21 Feb, 2022 | The Week in Tax
- Inland Revenue guidance on the deductibility for income tax purposes of costs incurred due to COVID-19
- Inland Revenue releases an issues paper on the future of tax administration in a digital world
- The tax perils of not taking advice before migrating.
Transcript
We’re now in the third year of the pandemic which over the past two-and a-bit years has resulted in an enormous amount of upheaval, both socially and for businesses. Plenty of unusual situations have arisen as a result, and the tax treatment of those situations needs clarification.
Inland Revenue has therefore released some draft guidance for consultation on the tax deductibility of costs which have specifically arisen because of COVID-19. What the paper notes is that businesses have suffered significant disruption as a result of the pandemic, and many have had to incur additional costs that would normally be regarded as unusual or abnormal, which have only arisen because of the pandemic. In addition, businesses are continuing to incur holding costs such as interest and depreciation for assets which they can’t use at the moment, either because of COVID-19 restrictions or because they’ve temporarily downsized the business.
This paper is designed to give guidance around the income tax deductibility of expenditure in those circumstances. It looks at a number of particular situations that obviously Inland Revenue have seen or have been asked to advise on. For example, what about the costs of bringing employees into New Zealand or retaining teams who are unable to work? What about providing accommodation to keep teams housed together in a bubble during a particular set of COVID-19 restrictions?
Other scenarios include what’s the tax deductibility of giving employees vouchers or incentive payments? And then what about redundancy payments – are they deductible if they were a result of COVID-19? What about costs of terminating contracts and related legal fees?
Repairs and maintenance and depreciation on assets and equipment that aren’t being used because of the pandemic – are they deductible? And then premises costs such as lease break fees and other costs such as keeping people appropriately distanced in a workplace. As you can see, there’s a lot of scenarios considered in the paper.
The general rule for deductibility is in Section DA 1 of the Income Tax Act. For a cost to be deductible there must be a nexus between the cost and the person’s income earning process. Now that’s always a matter of fact and degree and what must be kept in mind is that the cost to be deductible doesn’t need to be linked to a particular item of income and the income doesn’t need to be produced in the same year as the cost was incurred. The cost must be incurred in general terms as part of the business’s income earning operations. That means you can take longer term objectives about why you’re incurring expenditure.
The paper then matches these basic principles to the scenarios that I set out before with a series of good examples. These scenarios involve a hotel chain, a café, a construction company, a tourism business, and an office. I recommend reading the paper if you’ve encountered some of these unusual situations. Consultation, as I said, is open now and continues until 31st March.
Incidentally, talking about consultation, submissions close at the end of this month on an Inland Revenue consultation regarding charities and donee organisations. I covered this consultation in early December and the question of the charitable status of a few organisations has been in the news lately. So, here’s your opportunity to make submissions to Inland Revenue.
Tax in a digital world
Moving on, in my first podcast of the year, I suggested that Inland Revenue will be looking to move forward the process of tax administration now it’s completed its Business Transformation. And I recommended looking at a paper prepared by Business New Zealand on the future of tax administration.
Inland Revenue has now released an official issues paper on tax administration in a digital world. And this, I think, is a very important development for tax administration and for tax agents and intermediaries, or anyone involved in the tax system. As the paper outlines, businesses are moving online, and this is shaping Inland Revenue’s thinking about the future world in which the tax system will operate.
The paper runs to 25 pages and there is a lot to consider so I could rabbit on for quite some time. It picks up many of the principles or ideas that were set out by the Business New Zealand paper, but probably at a higher level. Inland Revenue believes that there are four pillars that set out the core framework for tax administration and social policy administration to function well. That is fairness and integrity, efficiency and effectiveness. And the paper discusses what is the impact of technology on all of those.
As Inland Revenue sees it, key features of the digital world are likely to be businesses operating in a digital ecosystem. That is, connected digitally to their suppliers and customers. The Administration of tax and social policy payments will be integrated to broader economic systems. That means, for example, individuals or businesses can use a common digital identity across a range of services. That is something I think that’s happened with COVID-19. The pandemic will accelerate that trend because it just makes life so much easier for everybody. You’re not having to deal with providing repeat information to different agencies.
