 Taxation on direct investment (individuals buying stocks and shares in companies) has always been relatively straightforward in New Zealand, with investors taxed mainly on their dividends. This remains the case for New Zealand and most Australian shares, but those with significant overseas holdings need to be aware of some new tax legislation which came into play on 1st April 2007.
The changes are complex, so please use this article as a basic guide, and seek further advice as necessary to clarify your situation. To put these changes in a broader context, they are intended to make tax rates fairer for people who invest overseas via managed funds in advance of the new KiwiSaver superannuation investment scheme.
Tax on Manged Funds To take advantage of the new tax regime, managed funds have to qualify as Portfolio Investment Entities or PIEs. The main benefits for managed funds are: - Investors on a lower tax rate can be taxed at this rate, rather than at the company tax rate of 30%
- Investors on a higher (39%) tax rate will be taxed at the company tax rate of 30%
- New Zealand and most Australian shares held through PIEs will be exempt from capital gains taxes (they have been paying pre-2008/9 company tax rate of 33%)
- Taxable income on all other shares will be calculated at 5% of the market value rate – the Fair Dividend Rate (FDR).
Fund managers expect to pay around 50% less tax, which could improve investment yields for their investors by as much as 2%. The trade-off is that the volatility of their after-tax returns is increased, as losses are no longer tax deductible. The changes should make it more attractive for investors to invest in managed funds, which will help more people to get a balanced, diversified investment portfolio.
Tax on Direct Investments New Zealand residents whose offshore investments cost them less than $50,000 can opt to be taxed only on their dividend income. Offshore investments exclude New Zealand and most Australian shares, and these rules only apply when the investor owns less than 10% of the company. This threshold does not apply to family trusts or companies. If, excluding NZ and most Australian shares, your investments cost you over $50,000 when you purchased them (using the exchange rate at the time, and including account brokerage fees), you are taxed as follows on all of your non-exempt offshore investments: - For returns (capital change plus dividend) of over 5%, you are taxed on 5% of the value of your total foreign shares (calculated at the start of the tax year). Dividends are not taxed on top of this.
- For returns (capital change plus dividend) of 0% - 5%, you are taxed on the actual return.
- When the return (capital change plus dividend) is a loss, there is no tax to pay. The loss cannot be offset or carried forward.
Examples
These are the examples supplied by the Inland Revenue Department: Example 1: When an individual makes a total return of more than 5 percentJohn holds offshore shares that have a market value of $100,000 at the start of the year. These shares are worth $115,000 at the end of the year. John also derives a $10,000 dividend. Under the fair dividend rate method, John pays tax on 5 percent of $100,000 or a lower amount if his return for the year is less than 5 percent. No tax is payable if he makes a negative return. John's total return for the year is the $15,000 capital gain on his shares and the dividend of $10,000. His total return is therefore $25,000. However, his taxable income for the year is limited to 5 percent of the opening value of his shares. This would result in taxable income of $5,000. (Under the fair dividend rate method the $10,000 dividend is not separately taxed.)
Example 2: When an individual makes a total return of less than 5 percent Mary also holds offshore shares that have a market value of $100,000 at the start of the year. These shares increase in value to $102,000 at the end of the year. Mary also receives a $1,000 dividend. As in the previous example, Mary would pay tax on 5 percent of $100,000 (her opening value) unless she can show that she made a return of less than this. Mary's total return for the year is $3,000 (comprising a capital gain of $2,000 and a dividend of $1,000), which is less than 5 percent of her opening value of $100,000. Therefore, Mary is only taxed on $3,000.
Example 3: When an individual makes a loss Judy holds offshore shares that have a market value of $100,000 at the start of the year, which decrease in value to $75,000 at the end of the year. She also receives a $10,000 dividend. As in the previous examples, Judy would be taxable on 5 percent of the opening value of her shares unless she can show that her total return for the year is less than 5 percent. Judy's total return for the year comprises a capital loss of $25,000 and the dividend of $10,000. Her net return is therefore a loss of $15,000. Because Judy has made a negative return on her offshore shares, no tax is payable under the fair dividend rate method.
Shares that are bought and sold within the same income year are known as Quick Sales. They are taxed at the lesser of 5% of the average cost of the shares, or the actual gains made on them. The calculations are complex, so please seek further clarification if you think this may apply to you. Transitional Tax Residents maintain their exemption from all tax on their offshore investments for their first four years in New Zealand. The value of their offshore investments is then calculated from the market value on the date that they become New Zealand tax resident. For more information, please see the Inland Revenue website, www.ird.govt.nz. The website of their Policy Advice Division, www.taxpolicy.ird.govt.nz, also has several articles on the new rules.
Glossary Fair Dividend Rate: International equities (not New Zealand and most Australian shares) will be taxed at 5% of their market value rate, regardless of the actual dividends and capital gains realised. Changes came in on 1 April 2007. Most Australian Shares: exemptions apply to companies listed on the ASX All Ordinaries, ASX 50 Leaders and ASX 200 indices of the Australian Stock Exchange. A list of these companies is available on http://www.asx.com.au/research/indices/description.htm. Generally, if the company is listed on the ASX All Ordinaries (the 500 biggest companies) and the company issues “franked” dividends, the exemption applies. Portfolio Investment Entities (PIEs): PIEs are managed funds that meet certain criteria and have opted to take advantage of the new tax regime. PIE changes came into effect on 1 October 2007.
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