Budget reaction: From most radical in years to Robin Hood in reverse (Update 3)

Here's some of the reaction to today's budget. (Updates add comments from Chris Tennant-Brown, Katherine Rich, Casey Plunket, Peter McDonald, Craig Macalister and Phil Goff). Deloitte chief executive Murray Jack described the Budget as the most radical in years representing a big bet on the delivery of the required impetus for the Government’s growth strategy. This year’s Budget offered the opportunity to chart a strategic direction for the economy, given last year's was more about weathering the global financial crisis.

“The strategy clearly focuses on raising New Zealand’s productivity and growth rate,” Mr Jack says. “This is the only way the Government can deal with the ‘dead rats’ it has inherited, such as interest-free student loans, working for families, and the entitlement age for superannuation. “But let’s be clear: if the economy does not reach sustainable growth levels there will be no choice but to peel back entitlements without resorting to unsustainable levels of borrowing – and the debacle in Greece has shown us where that road leads.” The key planks that the Government is relying on to generate greater growth are:

• tax changes,
• constraining its expenditure,
• and limited improvements to spending on research and development.

But whether the last of these measures has gone far enough is debatable. “There is still no full-scale commitment to building world-class R&D environments in our areas of competitive advantage – agriculture and food production. This will take much more money than is currently on the table. The focus on larger entities receiving R&D assistance seems counter intuitive to the obvious needs that small businesses and start-ups have. “We are, after all, a nation of small businesses and this is a sector still under extreme pressure.

Business New Zealand chief executive Phil O’Reilly said the Budget was a move towards a higher-earning economy.

Business will view the Budget as a positive move towards a more competitive, higher-earning economy says BusinessNZ.  The Budget’s tax provisions are pointing in the right direction and the consistency of 28% for company and PIE taxes will make the system fairer. “Achieving the 28% rate for company tax rate in the 2011/12 financial year – two years earlier than Australia’s company rate goes to 28% - will be a boost to competitiveness. “Reducing the top rate of personal tax to 33% will have a positive impact for thousands of businesses that pay personal rather than company tax.” Mr O’Reilly said the depreciation provisions – across all buildings with an estimated useful life of 50 years or more – also had the merit of consistency and fairness. “These tax decisions are targeted at the long term health of the economy. It is to be hoped that future Budgets will continue this positive approach. “Budget funding for research and technology that was announced last week also constitutes a long-term approach to building the economy.” Regulatory reform did not have the emphasis business would have hoped for in the Budget, however the signalled intention to consult on scrutiny of existing regulation would be welcomed, Mr O’Reilly said.

KPMG chief executive Jan Dawson said the tax initiatives announced were the most wide reaching 20 years and the Government had taken a smart but bold approach.

Today’s budget announcement, we agree, represents a once in a generation opportunity because of fiscal circumstances and public opinion, to achieve a major shift in the New Zealand tax system. It is pleasing to see the Government was guided by the direction set by the Tax Working Group and public opinion on a range of issues. Business should view this as a positive package. The property sector will understandably not welcome some aspects of this budget but overall business will benefit from the surprise early adoption of a reduction to the company tax rate and this will go someway to balance the effects of the changes. The story of the Budget 2010 for the state sector is that fiscal pressures cannot be ignored or wished away. What is ineffective and inefficient is now unaffordable. The new reality for the state sector is that continuous improvement and enduring change is the new ‘business as usual’. It is good to see state sector stepping up to play its part as evidenced by the significant reduction in requests for new money and the ongoing focus on value for money. The last two Budgets have seen around $4 billion in savings through re-prioritisation.

Chapman Tripp partner Casey Plunket said Budget 2010 would be remembered for its boldness and for stealing a march on Australia. Furthermore it had the capacity to "finally" wean New Zealanders off their propensity to over-invest in property.

The Australians plan to reduce their company tax rate to 28% on 1 July 2014.  We’ll be there on 1 April next year.  Not enough to cause companies to cross the Tasman, perhaps, but a sign that the Government is serious about trying to close the growth gap between the two economies. The budget represents the biggest overhaul of the tax system since 1987 and has the capacity to – finally – wean New Zealanders off their propensity to over-invest in property.

