Guide to year end tax planning

For the year ended 31 March 2015

Contents

The end of the 2015 financial year is now approaching. This is an appropriate time to consider your year-end tax position and 2016 provisional tax.

This checklist will enable you to consider what options are available, as well as inform you of the current taxation rates and provide a refresher on your provisional tax obligations.

Introduction

Year end tax planning checklist 5

Current income tax rates 9

Provisional tax overview 11

Penalties regime 13

Record keeping 15

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Below is a checklist of matters relevant to all business entities which you should consider before your year-end balance date, some of which may help you reduce the amount of tax you have to pay for 2015.

Year-end tax planning checklist

1. Fixed asset/intangibles considerationsFor many businesses, fixed assets & intangibles comprise a large part of their asset base and give rise to material tax adjustments. We recommend fixed asset registers are reviewed regularly and the following points considered:

Depreciation of buildingsThe tax depreciation rate for buildings with an economic life of 50 years or more is 0%. Tax depreciation continues to be available on fit out of commercial buildings. A transitional 15% commercial fit out pool is available in certain circumstances.

Fixed asset register reviewYou should review your fixed asset register to ensure assets are classified correctly and the correct tax depreciation rates are being applied. Assets can be written off the fixed asset register if they are no longer used in the business and the cost of disposing of the asset is greater than its disposal value.

Repairs & maintenanceAt year-end, repairs and maintenance expense accounts should be reviewed to consider whether they contain any capital expenditure. Amounts should be capitalised for tax if the expenditure is greater than $500 and relates to:

• the purchase of a low value asset; or

• improving or replacing a significant part of an asset.

Generally no deductions are allowed for a repairs and maintenance reserve. It may be worthwhile undertaking repairs and maintenance prior to balance date to obtain a full deduction.

Demolition costsBuilding demolition costs are generally non-deductible. The deductibility of the demolition costs should be considered if a building has been demolished during the year.

Feasibility expenditure / R&D• Feasibility costs may be deductible in the current year if they

were incurred before a management decision was made to proceed with the capital project.

• The costs of unsuccessful software development are deductible in the year the project is abandoned.

You should consider whether you have any feasibility expenditure or abandoned software development costs which you can take a deduction for this year.

2. Valuation of trading stock (not including livestock)

Trading stock must be valued using one of the following valuation methods:

• Cost

• Replacement price

• Discounted selling price

• Market selling value

Stock obsolescence expense is not deductible for tax purposes. Therefore, to reduce the value of obsolete stock on hand, it should be physically disposed of or, alternatively, valued at market selling value.

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If an attribution adjustment is required, it deems the net income to belong to the individual. The adjustment takes into account any income received by the individual(s) for the services, such as a salary, partnership profits, beneficiary income or a dividend.

6. RetentionsRetentions on building contracts are generally taxable in the year the contractor becomes legally entitled to receive them. Therefore if retentions are outstanding at year end, they usually do not form part of your income for tax purposes for that year, and are therefore only taxed when they become due. This can result in a significant deferral of income.

7. Lease inducement/surrender payments (commercial leases)

These payments are now on revenue account for both the payer and payee:

• Lease inducement payments are now deductible to the landlord and taxable to the tenant, spread over the term of the lease.

• Amounts paid in consideration for the surrender or termination of a lease are taxable to the payee and deductible to the payer in the year they are derived or incurred.

• The changes in relation to lease inducement payments apply to amounts incurred or derived from 1 April 2013 in relation to agreements entered into after the same date. The changes relating to lease surrender payments apply to amounts incurred or derived from 1 April 2013.

8. Mixed use assetsThere have been changes to the income tax and GST rules for assets used for both business and private purposes. These are primarily targeted at baches, boats, planes, and helicopters (used privately and to derive income) and potentially to other assets used both for business and private purposes.

Consideration should be given to these rules if you have any assets that you use both privately and to generate income.

9. Vesting beneficiary incomeAt year-end, consideration should be given to whether any income distributions should be made to beneficiaries. If the trust does not pay or vest beneficiary income within the required timeframe, all the trusts income for the year will be trustee income and taxed at the trust’s tax rate.

