ABA Tax Section, Foreign Lawyers Forum Report 2010


1. Introduction

This report is made for the purposes of the Tax Section of the American Bar Association’s Foreign Lawyer’s Forum. It summarizes a number of developments in New Zealand tax law and practice that may be of interest to lawyers assisting clients doing business with entities or individuals in New Zealand, or lawyers wishing to be informed generally of tax developments in New Zealand.

The report is divided into the following sections:

(a) Legislative changes

(b) Cases

(c) Determinations, Rulings and Statements

(d) International Agreements

2. Legislative changes

This section of the report summarizes the major legislative tax changes which were enacted in 2010. Legislation passed in 2010 included the following:

(a) Taxation (Budget Measures) Act 2010 – This legislation was enacted on 27 May 2010 and gave effect to tax reforms announced in New Zealand’s 2010 budget. Most notably, these included personal and company tax cuts, a rise in the GST rate, and changes to the investment property rules.

(b) Taxation (Annual Rates, Trans-Tasman Savings Portability, KiwiSaver, and Remedial Matters) Act 2010 – This legislation was enacted on 7 September 2010 and included changes to the portability of retirement savings between Australia and New Zealand, two new gift duty exemptions and changes to New Zealand’s retirement saving scheme, Kiwisaver.

(c) Taxation (GST and Remedial Matters) Act 2010 - This legislation was enacted on 20 December 2010 and changes included the closure of loopholes in the tax treatment of loss attributing qualifying companies (“LAQCs”), changes to the thin capitalization rules, clarification of the building depreciation rules, and other changes announced by the Government in the 2010 Budget which strengthen the integrity of the tax rules.

(d) The Taxation (Tax Administration and Remedial Matters) Bill – This Bill was introduced into Parliament on 23 November 2010. Most notably, the bill abolishes gift duty, streamlines the procedural rules relating to tax disputes and makes changes to New Zealand’s tax information-sharing and secrecy rules to improve the quality of information sharing with other governments.

2.1 Personal and company tax cuts

The Taxation (Budget Measures) Act 2010 reduced New Zealand’s income tax rates from 1 October 2010. These reforms are intended to improve the competitiveness of New Zealand's company tax system and to encourage saving. In summary, the lowest tax rate for income below $14,000 was lowered from 12.5% to 10.5%, income between $14,001 and $48,000 is now taxed at 17.5% instead of 21%, income between $48,001 and $70,000 is now taxed at 30% instead of 33%, and the highest rate has been lowered from 38% to 33%. The company tax rate was reduced from 30% to 28%, and the new rate is applicable from the 2012 income year. The top tax rate for income from portfolio investment entities (“PIEs”), including KiwiSaver funds, was also reduced from 30% to 28%.

2.2 Increase in GST rate

The rate of goods and services tax (“GST”) was increased from 12.5% to 15% from 1 October 2010. The reason for the increase was that the New Zealand government considers that taxes on consumption, such as GST, do not discourage people from saving and encourage economic growth.

2.3 Abolition of gift duty

The Taxation (Tax Administration and Remedial Matters) Bill abolishes gift duty in New Zealand from 1 October 2011. The main reason for the change is that the duty no longer raises any significant revenue and imposes a high level of compliance costs on the private sector. Previously gift duty applied to gifts of over $27,000 in any 12 month period.

2.4 Changes to thin capitalization rules

The Taxation (GST and Remedial Matters) Act 2010 made changes to the thin capitalisation tax rules which reduced the safe-harbour threshold from 75% to 60% from the 2012 income tax year (being 1 April 2011 for most businesses). The change means that foreign-owned companies will now only be able to claim tax deductions for interest payments on debt to the extent of 60 per cent of their New Zealand asset value. However, the outbound thin capitalisation rules (for New Zealand businesses investing outside of New Zealand) remain unchanged.

2.5 Changes in the tax treatment of qualifying companies

Changes have been made to the rules surrounding the tax treatment of LAQCs and qualifying companies (“QCs”). Broadly, the changes mean that shareholders in such companies can no longer claim losses against their personal income. This is intended to prevent shareholders from being able to claim losses at their higher marginal tax rate and profits at the company tax rate. However, closely-held companies may elect to have look-through tax treatment through a new look-through company (“LTC”) vehicle. The LTC loss limitation rule is similar to that for limited partnerships, and allows shareholders to offset tax losses to the extent the losses reflect their economic loss. Elections should be received before the start of the income year to which they apply, however, for the 2011 and 2012 income years for the next two income years existing QCs and LAQCs have a six-month extension period to decide whether to transition to the new LTC rules. Existing QCs and LAQCs may continue to use the current rules without the ability to attribute losses, pending a review of the dividend rules for closely held companies, or may change to another business vehicle such as a partnership, without a tax cost during the period 1 April 2011 to 31 March 2013.

