A recent Inland Revenue Department (IRD) said it was focusing on New Zealand Tax residents who do not declare their taxable offshore income.
The targeted areas include non-disclosure of offshore bank accounts, use of foreign credit or debit cards, income held in overseas structures, overseas life insurance policies and superannuation funds.
Indian Newslink readers will be aware that New Zealand has Double Tax Agreements (DTAs) with various countries. In addition, the Government has entered into Tax Information Exchange Agreements (TIEAs) with offshore finance centres. Thus far, 15 such TIEAs have been finalised.
These networks of international tax treaties support the audit activities of IRD by exchanging information on taxpayers and transactions involving New Zealand tax residents.
As per international practice, New Zealand taxes the income of a person based on the ‘Source Principle’ and ‘Derivation Principle.’
New Zealand’s tax residents are liable to pay all income earned anywhere in the world, with a corresponding credit for the taxes paid on such income.
New Zealand taxpayers may invest and earn income from overseas in various ways.
Even migrants may have left their investments in their own country.
Such investments may be shares in overseas entities, interest from deposits held in banks or companies, investment in unit trusts, life insurance policies, royalty income, rent from investment properties and pension from their former employers.
All income from these sources will be taxed in New Zealand with certain exclusions and exemptions, except in the case of transitional residents.
Interest earned from overseas entities in the form of equity investment will be taxed under New Zealand’s complex rules, commonly referred as ‘Controlled Foreign Corporation (CFC) Rules’ or ‘Foreign Investment Fund (FIF) Rules.’
CFCs are companies that are non-resident for tax purposes in New Zealand, controlled by New Zealand residents.
If a New Zealand tax resident (other than a transitional tax resident-discussed below) has a controlling interest in such companies and is covered by the CFC rules, then the passive income (and not active income) should be included in the New Zealand Tax Return.
Passive income is normally in the form of Rent, Interest and Royalties.
A New Zealand tax resident who holds rights such as shares, units or an entitlement to benefit in any foreign company, unit trust, superannuation scheme or life insurance policy may be required to calculate FIF income or loss under the FIF rules.
There are some exclusions for interest in FIF in Australia.
Interest earned from term deposits, bonds, debentures or money lent are not covered by the FIF rules. There is also an exemption, where the total cost of the interest for FIF purposes is below $NZ50, 000.
A four-year exemption on the taxation of all foreign source income of first time migrants and returning New Zealand residents who have been non-resident for at least a continuous period of 10 years prior to return came into effect on April 1, 2006.
This transitional resident exemption is applicable to all foreign sourced income with the exception of employment income and income from supply of services.
This exemption has been specifically granted by New Zealand to reduce the tax barriers to the recruitment of highly skilled people to New Zealand. It is valid for a four-year period for new migrants or returning New Zealanders who have been resident for tax purposes for at least ten years.
Taxpayers who qualify for the exemption do not have anything to claim, as it is automatic.
After the four-year period, all tax residents must declare their worldwide income in their annual tax returns to IRD.
Arvind (not a real name) is an IT specialist from India and decides to move to New Zealand.
Before coming to New Zealand, he was working for a reputed company in India as an IT marketing executive. His former employer, in appreciation of his marketing services, decided to pay a performance bonus. This bonus was paid to Arvind after his arrival in New Zealand.
As an IT professional, he had developed software, allowed to be used by an Indian entity, for which he receives royalty.
Arvind has residential rental buildings in India, from which he receives rent. He has a mortgage over these properties from local Indian financial institutions. He incurs repairs and maintenance expenditure on these rental properties.
He has some investment in Term Deposits with the Indian banks on which he gets interest. The Indian Banks deduct Non Resident withholding tax on the interest paid to Arvind.
He has share investment in various Indian companies. These are dividend-paying companies.
The tax position for Arvind would be as follows:
Under the previous rules (before April 1, 2006), Arvind was liable to pay (on migration) New Zealand tax on all his bonus, royalty, net rental incomes, interest from bank and dividend from companies. In addition, the share investment in Indian companies would have constituted FIF interest. He would therefore have been liable to pay New Zealand income tax on the value of the shares as it accrued, regardless of how much had been distributed
But since he migrated to New Zealand after April 1, 2006, he is eligible to the above-mentioned transitional resident exemption, which means:
The performance bonus paid in relation to his employment in India before arrival in New Zealand is exempt from tax in New Zealand.
The royalty income that he receives with respect to his software will be exempt.
He will not be required to pay New Zealand tax on his rental income. He will not be required to deduct Non Resident withholding tax on the interest that he pays over the mortgage to the bank in India. He will not be able to claim expenditure on repairs and maintenance of these rental properties as these were incurred in relation to the exempt income.
The interest income that he receives from the Bank will not be taxable in New Zealand. Similarly, he will not receive the tax credits for the withholding tax deducted by these banks. He does not have to pay any tax in relation to the shares he holds in various Indian companies, both on the value of the shares as it accrues or on distributions from the shares.
The above foreign income is exempt for a period of four years. The exemption started on the first day of the month of Arvind’s arrival in New Zealand and would continue for 48 months.
The law allows these taxpayers to opt out of this exemption. There may be cases where it is better for the taxpayer to opt out of the exemption (for example, if they have foreign losses, wish to claim family assistance, or have little or no foreign income).
New migrants to New Zealand, who expect to be covered by this exemption, should consider the option of shifting their investment portfolio from a high tax to a low tax country, as the income from these investments will be exempt for New Zealand tax purposes for four years.
Nondisclosure of offshore income may attract penalties up to 150% of the taxes due as well as prosecution action.
IRD may reduce these penalties upon voluntary disclosure. Taxpayers, who believe they may be at such risk, should seek professional advice and consider voluntary disclosure.
Vijay Talekar is Director, Tax Experts Limited (Chartered Accountants), based in Auckland. The above article should be considered only as a guideline and not specific advice. Mr Talekar absolves himself along with the management and staff of Tax Experts Ltd and Indian Newslink of any responsibility or liability that may arise from the above article. Readers should seek professional advice before acting upon any information contained above.