Tax Rules for International Investments

Training : 1 Training TAX RULES FOR INTERNATIONAL INVESTMENTS

Agenda : 2 Agenda Please email questions rather than respond due to time constraints mancercliff@yahoo.co.nz

Different Issues with Different Investments : 3 Different Issues with Different Investments Different types of foreign investments Foreign Investment Funds (FIFs) Portfolio Investment Entities (PIEs) Financial arrangements Excepted financial arrangements, etc Business and property investments are not considered in this session

Fundamentals : 4 Fundamentals We are covering the broad fundamentals of all such foreign investments These slides will not cover the in-depth rules for each such investment

Part 1 Foreign Investment Funds : 5 Part 1 Foreign Investment Funds .

Definition of a FIF : 6 Definition of a FIF A foreign investment fund (FIF), is any one of the following: A direct income interest in a foreign company (Category 1) A foreign superannuation scheme (Category 2) including contingent or discretionary rights as well as absolute rights A life insurance policy, but only if the policy is offered or entered into outside New Zealand (Category 3) including contingent or discretionary rights as well as absolute rights An entity described in Part A of Schedule 4 (of which no entity has been listed) These categories of interests held by a person in a foreign entity are treated as an "attributing interest" unless an exemption applies The term "company" includes an entity listed in Part A of Schedule 4.

When FIF arises : 7 When FIF arises The rights are an attributing interest in a FIF under ss EX 30 and EX 31 [s CQ 5 ] FIF loss are dealt to in s DN 6.

Exemptions from Attribution : 8 Exemptions from Attribution There are exemptions from being an attributing interest as follows: ASX listed companies [s EX 31] Australian unit trusts that turn over 25% of profitable assets or distribute 70% of income [s EX 32] Australian regulated superannuation savings exemption for locked in superannuation [s EX 33] CFC exemption [s EX 34] Grey list exemption – 10% or greater [s EX 35] 10 year exemption for venture capital companies emigrating to grey list country [s EX 36] 10 year exemption for grey list company owning a NZ venture capital company [s EX 37] Shares in grey list company acquired under a venture capital agreement [s EX 37B] Employee share purchase scheme in grey list company [s EX 38] Temporary exemption for defined grey list companies with substantial NZ residents [s EX 39] Temporary exemption for grey list companies investing in Australasian Equities [s EZ 32] Foreign exchange control exemption [s EX 40] Non-residents or transitional residents [s EX 41] New resident’s accrued superannuation entitlement [s EX 42] Non-resident's pension or annuity exemption [s EX 43] Natural persons (not trustees) where total cost is less than $50,000[s CQ 5(1)(d)]

ASX listed companies [s EX 31] : 9 ASX listed companies [s EX 31] Exemption if company shares: Listed on approved Australian Listed Stock Exchange at start of shareholder’s income year or when shares were first acquired Not stapled stock (meaning) Company is resident in Australia throughout whole year Company maintains a franking account Company not listed in Schedule 25 Part B IRD have announced they will provide a list

Australian unit trusts with adequate turnover or distributions : 10 Australian unit trusts with adequate turnover or distributions Australian unit trusts are not taxed when all income is distributed. If such trusts invest in shares which do not pay dividends then a New Zealand investor could in the absence of the FIF rules avoid paying tax on accumulations in trust through accumulating share investments This exemption applies only to such trusts which either turnover 25% of investments or distribute 70% of income. Otherwise such trusts are an attributing interest in a FIF

Australian regulated superannuation savings [s EX 33] : 11 Australian regulated superannuation savings [s EX 33] Exemption if New Zealand investor is a natural person and investment is: An Australian approved deposit fund An Australian exempt public sector superannuation scheme An Australian regulated superannuation fund An Australian retirement savings account

CFC exemption [s EX 34] : 12 CFC exemption [s EX 34] If the CFC rules are applied to attribute income to the taxpayer, then the income is not an attributing FIF interest

Grey list exemption – 10% or greater [s EX 35] : 13 Grey list exemption – 10% or greater [s EX 35] An interest of 10% or greater in a CFC in a grey list company that is not listed in Schedule 25 part B is not an attributing FIF interest Exemption not available to PIEs, superannuation schemes, unit trusts, life insurers, and group investment funds

Venture capital company migrating to grey list country [s EX 36] : 14 Venture capital company migrating to grey list country [s EX 36] 10 year exemption available for resident start up companies that subsequently migrate offshore to a grey list country

Grey list company owning a NZ venture capital company [s EX 37] : 15 Grey list company owning a NZ venture capital company [s EX 37] 10 year exemption for grey list company owning a NZ venture capital company Exemption also applies to shares in a grey list company which has acquired a New Zealand venture capital company by issuing shares to New Zealand resident shareholders in exchange for their shares in the New Zealand resident venture capital company

