapman and the Radio New Zealand panel on Tuesday afternoon, of our progressive tax system. As your income rises, the tax rate rises starting at 10.5% before reaching 33% on income over $70,000. But the point I made is that the rates jump quite sharply from 17.5% to 30% at the $48,000 mark. And so, the question should be whether those thresholds and rates are appropriate.

And interestingly, when looking at this in preparation for speaking to Wallace Chapman, I went back to just see how often the tax thresholds have been changed. As I explained, 33% cent has pretty much been baked in since 1989 with the exception of the period between 1999 and October 2010, when it was increased to 39% before dropping back slightly to 38%.  The threshold has varied obviously during that time, but over the past 30-year period, the top rate threshold has only been adjusted six times by my reckoning. Six changes of thresholds in 30 years is actually quite surprisingly low.

Many other countries adjust for inflation. Britain does. And it’s a mandate in the UK tax legislation that if you are not adjusting income tax thresholds, you must specifically legislate to not do so. My view is that something like that should be in our tax legislation, because otherwise politicians are able to claim tax cuts when in fact we’re dealing with something which is no more than an inflationary adjustment.

But the tax pressure point for people is not, in my view, around the 33% top rate, even if it is perhaps low by world standards. But on that threshold, around the $48,000, when someone moves from 17.5% to 30%. That’s quite a significant jump of twelve and a half percentage points and quite a lot of other things are happening at the same time. Working for families’ abatements are kicking in at 25 cents on the dollar for income above $42,700 dollars. For someone who’s on or near average wage or possibly a bit below and maybe receiving working for families’ tax credits, they have a quite significant jump in their marginal tax rate jump.

They go from 17.5% to 30% and then they have an effective 25% on working for families’ abatements.  And it’s not inconceivable they might also have a student loan in which case they lose another 12% of their income anyway if it is just over $20,000. So, it’s not impossible for someone earning around $50,000 to have an effective tax rate of 67 % or more. That is 30% income tax, 12% on the student loan and 25% working for families’ abatement.

We’re going to see something this election from both sides of the spectrum about tax and this is an area where I believe the parties that want to sell their tax policies on need to focus on. It’s that low to middle income earner, moving up through thresholds who is definitely most in need of some form of tax adjustments.

Then at the same time, no fewer than three separate bodies popped up with the capital gains tax issue. And I can probably now say I told you so. Because those who listen to the podcast will know that I said at the start of this decade, not so long ago, that I expect that capital gains tax debate to re-emerge. I have to be honest; I didn’t think it would happen so quickly.

We had the Helen Clark Foundation releasing a paper on housing affordability in which it proposed a capital gains tax. There was an interesting snippet in there, which highlighted one of the reasons why our housing is so expensive, but I think also should be of great concern to us economically.   The report said and I quote,

Loose regulation of mortgage lending. Buyers in New Zealand are borrowing up to 7.5 their income, compared to 4.5 times in the United Kingdom has allowed prices to inflate rapidly.

Seven and a half times income is a quite frightening statistic in my mind, because it means that those people who are taking mortgages at that level have absolutely no margin for error if – actually it’s not if it’s when –  interest rates rise. So, the hope obviously from that group of people is that the equity in the house keeps ahead of the potential risks that they have an interest rate rise and that their earnings rise substantially to bring down that income ratio.

Then we had Dominic Stephens of Westpac. He highlighted the problem that house price inflation has picked up, again, as he predicted, with the non-implementation of a capital gains tax.

And finally, we had the United Nations Special Rapporteur Leilani Farha from Canada damning New Zealand’s housing crisis, calling it a perfect storm.

And she called for a capital gains tax as well. So, an interesting trifecta of opinions on the matter.

Moving on, we got an email from Inland Revenue who do like to keep in communication with everyone much more now under their upgraded system.  It told us, quote, “We’ll be contacting your clients in the hospitality industry to thank them if they’ve been keeping their books in order.” Which I thought was a marvelously passive aggressive way of saying ‘if they’ve been keeping good books in order, great. If not, we’ll be asking questions’. And the email actually goes on to say, “we’ll also be encouraging our clients to put their records right if they’ve left anything off their past tax returns”.

