Inland Revenue gets back to its core business; GST changes for the platform economy to proceed & more

The cyclone recovery efforts continue with the announcement of how $25 million of relief for the Tairāwhiti-East Coast and Hawke's Bay regions are to be distributed. We still waiting to hear about specific tax measures but I am aware that similar suggestions to those discussed in last week’s podcast have been made by other parties. It's a question of wait and see so we will keep you informed of developments.

It so happens that the Accountants and Tax Agents Institute of New Zealand (ATAINZ) to which I belong was due to hold its annual conference in Napier this weekend. Despite the best efforts and will of everyone involved that was not possible. Instead ATAINZ organised a one-day online workshop on Friday.

The opening session presentation by Tony Morris, currently Inland Revenue’s acting Deputy Commissioner for customers and compliance had quite a number of interesting insights about the current state of Inland Revenue and its immediate and long term objectives.

Inland Revenue’s recently completed Business Transformation programme has given it a great foundation for its future operations. As Tony explained its enhanced capability is now a real asset for the Government which means it is being asked to do more across government. An example would be the proposed income insurance scheme which would have been Inland Revenue’s responsibility if it had preceded. The Cost of Living payments is another example. On the other hand, responding to Government initiatives required Inland Revenue staff to be directed away from its core role.

Although COVID-19 continues to impact thousands of New Zealanders each week, Inland Revenue is now moving on from the immediate urgency of responding to the pandemic.  Tony did observe that although demand for government services increased as a result of the pandemic trust in Inland Revenue and other good government departments has fallen. Rebuilding that trust is a key objective.

"Restarting compliance"

Notwithstanding this, and the ongoing demands of the cyclone recovery, Inland Revenue is getting back to its core role and as Tony put it, “restarting compliance.” This month it is launching an initiative focused on the construction sector. Apparently 50,000 taxpayers in this sector, about half of whom are individuals, have some form of arrears either being behind in filing of returns or owe tax.  Inland Revenue’s new campaign launching this month will focus on this group obviously with the aim of ensuring that they get up to date with their filing and payment obligations.

Inland Revenue is currently also re-establishing its strategy for the next 10 years now that Business Transformation programme is complete. No doubt we will hear more about this over the coming months, and I will bring you developments as they happen. For now those in the construction sector can expect to be hearing more from Inland Revenue very soon.

Objecting for the sake of it? because its election year?

Moving on, the Taxation (Annual Rates for 2022–23, Platform Economy, and Remedial Matters) Bill (No 2) was reported back to Parliament this week. This bill has hit the news headlines after the National Party came out objecting to what it called the “App tax”. This proposes GST will apply to services such as Airbnb and Uber which are provided via an offshore resident platform. Some minor changes have been made to the proposals by the Finance and Expenditure Committee, which are intended to take effect from 1 April 2024. However, National has indicated it would not proceed with these changes if it is elected later this year.

It would be interesting to see if National actually did overturn these changes because conceptually there is little difference between what is proposed and the imposition of GST on other services supplied by offshore providers such as Netflix, a change introduced in 2016 by the last National government.

Incidentally, the Green Party also had a dissenting view about the bill, this time in relation to the decision to not include active transport vehicles and services, such as e-bikes, scooters, and sharing schemes, used for travel to and from work in the exemption from FBT. Over 400 submissions also called for an FBT exemption for the provision of bicycles, including e-bikes. The Greens supported widening the exemptions as part of meeting the targets in the Transport Emissions Reduction Plan. “Nothing doing” was the response although the FBT exemption for public transport was clarified and widened in scope.

Not to be left out, the ACT Party opposed the bill on the basis “the tax rates set, and methodology are not agreeable to ACT as it is a regressive tax package and does not drive productivity or growth and continues to solidify our country as a high tax per GDP/capita.”

As I said in my first podcast of the year, it’s an election year so the politics of tax is more often in play. The Government has the numbers to pass the bill regardless of what National, ACT and the Greens might say.

Despite the disruptions of the Auckland Anniversary Weekend floods and Cyclone Gabrielle, Inland Revenue’s technical teams have been issuing a series of technical papers on a variety of issues. These include an important interpretation statement on tax avoidance which has been updated following the recent decision in Frucor. This interpretation statement came up as part of the ATAINZ workshop and I will discuss it in more detail next week.

GST on director/board fees

In the meantime, Inland Revenue has released three binding rulings discussing the GST treatment of directors’ fees and board members fees. These binding rulings have attracted interest because Inland Revenue has now determined that generally speaking, directors’ fees and board members’ fees are not subject to GST. This is a change from what has been generally thought to be the position.  Inland Revenue’s now consider a person who provides only directorship (or board member) services is not eligible to be registered for GST.