Tax administration processes are going to become embedded into business systems that businesses are using. In other words, they’ll use systems that fit their business rather than tax obligations. And then, this is a key one, digital processes will enable data to flow in real time.
This is a point I keep coming back to – the amount of data that’s flying around and Inland Revenue’s access to that data, is increasing all the time. And the speed with which that data is being received and processed is also accelerating. Which means, as I’ve said repeatedly, there are fewer and fewer places to hide from Inland Revenue.
And so this paper looks at what that future might look like and it sets out some frameworks, and sets the scene in the shift to digital. There’s a very important chapter for tax agents, intermediaries and other people who work with Inland Revenue about how it sees these relationships developing. The paper considers the issue of data, how it’s collected, how it’s shared and what statistical data is to be made available on an anonymous basis.
You will know at the moment there’s a lot of controversy going on regarding a high wealth project where Inland Revenue is asking a group of about 400 New Zealanders for detailed information about their wealth. In my view, one of the weaknesses in the New Zealand system for some time has been that we haven’t actually collated a lot of data when we file tax returns. And so compared with other jurisdictions we don’t really have good data on many parts of economic wealth. That project, controversial as it is, addresses this issue. In the future because data can be found and supplied more easily, I think the data requests from agencies and particularly from Inland Revenue will increase.
There’s also talk about publishing debt data. In other words, if someone’s been a bad boy – and by the way, it is invariably boys in my experience – Inland Revenue may share that data and may develop a number of tools for enforcement.
Then the final chapter talks about general simplification process, how tax laws are written, simplifying the tax year end position and payments around the tax system.
The issues of data sharing and data protection are very, very important. In my view Inland Revenue does have a good reputation and processes for not leaking data, and its data is secure. But as it changes its role to interact more with intermediaries such as tax agents, there’s an obvious risk of leakage.
The paper therefore suggests the current process by which a person can become a tax agent needs to change. Actually within the tax agent industry I think there is a recognition that does need to change even if that reflects a certain amount, you might say of self-interest by the professional bodies. It is quite true and not an apocryphal story that a prisoner registered as a tax agent with Inland Revenue when he was in jail. He was able to do so because he had 10 clients who had to file tax returns.
If data is now going to be shared more freely and Inland Revenue is not directly controlling so much of the process, it needs to be certain that the people it’s granting access to its systems or data are trustworthy. So that’s a big issue to consider. As I said, the paper is a fascinating one. It’s a big topic, but it’s only 25 pages, and an easy read. Submissions are now open and continue until 31st March.
The tax consequences of emigrating
And finally, this week, according to the latest statistics New Zealand figures, more people continue to leave New Zealand on a permanent long-term basis than are arriving long term. In 2021, there was a net annual loss of three 3,915 people. Now at the risk of sounding like a broken record, one thing I regularly encounter is this issue of people migrating offshore, usually to Australia, sometimes to Britain or America, and overseas migrants from other countries coming to New Zealand.
It is quite astonishing the number of people who move overseas without looking through and considering all the tax implications of their move. In particular, if they are a trustee of a trust. As I have recounted a number of times, particularly in relation to Australia, the consequences of becoming resident in Australia can be quite disastrous. But I still keep encountering this issue. In fact, at the moment I’ve got three cases on the go involving variations on that theme.
So just a reminder to anyone who’s thinking about moving to Australia or moving overseas. Just remember to get tax advice before you go. You may be missing an opportunity. You may also be giving yourself a significant tax headache, which nobody wants.
Well that’s it for this week. I’m Terry Baucher and you can find this podcast on my website www.baucher.tax or wherever you get your podcasts. Thank you for listening and please send me your feedback and tell your friends and clients.
Until next time kia pai te wiki, have a great week!
1 Nov, 2021 | The Week in Tax
- The latest Covid-19 updates
- Extra time to file 30th September GST returns
- A review of Inland Revenue’s June 2021 annual report
Transcript
Last Friday, the government announced a couple of changes to the resurgence support payment from 12th November. It will now be paid fortnightly and the amounts have been increased to $3,000 per business, plus $800 per full time employee, up to a maximum of 50 full time employees. The maximum fortnightly payment is now $43,000, and if you’re a self-employed or sole trader, you can receive a payment of $3,800.