Passive aggressive tones aside, this is something we’re going to see a lot more of. Inland Revenue is going to get very specific about targeting particular industries and it’s going to be very vocal about what it’s going to do and how it will go about it. The message will be sent out to tax agents, hospitality industry associations, etc. They’ll be told, ‘We’re going to look at this, so pass the word along to your members’.

And to be honest, I think that’s a good approach because to apply Gresham’s law, bad money will drive out good.  Those sorts of operators who are undercutting other taxpayers who are fully compliant are a risk to the whole sector as well as simply leeching off the system, in that they expect the full availability of public services but aren’t prepared to contribute fully to that. And that, incidentally, is Inland Revenue’s messaging.

I see that, by the way when I get communications from the UK’s H.M. Revenue and Customs they have the same slightly passive aggressive tone to them, saying if you’ve not paid your tax on time, then you are not funding hospitals, roads, schools, etc.

So the messaging from tax authorities is changing in this area. But the key takeaway here, and you can’t say you weren’t warned, is that if you’re not compliant Inland Revenue will be asking questions. And I really do say that it is a question of will, not if.  It would be foolish to pretend because compliance in the past has been monitored inefficiently that it will continue to be the case. That most definitely isn’t the case. Everything I see in my interactions with Inland Revenue at either an operational level or talking at the higher policy level points to much more sharply tuned tools being employed more quickly to deal with matters like this.

And talking about dealing with matters of tax compliance or in this particular case, tax avoidance, the Organisation for Economic Co-operation and Development has just published an estimate of what it thinks will be the potential benefits from reform of the digital economy.

Several matters came out of this. We have this ongoing what they call the Pillars 1 and 2 approach and so far, according to the latest report given to the G20, they are still confident they can nut out something on this matter by the end of the year.  Now what is obviously going to get the tax authorities and governments interested, is that the OECD estimates the combined effect of Pillars 1 and 2 as potentially bringing in up to 4 % of global Inc corporate income tax revenues, which is equivalent of U.S. $100 billion dollars annually.

The interesting thing they also say which will also encourage buy in from governments, is that the revenue gains are expected to be broadly similar across high, middle and low-income economies.

A 4 % increase in corporate income tax take here in New Zealand would amount to if my calculations are correct over $650 million annually based on the current income company income tax take of $16.4 billion. That’s a very tidy sum of money.

I have to say, I doubt whether in fact we would benefit as much as that. We’re very much a price taker in these matters as those who deal more in this international tax space have pointed out. So, I think the benefit will be substantially less than $650 million annually, but still very much worthwhile for our government to buy into the OECD’s approach. But we shall have to wait and see, and I will keep you informed as news emerges.

Well, that’s it for the week in tax. I’m Terry Baucher and you can find this podcast on my website www.baucher.tax or wherever you get your podcasts. Please send me your feedback and tell your friends and clients. Until next time have a great week. Ka kite āno.

Is the capital gains tax really dead?

Is the capital gains tax really dead?

21 Jan, 2020 | Tax News

ANALYSIS: Who killed the capital gains tax proposal and why? What did that decision cost us? And is it really dead or just resting?

Tax is inherently political, so when looking at who killed the capital gains tax (CGT), the answer is straightforward: it was New Zealand First in the Beehive with its veto. Firmly slapping down Simon Bridges’ attempts to claim credit for the decision, Winston Peters declared: “We’ve heard, listened, and acted: No Capital Gains Tax.”

Curiously, one of Peters’ justifications for NZ First’s veto was that a CGT would unfairly penalise those who had been “forced” to invest in property following the stock market crash in 1987. It’s worth remembering that even if a CGT had been introduced those historic gains would not have been taxed. (This crucial fact was often rather conveniently overlooked during the debate.)

New Zealand First’s decision had the backing of a number of transparently self-interested groups such as the NZ Property Investors Federation but also many smaller businesses who were concerned about the potential impact.