The binding rulings are accompanied by an operational position on the question of professional directors and board members who are incorrectly registered for GST. In summary those persons who have incorrectly registered for GST will not be required to retrospectively deregister. However, any directors who are not carrying on a taxable activity must deregister with effect from 30 June 2023.

The group most likely to be affected are those professional directors who never had a separate taxable activity (for example as a consultant, lawyer or accountant). There may be other directors currently registered who did correctly register for GST because they were carrying on a separate taxable activity other than their professional directorships but who have subsequently ceased to carry on that other activity. If their only taxable supplies are from directorship fees they should now deregister.

As a colleague noted this hardly seems the most urgent of issues particularly when as we know Inland Revenue has been stretched because of the demands of the pandemic, cost of living and now Cyclone Gabrielle. However, it's good to have this position clarified and a practical exit strategy for those incorrectly registered.

Preparing for major demographic change

Last week I discussed Te Hirohanga Mokopuna, Treasury's combined statement on the long-term fiscal position and long-term insights briefing released in September 2021. To recap, Treasury outlined the fiscal challenges ahead for governments and projected the gap between expenditure and revenue will grow significantly as a result of demographic, demographic change and historical trends, in the absence of any offsetting action by governments.”  So, what “offsetting action” did Treasury suggest was possible.

One of the fiscal pressures is the rising cost of New Zealand Superannuation which is projected to grow from 5% of GDP now to 7.7% of GDP by 2061. That’s actually reasonably manageable compared with other OECD countries, but still represents a challenge. Treasury suggest a couple of options – raise the age of eligibility from 65 to 67 or reduce the rate at which New Zealand Superannuation grows, by linking it to inflation rather than wages.

Treasury also looked at a report prepared by Susan St John and Claire Dale in 2019 for the Commission for Financial Capability’s 2019 Review of Retirement Income policies. This proposed a tax-based clawback system. In essence this would be an updated version of the former Superannuation Surcharge which applied between 1985 and 1998. Under the proposal other gross income earned by pensioners would be subject to an alternative tax regime that has higher than usual tax rates. Consequently, there would be a break-even point above which it would not be financially advantageous to take New Zealand Superannuation. Depending on the tax rates applied this could be between $112,000 and $140,000. It’s interesting to see Treasury discussing this proposal, it indicates it’s now viewed as a serious policy alternative.

Section 2.5 of the Statement considers some alternatives for raising tax revenue. It notes “None of the options are enough on their own to fully address the fiscal challenges explored in earlier chapters.”  The Statement noted that tax revenue might have to rise by 8% of GDP (or almost 25%) to meet the fiscal pressure. An increase of this size the statement notes

“…may not be desirable or even feasible to raise this much revenue within our current tax structure. Instead, tax changes of this size may require a more fundamental review of the structure and integrity of the tax system as a whole.” 

Quite an understatement there, but at some point, just as happened after 1984, that fundamental review will have to happen.

Anyway, the Statement focuses on options around either increasing revenue from the existing tax system, broadening the tax base, or introducing new kinds of taxes.

Treasury modelled policy scenarios around raising additional revenue from personal income tax, either by increasing all personal income tax rates by one percentage point, or ten years of 'fiscal drag', where income tax thresholds are kept at their nominal value rather than rising with wage inflation. Fiscal drag means that more taxpayers and taxable income would be taxed in higher tax brackets over time.

Raising personal income tax rates by one percentage point (while thresholds rise with wage growth) would raise around 0.6% of GDP (currently about $2 billion) per year while 10 years of fiscal drag would build up every year it operates and raise around 1.0% of GDP (currently over $3.3 billion) annually.

Fiscal drag has in fact been the default option applied since 2010 when the last adjustment was made to tax rates and thresholds (other than the introduction of the 39% tax rate on 1st April 2021). It’s more than a little ironic to see Treasury go on to comment

“a significant period of fiscal drag could lead to a high proportion of individuals paying tax rates previously paid only by higher-income earners, which could undermine perceptions of fairness in the tax system.”

In my view for those earning around the average wage the failure to adjust tax rates for inflation for more than 10 years has undermined perceptions of fairness in the tax system.

