New Zealand’s sometime single-largest taxpayer would become exempt under proposals handed down by the Sir Michael Cullen-led Tax Working Group (TWG) last week.
The TWG recommends removing the tax requirement for NZ Superannuation Fund (NZS) – also known colloquially as the ‘Cullen Fund’ – that has seen the now the $40 billion government-owned entity pay about $6.4 billion back to the Crown since inception in 2003.
While the NZS relative-to-income tax impost varies year-to-year, particularly given its 65 per cent exposure to global shares (which are taxed according to the fair dividend rate – or FDR – rules), the fund has been a significant contributor to government coffers.
According to the TWG report, the NZS paid “$1.2 billion in tax, or 9% of New Zealand’s corporate tax take, in the 2016-17 tax year”.
As the TWG report notes, the NZS tax requirement is both a global and local anomaly for sovereign wealth funds. For example, the similarly-sized Accident Compensation Commission fund is tax-exempt – a status NZS has regularly lobbied government for.
Cullen said the change would allow NZS to more easily claim tax exemptions in other jurisdictions while also bringing down compliance costs at home.
“In a net sense it shouldn’t affect government revenue because it would lower the Crown contributions to NZS under the funding formula,” he said.
The Labour-led coalition government restarted the NZS government contributions in 2017 – tipping in about $500 million over nine months – after an eight-year hiatus under the previous National regime.
The final TWG report also recommends a raft of changes to KiwiSaver and the portfolio investment entity (PIE) regimes – both, like the NZS, Cullen creations during his stint as finance minister in previous Labour government (1999-2008).
Under the TWG proposals, KiwiSaver would morph into a tax-preferred vehicle (relative to other PIEs) across all prescribed investor rate (PIR) levels. Currently, only those on the top marginal tax rates (30 or 33 per cent) reap a tax benefit for investing in KiwiSaver or PIEs, where the highest PIR is 28 per cent.
If adopted, the TWG recommendations would see the lower KiwiSaver PIR rates – which at 10.5 per cent and 17.5 per cent
are now equivalent to marginal tax rates – fall by 5 per cent to match the top-rate differential.
However, Cullen said the TWG report does not recommend changing the current non-KiwiSaver PIE rates to match: the top 28 per cent PIE PIR would also remain in place post any reforms.
Additionally, the TWG suggest another tax boost for lower-income KiwiSavers by removing the employer superannuation contribution tax (ESCT) for those earning under $48,000 (with progressively clawed back exemptions up to $70,000). The report also recommends bumping up the annual KiwiSaver member tax credit from the current $521 to about $768.
Those relatively minor tweaks to KiwiSaver, though, are dwarfed by the TWG proposal to tax Australasian shares in PIEs on accrued capital gains (and complicated ‘ring-fenced’ loss rules). In a surprise move, the Cullen group favoured the separate treatment for Australasian shares (which are capital gains tax-free in PIEs now) rather than lumping all equities in a revised FDR regime, touted as an easier option in the interim TWG report.
In the wake of the proposal, industry commentators have pointed out the change would be both administratively complex to implement and create a bias to offshore shares.
Cullen, however, said the different PIE tax treatment of Australasian shares shouldn’t be too much of an administrative burden, nothing more than changing a few lines of code might fix.
The TWG report does note the there could be flight risk to global equities under the Australasian shares proposal but it says more regular adjustments to the FDR rate (which currently taxes offshore shares at a deemed 5 per cent of value).
“The FDR rate should be set by regulation, with a specified formula contained in the empowering legislation,” the TWG report says. “However, the formula should have regard to a principle that foreign shares should not be taxed more favourably than domestic shares.”
Among the almost 100 report recommendations, the TWG also suggests:
- potential incentives to include “venture capital, infrastructure, social housing and sustainable investment” in managed funds and “particularly KiwiSaver” funds;
- relief for younger entrepreneurs who would be able to tip up to $500,000 from the proceeds of a business sale into KiwiSaver without incurring capital gains;
- allowing “smaller superannuation funds”, with perhaps up to $5 million under management, to account for gains on land and Australasian shares on a realised basis rather than the accrual rules applying to everybody else; and,
- not applying GST to explicit fees charged for financial services.
Cullen admitted the TWG report throws up a number of “second-order” issues that will be debated over the coming months. And, realistically, he said the government would struggle to get all of the TWG recommendations over the line – both in political and practical terms.
For instance, the TWG report points out that the government’s “stated timeframes for implementing tax reform will be challenging”. If the government intends to have legislation in place this year, for a 2021 start date, then it would “need to ensure additional resources are available for implementation”, the report says.
And “obviously, there’s a major political debate ahead – among the coalition partners and the Labour party,” Cullen said.
For example, Labour’s key coalition partner, NZ First, has historically eschewed any capital gains tax.
“It is clear, though, that these are very much matters of judgement,” the TWG report says. “None of the issues around capital gains are simple and reasonable people can disagree about the best way to deal with them.”
After triggering the country’s biggest disagreement in years, Cullen plans to step back from the public fracas.
“Our job was to deliver the report,” he said. “It’s up to the government now what it does with those recommendations.”
The government is due to produce its formal response to the TWG report in April.