Tax

Inland Revenue (IRD) charges a high rate of interest on late tax payments (currently 8.22%), and in some circumstances the complexity of the provisional tax regime makes interest charges hard to avoid. Add on late payment penalties, and the cost of meeting your tax obligations starts to feel punitive. Tax pooling was introduced in 2003 to address these concerns.

Although it has been around a long time, the use of tax pooling services is not yet commonplace for all taxpayers, perhaps due to a lack of understanding regarding how the system works. To illustrate, imagine you have had an amazing year and your income has significantly increased compared to prior years. The problem you now have is that you have underpaid your provisional tax. You receive a statement from IRD and it shows your liability has gone up due to interest charged from your third provisional tax date of 7 May 2018.

Meanwhile, your neighbour has had a poor year and her income has dropped. She has received a statement from IRD showing that she is due a refund because she overpaid her 7 May 2018 provisional tax payment. In this situation, a tax pooling intermediary, such as Tax Pooling Solutions (TPS), Tax Management New Zealand (TMNZ), and several others, can connect people that have overpaid their tax with people that have underpaid their tax. Taxpayers deposit tax payments with a tax pooling intermediary to be held as part of the ‘pool’. Funds held in the pool can be used to meet a person’s own liability or ‘sold’ to another taxpayer.

Tax pooling basically allows you to purchase your neighbour’s “tax” and transfer it into your account with IRD, with an effective date of 7 May 2018. From IRD’s perspective, there is no shortfall at 7 May 2018 and therefore no use of money interest (UOMI) is charged.

As another example, if IRD reassess a past tax return resulting in an increased tax obligation for a prior year, historic funds held in the pool year can be ‘purchased’ and used to offset the increased obligation. This is advantageous to the taxpayer, as the intermediary charges less to
purchase the historic tax credits than what IRD charges if paid directly. Conversely, for those taxpayers that have paid excess tax into the pool, the intermediary provides a higher interest return than IRD. Hence, tax pooling provides an advantage to taxpayers that have both underpaid and overpaid their tax.

Tax pooling provides taxpayers with a degree of flexibility regarding how they go about meeting their tax obligations. The days of being hit with excessive IRD interest and penalties if you get your provisional tax wrong are effectively over. Instead, there is a fallback mechanism available at commercially acceptable rates in the event that things go wrong.

The Tax Working Group (TWG) released its long awaited Final Report (‘the Report’) on 21 February 2019, following a 13 month review during which the Group received over 7,000 public submissions. The report contained 99 recommendations for the Government’s consideration; including the introduction of a broad Capital Gains Tax (‘CGT’).

Two months later the coalition Government ruled out the introduction of a CGT for the foreseeable future. The current Government is a coalition and without consensus it could not move forward.

Where does this leave us? What about the remaining 97 recommendations? The government has provided a written response to each of the TWG’s recommendations. However, the overall theme is that there will be no significant change or major evolution.

A number of the recommendations by the TWG were to make no change. For example, the TWG recommended the corporate tax rate should remain at 28% and no progressive corporate tax rate system should be introduced. The government has endorsed maintaining the current business and personal income tax regimes as they are.

The government has agreed to investigate taxing land banking, as this may trigger land development. This ‘power’ could be passed to local government. This has been referred to Inland Revenue to be added to its (IRD) tax policy work programme (TPWP) for consideration.

The Government is to continue its focus on the taxation of multi-national corporations (MNCs). The government is working closely with the OECD to achieve equity regarding income tax received by all jurisdictions in which MNCs operate. A draft discussion document is due to Cabinet by May 2019 regarding the taxation of the digital services economy, informally labelled the ‘Google Tax’ or ‘Facebook Tax’.

Part of the TWG’s final report covered what the revenue from a CGT should be used for, and therefore proposed a number of ‘spending packages’. The packages included bringing back depreciation on buildings, reducing taxes on income from savings, and increasing the income threshold for the 10.5% personal tax rate from $14,000 a year to at least $20,000 a year.

However, without the additional revenue that would come from a CGT, the Government has ruled out such changes as no longer attainable.

Most of the TWG’s recommendations have been referred to IRD for ‘potential’ inclusion on the TPWP. What action the TPWP drives remains to be seen. Some of these recommendations will be addressed as a by-product of the IRD’s ongoing transformation project. Through its improved systems there will be an enhanced focus on data and closer interaction with businesses and individuals using the online platforms, therefore work on enhancing the integrity of the tax system has already been under way for some time.