2.6 Trans-Tasman portability of retirement savings

The KiwiSaver Act 2006 and the Income Tax Act 2007 have been amended to enable retirement savings to be easily transported between Australia and New Zealand. The portability arrangements will allow a person who has retirement savings in both Australia and New Zealand to consolidate them in one account in their current country of residence. Previously, retirement savings were unable to be transferred between Australia and New Zealand if a person resident in one permanently emigrated to the other, and this was an impediment to labour movement between the two countries.
As a result of the changes, a participant in New Zealand’s retirement scheme, KiwiSaver, will not be able to withdraw any retirement savings in cash upon permanent emigration to Australia, as can be done one year after the person emigrates to a country other than Australia. An amount of Australian-sourced retirement savings transferred to a KiwiSaver scheme under the portability arrangements will be treated as exempt from tax at the point of entry.

3. Case law

The following case law was decided in 2010 and is of interest:

3.1 GST refunds may be withheld indefinitely

Contract Pacific Limited v CIR involved an argument over the time within which the IRD must pay a GST input tax credit. Under section 46 of the Goods and Services Tax Act 1985 the IRD must normally make a refund of GST within 15 days of the relevant return being filed. However, that time limit may be extended in certain circumstances. Commentators have observed that the timely payment of GST credits is often crucial to the healthy cash flow of a business.

In this case, the taxpayer had made a large GST credit claim in excess of $7 million and was notified within 15 days of its filing that the Commissioner would be withholding the refund pending investigation. The Supreme Court held that, once the extension of time for a GST refund to be released is engaged by the Commissioner notifying an investigation, the extension remains in place until the Commissioner is satisfied that the GST refund is payable and that the taxpayer has met all its compliance obligations.

Contract Pacific Limited v CIR [2010] NZSC 136

3.2 Narrowing of entities eligible to be charities

Two High Court cases decided in 2010, namely Canterbury Development Corporation & Ors v Charities Commission and Re Education New Zealand Trust (2010) 24 NZTC 24,354, upheld the decision of the Charities Commission to decline charitable status to organisations which had previously been treated as charitable. This appears to signal a shift in the way the Commission exercises its functions under the Charities Act 2005.

The two cases arose under the charities structure that has been in place since 2007. Previously, organisations applied to the IRD for approval of charitable status, but registration is now granted or withheld by the Charities Commission. If an application is declined, an appeal can be made to the High Court. Broadly, in Canterbury Development, the High Court upheld the Charities Commission’s decision that a “community development purpose” is not a charitable purpose under New Zealand law unless the relevant community is disadvantaged. In Re Education New Zealand Trust the High Court held that a trust established primarily to co-ordinate activities to promote New Zealand as a study destination for foreign students did not have the requisite public benefit. In the past this requisite has been seen as requiring simply that the charity not be directed to personal or private benefits or outcomes, but it now seems to mean that the public or a sufficient section of the public ought to receive a benefit as recipients or objects of charity in the broad sense.

Canterbury Development Corporation & Ors v Charities Commission (2010) 24 NZTC 24,143.

Re Education New Zealand Trust (2010) 24 NZTC 24,354

3.3 Tax Avoidance – personal services income

In CIR v Penny & Hooper the Court of Appeal held that the sale by two surgeons of their private practices to companies was tax avoidance. The companies were owned by family trusts whose beneficiaries were members of the surgeons’ respective families. Each surgeon’s practice was sold into the relevant company, and the purchase price was left outstanding as a debt due to the surgeon from the company. From 2001, when the Government increased the top personal tax rate from 33% to 39%, and left the company rate at 33%, the companies paid the surgeons salaries that were substantially less than the amounts they had received when they were self-employed. The incidence of tax on the income previously derived by the surgeon personally was altered because tax was payable by a different taxpayer (the company) and the tax rates applicable to that taxpayer were lower than the top personal marginal tax rate.

The Court of Appeal applied the Supreme Court’s “scheme and purpose” approach to a tax structure, as set out in Ben Nevis Forestry Ventures Ltd v CIR [2008] NZSC 115. In finding that the arrangement was tax avoidance, it observed that the adoption of business structures which have the effect of diverting or splitting income generated by the personal exertions of individuals to avoid personal tax rates is significant in assessing whether a structure is within parliamentary contemplation. It was also significant that Penny and Hooper had been conducting their respective practices on their own account and then chose to incorporate. The majority of the Court of Appeal did not accept the submission that the company structure was necessary both to protect the surgeons from negligence claims and for ordinary business and family dealings. Leave to appeal to the Supreme Court has been granted.

