My lovely young friends had a great time with their guest post last week and were delighted with the reception they received. Including getting picked up by interest.co.nz – something they like to point out I have never managed.
They were really keen to post this week on the digital services tax discussion document which they think is awesome. But I need to have a little chat to them before they do.
We also had a chat about whether the Andrea Tax Party is really a goer. Much like Alfred Ngaro we have concluded it all seems a bit hard. Also the move from thinking about things to politics hasn’t been the smoothest for TOP. So as the evidence led people that we are, we have decided to conserve our emotional energy and not fall out over boring constitutional issues.
I’ll stay as your correspondent and my young friends will come back from time to time when they can fit it in between their three jobs and studying. They are also checking out Organise Aotearoa who recently put up this sign in Auckland and seem to be to the left of Tax Justice Aotearoa.
As well as the digital services tax proposal – which I’ll save for my (briefed) young friends – the other tax story this week was how thanks to the Department upgrading its computer system it has found a number of people – 450,000 – haven’t been paying enough tax on their PIE investments. And while that is the case the Department has said that it won’t chase this tax on any past years.
Behind this story are two interesting – to me anyway – tax concepts.
Portfolio investment entities (PIEs)
These are a Michael Cullen special and came in at the same time as KiwiSaver. Before their introduction all managed funds were taxed at the trust rate of 33% and were taxed on any gains they made on shares sales – because they were in business.
Alongside all this was passive investment or index funds who had managed to convince Inland Revenue that because they only sold because they had to, those gains weren’t taxable.
Individual investors weren’t taxed on their capital gains and otherwise they were taxed at less than 33% if they had taxable income below the 33% threshold. This was particularly the case for retired investors.
The status quo did though give a minor tax benefit to high income people who were otherwise paying tax at 39%.
So it was all a bit of a hot mess.
Added into the equation was that, unlike now, the Department’s computer wasn’t up to much so all policy was based on ‘keeping people out of the system’.
So where the PIE stuff landed was income of the fund would be broken up in terms of who owned it and taxed at the rate of the owners. Except for the high earners – as their alternative was a unit trust taxed at the company rate – the top rate was capped at the company rate.
Low income people were now taxed at their own rate rather than the trust rate and high income people kept their low level tax benefit.
Happiness all round.
But it all depended on the individual investor telling the fund what the correct rate was and boy did the funds send out lots of reminders. I got totally sick of them.
Particularly when not filling them out meant you got taxed at 28% which was the top rate anyway.
So the people getting caught out this week would have once told the fund to tax them at a lower rate. It wouldn’t have happened by accident.
Although it is entirely possible they were on a lower rate at the time – because they had losses or something – and then ‘forgot’ to update it. Such people though would probably had a tax agent who would normally pick this stuff up. So not these people,
The caught people I would suggest are people, without tax agents, who accidentally or intentionally chose the wrong rate at the time or are PAYE earners whose income has increased over time and didn’t think to tell their fund.
But really only a tax audit would tell the difference between the two groups even if the effect is the same.
The other thing this week has shone light on is something known in the tax community as timebar (2).
It is a balance between the Government’s right to the correct amount of revenue and taxpayer’s ability to live their lives not worrying about a future tax audit. The deal is that if you have filed your tax return and provided all the necessary information – but you are wrong in the Government’s favour – Inland Revenue can only go back and increase your tax for four years.
If you haven’t filed and/or provided the necessary information – usually in cases of tax evasion – game on. The Department has no time constraints.
But the thing is none of this is an obligation on Inland Revenue. It is a right but not an obligation.
Under the Care and Management provisions (1) – the Commissioner must only collect the highest net revenue over time factoring in compliance costs and the resources available to her.
And so on that basis – I must presume – she has decided to not go back and collect tax for the last three years underpaid PIE income. In the same way he – as it was then – decided to only pursue two years of tax avoidance that arose from the Penny and Hooper tax avoidance cases.
But with a tax fairness lens, it makes discussions with my young friends quite tricky.
They only have their personal labour which, to them, is taxed higher than I was at the same age. They don’t have capital and see this recent story as another way the tax system is slanted against them.
So I am not sure we have seen the last of the motorway signs.
(1) Section 6A(3)
(2) Section 108
Kia ora koutou
Andrea has handed over to us on the youth wing of the Andrea Tax Party for this week’s blog post so we can set out our views on tax.
What she proposed is ok but we can’t help feeling it was more than a little influenced by her Gen X, neoliberal, tax free capital gain and imputed rent earning privilege. A bit like the recent Budget – more foundational than transformational.
But we have also worked out that – by definition – any capital gains tax that applied from a valuation day or worse still grandparenting would have hit any gains our generation would have earned rather than the gains that have arisen to date.
And don’t get us started about the exemption for a family home. The only members of our generation who will buy a house – with exorbitant mortgages – are those whose parents can help financially. Again more revealed Gen X privilege.
So we aren’t super sad it is off the table.