Timeframe to vest beneficiary income:For trusts on a tax agents list, with an extension of time for filing, the distribution date for the 2014 income year may be:

• the earlier of the date on which the trust income tax return is filed; or

• the date by which the trust tax return is due to be filed (31 March 2015).

If the Trust Deed contains a clause requiring the distributions to be made within 6 months of balance date, this can over-ride the extended time frame provided by the tax legislation.

10. Gift dutyGift duty has been abolished for gifts made from 1 October 2011. While this may enhance your ability to reorganise your affairs, there are also a range of tax and non-tax considerations involved (e.g. current and future solvency considerations, rest home subsidies and the need for trustees to access funds in the future).

11. Donations tax creditAn individual may claim a donations tax credit equal to 33 1/3% of all charitable donations made (up to the total of the person’s taxable income for the year).

Individuals who make charitable donations by way of payroll giving (i.e. deduction direct from salary or wages) will get the benefit of the donations tax credit immediately as a net reduction in PAYE deductions.

Claims for donations other than payroll giving must be made on a separate claim form (IR 526).

Inland Revenue (IR) recently issued a publication clarifying that payments made to a charitable trust to attend a private education centre are a substitute for fees not a gift. Therefore no donations tax credits can be claimed for these payments.

Companies are entitled to claim a deduction for qualifying charitable donations up to the company’s net income. To be deductible the donation must be made to:

• a charity on IR’s donee organisation list; or

• a charity which carries out its charitable, philanthropic or cultural purpose within NZ.

12. Tax lossesThe ability to carry forward tax losses is subject to maintaining 49% continuity of ownership. Grouping tax losses requires 66% commonality of ownership. This is an important consideration for entities with substantial carried forward losses, when planning a change in ownership or group restructure.

The market selling value may be used only when it is lower than cost and can be substantiated i.e. by providing evidence of sales records from before and after balance date. It must be calculated on an item by item basis (broad formula write downs are not allowed).

Replacement price and discounted selling price may be used to approximate cost if these methods are also used for financial reporting purposes.

3. General accrualsFor accruals or provisions of expenditure to be deductible in the current year, the expenditure must be definitively committed to and capable of reasonable estimation before year end.

Expenditure which is merely contingent, pending or threatened will generally not meet the incurred test. Accruals which are akin to general provisions will generally not be deductible.

Holiday pay and bonuses for employeesEmployee provisions such as accrued annual leave, bonuses, long service leave or commissions are only deductible in the current year if they are paid out within 63 days of balance date.

Prepaid expenditure Even if expenditure meets the “incurred” test, it will be still be non-deductible to the extent it relates to:

• goods which have not been used by year end; or

• services which have not been performed by year end; or

• choses in action which remain enforceable.

There are exceptions to this rule, and certain incurred prepaid expenditure may be claimed as a deduction in your 2015 tax return, provided it has not been capitalised to the balance sheet as a prepayment.

Some prepaid expenses are deductible regardless of the amount or period being prepaid, for example:

• Stationery

• Subscriptions for papers or journals

• Vehicle registration and road user charges

• Postal and courier charges

• Rates

• Audit and accounting fees.

Other prepaid expenses will only be deductible if they were paid in advance up to a certain limit.

Discount reserveA deduction for a discount reserve, such as a prompt payment discount, should be allowed if debtors are customarily entitled to this discount. In the first year a deduction of the discount percentage is allowed and in subsequent years adjustments are made which maintain the discount level at the approved percentage of the debtors. However, if the credit period offered to customers is more than 93 days different rules will apply.

Guarantee / warranty provisionsA warranty provision is deductible in the year that defective goods are sold provided that a definite commitment can be established and the amount of the liability can be calculated as at balance date. The deduction will only be allowed once there is sufficient historical data to verify the expected value of warranty claims (we recommend having at least two years of historical claims to verify the current year percentage claimed).

4. Bad debtsTo claim a deduction for a bad debt in the current year, the debt must be bad, and must actually be written off during the year. Further, there must be evidence to verify that the debt has been written off.

Recent changes to legislation now allow a deduction for a bad debt when the debt has been remitted by law or a debt company has entered into composition with creditors in relation to the debt.

GST on bad debts written off can be claimed back as an input tax deduction. Include the GST component of any bad debts written off in the credit adjustments box of your GST return (Box 13).