No-one should mourn the passing of the 38% top personal tax rate.  It was always a fraud, the cost of which was borne not by the wealthy but by those who earned personal services income which they could not shelter in companies or trusts.  People with substantial assets (the real wealthy) were almost completely unaffected by it.

The steps the Government has taken will move us closer to a system where the appearance of progressivity and redistribution given by the personal tax rate scale is actually borne out in practice. In particular, the near-alignment of the personal, trust and company tax rates, the denial of depreciation deductions on buildings, the changes to the treatment of qualifying companies, and the changes to the abatement of WfF benefits, will ensure that the income on which people are taxed (or have their benefits calculated) bears a much closer approximation to the increase in their wealth over the year. The cut in the lower income tax rates was necessary to compensate for the rise in GST.  It is nevertheless an interesting reflection that the direct net tax burden on the average wage and salary earner without children is the second lowest in the OECD, and that if that person is the sole earner in a two child family, they will pay no tax at all, after taking into account WfF. The alignment of the personal and trust rates will remove a considerable area of uncertainty in the area of tax avoidance.  The tax benefit of restructuring a dental practice as a company owned by a trust, for example, will be significantly reduced (a maximum saving of 5% instead of 8%, and no saving at all on distributed income). While estate planning and commercial considerations may still make it a good idea, there would seem to be much less incentive for the IRD to attack it as tax avoidance. The tax package represents a significant reduction in the tax paid by households, at least those which do not own a lot of rental property.  The net amount of the GST increase is $1.65 billion, whereas the tax cuts are worth $3.685 billion. The reduction in the corporate tax rate is perhaps the boldest part of the package.  The change is significant as a signal, as well as economically.  By seizing the opportunity to make this change ahead of Australia, the Government has indicated, both to equity and debt investors, the relative strength of its finances, and a desire to encourage investment. The 5% differential between the top individual rate and the top PIE rate means that investment income can still be taxed at a significantly lower rate than labour or entrepreneurial income.  However, if the PIE rate had not been reduced, there would have been a real incentive for savings to be conducted through vehicles taxed as companies.  The income would then have been taxed at 28%, with the 5% top-up avoided by way of share buy-backs (as was the case before the PIE regime). The removal of depreciation loading on new plant and equipment is overdue.  Most commentators were surprised that it was not removed in 2003, when the Government moved to allow double declining balance depreciation. The denial of depreciation on non-residential as well as residential buildings is surprising.  The case for denial is based on evidence that buildings do not, over time, depreciate.  The evidence for this may not be as strong outside the residential sector. Moreover, there is no doubt that the change was also motivated by a desire to curb New Zealander’s enthusiasm for investment in (relatively unproductive) residential renting.  The denial of depreciation on a wider class of buildings will have a much broader, and less business-friendly, impact. The Government is to be commended for not adopting measures such as ring-fencing residential losses, or introducing a capital gains tax on short term gains.  These measures would have been met with a wave of tax structuring activity, of the kind which the near-alignment of the rates seeks to avoid. Counterbalancing the loss of depreciation is the benefit of the lower corporate tax rate.  For the commercial and office property leasing sector, there may also be a benefit from an increase in CPI adjusted rental streams.

Andrew Casidy, general secretary of the bank workers union Finsec, used a Robin Hood analogy saying the National-led government's budget had flipped the famous story around and was taking from the poor to give to the rich.

“With international calls growing for a “Robin Hood” tax (a small extra tax on banks), and an urgent need to help ordinary Kiwis who are suffering as a result of the recession, the Government has got this budget badly wrong.” “Yes, there are across the board tax cuts – but the biggest cuts are being delivered to those on the highest incomes. They are simply unfair.” “Our members see many families who are struggling to keep up with their day to day expenses even without a GST increase,” said Casidy.  “National’s tax cuts favouring large corporates and high income earners will simply increase the divide between rich and poor in this country and make things even more unequal, which will be bad for everyone.” “We need government to invest in jobs and in the social services that will help our most vulnerable through tough times. Instead, the wealthiest New Zealanders will benefit the most from today’s tax cuts – the very people who can best afford to contribute more to a fairer society.”

Meanwhile, Deloitte tax partner Allan Bullot said businesses ought to start preparing for the introduction of the new GST rate as soon as possible. Finance Minister Bill English announced an increase in GST to 15% from 12.5% from October 1.

