Inside This Edition
1 Budget Property Tax Measures
2 Related Party Debt AIL/NRWT
3 GST Time of Supply Rules
4 Debt Remission
5 Trust Busting
All information in this newsletter is to the best of the authors’ knowledge true and accurate. No liability is assumed by the authors, or publishers, for any losses suffered by any person relying directly or indirectly upon this newsletter. It is recommended that clients should consult a senior representative of the firm before acting upon this information.
Budget 2015: Property tax measures
The Budget 2015 introduces special measures targeted at taxing gains from the sale of residential properties within 2 years and introduces measures for property bought or sold by foreigners on or after 01 October 2015.Most of these measures are welcome and are directed at persons speculating in the property market. The proposed measures will be effective from 01 October 2015 and include the following:
- All non-residents and New Zealanders buying and selling any property other than their main home must provide a New Zealand IRD number as part of the usual land transfer process with Land Information New Zealand.
- In addition, all non-resident buyers and sellers must provide their tax identification number from their home country, along with current identification requirements such as a passport. This will also allow IRD to share information with the respective country of residence.
- Furthermore, non-residents must have a New Zealand bank account before they can obtain a New Zealand IRD number.
- A new “bright line” test will be introduced for non- residents and New Zealanders buying residential property, to supplement the current legislative “intention” test. Under this new test, gains from residential property sold within two years of purchase will be taxed, unless the property is the seller’s main home, inherited from a deceased estate or transferred as part of a relationship property settlement. This test will apply to properties bought on or after 1 October.May 2015 Edition Page 1To further ensure overseas property buyers meet both existing tax requirements and those of the new test, the Government will investigate the introduction of a withholding tax for non- residents selling residential property. This should be effective around the middle of 2016.The Budget will provide Inland Revenue with a further $29 million for property tax compliance, taking its total budget for work in this area over the next five years to $62 million. This is expected to generate around $420 million of additional assessed tax in the coming five years.These measures are welcome as they will effectively replace the intention test for the purposes of section CB6, in relation to residential properties acquired on or after 1 October2015 and sold within two years. Furthermore the aim of these measures is to ensure that foreigners pay their fair share of tax in NZ and allows government to exchange information with foreign tax authorities. Having said that the horse has bolted, the measures are too little and too late and one must wonder why on earth the proposed changes are only to apply prospectively to properties acquired after 1 October, if the Government is serious about taxing speculative residential land sales.
RELATED PARTY DEBT & NRWT
An issue paper was recently released by the Inland Revenue Department and the Treasury which is aimed at strengthening of the NZ NRWT rules on related party debt. There are great concerns around the ability of non-residents to shift profits out of New Zealand with little or no NZ tax paid under our NRWT rules. Consequently, proposals are made which will result in increased costs of related party debt funding.
The purpose of the review of these rules is to:
1) Prevent the arbitrage of NRWT rules with the financial arrangement rules as mismatches can arise between NZ resident borrowers and non-resident lenders because NRWT is only imposed on interet on “money lent” whereas returns derived from financing transactions that do not consist of “money lent” are not subject to NRWT. Furthermore, payment of NRWT can be deferred and at the same time the NZ resident borrower can deduct the interest expense.
2) Prevent associated persons from accessing the AIL rules, as the AIL regime is not robust enough to cope with certain back to back loans or transactions where the lender is a group of controlling non-residents that are “ acting together”. This is because the AIL regime does not look to the ultimate lender.
3) Restrict the branch exemption, as it can be misused where the foreign parent avoids being subject to NRWT by funding its NZ subsidiary through lending to a head office of another group company outside of NZ that has a NZ branch, which then onlends the funds to the NZ subsidiary. Whereas direct lending to a NZ subsidiary by its foreign parent would be subject to NRWT.
Proposed changes to NRWT & AIL rules
- To widen the definition of “money lent” to any amount provided under a financial arrangement (so not only interest), consequently liability to NRWT will arise.
- To widen the definition of “interest” to include payments of money or money’s worth so that the income is aligned to expenditure under the financial arrangement rules.
- Applying NRWT rules instead of AIL to back to back loans
- Limiting AIL to loans from financial intermediaries or raised from a group of 10 or more non-associated persons
- Limiting the offshore branch exemption so that interest paid on money lent to a NZ resident is subject to NRWT
- Limiting the onshore branch exemption so that it only applies to interest received by non-resident in connection with a NZ branch.
- Allowing NZ banks to access the AIL rules on interest payments to their non-resident associates.
GST & TIME OF SUPPLY
The trigger of the “time of supply” determines the taxable period in which GST output tax needs to be returned by a GST registered person on an invoice basis. The legislation is quite specific when the “time of supply” is triggered being the earlier of an invoice being issued or a payment being received. For GST registered persons registered on invoice basis, especially those involved property transactions, the receipt of a deposit would under normal circumstances trigger the “time of supply” and consequently the requirement to return GST output tax to the IRD would arise.Who will be affected?
- It will be interesting to see the final rules, however NZ businesses that make use of offshore debt funding from their group associates, should take advice as to how these new rules may affect them and what mitigating options may be available.
