Terry Baucher digs into 4,000 'please explain' letters and counting from the IRD, the unintended consequences of a global tax rate, the future of GST, and what went wrong with the introduction of a capital gains tax

Terry Baucher digs into 4,000 'please explain' letters and counting from the IRD, the unintended consequences of a global tax rate, the future of GST, and what went wrong with the introduction of a capital gains tax

This week, an update on Inland Revenue’s Common Reporting Standard initiative, the Future of Tax, and what went wrong with introducing a capital gains tax.

I spoke recently of Inland Revenue’s new initiative on the Common Reporting Standard on Automatic Exchange of Information or CRS as it's commonly referred to. This is where Inland Revenue has received details of upwards of 700,000 accounts from overseas tax authorities.  It is now working its way through that list of information it's received and has started to send out some letters to people where it considers there has been either under declaration or non-declaration of income.

I’ve found out a bit more about what's going on with this initiative, and it's a little bit concerning how it's being approached. So far Inland Revenue has sent out approximately 4,000 letters to various individuals with the latest batch of letters going out in the last couple of weeks, in fact.

But it seems to be slightly indiscriminate in its approach, I'm hearing reports of transitional residents who don't have to report overseas income, receiving such letters and then having to spend time on it.

The information that's been sent is for the period to 30th June 2018, and there’s another set of information coming for the period to 30th June 2019 very shortly. And apparently Inland Revenue is asking people to reconcile the numbers it’s received with what's in their tax returns, because there are sometimes big discrepancies. 

Sometimes the reasons for those discrepancies are because the taxpayer has returned income under a special regime, such as the foreign investment fund regime or the financial arrangements regimes. The financial arrangements regime, as you may recall, deals with income on an accrual basis and brings into account unrealized foreign exchange gains.

So naturally, there are going to be significant differences between what's reported to Inland Revenue, the actual amount of interest paid by an overseas financial institution and what's been reported a taxpayer. So, it's a little bit disconcerting to hear Inland Revenue taking that approach.

One other thing that has emerged is that Inland Revenue is expecting where someone has not been compliant, that is, has not disclosed income for whatever reason, people to make disclosures for what’s called the open years, or not time barred tax years. This is usually four income tax years prior to the current year to 31st March 2019 for which a return is due. So that means that someone will have to be filing income tax returns covering the period from 1st of April 2014 onwards.

Just an aside on that. If Inland Revenue does feel that there's been deliberate evasion, where someone was receiving, say, substantial amounts of income and they really should've known they ought to have been returning this, it always has the right where there is tax evasion or fraud at stake to go further back than the usual four year period.

I'll keep you up to date on this developing story, as they say in the news. There's going to be some confusion. If you have been compliant it’s not a problem.  But it is a bit of a headache trying to find out exactly what Inland Revenue is after. And if you've not been compliant, come forward and get it sorted out.

Getting to grips with BEPS

Currently, I'm at the Chartered Accountants Australia New Zealand Annual Tax Conference in Auckland. 

It’s always interesting to see the developing trends in tax and catch up with colleagues. Several papers have been very, very interesting talking about the future of tax. Incidentally, because the larger organisations such the Big Four accounting firms and larger law firms that dominate attendance at this conference there’s a fairly international tax and transfer pricing aspect for many of the sessions.

But because of the OECD’s recent tax initiatives I talked about last week,  there's very some interesting papers to be seen on this topic. Something one presenter talked about was that in some ways this development towards a global minimum tax rate may not be the sort of silver bullet to put an end to aggressive tax planning by multinationals some people might think it does. It does represent, as the present pointed out, a threat to the tax sovereignty of jurisdictions around the world. And that is something that hasn't really been talked about too much.

Traditionally each country, had its own taxing rights for activities carried out within the jurisdiction. Of course, the digital economy has just basically demolished that old precept which was designed almost one hundred years ago. Essentially, they're basically now obsolete. But what's coming and is still being debated may mean that countries have to accept that because of the way economies are now structured the taxing rights are going to change.