This has been brought in to help with this long lockdown that has hit Auckland businesses in particular very, very hard. There are some businesses, such as all those with close contacts such as hairdressers, beauticians, gyms and personal trainers who really have not been able to trade since this lockdown began back in August. The eligibility criteria remain the same. Your business must have experienced at least a 30% drop in revenue or a 30% decline in capital raising ability over a seven-day period due to an increase in alert levels.
Now it’s available to businesses anywhere in New Zealand and will continue to do so until Auckland moves to the new COVID-19 protection framework, the traffic light system, so hopefully that will be sometime towards the end of November.
Now also as of 9a.m. today applications for a sixth round of the wage subsidy are open until 11:59 p.m. on 11th November. The criteria remain the same here. There is a revenue test, and you must show that there’s been a decrease of at least 40% when compared with the revenues during a typical 14-day period in the six weeks immediately before there was an alert level escalation. Again, most businesses in within the Greater Auckland region would qualify for that, and no doubt a few outside Auckland would still perhaps be feeling the pinch.
Moving on, Inland Revenue has just completed its final upgrade of its Business Transformation. As part of this, it was offline for a week, and that actually was over a period when GST returns for the period ended 30th September were due. Anyone who was due to file a GST return and pay provisional tax, which would normally have been due on 28th October, now has an extra week until 4th November to complete and file the GST return and payments.
Our main topic today is a look at Inland Revenue’s annual report for the year ended 30th June 2021. Now this is an important document, obviously, and it’s a big document, running to well over 200 pages. This period covers two things – the completion or near completion of Inland Revenue’s Business Transformation project and also how Inland Revenue operated and has continued to operate through the COVID-19 pandemic.
The report begins by setting out Inland Revenue’s mission statement which is to “contribute to the economic and social well-being of New Zealand by collecting and distributing money”. It points out that it’s responsible for collecting over 80% of the Crown’s revenue. The highlights section hammers home this point as a key result noting that Inland Revenue was responsible for collecting $93.8 billion of tax in the year to June 2021. To put that in context, that was up 21% on the period to June 2020. You can therefore see the impact of COVID and the arrival of the pandemic in in the prior year and the strong recovery.
The report has a quite an enormous amount of detail and as you would expect, it’s a mixture of the positives and the not quite so positive. Key thing is that it’s continued to operate very smoothly through its Business Transformation and through the pandemic.
Couple of key metrics here that it’s picked out, which I think do deserve highlighting and are very interesting is that 89.9% of payments from taxpayers were on time that’s up from 85.9% in 2020.
It also highlights that 90% of taxpayers feel confident that they were doing the right thing and finding with it, and 81% said that they found it easy to deal with Inland Revenue. As a tax agent, I will probably have a different view about the ease of dealing with Inland Revenue which can be a bit frustrating at times. However, the system is clearly designed to enable taxpayers to interact directly with Inland Revenue and speed the process up, and that that seems to be going quite well.
By the way, the report likes to talk about “customers”. “Customer” or “customers” are used nearly 460 times in the report, as opposed to a mere 33 times for “taxpayers”. I’m old school we’re taxpayers, not customers. But that customer centric approach that Inland Revenue is trying to adopt shouldn’t be dismissed lightly whatever we might feel about the terminology because it shapes how it interacts with taxpayers. It’s trying to take a more proactive approach.
More accurate square up
One of the key parts that’s come out of the Business Transformation project is the automatic square up that happens after the end of each tax year throughout May and June. Now there’s always some big numbers on this. But what’s interesting to see is that there’s more accuracy coming into the system judged by the declining amount of refunds that have to be paid out.
For example, in the year to June 2020, 3.1 million automatic assessments were issued resulting in $688 million in refunds. For the same period to June 2021 the refunds totalled $455 million. And by the way, 90% of those went to people earning $70,000 or less. So that drop off indicates to me that Inland Revenue is getting more accuracy during the year around tax payments, and that’s actually to people’s benefit if they’re paying the right amount of tax through the year.