TOP are still promoting an alternative minimum tax and CPAG want to tax a risk free return on residential property. Both reasonable and we may yet move over to them but it the meantime we are seeing if we can do better.
This is what we are thinking:
Land tax on holdings over $500,000. Limited targetted exemptions.
This was a proposal under National’s tax working group (1) in 2009/10 that was also then ignored by the Government at the time.
The deal is that there would be a tax on the value of land. That’s pretty much it. There could be exemptions for conservation land, maybe land locked up for ecological services and Maori freehold land.
The last one might be controversial but we are completely over the race baiting that goes on anytime different treatment for Maori assets comes up. Settlement assets were a fraction of that taken by the Crown and until such time as Maori indicators – not the least the prison population – gets anywhere near non-Maori, we are open to different treatment to improve outcomes.
As this tax is certain what tends to happen is that the price of land falls by an NPV of the tax. The effect therefore is the same as a one off tax on existing landowners. And to be honest – we’d be open to that. Seems much lower compliance cost something Andrea and her friends get so excited about.
Now we know there is an argument that because of the effect on existing land owners – this is unfair.
However to a generation locked out of land ownership in any form due to the high prices – we are deeply underwhelmed by that argument. It was equally unfair that existing owners got the unearned gains over the last 10 years or so. And yes they might not be the same people who are affected – but again – underwhelmed.
So all holdings of land over $500,000 – other than those mentioned above – will be subject to a land tax. And honestly maybe we have the threshold too low.
GST – no change
This one causes us pain.
We really want to drop the rate as poor people spend so such more of their income than rich people. But rich people who might be living off tax free capital gains still have to buy food – and they spend more on food than poor people. So a cut in GST is – in absolute terms – a greater tax cut for the rich.
However the prevailing wisdom that increases in GST don’t matter if you increase benefits is also BS. This is for a couple of reasons:
Benefits – until this Budget kicks in – are increased by CPI but low income households have higher inflation than high income households.
Benefit increases do not survive National Governments. The associated rise in benefits from the GST introduction were unwound by the benefit cuts in 1992 and more recently benefits were eroded through changes to the administration by WINZ.
And even Andrea witnessed the changed behaviour of WINZ as she was in receipt of the Child Disability Allowance from 2007 to 2012. She went from having a super helpful empathetic case manager to having the allowance stopped when they lost her paperwork.
If anyone wants to argue instead that the last government increased benefits – bring it on – because if that is how Andrea was treated by them just imagine how WINZ behaved to people who weren’t senior public servants.
So we are recommending no change here unless there was some way of making it progressive.
Inheritance tax on all estates over $500,000
Andrea might be fixated with taxing people when they are alive but all this means is that the huge untaxed gains that have been earned get to be passed on to the next generation. And yes that might be some of us but anything to reduce the wealth inequality in New Zealand has to be considered.
We take Andrea’s point about this also applying to death of settlors (and maybe beneficiaries) but all estates over $500,000 will be taxed at the GST rate as it is inherently deferred consumption.
Make the personal tax scale more progressive
When Andrea started work in 1985 – as an almost grad – she earned $15,000 and paid $5,000 of that in tax. That is an average tax rate of 33% and probably a marginal tax rate of something like 45%.
She had no student loan because University was free. In fact she also got a bursary of about $700 three times a year. There was no GST.
Grads in 2019 start on about $50,000. Income tax is about $9,000. This is an average tax rate of about 18% and a marginal tax rate of 30%. Student loan repayments are 12% and GST is probably about 10% allowing for rent and savings. This gives a marginal tax rate of 52% which will then climb to 55% if they ever get a well paying job. So 10% higher tax than 1985 on pretty middling incomes.
We get that including student loans might upset Andrea’s tax friends but we are also guessing none of those people have 12% of their earnings going to Inland Revenue every pay day.
Team if it looks like a duck and quakes like a duck….
In fairness we also know her father in 1985 had a marginal tax rate of 66% although he got deductions for life insurance and ‘work related’ expenses. Now parents top out at 33% plus say 10% for GST – 43%.
We guess then parents should pay more but 1) not everyone has middle class parents 2) declining labour share of GDP and 3) the ones who can are already helping us and that is a recipe for entrenched privilege.
So our policy proposal is:
2) Extend the bottom tax rate of 10.5% to $40,000
3) Increase the next tax rate to 25% from $40,000 to $70,000
4) Bring in a new threshold of 40% at $100,000
Or something like that.
The bottom threshold needs extending to include anyone who can still receive any sort of welfare benefit while also earning income. That reduction in tax then needs to be clawed back for higher earners and really high earners just need to pay more.
Emissions trading scheme
And please if there isn’t going to be any sensible carbon tax or any environmental taxes could we at least put a proper price on carbon in the Emissions Trading Scheme.
It is only human life on this planet we are talking about.
We think that is it for us. Andrea and her Gen X biases will be back next week.