And here's the thing, New Zealand is a small economy basically at the edge of the world on these matters. And to a large extent we will have little say as to what happens, how we can apply tax rules and what our cut, so to speak, of this digital economy tax take will be.  And that’s something to really think about.

On the other hand, New Zealand tax officials are actually quite heavily involved in this OECD process. The Minister of Revenue and Minister of Finance both spoke at the conference. They gave an interesting political take on matters (they took questions as well).

Both of them singled out Carmel Peters of Inland Revenue for her work within the OECD and Carmel is in fact, recognised as one of the top 100 most influential women in the tax community worldwide. This is a fantastic achievement when you consider how small New Zealand is for someone to be held in that regard.

This is a by-product of New Zealand's Generic Tax Policy Process which is regarded very well worldwide and how co-operative tax professionals and Inland Revenue are in developing and implementing tax policy. So that's encouraging. We may yet be effectively getting some crumbs at the table, but maybe we're going to be helping set the table, so to speak.

Cutting out tax professionals

Another paper that caught my eye, which is very interesting and something I’ve also talked about in past podcasts, is what's happening in indirect taxes and GST in particular. The guts of it is governments are really moving to basically disintermediate the tax professionals.  That is, they're going to cut out the middleman. 

In some jurisdictions, China, India were mentioned, they are setting up a GST system or its equivalent where GST registered persons can only operate if they basically have a central government approved software where all transactions are automatically recorded and sent back up to and through this software to the tax authority. So, there's no longer a question of gathering information, preparing a tax return and then filing it after a certain period time. Basically, everything's going real time. And that's actually not surprising given the way the Cloud technology is developing.

But it has put Inland Revenue and the Australian Tax Office at a little bit of a disadvantage compared to these other jurisdictions and the likes of Sweden, where, as I’ve previously mentioned, all credit and cash registers are centrally linked. The ATO and Inland Revenue are a little bit behind the game on this, but as the presenter noted although they may not be pursuing this trend at the moment, on the other hand, they're probably ahead of many of the new jurisdictions in their ability to analyse the data they do receive.

And that's something people should always be aware of, that Inland Revenue now has greatly enhanced capabilities. And it is almost certainly running its eye over the data it's receiving, watching for the transactions which a café may not be ringing through.

By the way this presenter was from Australia and after he paid in cash for a coffee, he wasn’t given a GST receipt even though he requested one, which as he rather wryly said “I didn't know that New Zealand's GST system operated like that”. But what's going on there is almost certainly a case of tax evasion.

What went wrong with the CGT proposal

And finally, Robin Oliver and Geof Nightingale who were both on the Tax Working Group gave their views on went wrong with the attempted introduction of a capital gains tax.

Both were very clear that the political process of managing the introduction of a capital gains tax was badly handled right from the get-go. Furthermore, the design probably adopted a too purist approach. Robin Oliver highlighted a few of the differences between the proposals and how Australia designed its CGT.

And the combination of an overly pure design, a poorly managed process in terms of selling a capital gains tax and its potential benefits meant that it really was quite a derailed process. As Robin noted the stars had to align for it come through. And they didn't align at all, so it fell over badly.

What they also talked about is, well, what happens next? Fortunately, the government's books are in surplus and the fiscal strains of superannuation and rising health care costs for the elderly are still some years down the path.  But both thought that in 20 years’ time, the issue of capital gains tax will be back. And both Geof and Robin said that we have a significant asset class in land which is under taxed and that is not sustainable long term.

So that is a matter which will continue to be debated. We've got an election coming up and there was some commentary in the room about what is going to be the tax policy of the government going forward. There's some talk, for example, about rejigging the rates and maybe increasing the top tax rate.

All that's in the future. And we shall just have to wait and see.

And finally, just like a quick shout out to all the listeners and readers I've met at the conference so far. Thank you all for your kind comments and suggestions for topics and guests. Please keep them coming.

I'll have more about the CAANZ tax conference next week. In the meantime, that's it for the week in tax. I'm Terry Baucher, please send me your feedback and tell me your friends and clients. And until next time have a great week. Ka kite āno.


