KEY POINTS:
Over the past 12 months Mary Holm has dealt with a mountain of correspondence on the tax changes on foreign shares in her regular Weekend Herald column, Money Matters.
We've collated for you a selection of questions Mary has answered since the taxation legislation passed late last year.
* * *
January 13, 2007
Q. I have a portfolio of shares directly invested in overseas companies. As a consequence of the new tax law coming into force I will be reducing the portfolio substantially.
However, I am uncertain when the law will be passed by Parliament and what are the dates/financial years when these investments would be assessed under the new law.
Is it still April 1, 2007, i.e. the value of my portfolio at that date would determine my tax liability for the 2007/2008 financial year?
A. That's a pity that you're planning to reduce your portfolio.
Generally New Zealanders don't have enough invested in overseas shares - in terms of reducing their risk by spreading their money into different investments. And I don't think the new tax rules are harsh enough to warrant most people getting out of international shares.
Still, I don't know your circumstances, and it may make good sense for you.
The law has already been passed, and will apply from April 1, 2007 for people whose tax year runs from April 1 to March 31, which is most individuals.
Note, though, that the rules don't apply to investments in Australian resident listed companies, or if the total original cost of your non-Australian offshore shares is $50,000 or less.
If the rules do apply to you, when calculating your 2007/08 taxes, start with the value of your offshore shares next April 1.
You will pay tax on 5 per cent of that value, unless the shares have yielded less than 5 per cent - in dividends and share price rises. In that case, you will pay tax on the yield amount.
Q. The new overseas tax legislation will affect many investors. Perhaps you could answer a few points for your readers e.g.:
# Will investors now have to give a statement of assets each year to the IRD?
# Personal investors have an exemption of $50,000 of the original cost (not current valuation) before the tax is payable. What happens if a married couple each are close to this exemption level and one dies, leaving their assets to the survivor (trusts and estates have no exemption)?
# Does "overseas investment", i.e. beyond Australia, mean just shares or does it include assets like property, bonds and cash?
# Are all companies listed on the Australian stock exchange exempt or are some still caught by the tax rules, as are UK investment trusts listed on the NZ stock exchange?
# If tax due is accrued is it still to be wiped upon death?
A. Some good practical questions, which David Carrigan of Inland Revenue has answered as follows:
# Not all investors will have to give a statement of assets - only those to whom the new rules apply. Those people will have to list their relevant overseas share investments.
# The $50,000 applies separately to each investor. If one spouse dies and leaves their assets to the survivor, and that causes the survivor's portfolio to exceed the $50,000 limit, the surviving spouse will then be subject to the new rules.
Carrigan adds, "The $50,000 exemption does not generally apply to trusts and estates. However, the exemption will apply for a limited period to trusts created on a person's death, so that trustees have sufficient time to deal with the deceased's estate under the will."
# The new rules generally apply to shares only, although they will also apply to interests in some overseas super schemes and life insurance products. They don't apply to overseas property, bonds or cash.
# The Aussie exemption doesn't include companies that are not resident in Australia, even if they are listed on the Australian stock exchange. Nor does it include investments in Australian unit trusts listed on their stock exchange. They are all taxed under the new rules, as are New Zealanders' investments in UK investment trusts listed in New Zealand.
Overseas share investments by New Zealand-based international share funds, such as WiNZ, will also be subject to the new rules. However, investors in these funds won't have to deal with the new taxes on their tax returns. The funds will handle the changes. All investors will see is lower returns.
Just to complete the picture, NZ-based share funds that invest only in Australian listed and based shares will not be subject to the rules.
# Under the earlier version of the tax bill, taxes could be carried forward into future years. But the rules have since changed, and there is no longer any situation in which taxes will be carried forward.
The normal rule applies, of course, that when someone dies taxes are paid on their income in the year of their death.
February 3, 2007
Q. I have some questions regarding the $50,000 exemption with respect to the new overseas tax legislation:
1) Is this a $50,000 exemption or a $50,000 threshold? i.e. if you have $51,000 at purchase price, is $1,000 in the new system and subject to the tax and $50,000 exempt and taxable on income only, or is all $51,000 now included?
2) Is the $50,000 exemption or threshold based on the total cost of the shares including brokerage, or is it just the cost of the shares?
This may seem a trivial question, but it becomes important if the $50,000 is a threshold rather than an exemption and one is close to the $50,000 limit.
3) Does a married couple qualify for a total $100,000 exemption or threshold at purchase price automatically as a joint unit? Or do the shares have to be held specifically 50/50 in each individual name?
4) Would you recommend a couple to sell down to $99,999 at purchase price in order to avoid the considerable problems of proving each year that shares purchased perhaps 40 years ago were indeed purchased at a seemingly low price?
