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Tax Working Group – recommendations to see the light of day

TWG – recommendation expectations

This taxmail highlights some expectations of the answers the TWG will provide.

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John Cantin - KPMG NZ - Partner

Partner - Tax

KPMG in New Zealand

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TWG

On Thursday we will see what the Tax Working Group (TWG) has recommended to the Government. Of particular interest will be in how the TWG thinks the tax system should be balanced to better achieve fairness. We have outlined below our best guess of the recommendations of the TWG for this week’s edition of taxmail.

Key areas

The Interim Report released in September 2018 covered a wide range of topics. The Ministers of Finance and Revenue response to the TWG asked for a revenue neutral package. Here is a short summary of the key issues:

  Comment
Wellbeing and Māori frameworks  These were works-in-progress for the Interim Report. They are the “sleepers” and have the potential to significantly influence how the tax system develops. However, although further developed, they are likely to remain works-in-progress.
Environmental taxes The question is whether any increase in environmental taxes should be “recycled” or directed to expenditure to reduce the environmental harm. If it is used on environmental expenditure, it will not be available to fund tax cuts.
Smaller business compliance costs  SME compliance costs have been subject of many reviews. There has largely been tinkering only. It is difficult to reduce these costs without either losing revenue for Government or resulting in unfairness (because those in the same economic position are taxed differently).
Individual tax rates  Possible base broadening (i.e. capital income taxes) will increase revenues.  This provides an opportunity to reduce tax rates or increase thresholds. The expectation is that any movement will be targeted to the lower thresholds. 
KiwiSaver tax rates The interim report raised potential reductions in KiwiSaver rates to offset capital income taxation. Reducing KiwiSaver rates may offset increased capital income taxation.

Capital income taxation (also known as capital gains tax)

The big ticket item is the taxation of capital income. The Interim Report showed that the TWG were aware of the many problems with a comprehensive capital gains tax. The design questions were to consider what trade-offs could be made in resolving them.
Assuming the open secret that capital income taxation will be a majority TWG recommendation, our best guess expectation of what they will recommend (with some comment) is:
 

Capital income design features

Feature          Expectation   
Realisation or risk free rate of return (RFRM)   Realisation but possible RFRM for shares.

Property included

  • Land and buildings
  • Business assets
  • Shares
Include all three but an open question on whether private land, such as family baches, will be outside the scope.

Valuation Date

All assets valued as at commencement date. 
Commencement Date   1 April 2021 with potential to phase in certain assets (e.g. PIEs) to allow time to set up systems.  

Roll over relief

Limited to death, relationship property and company group restructures.

Application to PIEs

Unrealised accrued basis but lower tax rates to compensate for earlier taxation. 
Losses  Despite equal treatment being the best option, losses to be quarantined for use against capital gains.
Inflation indexing  None (to reduce complications and as a trade-off for an unrealised basis of taxation).
Consequential amendments to existing rules (which may no longer be needed or can be changed with a CGT)  Limited due to lack of time to fully consider. (This is one of the real benefits for extending capital income taxation from a tax system perspective).
Double taxation objections (to taxing shares and property) To keep the proposal simpler, double taxation arguments will be discounted as outweighed by the benefits of a broader CGT. 

(Whether these guesses are right will become clearer on Thursday.)
As a reminder, some capital gains are currently taxed in New Zealand. These have developed as problems have been identified by Government and Officials. A non-exhaustive list of capital gains already taxed includes;

  • capital gains on financial arrangements (but not capital losses);
  • certain land and buildings sold within then and now five years (the bright line test);
  • employment restraints of trade;
  • employee share scheme capital gains;
  • land inducement payments
  • property sold within 10 years by a person associated with a builder, developer etc.;
  • capital gains distributed by companies;
  • capital gains distributed by companies to certain non-resident shareholders;
  • returns of capital by Australian companies that are not share cancellations;
  • petroleum and forestry assets;

These extensions to taxable income have been implemented by Governments of various colours. Whether continued ad hoc extensions to taxable income is a better approach than a broader change will also be a key question.

Our view

In our submissions on the Interim Report, we noted:

  • The reasonableness of the total package will be an important test;
  • The trade-offs made to expand the taxation of capital income should result in as sensible as possible a regime to achieve the TWG’s terms of reference.

We also said it would be important to test and present the evidence for their decisions. (In large measure because we were concerned that Officials’ fears of the behavioural impacts of the proposal would add unnecessary complications to the recommended structure.)

The last TWG raised coherence and sustainability as key tests for a tax system. It recommended that a comprehensive CGT not be implemented as its benefits were not justified by the complications it would add.

This TWG’s terms of reference has added fairness. Thursday’s release will show how much difference that makes and whether a viable CGT can be designed for New Zealand.

We will provide our view of their answers and in the meantime, we trust we have helped with your thinking and response to the recommendations.

 

Digital Sales Tax – A pointer?

Yesterday the Government announced a May consultation on a digital sales tax. The press release is available here. There is little detail but other countries DSTs are likely to be considered. The justification, for New Zealand’s own DST ahead of an OECD consensus, is to correct an unfair and unsustainable lack of income tax. This signals that the fairness case is likely to have much greater sway in the Government’s acceptance of the TWG’s recommendations. Certainty on that point will have to wait until at least April.

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