Young friends of Andrea
(1) Page 50
Your correspondent is back from Sydney. Had a great time because – well – Sydney.
Managed to score a gig on a panel at the TP Minds conference talking about international policy developments for transfer pricing. An interesting experience as I am pretty strong in most tax areas except GST – and you guessed it – transfer pricing.
But it was ok as I did a bit of prep and all those years of working with the TP people paid off. And of course I do know a little bit about international tax and BEPS so alg.
Even a techo tax conference again reminded me just how different – socially and culturally – Australia is to New Zealand. Examples include: the expression man in the pub being used without any sense of irony or embarrassment and one of the presenters – a senior cool woman from the ATO – wearing a hijab.
Can’t imagine either in tax circles in NZ.
My particular favourite though was watching the telly which showed a clip of Bill Shorten describing franking (imputation) credits as something you haven’t earned and a gift from the government. Now Australia does cash out franking credits but – wow – seriously just wow. Kinda puts any gripes I might have about Jacinda talking about a capital gains tax into perspective.
And in the short time I have been away yet another minor party has formed as well as the continuation of the utter dismay from progressives over the CGT announcement.
In the latter case I am fielding more than a few queries as to what the alternatives actually are to tax fairness is a world where a CGT has been ruled out pretty much for my lifetime.
Now while I have previously had a bit of a riff as to what the options could be, I have been having a think about what I would do if I were ever the ‘in charge person’ – as my kids used to say – for tax.
To become this ‘in charge person’ I guess I’d also have to set up a minor party although minor parties and tax policies are both historically pretty inimical to gaining parliamentary power.
But in for a penny – in for a pound what would be the policies of an Andrea Tax Party be?
Policy 1: All income of closely held companies will be taxed in the hands of its shareholders
First I’d look to getting the existing small company/shareholder tax base tidied up.
On one hand we have the whole corporate veil – companies are legally separate from their shareholders – thing. But then as the closely held shareholders control the company they can take loans from the company – which they may or may not pay interest on depending on how well IRD is enforcing the law – and take salaries from the company below the top marginal tax rate.
On the other hand we have look through company rules – which say the company and the shareholder are economically the same and so income of the company can be taxed in the hands of the shareholder instead. But because these rules are optional they will only be used if the company has losses or low levels of taxable income.
My view is that given the reality of how small companies operate – company and shareholders are in effect the same – taking down the wall for tax is the most intellectual honest thing to do. Might even raise revenue. Would defo stop the spike of income at $70,000 and most likely the escalating overdrawn current account balances.
So look through company rules – or equivalent – for all closely held companies. FWIW was pretty much the rec of the OG Tax Review 2001 (1).
Now that the tax base is sorted out – if someone wants to add another higher rate to the progressive tax scale – fill your boots. But my GenX and tbh past relatively high income earning instincts aren’t feeling it.
Policy 2: Extensive use of withholding taxes
The self employed consume 20% more at the same levels of taxable income as the employed employed. Sit with that for a minute.
Now the self employed could have greater levels of inherited wealth, untaxed capital gains or like really awesome vegetable gardens.
Or its tax evasion. Cash jobs, not declaring income, income splitting or claiming personal expenses against taxable income.
Now in the past I have got a bit precious about the use of the term tax evasion or tax avoidance but I am happy to use the term here. This is tax evasion.
IRD says that puts New Zealand at internationally comparable levels (2). Gosh well that’s ok then.
Not putting income on a tax return needs to be hit with withholding taxes. Any payment to a provider of labour – who doesn’t employ others – needs to have withholding taxes deducted.
Cash jobs need hit by legally limiting the level of payments allowed. Australia is moving to $10,000 but why not – say $200? I mean who other than drug dealers carries that much cash anyway?
Claiming personal expenses is much harder. This we will have to rely on enforcement for.
Policy 3: Apportion interest deductions between private and business
Currently all interest deductions are allowable for companies – because compliance costs. Otherwise interest is allowed as a deduction if the funding is directly connected to a business thing.
What it means though is that for someone with a small business and personal assets such as a house, all borrowing can go against the business and be fully deductible.
Options include some form of limitation like thin capitalisation or debt stacking rules. I’d be keen though on apportionment. If you have $2 million in total assets and $1 million of debt – then only 50% of the interest payable is deductible.
Policy 4: Clawback deductions where capital gains are earned
Currently so long as expenditure is connected with earning taxable income it is tax deductible. It doesn’t matter how much taxable income is actually earned or if other non-taxable income is earned as well.
Most obvious example is interest and rental income. So long as the interest is connected with the rent it is deductible even if a non-taxable capital gain is also earned.
One way of limiting this effect is the loss ringfencing rules being introduced by the government. Another way would be – when an asset or business is sold for a profit – clawback any loss offsets arising from that business or asset. Yes you would need grouping rules but the last government brought in exactly the necessary technology with its R&D cashing out losses (4).
