Richard has had over 25 years’ experience with NZ taxation, and particularly enjoys dealing with land tax issues and the GST regime. He deals with clients of all types and sizes and provides tax opinions on the appropriate treatment of items of income and expenditure, assists clients with IRD risk reviews and audits and can assist clients who are having difficulties meeting their tax payment obligations to make suitable repayment arrangements with the IRD.
Here are snippets from Richard’s weekly email ‘A Week in Review’ over the last month. If you would like to receive them as they happen, please email Richard directly and get onto the database.
- MLI now in force
- AML/CFT exemption request
- Trust Bill progress
- R&D Bill receives first reading
- Resource Consents – tax treatment
- IR having a bad run
- Paying those close to home
- Do you need assistance with anything tax?
- PPOA decision goes against tax payer
MLI now in force
Back in June I provided an update with respect to NZ having signed the OECD Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting (the Multilateral Instrument or the MLI).
The MLI is a multilateral international treaty, which is designed to quickly and efficiently incorporate new model treaty provisions arising out of the G20/OECD Base Erosion and Profit Shifting (BEPS) work into existing tax treaties. The new provisions are designed to help prevent the misuse and abuse of tax treaties for tax avoidance and tax minimisation purposes, while also ensuring that such rules do not lead to unnecessary uncertainty for compliant taxpayers, or unintended double taxation.
From a NZ perspective, the MLI came into force on 1st October 2018, although in reality it will only have effect with respect to the DTA’s NZ has entered into, when the corresponding jurisdiction of the relevant DTA, has also ratified the MLI.
IR’s tax policy website (www.taxpolicy.ird.govt.nz/taxtreaties) will be continually updated as relevant jurisdictions ratify the MLI, to provide guidance on effective dates and the extent of the modification for each DTA.
AML/CFT exemption request
By now you are no doubt up to your armpits, and perhaps sinking deeper, with coming to terms and addressing the new AML/CFT requirements, which commenced applying to accountants from 1st October 2018.
Certain activities we (the royal “we”) undertake are however exempted from the new requirements, where the activity does not fall within the definition of being a captured activity. In this regard, in September the DIA issued an Explanatory Note: Involvement in tax transfers, payments and refunds. The DIA’s espoused view was that tax transfers in myIR by accountants on behalf of their clients, may be captured activities under the AML/CFT Act as ‘managing client funds’. The Explanatory Note also suggests possible capture under ‘engaging in/giving instructions for a transaction in relation to creating, operating or managing a legal person/arrangement’.
In response, CAANZ has filed an application to the DIA, for a class exemption for tax transfers not to be considered a captured activity, for a number of reasons outlined in the application letter, which you can locate via the CAANZ website.
I will keep you posted as to the DIA’s response when it comes to hand.
Trust Bill progress
Not exacting taxing (although some may contend otherwise), the Justice Select Committee has reported back to Parliament on the draft of the Trust Bill.
Most of the original Bill provisions remain unchanged, with only a few recommended minor amendments by the JSC. For those of you not fully up to speed, some of the changes that will be implemented by the Bill are:
- The definition of express trust has been changed to “intentionally established” by a settlor (instead of “deliberately set up”);
- “Power of appointment” is now a defined term, referring to the power to appoint or remove a person as a beneficiary. There are other provisions in the Bill that relate to the power to appoint trustees but these are not defined terms;
- The maximum duration of a trust will change from 80 to 125 years (or shorter if specified), however some trusts will be classed as indefinite duration trusts, those trusts which may continue indefinitely if allowed under another enactment, or under common law or equity; and,
- A new provision dealing with gross negligence of trustees has been added, where in deciding whether a trustee has been grossly negligent, a court must consider whether the trustee’s conduct was so unreasonable that no reasonable trustee in that trustee’s position would have considered the conduct in accordance with the role and duties of a trustee. A list of eight factors for consideration by the court will be included in the legislative provisions.
The Bill will now be put forward for its second reading in the House, and once passed post its third reading, will have an 18 month period post the date of Royal Assent, before it comes into force.
R&D Bill receives first reading
The Taxation (Research and Development Tax Credits) Bill (108-1) which was recently introduced into Parliament and I commented on in this respect in last week’s edition of AWIR, has already passed through its first reading.
The Bill proposes to introduce an R&D tax credit, with a view to incentivising businesses to perform research and development.
The Bill has now been referred to the Finance and Expenditure Committee, who has a targeted report back date of 1st April 2019.
