Questions are being raised over why people who pay too little tax will soon have to pay more in interest, while those who pay too much will receive less.
The Inland Revenue Department (IRD) is making changes to its ‘use of money’ interest rates.
As of August 29, the rate for underpayments of tax will increase from 8.22% to 8.35%, while the rate for overpayments will fall from 1.02% to 0.81%.
The reason for the incongruence is that the rates are calculated using different benchmarks.
And the reason both rates aren’t simply falling, as one would expect in the current low interest environment, is because the rates were calculated in April, before the Official Cash Rate was cut in May.
The oddities that appear through the rates stem from statutory regulations.
The IRD is required to calculate the rate that under-payers pay by adding 250 basis points to the Reserve Bank’s floating first mortgage new customer housing rate.
It calculates the rate the over-payers receive by knocking 100 basis point off the Reserve Bank’s 90-day bank bill rate.
Between April this year and March 2017, when it last changed its ‘use of money’ rates, the bank bill and floating mortgage rates moved in different directions.
So why did it decide to review the rate in April?
Because it has to change the rates when either the 90-day bank bill rate or the floating first mortgage rate change by more than 20 basis points over a calendar year, or more than 100 basis points since the rates were last changed.
The IRD explained: “If market interest rates continue to move sufficiently, another ‘use of money’ interest rates review will be triggered.”
So is there a problem?
The question then is, is the formula fit for purpose?
Tax accountant of Baucher Consulting, Terry Baucher, believed it made more sense to benchmark both rates off the same rate.
He favoured the floating mortgage rate because he thought it was more transparent and easier for people to understand.
Indeed, before 2009, the IRD’s ‘use of money’ rates were both based on the 90-day bank bill. However this was changed because the underpayment rate fell to a level the Government believed was too low to incentivise people to pay the right amount of tax.
The IRD said at the time the rate would’ve been “too close to the cost of finance”, which could’ve resulted in “tax deferral and fiscal risk concerns and would be contrary to the objective of encouraging taxpayers to pay the right amount of tax on time”.
Baucher pointed out the difference between the interest rates applied to under and over-payers of tax is currently the greatest it’s been since 2009.
He accepted the fact the rates had to be at levels that would encourage the right behaviours, but believed the IRD was too fearful that people would essentially try to game the system and use it as a bank, depending on how its rates compared to those in the market.
He was also critical of the IRD’s 5% late tax payment fee, saying it relied too much on this to encourage people to pay tax on time, instead of taking a more proactive approach by stepping in quickly after tax payments fall due.
He noted the IRD referring to people as “customers”, as one would if they were running a business.
National’s Revenue spokesperson Andrew Bayly had a go at the IRD in a statement released to the media
"The interest rate Inland Revenue charges taxpayers should be getting smaller, not bigger. Instead it has been steadily increasing in Inland Revenue's favour,” he said.
However Bayly would not go so far as to saying he would change the law if he was in government to address the incongruence he identified.
He was also quiet on the fact that the change that saw different rates applied to underpayments and overpayments was made under National.
Yet he took the opportunity to note another qualm with the IRD: “It is particularly hard to swallow as it comes off the back of Revenue Minister Stuart Nash’s confirmation that Inland Revenue won’t be paying back an estimated $42 million overpaid by KiwiSaver investors in PIE tax.”