This article is a transcript of the November 22, 2019 edition of The Week In Tax, a podcast by Terry Baucher. This transcript is here with permission and has been lightly edited for clarity.

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What went right with the successful avoidance of a capital gains tax. Must admit I see the logical argument for CGT, but I’m still glad it didn’t get through.

And when I say CGT I mean a normal CGT, not an insane wealth tax on unrealised capital gains. Disconnected intellectual types seem to think it is OK to tax assets themselves instead of the income from assets, which will never happen in any meaningful way while we still live in a democracy.

Thank you another interesting column Terry .

am I the only one who just skips over the ever - repetitive CGT sermon ( or is it a prayer ? )

But isn't a Capital Gain on sale of an asset, also Income on that Asset; just as the income stream for the duration of ownership is also taxed? I fail to see how income derived from buying and holding an asset; selling it for more than was paid for it, is not income for taxation purposes? (NB: Most of the rest of the world seems to think it is)

I think DD is referring to TOPs deemed rate of return on wealth policy.

Yes, and this was one of the options being considered by the Tax Working Group

BW, yes. Like I said, I can see the logical argument behind a CGT. The profit from selling an investment property is income.

However, one of the other options being considered by the Tax Working Group was to tax the property annually based on the imputed (imaginary) income that it is earning its owner before it is even sold. I.e. Tax the house in perpetuity, not the income from the house when you sell it. TOP has admitted that they want to apply this approach to all major assets, including fancy recreational boats. I never miss an opportunity to rant about how insane this is.

The argument against a transaction-level CGT is heavily flawed and mired with self-interest.
I found some of the dialogue from people who openly oppose the tax rather funny, some arguing that such a tax would also adversely affect the finances of the vulnerable classes.
Maybe they personally know a lot of low-income families in NZ who own a portfolio of capital assets and enter into frequent speculative transactions.

I suppose you could automatically assess GST based on bank account information going straight to IRD. Not sure how accurate it would be. It would only work if there were no cash transactions, adjustments for home office, vehicle expense apportionments, mixed use assets, entertainment, zero rated supplies, finance charges included in instalments such as insurance, GST on fringe benefits, invoice basis returns, GST on customs invoices etc. Actually I think we will still need intermediaries to prepare GST returns for a lot of businesses in NZ. It is quite efficient now with cloud accounting systems. And it is effectively like an audit in that professionals code transactions better than clients.

An eductaed guess..... With much reduced Interest Rates being paid across NZ Banks for Term Deposits ( TD's ) IRD may well need to Increase it's "Tax Take" now by boosting from other sources, perhaps it could afford not to worry about in before years!

Thank you Terry for your professional viewpoint on taxes. Really appreciate your depth of knowledge and articles / podcast material. If possible, where you mention that you have discussed "this" previously, could you please include a link. The whole Swedish direction of, effectively registering, every cash register to catch and tax all sales is interesting. I lived there and visited the country many times and my view was that it was already a highly compliant country around taxation.

Thanks Nicholas. Re the Swedish direction here is a link to an OECD paper on the use of technology https://www.oecd.org/tax/crime/technology-tools-to-tackle-tax-evasion-an...
The Swedish experience is noted as follows: "since 2010, 135,000 cash registers are connected to a fiscal control unit. This includes all companies selling goods and services paid in cash. Increased VAT and income tax revenues has been estimated to around SEK 3 billion (EUR 300 million) per annum since the legislation was implemented. The legislation has also led to better control measures for the Swedish Tax Agency."

I think economists are in agreement that increasing the top tax rate, as Cullen did in the noughties, simply encouraged hi-income earners to move their income to tax-free capital gains-type assets, thus providing the initial impetus for the property boom. Wouldn't the same action produce the same consequence?

And ditto with making all revenue centrally collected - wouldn't that also ignite speculation in non-taxed income (ie capital gain?)

I think the government & country as a whole has got a noose around its neck regarding tax policy.

What we do know is the current tax system is not working for the masses, and not collecting enough to keep social welfare going.