Resource Consents – tax treatment
IR has issued interpretation statement IS 18/06, which outlines the Commissioner’s views with respect to the tax treatment of costs incurred to obtain a resource consent. In this regard, while different types of expenditure can be incurred on a resource consent, IS 18/06 only focuses on expenditure that is the “cost” of a resource consent.
The costs may be deductible immediately, depreciable, or be those where a deduction will never be available, and naturally the type of the expense, the type of resource consent being applied for, and the nature of the resulting assets, will in most cases determine the taxing outcome.
Resource consents are applied for in accordance with the provisions of the Resource Management Act 1991 (RMA). While there are various types of consents that can be obtained under the RMA, our income tax legislation recognises two types of consent – environmental consents and land use consents.
Since an environmental consent is usually granted for a finite period of time, it qualifies as an item of depreciable intangible property, and consequently the expenditure incurred which then forms that items cost base, is able to be depreciated over the life of the consent.
Where the expenditure incurred in applying for a land use resource consent is not immediately deductible, whether those costs are subsequently claimable via the deprecation regime will then depend on the nature of the asset to which they relate, and whether the consent application costs themselves are able to be capitalised to the cost base of that asset. If the asset is either land, or buildings with an estimated useful life of 50 years or more, no entitlement to depreciation of these particular assets exists, and consequently the land resource consent costs are essentially non-deductible.
In terms of costs incurred where depreciable property considerations will not be required, simply because the expenditure will be immediately deductible in the income year incurred, IS 18/06 provides the following guidance:
- Feasibility costs incurred that align with the Commissioner’s views espoused in IS 17/01 which was issued subsequent to the principles outlined by the Supreme Court in “Trustpower”, may qualify for immediate deduction. This will be where the expenditure is associated with early stage feasibility assessments to the extent they are not intended to materially advance the capital project in question. Note the Commissioner’s comment as a warning in this regard however, that since an application for any resource consent is usually directed towards making tangible progress on a specific capital asset, IS 17/01 is unlikely to apply to the “costs” of a resource consent.
- Revenue costs from the perspective that the resource consent relates to assets held on revenue account, will usually qualify for immediate deduction. The classic example is of course your client in the business of land development, where all costs incurred in completing the development will usually be deductible against the ultimate disposal proceeds.
- Specific deductibility provisions of the legislation, the two that first spring to mind being section DB 62 which governs legal costs for the income year not exceeding $10,000, and section DB 19 (the “black hole” exception), which permits a deduction for costs where the consent is never granted or used. Note in this last regard however, that you still must be able to show, that had the consent been granted or used, the costs would have been able to have been capitalised to a depreciable asset. Consequently if your asset is land or a building with an estimated useful life exceeding 50 years, section DB 19 is unlikely to help your cause.
For a quick guide on the IS 18/06 commentary, refer to the two flow charts included towards the end of the interpretation statement, which are likely to at least give you an initial view as to the likely tax treatment of the expenditure under consideration, prior to you having to dive into the detail.
IR having a bad run
Two recent cases, one High Court and the other in the Court of Appeal, were found in favour of the taxpayer. Naturally the focus of the cases were quite specific (although I often find the narrative still useful to understand both the Commissioners and our judicial Overseers current line of thinking), so they may or may not be of interest to you.
The first case dealt with the use of optional convertible notes (“OCN”) (remember Alesco), with both domestic and offshore parties involved, some of which were not related to the NZ based borrower, in particular, the NZ based subscriber (lender) to the OCN’s (although ultimately via the arrangement the shares would end up in the NZ borrower’s Singapore parent’s hands). IR attempted to smell a rat (which was never really there), and denied deductions claimed by the NZ borrower with respect to the OCN’s it had issued, submitting the arrangement was not “economically real”, was therefore tax avoidance and that shortfall penalties for either an unacceptable tax position or an abusive tax position should be applied.
The High Court disagreed with IR and found for the taxpayer, determining the arrangement was certainly one that was contemplated by Parliament, it was economically real, and itself was distinctly different from the arrangements exhibited in Alesco, where a zero-interest coupon rate was used. Additionally, and interestingly, the Court said that even if tax avoidance had been proved, there was no basis for shortfall penalty imposition as the taxpayer was always credibly in a position to challenge the relevance of the economic analysis on which the Commissioner relied.
The second case dealt with a now repealed provision of the income tax legislation, which provided a deduction for expenditure incurred in deriving an exempt dividend. So in essence it was a nexus question, to which the Commissioner formed a view that the expenditure was not incurred by the taxpayer to the extent of the connection required by the legislative provision, in deriving the exempt dividend income received from the taxpayer’s offshore subsidiaries. It should be noted here that the taxpayer lost their case in the High Court.
