Overseas Super Schemes and Pensions

Foreign super schemes and foreign pensions held by New Zealand tax residents are generally subject to New Zealand tax under the Foreign Investment Fund (FIF) rules.   However, the FIF rules are complicated and taxpayers have historically struggled to correctly apply the rules.  The Government has released an Issues Paper which proposes to simplify the tax rules applying to overseas super schemes and pensions.

The proposed changes include:

• The FIF rules will cease to apply
• All pension payments would be taxable on receipt
• Lump sum withdrawals and transfers will be partially taxed on a receipts basis, depending on how long the recipient has been in NZ.

While the changes are positive for removing these investments from the scope of the FIF rules and making their tax treatment more certain, there are a number of issues that will need to be resolved before the receipts basis proposals are acceptable.

Repairs and Maintenance

The Inland Revenue has issued an Interpretation Statement (IS) on when expenditure is considered "repairs and maintenance" (R & M) and deductible.  Although the issue is particularly relevant to taxpayers who are landlords, the same principles apply to anyone who is in business or undertakes an income-earning activity.

The IS sets out a two-step approach to determine whether expenditure is R & M or capital:

1. Identify the relevant asset being worked on

2. Consider the nature and extent of work performed

Step one is a question of fact and degree and generally something that is capable of separate operation is likely to be an asset, whereas smaller items that form part of a larger asset are unlikely to be assets themselves.

Step Two requires an examination of the nature and extent of the work.  If the work results in the reconstruction, replacement or renewal of the asset (or most of it), that work will be capital expenditure and non-deductible.

If the work enhances the asset (beyond what it originally was), it is likely the expenditure will also be capital in nature.

If the work repairs or maintains an asset without replacing or renewing it and without changing its character, the expenditure is likely to be R & M.

The IS also provides some useful examples on when expenditure incurred on leaky buildings is deductible and non-deductible.   Whether leaky building expenditure is deductible will very much depend on the facts and the scope of the work undertaken, but will generally be deductible if the work does not improve the building, significantly replace the building or use better components.

OTHER ISSUES

• Lease Inducements: The Government released further information on the proposals to tax lease inducement payments.  The changes will not take effect until 1 April 2013.  Lease inducements will be assessable/deductible to the parties and will be spread over the term of the lease.  Lease surrender payments will also be made deductible/assessable, as currently their treatment can be asymmetric.

• Mixed-Use Assets: Draft legislation has been released to require apportionment of expenses claimed on certain assets that are used both privately and for income-earning purposes.  These rules will apply from the start of the 2013/2014 tax year and apply to land, land improvements, most assets costing more than $50,000 and where the asset is not used for at least 62 days in a tax year.  These rules are likely to result in the deductible expenditure on holiday homes, yachts and aircraft being significantly reduced from next year.

• Penny & Hooper Voluntary Disclosures: The Inland Revenue has extended its timeframe for allowing taxpayers to make Voluntary Disclosures for "income diversion arrangements" similar to the Penny and Hooper cases.  While this extension is taxpayer-friendly, taxpayers and their advisors should take care that they do agree to Penny & Hooper tax adjustments if they can clearly show that their income is derived from other than the personal efforts of the working owner.  For example, where a service firm has several professional staff who all contribute to the profits of the firm, the Penny & Hooper adjustments are not appropriate and would result in an incorrect tax position being taken