Grey list coy shares acquired in venture investment [s EX 37B] : 16 Grey list coy shares acquired in venture investment [s EX 37B] Exemption for FIF interests held by New Zealand residents that co-invest with the New Zealand Venture Investment Fund

Employee share purchase scheme in grey list company [s EX 38] : 17 Employee share purchase scheme in grey list company [s EX 38] Exemption applies to direct income interests held by natural persons in a grey list company and shares are acquired via an employee share purchase scheme in the employer company and there is a restriction on the disposal of the shares Exemption applies for a limited period related to the period of time when the shareholder is restricted from disposing of the shares - the FIF rules generally apply from the beginning of the year following the end of the period

Defined grey list companies with NZ residents [s EX 39 and EZ 32] : 18 Defined grey list companies with NZ residents [s EX 39 and EZ 32] Five year exemption for Guinness Peat Group Plc Two year exemption for New Zealand Investment Trust Plc

Foreign exchange control exemption [s EX 40] : 19 Foreign exchange control exemption [s EX 40] This exemption applies for a natural person who acquired the rights: Before first becoming a New Zealand resident; or Before exchange controls applying to the person and the interest were imposed by a foreign country; or Before 8pm NZST on 2 July 1992.

Non-residents or transitional residents [s EX 41] : 20 Non-residents or transitional residents [s EX 41] This exemption applies to category 2 or category 3 rights held by a natural person who acquired the rights as a non-resident or transitional resident. This exemption replaces the first 48 months of the exemption periods applicable to interests held by transitional residents in foreign superannuation, life insurance and annuities (category 2 and 3 FIF interests) [see following slides]

New resident’s accrued superannuation [s EX 42] : 21 New resident’s accrued superannuation [s EX 42] This exemption applies to employment related superannuation entitlements for new residents for a period until the 31 March following four years after becoming a resident (i.e. between 4 and 5 years). The transitional resident exemption (in a previous slide) looks after the first 48 months. Consequently, payments made into superannuation during this time don’t disentitle the exemption

Non-resident's pension or annuity exemption [s EX 43] : 22 Non-resident's pension or annuity exemption [s EX 43] This is an all-time exemption for pensions, annuities, superannuation acquired if they cannot be assigned or exchanged for cash or property except under a relationship agreement, or at a substantial decrease in value. The exemption is available when the interest is acquired: By a non-resident before becoming a resident, or By a resident within three years after the end of the year of becoming a resident, or By a resident becoming a non-resident if the interest is commuted or transferred through becoming a non-resident

Double Tax Agreements : 23 Double Tax Agreements For pensions and annuities, look also at the Double Tax Agreements There may be an exemption in the Double Tax Agreement stating the income is taxed only in the country of source

Total cost $50,000 or less [s CQ 5(1)(d)] : 24 Total cost $50,000 or less [s CQ 5(1)(d)] An exemption is available for natural persons (but not trustees) where total cost of all investments classified as FIFs is less than $50,000 in an income year FIF investments which are specifically exempted from the FIF rules (e.g. foreign life insurance policies and some foreign superannuation schemes) are not counted in determining the $50,000 threshold “Cost” includes expenditure on behalf of person (e.g. employer contributions to foreign superannuation schemes) Cost is NZ currency equivalent as at time of purchase

Calculation Methods : 25 Calculation Methods Six calculation methods: Branch equivalent Accounting profits Deemed rate of return Comparative value Fair dividend rate Cost Choose method when completing tax return

Branch Equivalent Method : 26 Branch Equivalent Method Calculate foreign company profits according to New Zealand tax laws (i.e. CFC rules) Calculate New Zealand equivalent tax rate to those profits Attribute relevant percentage of foreign company profits and foreign taxes to shareholder Requires access to foreign company transactions Shareholder (whether natural person or not) should maintain a BETA to avoid double taxation

Accounting Profits Method : 27 Accounting Profits Method Foreign company is listed on a recognised stock exchange or widely offered to public GAAP used to calculate profits or losses and certified by an accountant Financial statements are audited and publicly available Is the percentage of net after tax profits or losses (including extraordinary items) of foreign company that is assigned to a shareholder When this method is chosen it is irrevocable in future years

Comparative Value Method : 28 Comparative Value Method Relates to the net increase of market value over the income year, taking into account gains and cost (i.e. comparing this year’s value with last year’s value) Likely to be used for individuals and family trusts when return is lower than FDR calculation Cannot simultaneously use FDR method for other investments Can be used if the FIF interest is 10% or more. Company shareholders cannot use CV if holding less than 10% Natural persons and family trusts may flip-flop annually between comparative value and FDR