A. Some searching questions, answered here by Peter Frawley of Inland Revenue: 1) The $50,000 is a threshold. That means that if the cost of your overseas shares is $51,000, all of those shares are subject to the new rules.
Note that if you have invested less than $50,000, so that you are under the threshold, you will continue to be taxed on dividends - as well as realised gains if you are a trader - as in the past.
2) The $50,000 threshold takes into account brokerage fees if these are part of the cost of buying the shares.
3) For a couple to qualify for a total $100,000 threshold, half the shares would have to be held in each spouse's name.
Alternatively, the couple could have jointly owned shares totalling up to $100,000.
If the couple has some shares owned jointly, and some owned individually, each person would have to add half the cost of the jointly owned shares to their individual total.
For example: A woman owns shares costing $40,000 and her husband owns shares costing $5000. They also jointly own shares costing $30,000.
The woman's total would be $40,000 plus $15,000 (half of $30,000), which brings her over the threshold. But the man's total, $5000 plus $15,000, keeps him under the threshold.
4) In light of what we've said above, let's change this to "Would you recommend that a person sell down to $49,999."
My answer - not Peter Frawley's - is that if your international share holding originally cost, say, $50,000 to $70,000, and you have no plans to buy any more international shares, it would probably be a good idea to sell down to below $50,000. That would save you some tax and some hassle.
If, however, you have larger holdings or plan to grow your international holdings, it's probably better just to pay the tax.
Generally, I think the diversification gains of owning offshore shares outweigh the disadvantage of paying the tax. Don't let the tax drive your decisions too much.
Frawley says you won't have to go to much trouble to pay the tax.
"The new rules have been designed to minimise investors' compliance costs," he says. "For those that have a buy and hold approach [i.e., they do not buy and sell shares in the same year] the new rules are relatively simple to apply."
Individuals will pay tax, at their personal tax rate, on the lower of:
# 5 per cent of the market value of their shares at the start of the tax year, or:
# The total return on the shares - including dividends and any gain in price - during the tax year.
"If the shares make a loss then no tax is payable," adds Frawley.
I must admit that sounds like a fair amount of hassle to me. But I guess investors will get used to noting the value of their international shares on April 1 each year, and keeping track of dividends.
"On-line calculators will be available on Inland Revenue's website which will calculate the tax answers for investors from the data they input," says Frawley.
By the way, you won't have to prove each year that your shares cost less than $50,000. You will simply be asked if they cost more than that, in which case you will pay the tax.
If you should be paying the tax but don't, you are likely to be in trouble if you are audited.
To make things easier for those working out their eligibility for the threshold, Inland Revenue has come up with a compromise.
"A person may choose to treat shares acquired before 2000 as costing half their market value on 1 April 2007 for the purpose of the $50,000 threshold," says Frawley. "This compliance cost savings measure is intended to cater for situations where a person may no longer have records of the purchase price of shares acquired many years ago."
This will certainly help some people. But if you bought your shares before the early 1990s, using this shortcut will probably give you considerably higher share costs than were in fact the case - although as long as the total is still under $50,000, that doesn't matter.
Q. We have a couple of shares which were bought some years ago for around 2000 and are now worth 55,000.
How does one calculate the conversion to NZ dollars? Is it the rate that applied at the date of purchase, and if so where can one find out the exchange on a certain day, say in 1997.
A. You should use the exchange rate on the date of purchase.
Frawley says there are several websites that have foreign exchange calculators with historical data. One is www.oanda.com/convert/classic, which goes back to January 1990.
I've had trouble finding any other calculators that cover a range of currencies and give daily data earlier than that. Do any readers know of any?
For older data, you may have to ask your bank.
February 10, 2007
Q. I refer to the recent reply regarding the new overseas tax legislation from Inland Revenue, which stated that the Aussie exemption doesn't include companies that are not resident in Australia, even if they are listed on the Australian stock exchange.
As it may not be readily apparent that an Australian listed company is not an Australian resident, is Inland Revenue going to provide such a schedule on its website, which will ensure that taxpayers can comply with the new legislation.
For example BHP Billiton and Rio Tinto are dual listed in Australia and Britain, but are they resident in Australia? Also Rinker's main business is in the United States, but is it resident in Australia?
Inland Revenue is being unfair, if it leaves it up to the taxpayer to determine a company's residency.
A. Inland Revenue has no plans to publish such a list.
But, says Peter Frawley of the department, "If a person receives a dividend from a company listed on the Australian stock exchange that carries Australian franking credits (this would be stated on the shareholder dividend statement that the person receives from the company) then this should provide sufficient certainty that the company is resident in Australia."
He adds that "it has been a requirement for many years with the current Grey List exemption for a person to know whether the companies they invest in are resident in Grey List countries (Australia, United Kingdom, Germany, Norway, Spain, United States, Canada and Japan)".