Ultimately, the outcome of the TWG process is mirrored by NZ’s MMP system. Action (as opposed to inaction) by a coalition government requires consensus from the members of that government. That consensus did not exist.

In 2011 the GST Act was amended to prescribe that a supply of land between two GST registered parties was subject to a rate of 0% if the land was to be used by the purchaser to make taxable supplies and not as a principal place of residence.

Given the change reduced the GST rate to 0% it is fair to assume it should have simplified how GST applies, i.e. there wouldn’t be any. However, in practice the change continues to cause problems both from a contractual and technical perspective. This led to Inland Revenue (IRD) issuing additional guidance in 2017. However, problems persist. Two examples are outlined below.

Under the GST Act, a purchaser is required to notify the vendor of their circumstances so that the vendor can establish whether or not to zero-rate the sale. In practice, this occurs by completing Schedule 1 of the Auckland District Law Society (ADLS) Sale and Purchase (S&P) agreement. However, there are instances where the schedule is not completed at all, in which case there is no ‘agreement’ between the parties regarding how GST applies.

If a GST registered purchaser does not complete the schedule and a vendor mistakenly charges GST at 15% because they assume the purchaser is non-registered, the purchaser will understandably apply to IRD for a GST refund. If IRD review the transaction and determine it should have been zero-rated IRD will decline the refund. Instead, the purchaser will need to seek a refund from the vendor. The vendor will also need to apply for a refund (of the GST) from IRD, to fund the repayment to the purchaser.

Another scenario is where Schedule 1 of the S&P has not been completed at all and the vendor incorrectly zero-rates a sale on the assumption that the purchaser is GST registered etc. In this situation, GST will need to be paid, but there is currently uncertainty regarding who is liable. A provision exists that deems the purchaser to be liable if a transaction has been incorrectly zero-rated. However, it is unclear whether this provision applies in all situations or only when the vendor and purchaser agreed what the GST treatment should be, which is later found to be wrong. If the vendor is held liable and the price has been expressed in the S&P as “including GST”, the vendor is worse off. If the purchaser is held liable and the S&P was “including GST”, it becomes a question of whether the purchaser can seek a partial refund of the purchase price from the vendor to fund their GST liability.

It is extremely important to ensure the S&P is complete and correct. Costly mistakes can be avoided simply by following due process. If you are unsure, please ask your advisor.

The Government has now released draft legislation prescribing how its R&D tax credit will operate. The key incentive is the introduction of a 15% R&D tax credit (increased from 12.5% in the draft proposals) applying to maximum expenditure of $120m, equating to a potential tax credit of $18m. Businesses can apply to exceed this expenditure cap if they can demonstrate NZ will derive a substantial net benefit from the R&D. The minimum R&D expenditure threshold has also been decreased to $50,000 per annum, from the original amount of $100,000, which will help smaller businesses access the regime.

As originally proposed, the new tax credit was to be non-refundable. During the consultation period requests were made for the new scheme to include a refund mechanism for early stage R&D intensive companies that commonly experience tax losses during their early years. The resultant cash flow problems can threaten their existence. The Government recognised that such firms are vital to innovation and the development of a diversified economy. Hence, for the first year of the new regime (1 April 2019 – 31 March 2020) the Government will allow tax credits to be refunded based on the limits prescribed within the existing tax-loss cash-out scheme, i.e. businesses can receive refunds providing at least 20% of their labour cost is R&D related, to a maximum eligible spend of $1.7m. At the new tax credit rate of 15%, this will provide a maximum refund of $255,000. For context, approximately only 350 businesses currently benefit under the current scheme. The Government recognise this is only an interim solution so they will continue to review the new regime, with revised rules for refunds expected from 1 April 2020.

A further welcome change is a widening of the definition of ‘eligible R&D expenditure’. The initial Discussion Paper contained a narrow definition requiring the use of ‘scientific methods’. There was concern that this would preclude tech sector businesses from accessing the regime, as the development of computer software or phone apps is not commonly based on ‘scientific methods’. This has been addressed, with the revised definition based on the use of a ‘systematic approach’.

The tax credit claims will be submitted alongside income tax returns. However, from the 2020/21 year, businesses will be required to attain pre-approval of their eligible R&D expenditure, which will be binding on IRD, providing businesses the ability to confidently forecast their future tax positions.

The changes to the regime reflect the Government’s commitment to raise NZ’s R&D expenditure to 2% of GDP over the next ten years, whilst making the regime accessible to a wider range of businesses.