Fair Dividend Rate Method : 29 Fair Dividend Rate Method Likely to be primary method (3 exceptions when not used – see next slide) Generally applies on a pooled (rather than investment by investment) basis Cannot simultaneously use CV method for other investments Only available when investment is less than 10% Company shareholders must use FDR if holding less than 10% Life insurance and superannuation FIFs may use FDR Natural persons and family trusts may flip-flop annually between comparative value and FDR

Fair Dividend Rate Method : 30 Fair Dividend Rate Method Three exceptions when not used: When shares are treated as debt When a natural person or family trust has a return less than 5% and chooses the CV method When the FIF is a foreign PIE and the investor is a PIE

Cost method : 31 Cost method Used when you cannot ascertain a market value for either CV or FDR method Limited (for direct interests in foreign companies) to holdings of less than 10% 5% of cost is taxed each year (cost being opening value) Cost is automatically increased by 5% each year (sales and purchases taken into account) Dividends are not taxed separately No FIF losses allowed

Deemed rate of return Method : 32 Deemed rate of return Method CIR announces a deemed rate of return for the year which is applied to the opening book value This method now has limited application with introduction of FDR

FIF losses : 33 FIF losses Branch equivalent losses are quarantined CV losses are fully deductible No losses arise under DRR, FDR, Cost methods AP losses limited to actual economic or financial loss

Default Calculation Method : 34 Default Calculation Method CIR has a default method when taxpayer does not choose a method (e.g. CIR is issuing a default assessment) Default order is: FDR if less than 10%, otherwise Cost method Accounting Profits Comparative Value method Deemed Rate of Return

Disclosure of Foreign Company or FIF Interests : 35 Disclosure of Foreign Company or FIF Interests Disclose FIF interests Form IR449 for Cost method Form IR445 or IR447 for FDR method Form IR446 or IR448 for CV method CIR may set thresholds for disclosure for DRR, AP and BE methods

Part 2 Portfolio Investment Entities : 36 Part 2 Portfolio Investment Entities .

Portfolio Investment Entity –4 Types : 37 Portfolio Investment Entity –4 Types Portfolio tax rate entities company, superannuation fund, group investment fund Portfolio listed companies Listed or could be listed Portfolio defined benefit funds Does not allocate income directly to investors Portfolio investment-linked life fund Benefits are directly linked to the value of investments in the fund

Taxing a Portfolio Tax Rate Entity : 38 Taxing a Portfolio Tax Rate Entity Assessable Income – calculated according to normal rules Gains on sale of shares – not generally taxable

Investors in a Portfolio Tax Rate Entity : 39 Investors in a Portfolio Tax Rate Entity Have portfolio investor rate either 19.5% or 30% Income – taxable Expenditure – deductible Gains on sale of shares – not generally taxable

Investors in other Portfolio Investment Entities : 40 Investors in other Portfolio Investment Entities Excluded income when investor: is a natural person or trustee, and is a New Zealand tax resident, and does not include the amount as income in a tax return Otherwise, it is excluded income to the extent to which it is not fully covered by imputation credits or FDP credits

Taxing other Portfolio Investment Entities : 41 Taxing other Portfolio Investment Entities Assessable income taxed at 30%

Part 3 Financial Arrangements : 42 Part 3 Financial Arrangements .

Excepted Financial Arrangements : 43 Excepted Financial Arrangements Include: Shares Share derivatives Already covered by FIF rules (Part 1) or to be covered as leftovers (Part 4)

Financial Arrangements : 44 Financial Arrangements Apply generally to: debt arrangements owned by residents rather than non-residents (except when linked to a business carried on through an establishment in New Zealand) Therefore interest income rather than dividend income

FA Question 1 : 45 FA Question 1 Is lender a cash basis party? If yes, then account for interest income when received If no, then account for interest income on accrual basis

FA Question 2 : 46 FA Question 2 Is lender entitled to straight-line calculation? If yes, then account for interest income spread in a straight-line If no, then account for interest income on a discounted cash flow basis

FA Question 3 : 47 FA Question 3 Will lender who is cash basis party avoid requirements for base price adjustment calculation? No, but: base price adjustment calculation is only required at stated times is intended to ensure that correct amount of income that is derived is taxed subsumes any other taxable income calculation for that income year

Part 4 Excepted Financial Arrangements : 48 Part 4 Excepted Financial Arrangements .

Part 4 Excepted Financial Arrangements etc (leftovers) : 49 Part 4 Excepted Financial Arrangements etc (leftovers) Includes such investments as: Shares in foreign companies not caught by FIF (e.g. ASX exemption) Foreign pension income

Where to Get More Information : 50 Where to Get More Information www.newzealandtax.com Consulting services, other sources Next training session: Associated Party Rules

Thanks for listening : 51 Thanks for listening Cliff Mancer Mancer Tax