That’s a good example of Inland Revenue taking a proactive approach, and the then, of course, Inland Revenue had to work closely with the Ministry of Social Development in the distribution of money through the wage subsidy scheme. And then has also been given responsibility for the new resurgence support payment. And the report notes that $200 million was paid out to businesses impacted by the February lockdown.
Inland Revenue’s normal duties include collecting and distributing KiwiSaver payments and that amounted to almost $8 billion in the year. According to the report 95% of that amount was collected and passed to the relevant scheme providers within two days.
106,000 $16,225 SME “loans”
Inland Revenue also has to monitor the small business cashflow scheme, and as of June 2021, that totals $1.72 billion to 106,000 businesses and taxpayers. So, in its core job of distributing and collecting money, Inland Revenue is doing very, very well. Its response to COVID-19 has been exemplary. Yes, there will always be isolated instances where things didn’t happen quickly enough. But on the whole, the system has worked very, very well in cases like the wage subsidy and the Small Business Cashflow Scheme that basically had to be designed from scratch and get up and running inside six weeks. So, Inland Revenue deserves a lot of credit.
IRD has fewer staff, still experienced
Poking around under the hood and looking at some of the more interesting metrics I have concerns with a couple of areas. One of the things that has come out of the Business Transformation project, and it was inevitable, by the way, was that Inland Revenue would be more efficient in its use of staff. As a result, its staff numbers have dropped off quite significantly. As of 30th June, it had 4,210 employees down 600 from June 2020, when the headcount was 4,831.
During the year, 700 people left Inland Revenue and only 97 new hires started. Looking at the workforce profile over the past five years, over 3,700 staff have left, but there’s been 2,000 new hires during that time. The turnover in staff to me seems a little high, and you hear varying stories about the type of staff who are leaving. But the average length of service within Inland Revenue for those remaining is 15.5 years which points to a core of relatively very experienced people still being part of it.
And that actually should give some reassurance that there’s still the technical grunt around. By the way, the report, does highlight that turnover for staff in tax technical roles is very low at about 3.1% for the year, which I think would be pretty good for any large business. Approximately 825 technical staff or 19.6% of Inland Revenue’s workforce are in this tax technical area.
But reading between the lines, morale at Inland Revenue is a bit mixed. Staff engagement was a metric that was in the June 2020 report, and in that report, it was 25%, which was way below other public service agencies. But the June 2021 report, does not actually have a specific measurement of where staff engagement is at the moment. There is some discussion of the topic, “We know that change can affect engagement” and it notes that a June 2021 survey said 60% of the staff felt very good or good about their recent work experience, with 29% being strong advocates for recommending Inland Revenue as a place to work.
Inland Revenue, by the way, has made progress on bringing down the average gender pay gap, but at 18.3%, it is near double the wider public service position of 9.6% as of June 2020. And apparently there’s a starting services gender pay gap as well of 14,9% which I find a bit strange. I can’t see why that should be happening, but apparently this is driven by the proportions of women and men in high and low paying roles.
IRD performance as a debt collector
Inland Revenue’s core role is to collect revenue and administer the enforcement of the various Taxes Acts. So how is it done there? Well, as I said earlier on, the tax revenue is up to a record $93.8 billion. But when you dig into debt collection and investigations, a different picture emerges.
The percentage of collectable debt by value, which is now over two years old, has risen to 51.7%. That said, the amount of debt outstanding as of 30th June 2021 rose only 3.2% to just under $4.4 billion. According to the report that reflects the impact of COVID-19.
Interestingly, one of the line items is “Other tax” which amounts to $157.7 million that’s a big jump from $45.8 million in June 2020. The increase reflects the finalisation of a high profile audit case, which I suspect must be the one involving Eric Watson.
Child Support, on the other hand, continues to be a problem and Inland Revenue wrote off $998 million, a substantial portion of which is penalties. I’m a longstanding critic of the penalty regime used in child support which doesn’t work. But fortunately, there’s changes happening here. And I think the debt write-off this year was to get ready for that.