- The application of the AIL regime will be restricted to those situations where there is no association between the NZ borrower and non-resident lender.By inserting certain clauses in the sale and purchase agreement the “time of supply” can be aligned with the settlement date. Should you have clients that are involved in property transactions and the time of supply is causing them cash flow issues, please give us a call so that we can advise as to whether a deferral of the time of supply rules can be achieved in their particular circumstances
DEBT REMISSION – RELATED PARTIES
- The financial arrangement rules require income or loss to be spread over the life of the financial arrangement. On maturity or remission the rules require calculation of a base price adjustment (BPA). The BPA will result in the debtor effectively having taxable income to the extent of the remitted debt.
The effect of these rules on debt capitalization was considered by Inland Revenue in its Questions We’ve Been Asked (QB) publication 15/01: Income tax – tax avoidance and debt capitalization. The QB covered a situation where the sole NZ resident individual shareholder of a Qualifying Company (QC) had lent money to the company. The debt was repaid via issue of further shares to the shareholder (debt capitalization). The QB found that section BG 1 would potentially apply to reconstruct the transaction as debt remission. That is, the repayment of a loan by a debtor company issuing shares to the creditor that does not, in commercial and economic terms, constitute a repayment of the debt, can be tax avoidance. If that is the case, then the transaction would be reconstructed as a debt remission.
However, Inland Revenue released the “Related parties debt remission, An officials’ issue paper’ in February 2015 proposing changes to income tax legislation that would retrospectively reverse the findings of its own QB.
The key issue with the findings of the QB was the asymmetric taxation consequence of having debt remission income whereby the debtor (the company) has taxable income while the creditor has no deduction for a related party bad debt. The proposed changes seek to eliminate this result in limited circumstances by turning the debtor’s remission income off. That is, no taxable income would arise on related party debt remission to the debtor in certain circumstances.The circumstances where the issues paper proposes to remove the remission income are:
- Debt recapitalization inside a wholly owned group;
- Debt remittance or capitalization where shareholders are NZ residents (covers NZ companies with an individual shareholder, trusts, NZ JV companies and NZ partnerships, LTC’s) providing debt is remitted pro-rata to ownership;
- Remittance or capitalization of debt held by a CFC of a NZ resident; and
- Remittance or capitalization of debt by a NZ company with a non-resident corporate shareholder (an outstanding policy issue which is being considered further).Arguably, taxpayers could potentially avoid debt remission income on BPA if they capitalized the debt in a two-step process whereby the debt is repaid by way of refinancing via an external party (for example, a bank). Then shares can be issued and the loan to the external party repaid from proceeds of the share issue. However, the proposed changes would make this unnecessary (see the second point above).
The conclusions reached in the issues paper are based on a more detailed analysis of the situations above compared to the QB and essentially say that it does not matter how related party debt is remitted. That is, direct remission (forgiveness) or indirect remission (debt capitalization) are both acceptable and should not result in taxable income to the debtor as long as the remission or capitalization is pro rata by owners, or within a wholly owned group of companies. In other words, no taxable remission income should arise as there is no net change in the owners’ wealth.
The changes proposed will have retrospective application and it is proposed to apply from the beginning of the 2007 tax year (income years beginning 1 April 2006 for standard balance dates).
“TRUST BUSTING“- Clayton v Clayton  NZCA 30
A recent Court of Appeal decision in Clayton v Clayton illustrates how certain rights in relation to trust property can be viewed by the courts as tantamount to ownership. In this case Mr Clayton controlled family assets through series of interrelated Trusts and Companies to which Mrs Clayton had no access. Mr Clayton was a settlor, sole trustee and a discretionary beneficiary, whereas Mrs Clayton and their children were discretionary beneficiaries.
Whilst it is not uncommon for the settlor to be the trustee and also a discretionary beneficiary, Mr Clayton as the trustee had the power to deal with the Trust property entirely in his own interests and also had the power to appoint and remove beneficiaries including the final beneficiaries. This later power was vested in him not in a capacity of a Trustee but in his personal capacity as “Principal Family Member”. Consequently this power was unrestricted and could be exercised without him exercising any fiduciary obligation.
The interesting twist in this case was not the fact that Mr Clayton was effectively the controller of the Trust but the fact that the definition of the “Property” for the purposes of the Relationship Property Act 1976 (RPA) is very wide and has been held to include some rights and powers. This very unrestricted power that he could exercise in his personal capacity was held to be a valuable right. Whilst there was no evidence that Mr Clayton would have removed all beneficiaries and appointed himself as the sole beneficiary of the Trust, the unrestricted power that he had could very well allow him to do so. Given the fact that the trust was established during the course of the relationship, the power was held to be “Relationship Property” for the purposes of the RPA.
The Court of Appeal quantified the value of the power that Mr Clayton had to be equivalent to the value of the Trust property. Consequently Mrs Clayton was entitled to 50% of the assets held by the Trust.
If you have any questions about the newsletter items please do not hesitate to contact us, we are here to help.
Accountants Newmarket Auckland