The wider business concerns were a reason why three members of the Tax Working Group (TWG) — Joanne Hodge, Kirk Hope and Robin Oliver — disagreed with the group’s recommendation of a comprehensive CGT. The three considered any potential benefits would be outweighed by increased efficiency, compliance and administrative costs.

However, the TWG was unanimous that there was a “clear case” for greater taxation of residential rental investment properties.

Robin Oliver, a former Inland Revenue deputy commissioner, presented some interesting insights into the failure of the CGT when he and fellow TWG member Geof Nightingale spoke at the Chartered Accountants Australia & New Zealand (Caanz) tax conference last November.

Oliver commented on the visible lack of political support for a CGT, which was in marked contrast to how Roger Douglas and Trevor de Cleene had promoted the introduction of a goods and services tax (GST) in 1985.

Oliver also noted the proposed design was probably too uncompromisingly pure. In his view the politics were always going to be difficult and compromises would be needed to cross those hurdles.

Incorporating some form of inflation adjustment was another potential compromise. This is common in jurisdictions with a CGT. Australia, Canada, South Africa and the United States all do not tax the full amount of a gain. Instead, the gross gain is reduced by between 40 per cent and 50 per cent, with the net amount then taxed as if it was income.

The United Kingdom does tax the full amount of the gain but applies a different tax rate linked to the taxpayer’s total income. Interestingly, that tax rate can be higher if the gain relates to property.

Neither of these compromises were ever floated and so the CGT was effectively left to wither and die.

WHAT WAS THE COST?

What did the decision to shelve the CGT cost? For starters, the TWG modelled four revenue-neutral scenarios for redistributing the $8.3 billion a CGT was projected to raise over the first five years.

All four scenarios included personal income tax reductions of at least $3.8b over the five-year period, with the most generous scenario suggesting income tax reductions of $6.8b.

For many people, the decision not to adopt a general CGT meant they lose out on lower income taxes. However, a cynic might say that for residential rental investment property owners the continuing benefit of untaxed gains far outweighs any such benefit.

The decision not to adopt a general CGT does nothing to break New Zealand’s long-running pattern of over-investment in residential property.

The decision also does nothing to break New Zealand’s long-running pattern of over-investment in residential property, which means little real progress can be made on addressing housing affordability. There is therefore likely to be an ongoing cost for those Millennials and Generation Zers wanting to own their own property.

There’s a wider concern that funds which could be used for productive investment will be increasingly diverted into residential property, particularly in the wake of the increased capital holding requirements for banks.

DING DONG THE WITCH IS DEAD – OR IS IT?

New Zealand therefore remains an outlier in world tax terms in not having a generally applicable CGT. But it is not as if no capital gains are currently taxed. The tax system has nearly 30 separate provisions taxing some form of capital gain.

This includes a general provision which will tax any gains made from disposals of personal property if the property was acquired “for the purpose of disposing of it”. Critics of a CGT also ignored that it would have brought a certainty of treatment to all transactions.

In the absence of that certainty, taxpayers cannot always be certain that a property sale will be non-taxable. Tighter enforcement of the existing rules by Inland Revenue is very likely.

As a sign of this, I have recently become aware Inland Revenue is reviewing property transactions from as far back as 2012. Although these disposals pre-date the introduction of the bright-line test in October 2015, it appears they would have been taxable if the test had existed at the time of sale. The spectre of CGT therefore remains.

Robin Oliver concluded his comments at the Caanz tax conference by noting that although he remained opposed to a general CGT, he did not consider the present under-taxation of residential rental investment properties was sustainable in the long run.

Nightingale supported that assessment. Both were undecided as to whether a CGT was the best means of addressing the issue of under-taxation. An alternative might be to apply the deemed return approach used to tax overseas shares in the foreign investment fund regime.

It’s therefore wise to assume that CGT is not dead but merely resting. My expectation is that the debate will emerge in force towards the end of this decade as the rising cost of superannuation and health costs for the elderly puts increasing pressure on government finances.

By then inter-generational frustration with housing affordability may mean voters are ready to back change. We shall see.

 

This article was first published on Stuff.