Policy 5: Publication of tax positions
And finally just to make sure my party is never elected – taxable income and tax paid of all taxpayers – just like in Scandinavia will be published. Because if everyone is paying what they ought. Nothing to hide. And would actually give public information as to what is going on.
Options not included
What’s not there is any form of taxation of imputed income like rfrm. It isn’t a bad policy but taxing something completely independent of what has actually happened – up or down – doesn’t sit well with me.
Also no mention of inheritance tax. Again not a bad policy I’d just prefer to tax people when they are alive.
And for international tax I think keep the pressure on via the OECD because the current proposals plus what has already been enacted in New Zealand is already pretty comprehensive.
Now I know none of this is exactly exciting and so I’ll get the youth wing to do the next post.
(1) Overview IX
(2) Paragraph 6
(3) Treatment of interest when asset held in a corporate structure
(4) Page 11 onward
Since coming back from hols your correspondent has been struggling with an annoying cold. That bad side is that my yoga practice has suffered. Good side is that I have had greater opportunity to sample the ever expanding Netflix menu.
So for comedy I can recommend Santa Clarita Diet, Huge in France and Derry Girls. For documentaries I can recommend Bobby Sands 66 Days, Black Panthers and Period. End of sentence. Oh and Knock Down The House of course. Obvi.
Now for reasons that are beyond me – although constant checking for the next season of The Crown may have had a minor effect – Netflix is recommending The Other Boleyn Girl to me. A book I read many years ago while stuck in an airport but not one I want to watch immediately after a documentary on IRA hunger strikers.
AI still has a way to go.
Anyway the story is that there was apparently an older Boleyn sister that Henry was keen on before he was keen on Anne. And she was probably better coz she loved him much more but is now like super obscure – or possibly completely fictional – and so like it all could have been so different.
Now in CGT land there is also another Boleyn girl. Leading up to the finalisation of the report one of the members – Robin Oliver – put together a sketch of an alternative way of taxing more capital gains.
It has the pithy title of Robin Oliver: Taxing Share Gains but not Gains Made by Companies: Member Note for Session 24 of the Tax Working Group. It also got the slightly more pithy title in the media of CGT Light.
And yes I know there won’t be anymore taxation of capital gains but acceptance is a process and, as a relational being , I am (over) sharing.
So off we go!
Now I am sure you all know dear readers the final design was one of:
- Gains taxed from valuation day
- Loss ringfencing in ‘transition’ period but limited constraints thereafter
- Applying to most – currently untaxed – assets
- Limited rollover relief when buying other assets
- No change to existing rules for debt or foreign shares
And the associated issues with this were:
- Difficulties with valuing hard to value assets like goodwill particularly when only part of a business is sold off
- Revenue risk in downturns
- Incentivising ownership of foreign shares over New Zealand shares
- Lock in
- Complex rules to prevent double deductions within corporate groups
- Troy Bowker getting upset a lot.
Now there were possible ways of reducing all those issues – except maybe the last one. But Robin had a go at looking at it all a bit differently while still ultimately taxing more capital gains on a realised basis.
In particular he suggested:
- Taxation of gains on residential property – valuation method as per final report
- Possible taxation of other land but with extensive rollover provisions
- Inclusion of depreciable property – although in practice this just means losses and/or depreciation would return for buildings that fall in value with gains taxed if rise in value. Maybe software would also be affected but most depreciable assets already get deductions for their decline in value.
So far not that much different to the final report. However there were four key differences:
- No increased taxation of capital gains – other than above – at company level
- Shareholder of listed companies taxed on gains on sale from a valuation day
- Shareholder of unlisted widely held companies taxed on gains on sale. Existing holdings grandparented
- Shareholder of closely held company taxed on gains on assets sold by company. Existing goodwill of companies grandparented.
In some ways this option was lighter than that of the final report:
- Existing holdings of widely held unlisted companies would be outside the tax but they would also be outside the complexities of valuation, the median rule and loss ringfencing.
- Existing goodwill of closely held companies would also be outside the tax but also outside the complexities of valuation, and the median rule.
Now while the grandparenting thing seems like a big gift, it would have been less than Australia did coz they grandparented – didn’t apply the tax to – all existing assets and now 30 years later Australia collect lots of money (1). And yeah it would have been less money to play with in the immediate period but a whole lot more money than is the case now.
The non-taxation of assets in widely held companies would give a timing advantage to shareholders as tax wouldn’t be paid until the shareholders sold their shares. But it would mean that such groups wouldn’t have the compliance cost of the double deduction rules. And the Government wouldn’t have the risk that those rules didn’t actually work all that well and lose lots of money in the process. Coz it’s not like that has never happened before.
But in other ways Robin’s option was actually tougher. Shareholders of closely held companies would be paying tax on any capital gain earned by the company – at their marginal tax rate. So if that was 33% they would pay tax at 33% not the company rate of 28%.