Commissioner of Inland Revenue v Penny and Hooper (2010) 24 NZTC 24,287

3.4 Loans upheld as income

In Krukziener v Commissioner of Inland Revenue the Inland Revenue Department (“IRD”) sought to recharacterise as income loans taken over a ten year period by Mr Krukziener from two development entities he controlled. While he took the loans to support himself (and treated them as non taxable) the income of his development entities was applied in successive developments so no tax was paid on it. The High Court held that the loans, which were in the order of $5 million, should be treated as income under the anti-avoidance provision of the Income Tax Act. The essential elements of the decision are as follows:

a) There was an arrangement for the purposes of the general anti-avoidance provision in that the taking of loans without any terms for repayment or the charging of interest, and with any repayment actually being made only from non-taxable sources, was a pattern of conduct over time and therefore more than a mere sequence of events.

b) The arrangement altered the incidence of income tax at least in the sense of deferring it to such an extent that could not have been within Parliament's contemplation.

c) The dominant purpose of the arrangement was held to be to achieve the use of tax free funds.

Krukziener v Commissioner of Inland Revenue (No 3) (2010) 24 NZTC 24,563

3.5 Commissioner's Powers to Seize Electronic Data Confirmed

In Avowal Administrative Attorneys Ltd & Anor v CIR [2010] NZSC 104 the Supreme Court denied leave for the company and Mr Nikytas Petroulias to appeal from the decision of the Court of Appeal. That decision clarified the law relating to the seizure and examination of computer records by the Commissioner of Inland Revenue. Specifically, it held that the statement in section 16 of the Tax Administration Act 1994 (“TAA”) that the Commissioner has full and free access to information for the purpose of inspecting anything that he considers is necessary or relevant to his inquiries, does not require that any kind of screening of electronic information take place before a computer hard drive or server can be copied for later examination. The decision to reject argument that the concept of necessity and relevance required some meaningful limitation on the Commissioner’s powers reflects the Court’s expectation that the wide powers granted by Parliament to him should not be read down or curtailed by the imposition of Court made limits.

Avowal Administrative Attorneys Ltd & Anor v CIR [2010] NZSC 104.

4. Determinations, Ruling and Statements

The following interpretation statements are of interest:

4.1 Care and management of the taxes covered by the Inland Revenue Acts

This interpretation statement was issued on 22 October 2010 and sets out the Commissioner's position on his responsibility under section 6A(2) of the TAA for the "care and management of the taxes covered by the Inland Revenue Acts", and his duty under section 6A(3) of the TAA "to collect over time the highest net revenue that is practicable within the law". Sections 6A(2) and (3) were enacted to make it clear that the Commissioner is not required to collect all taxes owing, regardless of the costs and resources involved, but may exercise managerial discretion as to the allocation and management of his resources. In particular, the statement discusses when the Commissioner will be willing to settle with taxpayers, and provides a number of examples which illustrate how the sections may be applied in particular circumstances. The interpretation statement also clarifies the relationship between section 6A (2) and (3) and the other provisions of the Inland Revenue Acts.
IS 10/07 - Care and management of the taxes covered by the Inland Revenue Acts

4.2 GST time of supply – payments of deposits, including to a stakeholder

This interpretation statement was issued on 4 June 2010 and considers certain aspects of the time of supply rule in section 9(1) of the Goods and Services Tax Act 1985, particularly in regard to situations involving the payment of a deposit.

Broadly, a supply is deemed to take place at the earlier of the time an invoice is issued by the supplier or the recipient in respect of that supply or the time any payment is received by the supplier in respect of that supply. In short, the interpretation statement provides that a deposit constitutes “any payment” and triggers the time of supply, and that this applies equally to conditional or unconditional contracts. Where there is no binding contract, it must be shown that the payment is for the supply of goods or services, whether the physical supply takes place now or in the future. Where this is the case, the receipt of the payment by the supplier will trigger the time of supply.

However, where a deposit is paid to a person as stakeholder, there will have been no receipt by the supplier and the time of supply will not be triggered. A supplier may be a stakeholder. A stakeholder relationship requires agreement by all parties, and a person cannot declare himself or herself a stakeholder unilaterally. A stakeholder holds the deposit on behalf of both parties and owes a contractual or quasi-contractual obligation to both parties. The intention of the parties, determined from all the circumstances, will establish in which capacity a person receives a deposit.

