- Terry Baucher discusses three major trends that could have an impact on tax policy, along with his hopes for 2023
Welcome back. This week, we’re going to take a look ahead to what I expect will happen this year and also what I’d like to see happen in the tax world.
And let’s begin with the elephant in the room. It’s an election year and the politics of tax in an election year are always greatly magnified. We can therefore expect to see and hear quite a lot about the tax proposals of the main parties.
However, as some political commentators have already pointed out, this year’s election is likely to be tight, which means that the policies of the Act and Green parties may have more influence when the major parties get down to negotiating coalition agreements after the election.
I expect most of the public debate and announcements from the main parties will centre around providing relief to the squeezed low- and middle-income earners. This is the group that’s been most affected by the impact of fiscal drag over the past years as where the non-indexation of tax threshold has resulted in increasing the large number of people on relatively modest incomes being pulled into the 30% tax bracket.
This then has flow on effect for those who may be claiming Working for Families, tax credits and the impact of abatement, results in very high effective marginal tax rates for that group, sometimes close to 60%.
The respective policies that we’ll see between the left and the right blocs will come down to a choice between broad based tax cuts or tax relief, whichever phrase they wish to use, which will benefit greater numbers or more targeted policies aimed at the low- and middle- income earners I just mentioned.
Now, what the respective parties’ policies are will become clear in the run up to the election, but I would expect that we would see Labour’s proposals announced in the Budget, which should take place probably on either 18th or 25th May.
Now, given the demonstrated preference for targeted assistance as shown by last year’s Cost of Living payments, I would expect we might see changes to the Working for Families abatement regime and maybe also the Independent Earners Tax Credit. Certainly the group earning at the top of the 17.5% tax threshold at the moment will be the target there.
Now invariably lots of big numbers will be bandied around about tax that year and we’ll have claim and counterclaim. It’s my almost certainly vain hope that the politicians of whatever hue give a clear indication of how they propose to fund the coming fiscal challenges which we face around the impact of demographic change and the implications of that on the funding of New Zealand superannuation, health care and the fiscal impact of climate change.
Now, as previously mentioned, those were issues that were all addressed in Treasury’s combined statement on the long-term fiscal position and Long Term Insights briefing. It was released in September 2021, which seems like an age ago. But keep in mind that a key driver of the Tax Working Group’s proposal for a comprehensive capital gains tax was partly to address concerns identified by Treasury in the 2016 long term fiscal position about a growing funding shortfall.
The Tax Working Group noted that if nothing changed, according to Treasury forecasts, then the Government was going to be running large deficits starting as soon as 2030. Now, whatever opponents of capital gains tax may say, those fiscal concerns that were identified by Treasury in 2016 and again in 2021 remain and will need to be addressed in one form or another as far as we can see.
Neither of the main parties want to specifically address this critical issue. It’s the minor parties, the ACT party and the Green Party who have proposals in the tax space. They may be ideologically diametrically opposed. But the point is, they are looking at these issues and saying, hey, how are we going to pay for superannuation, health care, and climate change?
Last year it was the Nelson region that got battered by storms. So far, it’s been Tairawhiti East Coast, which has taken a tremendous pounding from Cyclone Hale and other weather events.
Amidst all the noise of what will be, I regret to say, a quite fractious debate this year, I hope everyone keeps their eyes on the main objectives that whatever we decide is the level of tax we’re raising, it is meeting the objectives we want of maintaining services such as health care, superannuation and also addressing road maintenance, infrastructure, housing, climate change, to name but a few.
It’s hard work corralling cats who are beholden to big business lobbyists
Moving on, the second trend will be no surprise at all for long time listeners of this podcast, and that is ongoing international tax reform, the so-called Pillar One and Pillar Two proposals.
Now, since the big breakthrough was announced in October 2021, Governments and tax agencies have been working through, with varying degrees of success, as to how those proposals will be implemented. They all looked to have stalled last year in the face of the European Union’s failure to agree unanimously on accepting the Pillar One and Pillar Two proposals. But fortunately, that obstacle was overcome late last year, so we expect to see further progress in this area.