Robin prepared all this as a possible option for Ministers and the Working Group made it very clear that the choices were not binary and the hard stuff was in the active business area. So it could have been worked up by officials as an option in any discussion document – even if they weren’t wild about it at the time. (3)
The Government might even have grandparented all existing assets as Australia did and take away all the noise. And yeah it would take a while to build up but after 10 years or so (4) – serious money.
But it was not to be. And in the end all possibilities went the way of the real Boleyn girls.
Thanks for listening.
(1) Page 28
(2) Paragraphs 11-13
(4) Figure 3.10
Taking a break from TWG report proper stuff for a bit. Although very pleased to see that when the government said no further work on a Tax Advocate they actually meant no further work except for its inclusion in a soon discussion document.
Silly me and everyone else. Clearly misread the Government’s response. Recommendation 73 but getting over myself …
And there has just been a tax bill passed back in the (tax) real world.
R&D tax credits which seems largely to be a grants based system administered by IRD (1) and not anything I would recognise as a tax credit. But hey all the benefits of a grant while still calling it a tax thing. What’s not to love.
And coming up strongly behind is the GST and low value goods bill which also has the loss ring fencing for residential rental property.
Now the latter is pretty much loathed by the tax community. But as interest deductions in the face of untaxed capital gains is a bit of specialist subject/anguish for your correspondent I may write some more on that. As with no more capital gains being taxed I would say this is technology that should get a broader look.
But today I am going to have a bit of a chat about the GST stuff. Now as your correspondent’s taste in clothes tends toward vintage reproduction, she is a big online shopper from relatively obscure American and now Swedish suppliers. And my one piece of tax avoidance has always been keeping purchases below $225 so that no GST would be triggered. Often a struggle – albeit a financially useful one – when the NZ dollar is weak.
Now the $225 comes from the $60 de minimis Customs has where it won’t collect tax and duty up to that amount coz the admin to do so would be higher than the tax collected. So for clothes and shoes – another specialist subject but no anguish here – as there is a duty of 10% when you work it back this means $225 of clothes and shoes can be imported free of taxation and while for everything else it is $400.
And yeah it is not a total free ride as there is postage involved and if things don’t fit sending things back is probs not worth it.
Now this implicit tax exemption is only ever an administrative thing. It wasn’t like Parliament ever said ‘Off you go Andrea, have a foreign tax free dress, just keep it under $225 and only one at a time mind’. And so I have been expecting this loophole to be closed since forever.
And now there is a bill to do just that a select committee. The vibe is that offshore suppliers will collect GST for goods under $1000 and Customs over $1000. Cool. So far so good.
First it is the poster child for high trust tax collecting. It requires the offshore supplier to register with IRD, collect GST and then pay it to the department. Three steps where – just saying – something might go wrong. Would hate to think I pay GST and it isn’t passed on. But for the big guys at least they face ‘reputational risk’ if things go wrong.
Now yes we do have the bright, shiny, newish Convention of Mutual Administrative Assistance (2) that does include GST and yes the Department has tried hard to make the whole thing simple so yes the big people should get caught/ and or voluntarily comply.
2) Suppliers paying to GST registered buyers don’t have to charge coz that would be compliance without tax. Fair enough but I am now GST registered, how will the offshore supplier know my single dress isn’t just like a sample? Or will they even care so long as they have an IRD number?
3) Offshore suppliers only have to register if they are selling more than NZD 60k to people who aren’t GST registered. And yes this is self assessed by taxpayers outside out tax base.
But how will IRD know if the supplier or I am not compliant? There really will be limits to the whole Convention for Mutual Assistance. And anyway if they sell less than $60k no GST is totes legit.
But ultimately none of this should matter as any tax not collected by the offshore supplier will be picked up by Customs. Except …
4) De minimis raised to $1000 value of item for goods not GSTed by supplier. Sorry wot? So if GST is not charged – correctly by my new obscure foreign retailer – or incorrectly because reputational risk isn’t a thing for them – my GST free band has increased? Yup.
To be fair this is all sort of covered in the RIS (3) but I can’t find anything that discusses why the de minimis or threshold had to be increased.
Interestingly the Tax Working Group explicitly looked at these issues and concluded that the de minimis should only be NZD 400. And this is the right answer particularly when fairness is the lens. Although I would have thought there was now a case to bring the de minimis right down to incentivise collecting at source.
It is true that all the marketplaces and Youshops will get caught but anyone like me with any form of obscure foreign importing – which I am guessing is much like capital gains and a feature of a higher income/wealth profile – can now buy more tax free than before.
And why this is important is that the official primary reason for this policy change was to increase the fairness of the tax system. Not efficiency or even revenue but fairness.
And the thing about increasing fairness is that it might not reduce administrative costs. It might not improve the customer experience. But it says that tax is paid by everyone not just when it is easy to collect and people don’t get upset with you.
So a day or so after discovering I won’t be taxed on capital gains, surely I am not also up for more GST free shopping? Hope not.