I think Frawley is politely trying to tell you the new rules will be easier than the old ones, so what are you moaning about!
February 17, 2007
Q. Let's say a person with several US shares and a portfolio worth over the $50,000 threshold has several of these stocks placed in company dividend reinvestment programmes.
Each quarter a dividend investment statement is mailed stating the gross dollar dividend value, federal tax taken and then the net amount. This is then converted to a certain number of shares, which are added to the base shareholding.
For NZ tax purposes I have always shown these dividends in my annual tax return.
However, with the new system due to be implemented this year, what does one do?
# Include the dividend as usual and not enter it in the value of the shares, or
# Drop it from the dividend declaration and have it included in the value of the shares?
Will the IRD produce a booklet that could be used as a guide for those with overseas investments that clearly set out the rules of what can and cannot be done?
A. Yes. Inland Revenue has already published a summary of the new offshore tax rules on its website, www.ird.govt.nz (under "news and updates"), and it plans to publish a more detailed explanation of the rules on its website shortly.
"This will be followed by further help, including a booklet and an online calculator which will calculate the answers investors can put in their tax returns from the data they input," says the department.
In answer to your first question, "under the new fair dividend rate method dividends are not taxed separately and therefore do not need to be included in a person's tax return," says the IRD's Peter Frawley.
"Broadly, under the new method tax is paid on 5 per cent of the share portfolio's opening market value each year. In the reader's example the reinvested dividends will be picked up in the opening market value of the shares each year."
"If the investor is an individual or family trust and the total return (dividends and capital gains) on their portfolio of directly held shares is less than 5 per cent, then tax is paid on the lower amount."
No tax will be payable if the shares make a loss, after taking the dividends into account. In that case, then, you will receive those dividends tax-free - putting you at an advantage, in those years, over people not affected by the new tax rules. So it isn't all bad.
Frawley adds that taxpayers affected by the new rules will still be able to claim a foreign tax credit for the foreign withholding tax deducted from their gross dividends.
If they are paying no tax that year on their offshore shares, because they have made a loss, the credit will reduce payment of tax on other income.
Q. You asked for older data on foreign exchange rates, for people calculating whether the new $50,000 tax threshold applies to them.
The Reserve Bank holds monthly NZ dollar exchange rates for the US dollar, British pound, Australian dollar, Japanese yen, and Germany's deutschmark, going back to January 1985. The deutschmark was replaced by the euro from January 1999.
Go to www.rbnz.govt.nz/statistics/, click on "Exchange rates" on the left side, and then on "B1 historical series".
The RBNZ also holds monthly NZ dollar/US dollar data going back to 1970, used in the calculation of the trade-weighted index. See www.rbnz.govt.nz/keygraphs/graphdata.xls and click on Excel tab 8.
A. Thanks very much. This is monthly data, and strictly speaking taxpayers are supposed to establish the exchange rate on the day they bought the shares.
However, Frawley says "The Reserve Bank monthly data will be acceptable to Inland Revenue for the purposes of applying the $50,000 threshold."
February 24, 2007
Q. I am in the position of having invested in a tech stock in Canada in 2002, at a cost of slightly over $60,000, as opposed to today's value of the stock of around $16,000.
As the original investment is over the $50,000 threshold, will I be hit again with this new tax or can I have the shares revalued at their market value on April 1, 2007 - which presumably will be well under the threshold unless there is a miracle between now and April 1 - and then be outside the new tax regime?
A. The $50,000 threshold is based on the original cost of offshore shares.
"This is so taxpayers can refer to the fixed actual cost when determining whether the threshold applies to them, rather than having to track changing market values over time," says Peter Frawley of Inland Revenue.
Unfortunately, in your case that means that your shares don't qualify for the threshold.
There's some compensation, though. As Frawley points out, when you calculate the tax, it will be based on the current market value.
Q. From reading the answers you got from Peter Frawley, I understand that the $50,000 threshold operates on the original cost of purchasing the shares.
We worked in Ireland for a number of years and received some shares as part of employee incentive schemes etc, ie. at no cost to us. For the purposes of calculating the cost of these shares, would they be valued at zero (what we paid) or the market price of the shares?
A. Some not-so-good news from Frawley: "The person in this example is treated, for the purposes of the $50,000 threshold, as having acquired the shares for their market value at the time they received the shares under their employee incentive scheme."
March 10, 2007
Q. I follow your columns on taxing of overseas shares because I have shares and unit trust investments in Canada.
It seems that on April 1 we can look at the original purchase price of things to determine if we are under the $50,000 for tax purposes. My holdings would come under $50,000 on purchase.
However, what will happen on April 1, 2008? My holdings will probably then be well over $50,000 (I've had them a long time).
Do I have to revalue on April 1, 2008 or does the $50,000 exemption last forever?
Sorry if this is a dumb question, but I would like an answer.