On appeal in the Court of Appeal however, the High Court decision was overturned. The Appeal court took the view that the nexus was indeed sufficient to establish deductibility, the expenditure clearly in respect of activities the taxpayer undertook to facilitate the operational performance of its subsidiaries, thereby generating the dividend income streams. Furthermore, the capital limitation did not apply to the expenditure incurred, because it represented recurrent and regular business expenses as opposed to improving the capital of the respective subsidiaries.
Long may the losing streak continue!
Paying those close to home
It is a fairly common occurrence that a client will ask about making payments out of their business to family members, in particular spouses and partners, that can be considered tax deductible for the client, thereby potentially providing a tax advantage, where that spouse or partner is on a lower marginal tax rate than the taxpaying business – whether that be in respect of the client trading in their own name, or via some interposed structure, such as a company.
The prime concern on such occasions, is naturally how Inland Revenue will view the payments, and what records the client should maintain in order to support the level of payments made. Some assistance in this regard, may now be provided by IR’s latest draft Questions We’ve Been Asked (“QWBA”), PUB00311.
The QWBA is entitled “What are the requirements for claiming tax deductions for payments to family members for services?” The answer, and fairly obvious to a large extent one would suggest, is that firstly the person actually has to provide some sort of services to your client’s business, and secondly, any amount paid must not be considered excessive. There is also the third qualification for non-company scenarios, where the payer must have obtained the Commissioner’s approval in advance of the deductions being claimed in respect of spouse or partner payments.
Unfortunately, while I suggested above that some assistance to your client’s query may be provided by the QWBA, a word of warning however that it is very light on content. The commentary on how you prove the family member has actually provided services to your clients business, is of limited help and relatively fluffy in my view, while the issue of excessive payments is essentially covered off by referring you to the earlier QB 14/09: Income tax – meaning of ‘excessive remuneration’, for guidance.
PUB00311 does however provide some useful content around the issue of seeking prior approval for payments to spouses and partners, and I would suggest in this regard, that you heed the warning that IR cannot backdate approval once the tax return in which the payments made are being claimed has been filed (although its suggestive therefore that you can still obtain retrospective approval where the relevant income year in which the payments were made has ended, but you just haven’t filed the tax return yet).
Finally, do not overlook the potential GST consequences related to the payments, particularly if the annual amount to be paid is likely to exceed $60,000 (or the family member has other non-PAYE personal services income sources, which when combined with your client’s payments will be in excess of $60,000), and your client is looking to treat the family member as an independent contractor to their business, as opposed to an employee.
The deadline for comment on PUB00311 is 21st December 2018.
Do you need assistance with anything tax?
Just a reminder of the taxation services we provide, should you ever have a need:
- Q & A – email or call with those day to day questions that often arise, where the issue is simply outside of your area of expertise, or you think you know the answer, but would simply like a sounding board to bounce your thoughts off. No minimum charge or subscription.
- Detailed opinions – for those more complex issues, where your client would like a detailed written opinion for their files. The engagement is scoped upfront, with a cost estimate provided, so you can obtain approval from your client before the work commences.
- IRD assistance – either with risk reviews/audits or management of tax debt. Scope of service can range from simply strategy advice through to full management of the review/audit process, or negotiating suitable debt repayment arrangements or tax relief requests. Usually scoped on a staged basis, as when dealing with Inland Revenue, how long is the piece of string when attempting to determine how long the issue may take to resolve.
Want to learn more, please do not hesitate to give me a call.
PPOA decision goes against tax payer
By now, many of you will be aware of the Diamond case, a 2015 Court of Appeal decision, which had the task of determining whether the taxpayer was a NZ tax resident during the particular income years in question, as a result of application of the permanent place of abode test (“PPOA”).
For those of you who may be unaware, or are simply in need of a recap, NZ tax residency for individuals is determined via the application of one of two tests – a physical presence/absence test and the PPOA test.
Clearly the physical presence/absence test is black and white – you’re either physically in NZ or you are not, and considering these days that NZ Immigration records are electronic, and therefore available upon request, particularly to Inland Revenue, it’s pretty hard to hide your physical whereabouts. In fact often when we have a client whose residency status is being questioned by Inland Revenue, the homework has usually been done by the investigator, with the NZ Immigration records already obtained.
For those non-residents, including the ex-pats returning home to greener pastures, spend more than 183 days in NZ in any 12-month period (so not tied to an income or calendar year), and you will be deemed a NZ tax resident from your first day of presence. And just to make it more difficult to get out once you are in, your NZ tax residency status will continue until you have then been physically absence from NZ for more than 325 days in any 12-month period. Satisfy this test, and you’ll be deemed a non-resident from your first day of absence.