Really hope this isn’t the beginning of fairness going back to Khloe or Pippa status.
(1) In year approval page 6.
(2) Article 2(b)(iii)(c)
(3) Page 5 Potential behavioural changes by consumers
Your correspondent is having a lovely Friday. Thanks for asking.
Started the day chatting to Terry Baucher on tax stuff and then Wellington is having one of its beautiful days.
Had lunch with a friend setting the world to rights which included me riffing on what a progressive tax policy could look like that was a bit radical but not completely nuts.
I have very tolerant friends.
Anyway given the relational being that I am – I thought I’d share it with you.
It starts from a place of Jacinda saying that while a CGT is off the table – nothing else is. And having spent the last 16 months or so thinking about tax stuff from a heavily constrained perspective – it is all a bit exciting to get off the leash.
So it goes!
This would apply to all estates over a (tbd) threshold. It has the advantage of involving one of life’s certainties so wouldn’t be affecting behaviour at all. Now it might mean people pass on assets before they die and they might use trusts to avoid it.
The former strikes me as a collateral benefit of the tax and the latter would need to involve rules involving death of settlors and/or beneficiaries. Next.
Closely held companies
They would become taxed at the top marginal tax rate to stop all the $70k and overdrawn current account stuff. There would be the option though of the look through company rules applying when incomes of shareholders are actually below $70k.
Very small companies
Consistent with a submission from Chartered Accountants of Australia and New Zealand (1) very small companies – tbd – would be taxed on turnover. Yes there are issues with it but it would reduce compliance costs for them and stop the revenue risk of oh gosh how did that personal expenditure get into my tax return.
The CPAG submission of a net equity tax would apply here. Yes it is similar to the TOP proposal but has the advantage of only applying to property so none of the valuation issues. Also I am not too stressed about partial family home exemptions so the types thresholds Susan St John proposes seem very pragmatic.
Personal tax thresholds
Any money collected – and quite frankly there may not be any when your focus is fairness rather than revenue raising – would go into raising the bottom threshold as per the TWG proposal.
Then either this could flow through to everyone or get clawed back by raising the tax rate for the next threshold. Also a possibility raised by the TWG.
Options not considered
Raising the top personal tax rate
Now I know this is a darling of the left and I accept I could be heavily coloured by having paid the higher rate for many years. But here’s the thing:
It is taxing the top income earners who are already in the tax system paying tax on their income. It doesn’t touch income that isn’t taxed already in a way a number of the measures above do.
Also the mismatch thing between different entities is a nightmare and to do properly would involve also an increase in the trust rate or face the use of trusts that were prolific previously.
There is already an issue with a mismatch between the company rate and top personal rate which I am hoping the proposal for closely held companies would fix.
Lowering the GST rate
Now I get that GST is regressive. Totes. No argument. But as rich people spend more in absolute terms, they pay more GST in absolute terms. And if they are not paying income tax for whatever reason – if they want to eat they have to pay GST.
So can’t recommend this I’m afraid.
However also not a fan of raising it either. See comment on regressivity.
Anyway that’s enough from me.
So would this all make the tax system fairer. Totes. Could anyone get elected on this? No idea. Well beyond my skill set.
Enjoy your weekend.
(1) Pages 28-29
Now your correspondent loves a good paraphrase as much as the next socially progressive tax commentator. And so she had been largely unstressed about the use of the term capital gains tax by Jacinda on Wednesday or in any of the previous or subsequent discussion.
A comms device. Alg. Important to focus on the substance of the announcement rather than any technical nit picking.
But now I am not so sure.
Indulge me a minute. Call it background if you will.
Now what the Tax Working Group actually recommended was that more capital gains should be taxed. The majority – and me – thought a more comprehensive approach was best while the minority thought only gains on sales of residential rental should be taxed.
And the reason it was framed like that was because the tax system already taxes a number of capital gains: financial arrangements, certain types of land sales, leasehold improvements, employee share options and (sort of) returns from foreign shares.
It is true that by value lots are either excluded or administratively unenforceable. Looking at you assets purchased with the intention of resale.
But all the discussion was on extending income taxation to different asset classes that generated untaxed capital gains – rather a capital gains tax per se.
And here is why it matters.
While we don’t have a capital gains tax – over time, or incrementally as the minority put it, – successive governments have deemed specific capital gains to be taxable income when it is clear that untaxed gains are being substituted for taxable income. It has been the safety valve for the lack of a formal capital gains tax. And all done without any fanfare.
So it was with a degree of surprise upon watching Jenée Tibshraeny’s excellent interview of the Minister of Finance, I heard him say that an extension of the bright line test was unlikely because it would be too much like a capital gains tax.
Now I am really hoping that what he meant was: it is unlikely because there isn’t much substituting taxable income for capital gain with residential property. Rather than it is unlikely because any capital gain that is now untaxed will not be taxed while Jacinda is PM.
Because that would be a step backwards in terms of tax policy and make me properly sad.
