In an earlier blog, I mentioned the IRD paper released in July 2012 addressing proposed changes to the way in which New Zealand taxes foreign superannuation schemes. Here’s a summary of the current tax treatment, and the proposed changes in the Issues paper.
Current tax treatment
- Foreign superannuation schemes, a term defined in the 2007 Income Tax Act, are currently taxed under the Foreign Investment Fund (FIF) regime. The FIF regime taxes foreign superannuation schemes, in the absence of any exemptions from FIF taxation, on an accruals basis (as opposed to a cash basis). The intention being that income accrued by a foreign superannuation scheme be subject to New Zealand tax as it is earned. Funds that are taxable under the FIF regime are then tax-free on withdrawal.
- Carve-outs from FIF taxation of foreign superannuation do exist, including, amongst other methods, the transitional resident exemption, the New Residents’ Accrued Superannuation Entitlement Exemption, and the Non-Residents’ pension or annuity exemption.
- One of the many current difficulties with taxation under the FIF regime arises in applying the New Zealand classification of a ‘foreign superannuation scheme’ to some types of offshore retirement plans.
- United States’ Qualifying Deferred Compensation Plans, including Individual Retirement Accounts (IRAs) and 401k plans, are particularly difficult to classify under the current definition of a ‘foreign superannuation scheme’.
- Without clear-cut interpretation of the definition, taxpayers are unable to determine whether they may be eligible for particularly the New Residents’ exemption mentioned above.
- Consequently, taxpayers and their advisers are left with great uncertainty in this field.
The Inland Revenue Department recognizes this, and the inconsistency in treatment by taxpayers with foreign retirement plans. The Policy Advice Division has responded by issuing the Officials’ Issues paper on Taxation of Foreign Superannuation, in July 2012.
Proposed tax treatment
- Taxpayers who were not FIF taxpayers for the 2010-2011 year will be taxed on a cash receipts basis from the 2011-2012 year onwards.
- Taxpayers who returned FIF income in the 2010-2011 year by 31 March 2012 will continue to be taxable under the FIF regime with no option to opt out of the FIF regime. These taxpayers will not be subject to the inclusion rate method of tax on subsequent cash receipts.
- Taxpayers who become taxable on a cash receipts basis from the 2011-2012 year will be taxable in one of two ways:
- Pensions: taxable at the recipient’s marginal tax rate upon receipt.
- Lump sum payments: subject to taxation by way of a formula called the ‘inclusion rate’, correlating the amount of time that has elapsed since the individual became a resident of New Zealand to a percentage of the lump sum payment to be returned as taxable income. The rates are as follows:
|
Years since migration |
Inclusion rate |
|
0-2 |
0% |
|
3-4 |
15% |
|
5-8 |
30% |
|
9-12 |
45% |
|
13-16 |
60% |
|
17-20 |
75% |
|
21-24 |
90% |
|
25+ |
100% |
Example:
A New Zealand resident who withdraws NZ $100,000 in their sixth year of residency in New Zealand will declare NZ $30,000 in taxable income in their New Zealand tax return ($100,000 x inclusion rate for year six: 30%).
The transitional resident exemption will continue to apply. Qualifying transitional resident taxpayers continue to have a four-year window from the date of migration to withdraw funds without being subject to FIF taxation.
- Taxpayers who have made lump sum withdrawals between 1 January 2000 and 31 March 2011 and who did not comply with their tax obligations at the time are given two options:
a) They have until 31 March 2014 to disclose the transaction to the IRD and then qualify for the inclusion rate of 15%.
b) They may return income under rules which existed at the time.
The above points are the current proposals in the paper. I am filing a submission on Monday to address a number of issues that the paper raises and which affect, amongst other taxpayers, holders of United States’ Qualifying Deferred Compensation Plans.