Multinationals are avoiding paying their fair share, through creative accounting and the blatant use of tax havens. Come and join the party, with cost and profit transfers everyone is effectively what this encourages.

Government put a stop to the LAQC party, because too may joined in. But unfortunately what is not good for the geese remains good for the tax haven abusing gander.

As for GST, this penalises the poor (because they spend everything and more) as they cant afford the current cost of living. This is effectively subsided by working for families and the accommodation supplement; funded by those that pay taxes.

Take out the subsidy would take out the bureaucracy; but you could hardly see the bureaucrats promoting this. Like most government politicians, all bureaucrats are interested in is job tenure and will continue to kick the cane down the road. CGT not coming to your place any time some, because it doesnt suit the baby boomers.

What went wrong with trying to implement the CGT was that it was pretty much the first attempt at regulating a behemoth of a problem head on and sadly, bound to fail given the enormous degree of vested interests in the CGT not succeeding. Best way forward is to chip away at each component of the problem addressing them one by one. That way change can be acheived and shock can be minimised.

I wonder if the main failure was that it was too ideologically driven? Considering the chair and his well known attitude towards 'rich pricks' (despite likely being considered one himself by many Kiwis), I wonder if his preconceptions and attitudes limited and ultimately condemned any outcome?

Could be. I tend to follow the 'cause and effect' rule and my takeaway from the entire fiasco is that the commission was set up to fail in much the sameway kiwibuild was. There was never going to be a practical way to wrangle us famously tightfisted kiwis into a CGT regime. Not that there ever needed to be.... as mulitple means of collecting revenue already exist they are simply not enforced due in part to a shockingly lax attitude to taxation from the previous govt who seemed to think the country could magically run with little or no capital investment...likewise kiwibuild tanked because it tried to encompass the status quo i.e. money hungry landbankers and developers which simply should be left out of the equation as the Govt already possessed the means to create a huge housebuilding pipeline in the form of Housing NZ another govt department conveniently trashed by the previous administration....safe pair of hands huh?

I am not opposed to CGT with some exceptions and changes which did not come out of the Tax Working Group. The term balance was used in the scope of the TWG but I'd prefer the word leveling in some instances. This was not done for shares with DD(dunne dividend rule) or optionally a tax on unrealised capital gains still being kept. I buy a house to live in so that should be exempt CGT except perhaps when you die, provided it is realised. Any other investment property must be taxed on income, which it is now and CGT which it isn't, bar the very short bright line test. Level the playing field so shares, not just a few NZ and Oz shares can be sold within 5 years and not be CGT taxed. As an immigrant of some 21 years it took me 10 years to realise NZ economy runs to a large extent on residential housing via immigration and another 10 to confirm it. I like to think INZ/the rules were a little more discerning when I was let in, rather than every man and his dog. I was hoping Winston first and Labour wold fix this but it appears not. The Nats will let even more in. As a poster on this forum said in the last month or so the party that actually says they'll reduce immigration, quite substantially to, will get my vote. Unfortunately I don't know of any so I guess I won't be voting for the first time in 20 years. In any event that party could just as easily pull a Labour or Winston policy before the election and then not do anything once elected.

An old argument but I believe capital gain should only be taxed when it is 'realised'. This can be done through selling, or borrowing against a change in value. Thus speculators or investors would naturally be captured. Family homes become questionable. One aspect here is that to remain tax free a residential property must be the primary residence, and actually lived in by the person in question. A recent trend I have heard about is mum and dad buying a second or third property and their kids living in it rent free. What should the status of this property be?

As far as I'm aware you can't rent something out for free. The IRD expects a close market rate for renting out even to family. Not sure how easy this is to check up on but the house would be in an entities name.

Especially* to family. Associated persons rules exist for pretty much this exact reason.