So now really looking forward to that new tax work programme.
Ok yes I am disappointed.
But probably no more or less than the members of the 2001 and 2008 tax reviews who also recommended greater taxation of capital. So it was always on the cards.
And to be fair the New Zealand tax system has never had a formal capital gains tax but has been taxing capital gains since whenever. All by deeming them to be taxable income.
IMHO this really hasn’t been the end of the world from a social cohesion point of view until that is – land prices went insane and somehow my generation extracted value from our children.
Now yes it would be awesome to tax that value extract – but what would be more awesome would be land prices falling. Coz something has gone gobsmackingly wrong when yopros need government intervention to buy their first home.
But back to tax.
Personally though I am surprised there wasn’t something. After all even the minority felt their was a very strong case to tax gains from residential rental and for those who were worried about valuation issues there was always the CGT lite option aka grandparenting.
But this is not to be.
So what is happening? Possible vacant land tax, cracking down of speculators and tax dodgers.
The former I am quite comfortable with as I think it has merit as a corrective tax. Needs to be better than Australia though. And yes local government is the best placed for that. Maybe a targetted rate or something.
Cracking down on speculators. Right.
Now there is the small matter of the brightline test which taxes sales within 5 years which – I would have thought – well included any speculation period.
And then there is the existing provision since whenever – bought with the intention of resale – which didn’t work very well so the Nats brought in the brightline test.
Unfortunately though compliance with these rules is a bit average and enforcement is a bit hard. (1)
And there will also be cracking down on tax dodgers. Not quite sure I know what that means.
There are our friends the closely held companies and dividend stripping . Which is essentially winding up to extract an untaxed capital gain and setting up a new company. Rather than just getting a taxable dividend from the original company.
Taxing these capital gains would have helped the issue.
And so instead strengthening enforcement for closely held companies (2) will be considered a high priority area for the next work programme.
Except enforcement is operational and the work programme is policy so not quite sure how that will work. But maybe I should get over myself, go with the vibe and wait for the actual new work programme.
But the Charities (3) stuff is all looking good.
The things I am most saddest about though are some of the more innovative obscure issues that aren’t being even considered for inclusion on the work programme. Which really only means – ‘will get to it if have time’.
They are the :
- Tax Advocate service (4) which would have helped small business and given an additional source of advice to the Minister;
- Overarching purpose clause (5) to say what the point of taxation is;
These are all potential neutral unpolitical improvements to the tax system. But didn’t hear Jacinda ruling them out – so maybe still hope.
So I might write some more about these. Oh and the OECD work on digital services. But once I have processed all this.
(1) Annex on compliance.
(1) Paragraph 17 Executive Summary
(2) Recommendation 66
(3) Recommendation 78-82
(4) Recommendation 73
(5) Recommendation 77b
(6) Recommendation 66. Although to be fair there is a suggestion this could be handled differently.
Now the most logical next post would be a discussion of the OECD digital proposals as that is the international consensus thing I am so keen on and also fits nicely into the thread of these posts.
The slight difficulty is that this requires me to do some work which is always a bit of a drag and when I am suffering badly from jetlag – an insurmountable hurdle.
So as a bit of light relief I thought I’d have a bit of a pick into the narrative around multinationals and why their non-taxpaying is particularly egregious.
You know the whole small business pays tax so large business should too thing.
Now because of the tax secrecy thing, we can never know for def whether this is the case. But there is some stuff in the public domain, so let’s see what we can do as a bit of an incomplete records exercise.
In one of the early papers for the TWG, officials had a look at tax paying of certain industries. Now while the punchline – industries with high levels of capital gains pay less tax – is well known, there are some other factoids that are worth considering.
Factoid 1 The majority of small businesses are in loss (1). Ok wow. But that could be fine if all the income was being paid out to shareholders.
Factoid 2 Spike of incomes at $70k. Ok suspicious I’ll give you that. But maybe there are lots of tax paid trust distributions.
Factoid 3 Shareholder borrowings from the company (2) – aka overdrawn current account balances – have been climbing since the reduction in the company tax rate in 2010. Oh and the imputation credit balances have been climbing over that period too (3). But that could be fine if interest and/or fringe benefit tax is paid on the balances.
Factoid 4 Consumption by the self employed is 20% higher than by the employed for the same taxable income levels. But this could be fine if the self employed have tax paid or correctly un-tax paid – like capital gains – sources of wealth that the employed don’t have.
Factoid 5 In 2014 high wealth individuals had $60 million in losses (4) in their own name. But that could be ok because if companies and trusts have been paying tax and they have been receiving tax paid distributions from their trusts.
Factoid 6 Directors with an economic ownership in their company are rarely personally liable for any tax their company doesn’t pay. Because corporate veil. And that even includes PAYE and Kiwisaver they have deducted from their employees.
Now all of this is before you get to the ability small business has to structure their personal equity so that any debt they take on is tax deductible. Not to mention the whole accidentally putting personal expenditure through the business accounts thing.