IS 10/03 GST time of supply – payments of deposits, including to a stakeholder

The following public ruling is of interest:

4.3 Legal services provided to non-residents relating to transactions involving land in New Zealand - BR Pub 10/09

This ruling addresses the GST treatment of supplies by a registered person of legal services to a non-resident (who is outside New Zealand at the time the services are performed) in relation to land in New Zealand. The ruling provides that the supply of the following legal services are zero-rated:

a) Legal services relating to transactions involving the sale and purchase of land in New Zealand (including the drafting of agreements for the sale and purchase of land, the provision of legal advice in relation to the sale and purchase transaction and ancillary and related services leading up to the completion of the sale and purchase transaction);

b) Legal services relating to transactions involving the lease, licence, or mortgage of land in New Zealand;

c) Legal services relating to easements, management agreements, construction agreements, trust deeds, guarantees and other agreements relating to land in New Zealand; and

d) Legal services relating to disputes arising in relation to land in New Zealand (including drafting court documents, court appearances, representation in negotiations.

This Ruling was signed on 2 September 2010 and will apply for the period beginning on 23 May 2010 and ending on 23 May 2015.

The following standard practice statements are of interest:

4.4 Disputes resolution process commenced by the Commissioner of Inland Revenue

This Standard Practice Statement ("SPS") sets out the Commissioner's rights and responsibilities to a taxpayer in respect of an adjustment to an assessment when the Commissioner commences the disputes resolution process. The SPS applies from 8 November 2010 and incorporates changes made to the Commissioner's administrative practice in relation to the disputes process which were implemented by Inland Revenue on 1 April 2010. Those changes were aimed at providing greater certainty for disputants and included the following:

a) The IRD will aim to prepare more focused and easier to read notices of a proposed adjustments (“NOPAs”).

b) The IRD will aim to hold more productive conference meetings with taxpayers if a dispute remains unresolved after the taxpayer has provided a notice of response (“NOR”) to the IRD. Taxpayers will also be offered the opportunity to have such meetings facilitated by an IRD facilitator.

c) The issue of guidelines which set out the circumstances in which the IRD will agree to opt out of the disputes process after the conference phase.

d) Improvements in timeliness

SPS 10/04 Disputes resolution process commenced by the Commissioner of Inland Revenue (November 2010)

4.5 Disputes resolution process commenced by a taxpayer

This SPS discusses a taxpayer's rights and responsibilities in respect of an assessment or other disputable decision when the taxpayer commences the disputes resolution process. This SPS applies from 8 November 2010 and incorporates the administrative changes to the disputes process which were implemented by Inland Revenue on 1 April 2010 and are discussed above at paragraph 4.3.

SPS 10/05 - Disputes resolution process commenced by a taxpayer

4.6 Imaging of electronic storage media

This SPS sets out the IRD’s practice when taking an image of a taxpayer's electronic storage media, and applies from 14 July 2010. Electronic record-keeping and the storage of information by electronic means has become common practice for taxpayers, and such information falls within the definition of "book and document" in section 3 of the TAA. Examples include information stored in computer hard drives, USB flash drives, mobile phones, personal digital assistants, photocopiers, scanners, and external hard drives. The Commissioner is entitled to access such information where it is "necessary or relevant". This SPS provides the framework within which an electronic storage medium can be imaged using the existing statutory information gathering powers. In summary, the SPS provides the following:

a) As the courts have found that an electronic storage medium is analogous to a book or a very long document, the entire electronic storage medium will be imaged if the relevance search identifies information that is "necessary or relevant".

b) The imaging of the electronic storage medium is generally performed on-site where the electronic storage medium is located. However, the Commissioner may remove an electronic storage medium for the purpose of imaging it where the circumstances require it without the taxpayer’s consent.

c) To minimise any disruption to business that may be caused by the removal of an electronic storage medium, the owner has a right to inspect and obtain a copy of the electronic storage medium that is removed.

SPS 10/02 - Imaging of electronic storage media

5. International Agreements

New Zealand has a comprehensive regime of double tax agreements. During 2010 the following developments occurred:

• A new double tax agreement between New Zealand and Hong Kong was signed on 1 December 2010. The agreement will make investment between the two countries more attractive, and will bring withholding tax rates into line with rates currently in operation with the USA and Australia. The agreement will come into force when both countries have given legal effect to it.

• The updated double tax agreement between New Zealand and the United States signed on 1 December 2008 came into force on 13 November 2010. The agreement includes lower withholding taxes on dividends, interest and royalty payments between the two countries

• The double tax agreement between New Zealand and Singapore signed on 21 August 2009 came into force on 13 August 2010. The agreement includes lower withholding taxes on dividends, interest and royalty payments between the two countries.

• A new double tax agreement between New Zealand and Turkey was signed on 22 April 2010 and came into force on 13 September 2010.

• New Zealand's new double tax agreement with Australia entered into force on 19 March 2010. The new withholding tax rates contained in the agreement applied from 1 May 2010 and for New Zealand taxes other than withholding taxes, the agreement applies from income years beginning on or after 1 April 2010.

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