New Zealand is to introduce a fairer regime for taxing domestic investors who invest in New Zealand and overseas, which will mean a tax cut of NZ$110 million (US$67 million) a year from next April, Finance Minister Michael Cullen and Revenue Minister Peter Dunne announced yesterday.
"We want a system that doesn't encourage investors to favour investing overseas over investing in New Zealand," the two ministers noted in a joint statement.
"We are removing distortions which favour sophisticated direct investors over those who choose to invest through managed funds and unit trusts," they added.
The minister stressed that the new tax regime does not amount to a "money grab by the government" and will cost about NZ$110 million a year in foregone tax revenue.
The new rules will remove a number of tax disadvantages for investors using managed funds, many of whom are ordinary, middle-income savers. Lower-income savers investing in vehicles that adopt the new rules will in future be taxed at their correct tax rate.
Currently, lower-income savers are taxed at 33 percent on their savings even though their correct rate may be 19.5 percent. This creates a significant tax disincentive for lower-income savers to use managed funds in order to have access to a diversified range of investments. Those whose tax rate is 39 percent will continue to have their savings taxed at 33 percent.
Capital gains on New Zealand and Australian shares held via a vehicle like a managed fund will no longer be taxed. This will increase the gains for those who choose to invest in these types of vehicles and offset the advantage of those who invest directly in NZ and Australian shares because they are only taxed on dividends. Both these measures put managed funds on an equal footing with direct investors.
Currently, individuals who invest directly offshore in one of the eight so-called “grey list” countries will generally pay tax only on dividends. The problem is that many companies in grey list countries pay very little by way of dividends so the government feels that these investors are not paying a reasonable amount of tax.
"This tax treatment advantages direct investors over other savers, such as ordinary lower and middle-income people who use a managed fund and who may lack the wealth, financial sophistication, and confidence to invest offshore directly," the ministers observed.
The new rules will resolve the problem by requiring a "reasonable" level of tax to be paid by direct investors who have substantial share portfolios outside the region. The amount of tax will be capped at 5 percent of the increase in value of the investment in any one year, not the full unrealised capital gain. The increase in value will be limited to 85 percent of the actual increase in value.
The government considers that the current rules are also too harsh for investment outside the grey list, discouraging investment in other important destinations such as many high growth Asian countries.
"We have listened to the concerns of the investment community and we think we have the balance right now," the ministers continued.
They added that: "As always there will be winners and losers. The losers in this case will tend to be sophisticated direct investors who have enjoyed considerable tax advantages under the old regime and who have the ability to easily adjust their investment arrangements."
"The winners will be thousands of ordinary, hard working New Zealanders who the government is helping to achieve long term financial security."
The changes to the investment tax regime were welcomed as "a move in the right direction" by Ernst & Young Tax Director Matthew Hanley, although he confirmed that offshore investors will lose out under the new regime.
Mr Hanley noted that the domestic component of the reforms is “a triumph for tax neutrality”.
“The good news is that for those on the 39% tax rate, the tax on this income will be capped at 33%. This is a significant compromise no doubt in the spirit of encouraging saving,” he stated.
However, Mr Hanley expressed disappointment that the current grey list exemptions will be removed other than for investments in listed Australian shares.
“It is disappointing this Australian exemption is not broader to cover unlisted Australian companies and unit trusts. There will be investors holding employee shares in unlisted Australian companies this could affect," he observed.
He also criticised the decision to reduce the taxable basis only to 85%.
“This 85% basis is a reduction from the original 100% and is an effort to address the significant concerns submitted to the Ministers that the 100% basis is an inaccurate proxy for earnings from offshore portfolio equity investments. Even at 85%, this is still an overstated earnings proxy.”
Nonetheless, Mr Hanley said that it was "encouraging" that the government appears to have listened to the concerns raised by the investment industry.
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