What about introducing new taxes, for example increasing GST? To raise the equivalent of one percentage point on all personal income tax rates (0.6% of GDP) would require an increase in GST of roughly 1.5 percentage points that is to 16.5%. However, GST is seen a regressive tax for those on lower incomes. Furthermore, any rate rise would increase pressure to exempt certain goods from GST and therefore undermine the integrity of GST. On balance, Treasury, Inland Revenue and tax experts would probably put maintaining the integrity of GST ahead of exemptions and rate rises.

Treasury calculates that company income tax rates would have to rise by 6 percentage points to 34% to raise 0.6% of GDP. Given that the current headline tax rate of 28% is already quite high by international standards, such an increase would as Treasury notes be “likely to have relatively large economic effects, particularly to the extent that they lead to multinational companies restructuring profits away from New Zealand or reductions in investment and the capital stock.”  So not really a viable alternative.

The Tax Working Group proposed a comprehensive capital gains tax which it estimated could raise around 1.2% of GDP a year. That estimate is probably too high given the subsequent increases in the bright-line test to 10 years. On the other hand, a CGT

“…could improve the allocative efficiency of saving and investment by ensuring more economic income is taxed neutrally, would be progressive, and would improve the integrity of the tax system.”

Higher effective tax rates for those on average earnings is one of the unfortunate by-products of the failure to introduce a CGT and one which was glossed over back in 2019. But as Treasury notes the issues around perceptions of the fairness of the tax system remain.

As is well known, The Opportunities Party has long promoted a land tax for the reasons Treasury acknowledges – “annual taxes on the unimproved value of land are generally considered to be highly efficient, simple to administer, and difficult to avoid.”

The briefing suggests 0.7% annual levy would raise 1% of GDP. New Zealand has had land tax in the past, but extensive lobbying by interested groups meant that over time exemptions were added and then increased gradually withering the tax take to insignificance. I think any tax reform will need to look at some form of land taxation but as we saw with the Tax Working Group’s CGT proposals there will be fierce pushback.

A net wealth tax is also discussed but as Treasury notes although “highly progressive, these taxes tend to be subject to a high level of avoidance and exemptions, and raise relatively little revenue” (between 0.1% and 1.1% of GDP in those OECD countries with such taxes – Switzerland is the country with the most comprehensive wealth tax).

An alternative might be the restoration of gift and death duties. These were once a significant source of taxation - in 1949 they represented 4.6% of the tax collected. Post 1949 however a series of National party governments increased the exemptions until like land tax it withered away. As Treasury notes “although such taxes often come with significant exemptions and integrity risks, their economic cost is likely to be relatively low although they do raise questions of fairness for those affected.” OECD countries with these taxes raise between 0.1% and 0.7% of GDP from them. The United Kingdom’s Inheritance Tax collected over £6 billion last financial year, double the amount from 10 years previously.

There’s a discussion about the impact of digital services taxes and the proposed OECD deal on multinational taxation but the tax raised once implemented is likely to be small. Far more opportunities exist with better compliance and as I said at the start of the podcast we can expect Inland Revenue to pick up its efforts here.

Finally, there’s environmental taxes. We raise less from such taxes than other OECD countries. It was just 1.3% of GDP in 2019, well below the OECD average of 2.1%. However, as Treasury notes

“Given that these taxes can induce changes in behaviour that reduce the tax base (and are often applied to activities that are in decline), they may not offer a substantial or sustainable additional source of tax revenue in the long term. They could, however, have broader benefits including supporting the accumulation of natural capital (by preventing environmental harm) and improving the wellbeing of the natural environment”.

This is a reasonable analysis which is why I believe any environmental taxes should be ring-fenced and recycled back to help climate change mitigation and adaptation.

To repeat Treasury’s key point – some form of fiscal adjustment involving a change in the tax base to spending will be required. None of the options suggested by Treasury will sound attractive to politicians seeking election but, in my view, making hard calls is part of the territory. I would hope that between now and the election the leaders and finance spokespersons for the main parties are interrogated in detail about the long-term issues identified by Treasury and how they propose to deal with them. I’ll be honest, I won’t be holding my breath but as always, we’ll bring you developments as they emerge.

That's all for now. I’m Terry Baucher and you can find this podcast on my website www.baucher.tax or wherever you get your podcasts.  Thank you for listening and please send me your feedback and tell your friends and clients.

Until next time kia pai te wiki, have a great week!

*Terry Baucher is an Auckland-based tax specialist with 25 years experience. He works with individuals and entities who have complex tax issues. Prior to starting his own business, he spent six years with one of the "Big Four' accountancy firms including a period advising Australian businesses how to do business in New Zealand. You can contact him here.