And there’s also an increase of 8.9% on overdue student loan debt, which sits at $1.72 billion. Much of this debt is owed by overseas based borrowers and “is difficult for us to collect”.
A couple of weeks ago Professor Lisa Marriott and I discussed Inland Revenue’s debt collection efforts and we were reminded last week that Inland Revenue has the ability to refer “reportable debt” to credit reporting agencies.
So, I took the opportunity to dig into Inland Revenue’s reports and see how that has gone. This is a relatively new option and according to the June 2019 report, the Commissioner notified seven taxpayers that they had reportable debt and that it might give an approved credit reporting agency information in relation to them. The report for the year to June 2020 notes that the Commissioner communicated information to an approved credit reporting agency in relation to only one taxpayer. It appears of those seven threatened, six of them promptly paid up, so you could argue the system actually works.
But for the year to June 2021, the Commissioner did not communicate any information to an approved credit reporting agency and doesn’t appear to have warned any taxpayers. Now, as I said a few minutes ago, aged debt is on increase, so I wonder why didn’t Inland Revenue make use of this provision? That’s something that we will continue to monitor, and no doubt some explanation will come forward too.
Smaller focus on audits and investigations
But the other area I have concerns with is on the investigations front, where there has been a declining return. And as I mentioned previously, the June 2022 budget actually has a cut of $10 million in this field. (There’s also a cut of $6 million for funding for management of debt and unfiled returns).
According to its June 2019 annual. Inland Revenue investigations identified $985 million in tax position differences. That amount fell in June 2020 to $959 million, and it’s fallen again in this report to $854 million.
Now Inland Revenue is still getting a return on investment of more than its target measure of $7 per dollar invested. But it didn’t meet the targets for the specifically budget funded measures. Only $122.8 million was assessed for the year against a target of $174 million. And the explanation given for this was a decision to “defer our campaign work and reprioritise compliance activities to best support customers during COVID-19, has influenced our results.”
Supporting taxpayers through the COVID-19 is an incredibly important thing to do, and as I said, it’s done a very good job. At the same time the money has to be collected to meet those support payments. However, I’m not convinced that Inland Revenue was right to take the foot off the pedal on its investigation efforts. There’s lot of murmurs about the loss of highly experienced investigation staff and this declining return on investigation differences might reflect that.
This is an area where we want Inland Revenue to keep up its efforts because the whole core of our tax system is that it relies on voluntary compliance. It also relies on the assumption that Inland Revenue is working in the background to pick up and detect the those who are not complying.
By the way, a tax position difference may not necessarily equate to extra tax. It may be just as simple as “actually, you got the wrong amount of losses brought forward. Instead of $100,000 to carry forward, you’ve only got $50,000 of losses available.” That doesn’t equate to $50,000 extra tax, it’s actually the value of the tax payable on those losses.
Incidentally, there’s been some reports recently about the bright-line test, and one of the key metrics in the report is that 695 people made voluntary disclosures relating to a property tax obligation which resulted in about $43 million of tax. The number of people making voluntary disclosures for bright-line test obligations was 397 quite significantly up from the 91 in the June 2020 year.
However, when you look at the tax revenue raised by these voluntary disclosures, it’s not actually terribly significant, which points to whether there is non-compliance which isn’t being detected or actually there’s not a lot of revenue out there to be collected from the property sector. Given the volume of property investment that would be surprising.
Well, overall, you’d have to give Inland Revenue a solid pass mark, but you would be wondering, I think when Inland Revenue comes up for its annual review before the Finance and Expenditure Committee, there should be questions asked about what is happening around collections and investigations and the state of Inland Revenue staff morale. It could be now that Business Transformation is complete, that morale will improve. We’d like to see that because it’s important for a tax system, that the person you’re dealing with on the other end of the line has faith in the system and believes in their job. Because that means people get treated fairly. This is why I pay particular attention to this point.
Well, that’s it for this week. I’m Terry Baucher and can find this podcast on my website www.baucher.tax or wherever you get your podcasts. Thank you for listening and please send me your feedback and tell your friends and clients. Until next week kia pai te wiki, have a great week!