5. Personal attribution rulesThe personal attribution rule is an anti-avoidance rule to prevent individuals from diverting income to entities which have a lower tax rate than their personal marginal tax rate.

The attribution rule may apply where:

• there is an interposed entity between the customer and the person doing the work; and

• 80% or more of the entity’s service income is from one source; and

• 80% of the entity’s income is derived from services performed by a person associated with the entity, or a relative of that person.

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Foreign tax credits & imputation creditsUnused foreign tax credits cannot be carried forward as losses. If you cannot use them in the current year they will be forfeited.

Imputation credits, on the other hand, can be grossed up and carried forward as losses.

13. Imputation credit account (ICA) considerationsCompanies are liable for imputation penalty tax if their imputation credit account has a debit balance at 31 March.

Before year-end consider:

• Will your ICA be in a debit balance at 31 March? If so, consider a prepayment of tax prior to 31 March.

• Have you met the 66% shareholder continuity test to enable you to carry forward any imputation credits at year-end?

• Are you going to attach imputation credits to dividends paid prior to 31 March 2015?

14. Shareholder current accountAn overdrawn shareholder account means that the shareholder owes money to the company, typically through regular drawings throughout the year, or by way of a loan.

The following options should be considered to avoid a deemed dividend or FBT liability on the loan:

• repay the loan in cash before year end; or

• pay a shareholder salary; or

• declare a dividend.

15. Transfer pricing & inter-entity lendingTransfer pricingIR has increased their focus on transfer pricing in recent years, and this is evident through increased audit activity.

New Zealand’s transfer pricing rules require cross-border transactions with related parties to be undertaken on an arms’ length basis. If this is not the case, an adjustment will need to be made in the tax calculation to achieve an arms’ length position.

The onus of proof is generally on the taxpayer to show that all related party transactions are undertaken in accordance with the “arm’s length principle”. Where taxpayers have prepared contemporaneous documentation, the onus of proof shifts to IR, which is a significant benefit.

Inter-entity lendingCross border loans with related parties should incur interest at market rates. If no interest has been charged this can give rise to a deemed dividend. The exception to this is if the loan is in the nature of a short term working capital loan.

16. Thin capitalisationThe thin capitalisation rules require an apportionment of deductible interest when the debt % (calculated as total group interest bearing debt/total group assets of a New Zealand entity or group) exceeds:

• 60% for ‘inbound’ (NZ company owned/controlled by non-resident) or

• 75% for ‘outbound’ (NZ company holding investments in CFC); and

• 110% of the world wide group’s debt %.

Before year-end consider:

• Will the year-end % be within the allowable thresholds?

• Does the 110% test help?

• Would quarterly/ monthly calculations help?

• Could you enhance your thin cap position prior to year-end? e.g. asset revaluations, repay debt, equity injection, repatriation of profits for overseas entities/branches?

17. Legal fees• $10,000 de minimis concession

• Fees need to be connected with business activity i.e. nexus test met

• Overrides capital limitation – legal fees deductible irrespective of whether legal fees are capital in nature

• Note all legal fees (including those not connected with the business) are included when calculating threshold.

We set out the tax rates for the 2015 income year below:

Current income tax rates

Individuals0 - $14,000 10.5%$14,001 - $48,000 17.5%$48,001 - $70,000 30%$70,001 or more 33%

Other entitiesCompanies 28%Complying trusts 33%

Residents withholding tax• The RWT rate on dividends is 33%

• The company RWT rate on interest is 28%

• Individuals can elect to have RWT on interest deducted at 10.5%, 17.5%, 30% or 33%.

• The non-declaration rate is 33%.

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In this section, we provide a reminder of the provisional tax regime and your provisional tax obligations.

Provisional tax overview

Who has to pay it?• Taxpayers who have tax to pay of more than $2,500 (RIT) at

the end of the previous year.

• Taxpayers who elect to be a provisional tax payer (this is recommended if you have a reasonable expectation that you will have RIT greater than $2,500 for the year, as interest would be payable if you don’t make provisional tax payments during the year).

Residual income tax (RIT) is the net amount of tax payable for the year, after deducting source deducted tax (e.g. PAYE and RWT), but not provisional tax.