A. There are no dumb questions. The dumb people are those who don't ask.
Basically, as long as you buy no more non-Australasian shares, you stay outside the new rules forever.
You don't have to do any more calculations in subsequent years.
But if you do buy more shares, you need to add the cost of those purchases to the original costs of your current holdings. If that total rises above $50,000, you will be taxed under the fair dividend rate rules.
Yours is one of many questions I've received about the tax changes. I will include more in the next few weeks.
But even if we ran nothing else for weeks, I couldn't answer them all in the column. And that would be a sure-fire way of boring most readers witless.
However, help is at hand. Inland Revenue has recently published two papers clarifying a lot of the issues people are asking about.
Go to www.taxpolicy.ird.govt.nz, and scroll down the homepage to February 23, "More on offshore investment changes".
I hope many readers whose letters won't make it into the column can find answers there.
March 24, 2007
Q. With regard to your Canadian writer who spent $60,000 on an investment in non-Australasian shares, am I correct to deduce that as the product cost $60,000 and eroded in value to $16,000, then the IRD expect the original value to be $60,000 yet will tax the person on their "gain" if it quietly grows back to $60,000, even though technically they have not made a cent of real "gain"?
If I may ask one more thing, if the value of one's overseas investment fluctuates wildly due purely to currency changes (which is a big risk for the $) will we be taxed on the gain but not be able to claim the losses?
And if the value of my investment is $49,000 on April 1 and then $49,000 the following March 31, can I ignore the tax regardless of how much it goes up (and assuming I sold bits during the year) in between? Sorry for bombarding thee.
A. On your first question, that's one way of looking at it. Predictably, perhaps, Peter Frawley of Inland Revenue has a different perspective.
"The new fair dividend rate method seeks to tax an amount approximating a reasonable dividend yield on a person's investment each year," he says. "This is set at a maximum of 5 per cent of the investment's opening market value."
Some argue that 5 per cent is not a reasonable amount, as dividends on non-
Australasian shares are usually lower than that. In effect, then, part of the tax will sort of be on capital gains.
Nevertheless, strictly speaking the new tax is not a capital gains tax. And that means, says Frawley, "it is not appropriate to recognise capital losses".
"It is an inherent feature of the new method that no losses are carried forward as each year is treated separately. Any method which involves carrying forward amounts (whether gains in excess of 5 per cent or tax losses) would be much more complex than the new method."
Frawley also points out that under the current law "people are still taxed on their dividends even if their shares go down in value, resulting in a net loss for the year. Under the new fair dividend rate method no tax would be payable in such an income year."
There will be market-crash years when we are glad we are in the new regime rather than the current one. It's a swings and roundabouts thing.
On currency changes, the situation is the same, really. It won't matter whether the value of your overseas shares changes because of changes in the share price in the home country or because of currency fluctuations.
But changes in New Zealand's exchange rate with one country will to some extent be offset by changes with another country. And over the years, there'll be ups and downs. Regardless of tax, any investor in overseas shares needs to learn to ride those waves.
The answer to your third question is: "Yes, you can ignore the tax."
The new rules don't apply to individuals whose non-Australasian overseas shares cost less than $50,000. It's irrelevant what happens to their value after purchase.
Q. I have a portfolio of UK shares over the $50,000 threshold and therefore due to fall prey to the new foreign investment wealth tax.
From what I've read it may be advantageous and legitimate to sell these on or before March 30 and buy them back in April. This way the opening value of overseas investment is zero.
But how are dividends on shares purchased during the year treated? Is taxable dividend income still capped at 5 per cent of the opening value of the portfolio (ie. zero)?
There are also some costs for selling and buying and a risk of price movements in the meantime to take account of, but the benefits could outweigh these costs.
Does this investment strategy make sense for the first year, or is it too good to be true?
A. Probably the latter.
"Any transaction that is done for the purpose of reducing tax could trigger the general anti-avoidance provisions in the Income Tax Act," says Peter Frawley.
He adds that "individual facts and circumstances are taken into account". But it might be pretty hard to argue that you had any other purpose.
And, knowing that people are thinking of using this strategy, I wouldn't be surprised if Inland Revenue takes particular interest in share trading over the next few months.
Only you can decide if the strategy is worth the hassle, costs and possibly sleepless nights.
If you do sell and then repurchase your shares, under the new fair-dividend-rate rules shares bought during a tax year, and dividends on those shares, aren't taxed, says Frawley. They come into the regime the following year.
By the way, if you sell and then buy back less than $50,000 worth, you would be under the $50,000 threshold. So you would be taxed under the current regime, which means your dividends would all be taxed.
* * *
Mary Holm is a seminar presenter, author and publisher. Her website is www.maryholm.com. Her advice is of a general nature, and she is not responsible for any loss that any reader may suffer from following it.
