Inland Revenue’s recently published view on fees paid to non-resident directors will have implications for those directors and the companies that appoint them.
A large number of New Zealand boards, particularly of foreign multinationals’ local subsidiaries, will have non-resident directors. Inland Revenue’s recently published view on fees paid to non-resident directors will have implications for those directors and the companies that appoint them.
The key change in the Commissioner’s view is when a non-resident director’s fees are sourced in New Zealand. Or put another way, when that director will be expected to pay tax in New Zealand on those fees.
While Inland Revenue has added its usual caveat that the answer is fact-dependent, essentially, if the fees are paid by a New Zealand resident company to an individual, the fees will be treated as New Zealand-sourced income. It doesn’t matter whether director services are performed in New Zealand or elsewhere. This new approach generally applies from 1 April this year.
This compares with the previous approach of looking at where the services were actually performed (which is still the approach taken with taxing a person’s employment income).
The answer will be different where director’s fees are paid to a non-resident entity (such as a company or partnership), rather than an individual. Here, the fees will be sourced in New Zealand only to the extent that they are attributable to a permanent establishment in New Zealand or they are paid for services physically performed in New Zealand.
Director’s fees that are sourced in New Zealand are taxed under the schedular payments rules. This means the New Zealand company may need to withhold tax at the time of payment. However, working through the withholding rules and determining whether and how they apply is not straight forward.
This new approach is partly a consequence of a change to our domestic source taxation rules introduced as part of New Zealand’s response to Base Erosion and Profit Shifting concerns.
That change means that any income that may be taxed in New Zealand under one of New Zealand’s double tax agreements (DTAs) will be New Zealand-sourced income under domestic law. As most of New Zealand’s DTAs allow New Zealand to tax directors’ fees paid by a New Zealand company, these fees are now taxable under New Zealand’s domestic source rules.
However, even where there is no DTA in place, the Commissioner’s view is that non-resident directors’ fees will still be New Zealand-sourced under our domestic rules, if paid by a New Zealand resident company.
This creates an inconsistency with the taxation of employment income and director’s fees paid to an entity, which is generally based on the place of physical performance of those services.
It also creates an inconsistency with the approach compared to the determination of where employment income is sourced (place of physical performance), and additionally for determining the tax residence of companies, which typically looks at a company’s place of effective management.
In our view, these changes in approach raise questions about the consistency of tax policy in this area, as well as a number of practical uncertainties. Simply because an item of income may be taxed pursuant to a tax treaty, doesn’t mean it is good policy to do so.