The biggest flaw in the CGT debate was to have taxes imposed on investment property while home owners were exempt. The value of a property is based on sales evidence whether or not CGT was paid. Hence home owners can buy and sell for tax free gains more or less when ever they choose. Their activities drove up the market as much, if not more than that of "speculators". In other words if a CGT was to be introduced it should apply to all sales of property whether private or not. It would be even better and fairer that when a capital gain is realised that if the proceeds are invested into another similar porperty within a reasonable time, then its all tax free, and only any surplus retained would be taxable.

Indeed, if a CGT was ever going to be introduced, it would have to include owner occupied as well as investor owned properties. Anything else is a loophole big enough to fly a 747 full of tax-dodgers through.

One problem with a CGT is that it reduces the construction of new housing, by making it less profitable to invest in housing. In NZ we are already cursed with very slow construction of new housing, mainly due to a recently changed Auckland Council policy of making land too costly. To introduce a capital gains tax into NZ would have consigned even more of our poor to homelessness.

How is it that so many other locations manage to have a CGT and an adequate housing supply?

The answer will depend on the particular country . What is your preferred example ?

I feel here are other policies that can be implemented to address housing shortage concerns for poorer people. Flipping your own house that you live in for a higher price may be a problem but does not in itself create a level investment playing field. Flipping the house you live in can be addressed by a bright line rule but again apply that to shares as well.

"an overly pure design, a poorly managed process"
Spot on. The issue arose over the concern with the effect of property speculation. They should have confined themselves to that. When they widened it to include the productive sectors they lost the sympathy of a lot of voters. I even wondered if Cullen was pro property speculation and set up the proposed reforms to fail.
They could still and should partially address the issue by removing the tax deductibility of the inflation portion of of the interest on property investments. The converse for interest received would justly compensate and encourage savers.

Rick Strauss. NZ has got an adequate supply of housing for both owner occupied and rental.
How many people in NZ are living on the street % wise?
Most that do live rough are doing so due to poor choices rather than there being a shortage of houses!
Yes there is a shortage of affordable houses in some places, however providing you are prepared to work and spend wisely, owning a home in wider NZ is extremely possible.

Wrong thread grandpa..

"What went wrong with introducing a capital gains tax"

VOTE BANK POLITICS. ELECTION

Two words are all you need:

Land tax.

A tax on the land itself, but not the improvements that sit upon it?

If I tax you $1000 it makes no difference whether I tell you it is 100% based on the air you breath, or 50% on the air you breath and 50% on the space you occupy. Same with land tax vs land plus capital improvement tax. The difference is intellectual wankery, and both will result in the same market distortions. Supply curve of land with houses will shift to the left.

Winston knew that if CGT was implemented old boomers like The Boy would stop voting for NZF.

Thank goodness for Winston. I voted NZ First last election, I’m not a boomer, 32. If he brings some moderation to the sheer insanity that is the proposed changes to the Residential Tenancies Act next year I’ll seriously consider voting for them again. If not, it’s ACT.

Just the land.
Will create much needed revenue (or revenue neutral if you want to lower income taxes) and also help incentivise redevelopment of land.

Yep, exactly what I suspected you were aiming for.

Nothing went wrong with the denial of capital gains tax.....In a socialist country where even taxes are taxed (GST on Property taxes under the guise of 'rates') and essential services (Insurance etc) and fresh food are taxed, on top of income tax, interest rate taxes automatically confiscated no matter what your income position etc, etc....does anyone really wonder why capital gains was thrown down the crapper.

Thanks everyone for all your comments, much appreciated. Your responses to the commentary on the capital gains tax failure bears out what I, together with Geof and Robin all believe: the debate will re-emerge in the future.

The CGT wasn't purist in design or poorly managed. It just included one feature that was totally unnecessary...... the improvements that sit on the plot of land in question. "Improvements" are something that we should encourage. They help develop land to its full potential (as designated by a District Plan). They are a very strong engine of economic growth. On the other hand, the value of the land belongs to NO individual or corporation. It is something that is created by the community's activity in/around the plot in question (roads, schools, hospitals, shopping centres, etc). Therefore it is the land value ONLY that the govt should have been targetting. I believe in days gone by it was called the "Land Tax". Stupidly the govt removed it from the Working Group's terms of reference.