Interestingly, the OECD has a new director of its Centre for Tax Policy Administration, Manal Corwin. She’s actually pretty well known in the international tax community, has held senior tax policy positions with two US administrations. In fact she was previously a delegate and then vice chair of the OECD Committee on Fiscal Affairs and was a delegate to the Global Forum on Tax and Transparency.
She’s got over 30 years of experience, so on the face of it, is exceptionally qualified for this particular area. I understand she takes up the role with effect from 1st of April.
Now, like the previous director, Pascal Saint-Amans, she’ll be very busy driving this change and basically trying to herd a lot of cats towards an agreement on international tax.
There’s quite a lively debate going on in this space at the moment around how well the new rules will play out, when and to what extent it will be implemented and what will be the implications.
And throughout the coming year, I hope to have some guests on the podcast to talk in more detail about these international tax developments.
Information sharing targets crypto
Now, for most taxpayers, these proposals, which are directed at corporate taxpayers, don’t really have a great degree of impact, except to the extent that you feel that multinationals should pay more tax, which of course is at the core of these reforms.
But many people are more affected by international tax cooperation. And surprisingly, this is an area which has seen remarkably little public commentary on the matter. This is the information sharing that goes on between the various tax agencies.
As we’ve explained previously, this is happening at a much greater extent than the general public realises and probably appreciates. And I expect to see initiatives such as the Common Reporting Standards and the Automatic Exchange of Information continue to be expanded. And we talked last year about the new proposed reporting free framework for crypto assets. And again, we’ll see that a push through into implementation probably later this year. So that’s a major step.
More audits coming
That major trend will continue, and it ties in to the third trend I see happening, which is Inland Revenue ramping up its investigation and audit activity. Now that Inland Revenue has got past dealing with COVID and cost of living payments, it probably will be focusing on what it sees at its core role, preserving and maintaining the tax system’s integrity. And part of that will be driven by the information it’s receiving through the various international information sharing agreements that I have mentioned previously.
Inland Revenue, for example, last year put out an informative booklet on offshore taxation, and it’s setting out where it expects to see greater compliance in this space. And only a couple of weeks back, it is now sending out letters to those three groups of people it’s identified who receive cost of living payments where their eligibility was unclear.
The three groups identified by Inland Revenue are those who had only negative PIE income and therefore should not have received a payment. Those are others whose eligibility is unclear because they might be overseas or were overseas at the time of receipt. And finally, the other group didn’t meet eligibility for other reasons.
Anyway, it’s interesting at this point, it’s sent out the letters directly to recipients, on the basis that the cost-of-living payments were not linked to tax agents. And normally, if you are linked to a tax agent, they will receive the correspondence.
So Inland Revenue have decided to go straight to the recipients. They’ve estimated there may be as many as 80,000 people involved here. And so right now, that group of people are working through with Inland Revenue as to whether they were eligible and if not, how are they going to repay? What are the consequences of that and options for repayment.
That’s just the first initiative we know we’ve seen in the launch this year. I expect we’ll see more and particularly in the area around the cash economy and invariably around the property sector, which has always been a reasonably fruitful area for Inland Revenue.
Seek relief early
At the same time, Inland Revenue will also be dealing with businesses and taxpayers coming under increasing strain as the economy slows down. And so, it will be interesting to see how it responds to requests for relief in that space. Just to repeat what we’ve said previously, if you do run into difficulties in the area, the best approach is to contact Inland Revenue as soon as possible to make arrangements about paying in instalments where possible. They are generally sympathetic where taxpayers take the initiative and come forward.
I suspect this time around they are going to be less sympathetic where taxpayers have started defaulting on payments, such as PAYE and GST. It’s always taken the view that these payments are held in trust by employers, businesses and should not be used for any other purpose. Many of the prosecutions we see Inland Revenue take involve non-payment of PAYE and GST. So, expect a harder line to emerge on that potentially. Again, watch this space and as always, we’ll keep you tuned with developments.
Now, what would I hope to see going forward? I will keep it realistic. I know we constantly talk on this podcast about the need to address the taxation of capital. I think the current treatment is unsustainable in my view and is putting increasing strains on the tax system.