“Many businesses, particularly small to medium-sized ones, weren’t around when GST was last increased in 1989 and possibly haven’t considered all the practical implications of an increase. “They need to be aware there is a lot of work to do in between now and October 1 – just over four months may seem a long time away but in reality it’ll fly by pretty quickly.” Mr Bullot says businesses will need to make many critical decisions about how they prepare for the change, including issues such as pricing points, updating business systems, GST stipulations in long-term contracts, logistics around repricing consumer goods, and updating promotional material. “The most immediate concern for the majority of SMEs, particularly those selling goods and services directly to consumers, will how much to increase prices. “If a product retails for $9.95 now, then to maintain the same profit under the new GST rate, it would need to be sold for $10.17, which really isn’t practical for retailers,” Mr Bullot says. “So they’re going to need to make a call about whether they absorb some of the rate rise or protect their profit margins and pass more of an increase on to consumers – by no means an easy task in this economic climate.” If they don’t increase prices at all, they’ll lose more than 2%, he says.

NZ Food and Grocery Council (FGC) chief executive - and former National Party MP - Katherine Rich said the GST increase would lead to higher grocery bills for consumers.

"Changes to the GST system have a direct impact on the grocery sector, but these were signalled well in advance by the Government back in February. This has given the sector a head start in thinking about and preparing for the required changes." Mrs Rich says that the implementation date of 1 October 2010 does allow our members time to make the necessary changes to information systems and prices. "There is no doubt that the increase in GST will lead to higher grocery bills for shoppers. There is no escaping this fact. However, we are reassured by the accompanying income tax cuts which should compensate shoppers for the GST increase." Mrs Rich says the grocery sector thinks very carefully about price points and the impact of increasing prices on local consumers before raising any product prices. "There will be significant pressure on prices over the next six months. The GST increase is just one factor, higher transport and electricity costs resulting from the emissions trading scheme are other factors, together with continual increases in prices for overseas sourced ingredients." "However, the sector can only withhold increases in their costs for so long before they have to be passed on to consumers. This is the reality of living in a market economy and again emphasises the need to grow incomes."

ASB economist Chris Tennant-Brown said the Reserve Bank should be comfortable with the budget.

In the short-term the outlook for fiscal deficit deteriorates, as near-term expenses rise quicker than previously expected and new revenue-grabbing initiatives are slow to kick in.  However, the medium-term outlook for fiscal deficits improves swiftly, owing much to the improved economic outlook.  As a result, the net debt outlook is slightly better than expected which reduces funding requirements. Over the past six months the RBNZ has been very direct in its comments regarding additional fiscal restraint.  We expect the RBNZ will be reasonably comfortable with today’s Budget.  However, the fiscal impulse is still stimulatory until June 2011 due to the timing mismatch of policy changes.  Overall, changes to tax policy around housing investment will be helpful to monetary policy over the longer term. With the European sovereign debt crisis highlighting the risks of unsustainably high Government debt, a fiscally conservative Budget is likely to be well received. It would have been concerning if the Government had delivered a Budget with the net debt outlook worse than previous forecasts. Just one year ago, extremely challenging times resulted in ratings agencies closely watching the Government’s Budget very closely.  The NZ Government managed to narrowly avoid a credit rating downgrade. Much of the improvement since Budget 2009 has come from a stronger economic outlook.  Nonetheless, the difficulties currently experienced in Europe highlight the relatively sound fiscal position the NZ economy is in. New Zealand's sovereign credit rating was not immediately affected by today's budget according to Standard & Poor's , who ascribe an AA plus long-term rating. S&P credit analyst Kyran Curry said "Although the deficit in 2011 is large, we note that the outlook has improved since the last budget and there remains an achievable and believable path to return the operating position to surplus”.

Peter McDonald, president of the Real Estate Institute of New Zealand (REINZ), said tax changes aimed at removing distortions from the rental property market shouldn't have a significant long-term impact on house prices or rents.

