Problems with pension transfer tax proposal

Proposed changes to the tax treatment of pension transfers into New Zealand are necessary to clear up "confusion" but will have a number of teething problems, tax experts say.

Thursday, August 16th 2012, 7:12AM 3 Comments

by Niko Kloeten

In July the Inland Revenue released a proposal that would see a percentage of each fund transferred into New Zealand treated as taxable income based on a sliding scale of how long the owner of the funds had lived in New Zealand at the time of transfer.

In their recent paper Foreign superannuation schemes - Proposed changes a step in the right direction, Ian Fay and KirstyHallett of Deloitte examined the proposal and found that while it will simplify the situation considerably, it also presents some potential problems.

Change is needed because the current rules for taxing interests in foreign superannuation schemes are "complex", they said.

"They require the consideration of the FIF (Foreign Investment Fund) regime, the trust regime and the dividend rules.

"Depending on the legal form of each investment, taxpayers with an interest in a foreign superannuation scheme can end up applying significantly different tax treatment to their interests.

"Given the complexity of the rules there is a lack of awareness and confusion regarding how the rules apply resulting in a significant degree of non-compliance and inconsistent application of the rules."

However, the authors raised some concerns about the proposal, including the lack of any mechanism to recognise the capital contribution to the scheme (from after-tax wages); they said there should be an option introduced to ensure taxpayers only paid tax on investment gains.

They said thought should be given to capping the rate at which people pay tax on foreign pension schemes to align with New Zealand savings vehicles, most of which are PIEs (Portfolio Investment Entities) and have a maximum tax rate of 28% for investment gains.

The transitional period would be "fraught with issues", they said, pointing in particular to the retrospective application of the rules and saying they should instead apply from April next year.

"The retrospective application of the proposed new rules causes concern and not only because it is incredibly poor from a policy perspective to apply a rule change retrospectively."

Niko Kloeten can be contacted at niko@goodreturns.co.nz

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Comments from our readers

On 16 August 2012 at 12:15 pm Giles Thorman said:

I am struggling with this one slightly. As you advise in your article above it seems to ignore the payments made to the scheme either by the owner of the funds or by their Employer as part of their remuneration package. Equally many of these schemes are being transferred from the UK, I thought we had a double taxation agreement with the UK? These funds will have been taxed in the UK, why is New Zealand seeking to tax them again? What am I missing? It seems that if the IRD in NZ is going to treat the whole capital sum transferred as taxable, then the owner of the funds would be better advised to receive the pension in the UK and just declare the income each year? Would that not suit the fund owner better?

On 16 August 2012 at 1:39 pm Dean said:

The complexity of taxation of foreign super holdings is irritating, but there will surely be other complications and inequities arising from an across-the-board approach to taxing a lump sum transfer to NZ as though it is all income in the year of transfer. It can be difficult to separate any payment, whether it's a lump sum or a periodic pension payment, into its components of capital and interest; the taxation of those components in the foreign country may well be different than the tax treatment in NZ, and that should be taken into account especially if there is a tax treaty with the foreign country. The prospect of double taxation is very real, and that is simply unfair. As for a sliding scale based on length of residency, that makes absolutely no sense, in my view. Superannuation funds are long term by their very nature, so they should be taxed using consistent principles regardless of how long the fund owner has lived in NZ.

On 18 August 2012 at 6:12 pm Chris said:

Giles, it does not matter if the pension payment is paid to a UK bank account rather than a NZ one as it would still be taxable in NZ if received by a NZ tax resident (on the basis we tax residents on worldwide income).
For someone migrating from the UK, there is a 4 year tax exemption for most forms of offshore income so the sensible thing to do would be to transfer the pension during the 4 year period as it would be tax-free in NZ.

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