Things like the bright-line test and the interest limitation rules are by-products of not addressing that particular issue. But that’s not going to happen this year because for the politicians of the main parties it’s a topic they don’t really want to go near because they both see political downsides in doing so. So, I’ll focus on what things I think could happen realistically and what I’d like to see happen.
For example, I’d like to see some really good proposals coming forward to deal with a scenario I mentioned earlier about the taxation of low to middle income earners and these high effective marginal tax rates that trap them when they cross the threshold and the effective abatement on of benefits, whether it’s indexation of thresholds, or perhaps reshaping the thresholds as they haven’t been looked at properly since 2008.
I’d like to see something more than temporary targeted relief. This is an ongoing issue. It is a fault in the system and needs to be addressed otherwise we’re slapping a band aid on the matter and in another three to five years the same issues will re-emerge.
I personally have struggled for a long time to understand why New Zealand politicians seem to be very averse to the idea of automatically indexing tax thresholds. I think it’s because for a long time they’ve been able to proclaim changes to that as a tax cut and also, on the quiet, it gradually enables more revenue to be gathered through the impact of fiscal drag.
But automatic indexation happens in many tax systems around the world. The American tax system where the IRS is basically held together with bits of sticking plaster and string, can manage to index quite a substantial number of thresholds every year. Our system does index for ACC thresholds, and I don’t see why we can’t be doing that more in the income tax space.
There will also be plenty of talk this year, election year, about reducing the compliance burden, no doubt. And we’ll expect to hear that a lot from the ACT and National parties. And there’s no doubt that the compliance burden for small business is pretty high. And so, I’d like to see some thoughts put into making changes to make it easier for small and micro-businesses, those with five or fewer employers where they really do feel a strain. Personal declaration here – that’s a group I represent.
For example, one of the things I might think about is allowing for fixed deductions. Say that if you’re a self-employed contractor or something, there’s a standard amount of deductions claimable. You can claim these and you don’t have to worry about keeping records because in Inland Revenue’s experience, this is the sort of total expenditure that would happen generally. This would be something to help to simplify the tax system.
Changes to provisional tax would also help small businesses. Looking at the timing, for example. I mean, we just had a provisional tax payment on 16th January, which isn’t ideal timing, to be perfectly frank, and maybe we should rethink that date. Incidentally the changes resulting in the current timing of provisional tax payments were really made to suit larger taxpayers.
Now they might say, “Well, we pay most of the tax”. That’s true, but we have to follow your rules as small businesses and it doesn’t work for us, and there’s more of us than you.
Then, for example, there’s the financial arrangements regime which is horrendously complex and catches more people than it was ever envisaged to do when it was implemented in the mid-eighties. Some of the thresholds that apply in the financial arrangements regime have not been changed since 1999, so updates there would be helpful.
There’s also another quite irksome burden around paying non-resident withholding tax on mortgage interest paid to an offshore lender. And this often happens with for example, you’ve got a rental property overseas and you’re using the rental income from overseas to pay an offshore bank.
Under our present rules, technically you should be paying non-resident withholding tax or the Approved Issuer Levy on all such interest payments. Now, conceptually, you’re making payments to a non-resident, which is understandable, but it’s a lot of administration and practically the effect is minimal. But it’s one of those areas where I think Inland Revenue perhaps needs to have a think about whether it’s achieving what’s intended from the non-resident withholding tax rules.
And then I’ve mentioned earlier about fixed deductions. Maybe this should be a fixed allowance for home office space, again, making it easier for small business and employees. Overall, if you go into that space and you’re prepared to accept that there are swings and roundabouts and some people might push the margins, which is always what Inland Revenue worries about, there are definitely opportunities to reduce the compliance burden for small businesses here. I hope that politicians come forward with some realistic proposals in this area.
Well, to summarise, it’s going to be another busy year in tax and as always, we will keep you updated with developments throughout the year. That’s all for this week.
NOTE – this podcast was originally recorded on 19th January before I went overseas and was broadcast on 3rd February. Obviously, a LOT has happened since then.
e Tabacos de Filipinas v. Collector of Internal Revenue