‘REINZ supports the government’s moves to make the taxation system fairer and close the loopholes that enabled some people and businesses in all sectors to rort the system,’ says Real Estate Institute of New Zealand (REINZ) National President Peter McDonald. ‘But the previous taxation regime was just one of many factors residential property investors took into account and these changes will only have an impact for some of them,’ he said. ‘Because the Government clearly signalled its intentions we have already seen property investors particularly concerned about the loss of the tax breaks exiting in the market yet median residential dwelling price have continued to rise.’ “What people can afford to pay for their accommodation determines the market value of rental properties, not artificial tax deductions which could only be exploited by some investors because of their particular personal circumstances. ‘A more significant reason why people invest in residential rental property is the security compared with other investments, so while tax considerations are part of the equation, like it is with all investments, it is not normally a deal breaker,’ he said. “Now that the details of the promised tax changes are known other property investors will replace those who were primarily attracted by the tax breaks,” Mr McDonald said.

Craig Macalister, New Zealand Institute of Chartered Accountants (NZICA) tax director, said the budget marked a return to the past in the form of a simpler tax system. However, he cautioned the 5% difference between the new company rate and the top personal tax rate left incentive for people to form companies in order to avoid the top personal rate.

“This is a back to the past budget - 33% was the highest marginal personal tax rate in 2001, and 28% was the company rate in 1989. The move from 33% to 39% in 2001 (for those earning over $60,000) caused considerable restructuring by taxpayers to avoid this rate. Ever since then the tax system has fallen into disarray, as governments have tried to apply a band-aid to arrangements to avoid the 39 % rate. “This is a welcome return to a simpler tax system, and it removes some of the incentives to structure for tax purposes rather than for commercial purposes. Hopefully, these rate changes will also flow through to fringe benefit tax, and possibly allow room for simplifying the calculation of FBT. “However, some anomalies remain. The differential of 5% between the new company rate and the top personal tax rate of 33% leaves a strong incentive for people to form companies in order to avoid the top personal tax rate. Incentives also still remain for people to earn investment income through PIEs and pay only 28%. “Property owners will not welcome the change to deny depreciation on properties that have an expected economic life of 50 years or more. However, this is a more principled approach than ring-fencing rental property losses and introducing bright-line tests to tax property purchased and sold within a specified time.” Mr Macalister said the under-taxation of capital assets in New Zealand remains and will continue to create distortions. “Businesses will not welcome the removal of the 20% uplift factor on new depreciable plant and equipment, as that will lift their effective tax rate, but that will be offset to an extent by the reduction in the corporate tax rate. “The changes to Working for Families, to remove the ability to deduct investment losses from income for WFF purposes, come as no surprise and will make the system fairer. In addition, the proposals around the LAQC and QC rules to shore up the integrity of the tax system are questionable,” he said.

Labour leader Phil Goff said Prime Minister John Key and his government had delivered a tax swindle budget of broken promises with pixies at the bottom of the garden called on to pay for the tax cuts.

“The real winners in John Key’s Budget are the very highest earners because most New Zealanders’ tax cuts will be wiped out by inflation before they even get to the check out – and this is based on the government’s own numbers,” Phil Goff said. “Inflation of nearly 6 per cent will destroy most of the tax cuts and Kiwis won’t be compensated for the GST rise. “To fund this National has massively increased borrowing for these tax cuts. “The Government will have to borrow an extra $1 billion over the next three years. It seems John Key has called on the pixies at the bottom of his garden to pay for his tax cut package. “Today the National led Government had the opportunity to deliver a Budget that was fair to all New Zealanders. A Budget for the many not the few. But they didn’t,” Phil Goff said. “John Key called his increase in GST and tax cut package a ‘tax switch’, but for middle and low income earners it’s a tax swindle. “Today, National had the chance to produce a Budget that invested in the future. A Budget that promoted a modern, smart economy with better jobs and higher wages. They didn’t. “National has no idea how to create jobs and the future we need. They have increased tax on everything Kiwis buy and have added a raft of other taxes. This won’t help close the gap with Australia. “That’s not a plan for growth. It is a short term plan that is designed to take money from the many and give it to the few. “This Budget of broken promises, borrow and hope and rampaging inflation also contains service cuts which will hit families hard. “A huge cut to early childhood education funding means parents with young children will have to find extra each week, and the $1.2 billion hole in health spending over four years will hit the elderly and the sick hard,” Phil Goff said.