And of course I am sure none of this has any relevance to the Productivity Commission’s concern that New Zealand has long tail of low productivity firms [without] an “up or out” dynamic. (5)
But is it all ok?
- Are there lots of taxpaid trust distributions? We know the absolute level (6) but not whether it is ‘enough’.
- Is interest or FBT being paid on overdrawn current accounts?
- Do the self employed have sources of taxpaid wealth that the employed don’t have?
- Why have some of our richest people still got losses?
- How much tax do directors of companies in which they have an economic interest walk away from?
- What is the level of personal expenditure being claimed against business income? Or at least what is the level that IRD counters?
Combination of tax secrecy and information not currently collected. But IRD are working towards an information plan and the TWG have called for greater transparency.
Coz most of this is currently totes legit. In much the same way as the multinationals structures are.
(1) Footnote 9
(2) Page 11
(3) Page 10
(4) Page 15
(5) Page 19
(6) Page 9
Ok. So the story so far.
The international consensus on taxing business income when there is a foreign taxpayer is: physical presence – go nuts; otherwise – back off.
And all this was totally fine when a physical presence was needed to earn business income. After the internet – not so much. And with it went source countries rights to tax such income.
However none of this is say that if there is a physical presence, or investment through a New Zealand resident company, the foreign taxpayer necessarily is showering the crown accounts in gold.
As just because income is subject to tax, does not necessarily mean tax is paid.
And the difference dear readers is tax deductions. Also credits but they can stand down for this post.
Now the entry level tax deduction is interest. Intermediate and advanced include royalties, management fees and depreciation, but they can also stand down for this post.
The total wheeze about interest deductions – cross border – is that the deduction reduces tax at the company rate while the associated interest income is taxed at most at 10%. [And in my day, that didn’t always happen. So tax deduction for the payment and no tax on the income. Wizard.]
Now the Government is not a complete eejit and so in the mid 90’s thin capitalisation rules were brought in. Their gig is to limit the amount of interest deduction with reference to the financial arrangements or deductible debt compared to the assets of the company.
Originally 75% was ok but then Bill English brought that down to 60% at the same time he increased GST while decreasing the top personal rate and the company tax rate. And yes a bunch of other stuff too.
But as always there are details that don’t work out too well. And between Judith and Stuart – most got fixed. Michael Woodhouse also fixed the ‘not paying taxing on interest to foreigners’ wheeze.
There was also the most sublime way of not paying tax but in a way that had the potential for individual countries to smugly think they were ok and it was the counterparty country that was being ripped off. So good.
That is – my personal favourite – hybrids.
Until countries worked out that this meant that cross border investment paid less tax than domestic investment. Mmmm maybe not so good. So the OECD then came up with some eyewatering responses most of which were legislated for here. All quite hard. So I guess they won’t get used so much anymore. Trying not to have an adverse emotional reaction to that.
Now all of this stuff applies to foreign investment rather than multinationals per se. It most certainly affects investment from Australia to New Zealand which may be simply binational rather than multinational.
Diverted profits tax
As nature abhors a vacuum while this was being worked through at the OECD, the UK came up with its own innovation – the diverted profits tax. And at the time it galvanised the Left in a way that perplexed me. Now I see it was more of a rallying cry borne of frustration. But current Andrea is always so much smarter than past Andrea.
At the time I would often ask its advocates what that thought it was. The response I tended to get was a version of:
Inland Revenue can look at a multinational operating here and if they haven’t paid enough tax, they can work out how much income has been diverted away from New Zealand and impose the tax on that.
Ok – past Andrea would say – what you have described is a version of the general anti avoidance rule we have already – but that isn’t. What it actually is is a form of specific anti avoidance rule targetted at situations where companies are doing clever things to avoid having a physical taxable presence. [Or in the UK’s case profits to a tax haven. But dude seriously that is what CFC rules are for]
It is a pretty hard core anti avoidance rule as it imposes a tax – outside the scope of the tax treaties – far in excess of normal taxation.
And this ‘outside the scope of the tax treaties’ thing should not be underplayed. It is saying that the deals struck with other countries on taxing exactly this sort of income can be walked around. And while it is currently having a go at the US tech companies, this type of technology can easily become pointed at small vulnerable countries. All why trying for an new international consensus – and quickly – is so important.
In the end I decided explaining is losing and that I should just treat the campaign for a diverted profits tax as merely an expression of the tax fairness concern. Which in turn puts pressure on the OECD countries to do something more real.
Aka I got over myself.
In NZ we got a DPT lite. A specific anti avoidance rule inside the income tax system. I am still not sure why the general anti avoidance rule wouldn’t have picked up the clever stuff. But I am getting over myself.
Of course no form of diverted profits tax is of any use when there is no form of cleverness. It doesn’t work where there is a physical presence or when business income can be earned – totes legit – without a physical presence.
And isn’t this the real issue?