Straight forward isn’t it? Well not exactly, because we also have the PPOA test, and being the over-riding NZ tax residency test for individuals, regardless of your physical presence in NZ, if at any time you are deemed to have a NZ PPOA, regardless of whether you may also have one outside of NZ, you will also be deemed a NZ tax resident.
So suddenly the waters have changed from being crystal clear, to the colour of the Waipu river mouth after a good winter’s storm when you’re attempting to fish, rather murky and uncertain. Its then up to cases like Diamond, to hopefully provide some guiding principles surrounding the PPOA concept, and attempt to clear the waters again.
Let us return to Diamond therefore, which to the relief of many of us, was a decision actually in favour of the taxpayer for once. In fact the decision resulted in Inland Revenue having to review its own interpretation statement on tax residency which had just been released some 12 months before (IS 14/01), and undertake a reissue to factor in the principles of the Diamond decision, which can now be found under the title IS 16/03.
The decision in Diamond espoused the following guiding principles when determining the PPOA issue:
- The determination cannot be separated into discrete questions. Rather, the approach calls for an integrated factual assessment, directed to determining the nature and quality of the use the taxpayer habitually makes of a particular place of abode. In this assessment, the mere availability to the taxpayer of a dwelling is not sufficient by itself.
- In undertaking this assessment, the following non-exhaustive factors may be useful to consider –
- The continuity or otherwise of the taxpayer’s presence in NZ & in the dwelling;
- The duration of that presence;
- The durability of the taxpayer’s association with the particular place;
- The closeness or otherwise of the taxpayer’s connection with the dwelling — the situation before and after a period or periods of absence from NZ should be considered;
- The requirement for permanency is to distinguish merely transient or temporary places of abode. Permanency refers to the continuing availability of a place on an indefinite (but not necessarily everlasting) basis; and,
- The existence of another PPOA outside NZ does not preclude a finding that the taxpayer has a PPOA in NZ.
- While in assessing a particular case the factual inquiry will be on the tax years in question, evidence of the relevant circumstances both before and after those tax years may be taken into account to the extent they bear upon the question whether the taxpayer had a PPOA in NZ in the tax years in question.
- Importantly the focus is on whether the taxpayer, not members of the taxpayer’s family, have a PPOA in NZ. Accordingly, the fact that a taxpayer may provide a home for his family in circumstances where
the taxpayer lives elsewhere would not necessarily be sufficient to establish that the taxpayer had a PPOA in NZ.
In the most recent case, the taxpayer was posted on a ship overseas for around 8 months per year during the income years in question. He had however met his second wife in NZ, and commenced living in a property already owned by her, although subsequently transferred to her family trust, of which he became a trustee and discretionary beneficiary. Over the next 12 years, the taxpayer continued to stay at the property whenever he was in NZ and was not visiting family.
Both the TRA and the High Court agreed with Inland Revenue’s position that this property was a NZ PPOA for the taxpayer. He habitually resided at the property, it was more than just a place available to him, and it was clear that he had decided to make NZ his home.
The Court of Appeal agreed with the two lower Courts, and cited a number of consideration factors cited in Diamond in its decision, including:
- The property was a permanent not temporary place of abode (the concept referred to in Diamond to there being the continued availability of a place on an indefinite but not necessarily lasting basis);
- The duration of the taxpayers presence in the property – some 12 years;
- The continuity of the taxpayers presence in NZ – since 1957 when first employed on the ships, always returned to NZ when not at sea or travelling, and in the income years in question, always stayed at the property when not visiting family;
- The durability of association with the property – significant ties in both a practical & financial way – credit card expenditure reflecting shopping at stores near the property in question, SKY TV account he paid for, address for bills, bank statements, insurance policies and investments; and
- The closeness or otherwise of his connection with the dwelling – confirming the principle that you do not actually have to own the dwelling yourself before it can be considered your PPOA.
I actually thought the PPOA question here was relatively straight forward and I’m surprised it has made it as far as the Court of Appeal, unlike the facts in Diamond, which were substantially more grey. However as an advisor, certainly useful to have another decision of the Court to provide guidance of present thinking at the judicial level. What I found very interesting from reading the decision though, was the extent of the Revenue’s investigation and therefore a warning to your client’s if they are trying to claim they have minimal attachment to a particular residence, when the physical evidence would perhaps dictate otherwise. Trawling through credit card statements for instance, reflecting that geographically shopping was being undertaken close by to the alleged PPOA address. Loan applications for other investment properties referring to the property as the “home address” of the taxpayer. Hmmmm….