Further to our recent news regarding Inland Revenue’s increased focus on general compliance, they have just released a further set of draft interpretation statements and factsheets concerning the taxation of shares in New Zealand.
How shares are taxed
Shares owned by New Zealand taxpayers can be taxed in a number of different ways:
- Under ordinary tax rules.
- Under the Foreign Investment Fund (FIF) rules, where the ordinary tax rules don’t apply.
New Zealand taxpayers who have large shareholdings in foreign companies can also call under the Controlled Foreign Company (CFC) rules, although the recent drafts from Inland Revenue don’t cover these.
Ordinary tax rules
These apply to anyone who owns New Zealand shares, or shares in foreign companies that cost less than $50,000 in total. The $50,000 limit applies to the cost of the shares, so if the acquisition price of the shares was less than this in total, but they have increased value to above this, then the ordinary rules still apply.
Under the ordinary tax rules, investors are taxed on:
- Dividends received that have not had sufficient withholding tax already deducted (we won’t cover this in this article – the IRD draft discussed this extensively).
- Profits from shares that were acquired with the intent of selling.
In addition to a range of other scenarios, such as profits on lending of shares or foreign exchange gains in some cases.
When the sale of shares is taxed
This is a key point and one of the main focus areas of Inland Revenue’s guidance.
New Zealand does not have a comprehensive capital gains tax, and many taxpayers will be of the view that capital gain on shares is untaxed. However the Income Tax Act has a one-sentence section (CB 4) that classifies capital gain as taxable income in many situations:
An amount that a person derives from disposing of personal property is income of the person if they acquired the property for the purpose of disposing of it.
This has received some attention the past in relation to the sale of residential investment property by housing speculators – investors who purchase and sell a series of properties in a short timeframe, often after carrying out basic renovations – but it applies equally to share sales as well.
What a taxpayer says they bought their shares for will be tested against a range of factors:
- The nature of the asset – e.g. the type of share they purchased and the rights that come with the share.
- The length of time the shares were held for.
- The circumstances of the purchase and sale
- Whether there is a pattern of purchases and sales that suggest a dominant intent.
Ultimately the onus is on the taxpayer to prove their intent. Generally if an investor can show that the shares were purchased for:
- Dividend income
- Exercising voting rights or enjoying other rights conferred by ownership.
- Holding as a long-term investment
Then they are unlikely to be taxable. There is no bright line test for shares. Basically, if you have a share trading account that has a history of buying and selling Nvidia, Tesla, or meme stocks over a short period of time, or chopping and changing between different stocks, or high concentrations in stocks with no history of paying dividends, high growth, and no ability to vote, then your profits are potentially more at risk of being classified as income and taxable.
Foreign Investment Fund (FIF) rules
The FIF rules are substantively different to ordinary tax rules. As outlined above, they only apply if the total cost (not current value) of all foreign shares together exceeds $50,000 (investors can opt-in to the FIF rules below this level although its not common for them to do so). Some Australian shares are also exempt from the FIF rules, so their ownership will not count towards the $50,000 limit. And there are some people to whom the rules don’t apply, such as non-residents or transitional residents.
Ordinary tax rules do not apply to FIF shares. The complete FIF rules are far too complex to cover in a single post (and likely to be of little interest to anyone who is not a tax professional!) – there are five different methods that can be used (depending on the type of taxpayer), but the most common method is know as the Fair Dividend Rate (FDR) method. Under the FDR method, a taxpayer is taxed on 5% of the opening market value of their shares, in addition to adjustments (known as “quick sale” adjustments) for sales and disposal of share within the year.
The FDR method, some argue, is a de facto wealth tax, in that it applies a fixed rate across all share assets that fall in the rules, regardless of whether they have been sold or not or whether they have increased or decreased in value. Other methods are available to some taxpayers, such as the Comparative Value (CV) method, which calculates the actual gain or loss rather than using a fixed rate – in some cases this can mean a more favourable position, as losses are taken into account under this method.