What methods are available?Standard methodThis option assumes your income will increase from year to year.

Calculation:Under the standard method, 2016 provisional tax would be calculated as follows:

• If the 2015 tax return has not yet been filed, based on 2014 RIT plus 10%;

• If the 2015 tax return has been filed, based on 2015 RIT plus 5%.

When is the provisional tax due? In three equal installments, on your provisional tax installment dates (these differ for each taxpayer depending on their balance date).

Estimation methodThe estimation option could be right for you when your income is falling.

Provisional tax can be estimated as many times as necessary, up to the due date of the final installment.

Estimates can be lodged on IR’s website at ird.govt.nz/online-services/service-name/services-p/ online-provtax-est.html or by filing an IR309.

Calculation:Estimate your RIT based on your taxable income forecast for the year.

The estimate must be “fair and reasonable,” and supporting calculations should be prepared and retained to substantiate the estimate. If the estimate is unreasonably low compared to the actual RIT for the year, IR may impose shortfall penalties for lack of reasonable care.

When is the provisional tax due? In three equal installments, on your provisional tax installment dates (these differ for each taxpayer depending on their balance date).

GST ratio methodThis option can suit taxpayers whose income tends to go up and down during the year.

If you would like to use this method to calculate your provisional tax, please ensure you meet the qualifying criteria (i.e. one requirement is that you must file GST returns monthly or bi-monthly).

Calculation:Apply a ratio percentage to the taxable supplies in your GST returns. The ratio percentage is calculated by dividing your RIT for the last tax year by your total GST taxable supplies for the same year.

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When is the provisional tax due? You pay six instalments of provisional tax a year which coincide with your GST payments (these date will differ for each taxpayer depending on their balance date).

Use of money interest • (UOMI) UOMI is payable by:

• all companies and trusts with RIT greater than $2,500;

• all taxpayers whose RIT is less than $2,500 and choose to be a provisional tax payer;

• individuals who used the standard option with RIT greater than $50,000; and

• individuals who used the estimation option with RIT greater than $2,500.

Depending on your situation, interest will be calculated on any terminal tax due (i.e. after provisional tax payments are taken into account) from the due date of the provisional tax payments to the date the terminal tax is paid.

If you use the GST ratio method, and apply the ratio percentage correctly, UOMI will not be payable or receivable or under or overpayments.

UOMI received is taxable income and in some instances is tax deductible when paid by taxpayers, including businesses.

The current interest rates are:

Underpayment 8.40%

Overpayment 1.75%

Under the current penalties regime, penalties may be imposed for late filing of tax returns, late payment and tax shortfalls.

Penalties regime

Late payment penalties apply if the full amount of tax is not paid by a due date. The penalties are:

• 1% on the day following the due date

• 4% on the seventh day following the due date

• 1% compounding every month following the initial penalty

Tax shortfalls may result in:

• UOMI charged from the original due date to date of payment

• penalties - depending on the taxpayer’s conduct

Penalties are levied if IR considers the taxpayer’s circumstances amount to:

Seriousness of issue Penalty

Lack of reasonable care 20%Unacceptable tax position 20%Gross carelessness 40%Abusive tax position 100%Tax evasion 150%

Reduction of these penalties is possible in some circumstances (e.g. voluntary disclosure to IR). These penalties also apply to all other tax types including GST, PAYE and FBT.

We can review your systems and procedures to give you comfort that the correct tax rules are being applied and reduce the risk of penalties. Two popular products we offer are GST reviews and FBT reviews. These provide a health check for your business’ tax procedures and calculations, and often highlight areas of tax savings as well as areas where tax has been underpaid.

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To prove your deductions are legitimate you must keep all relevant records for at least seven years and they must be in English (unless the Commissioner has approved otherwise).

Record keeping

The following records must be kept:

• all income received (copies of invoices issued etc);

• all tax invoices and receipts for purchases, insurance, power, phone and all other costs incurred;

• credit and debit notes;

• bank statements;

• cash books or computerised accounting records;

• wage records for any employees;

• interest and dividend payments;

• a list of business assets and liabilities;

• depreciation schedules;

• statements of year end trading stock, and stocktake records;

• motor-vehicle log books;

• details of entertainment expenses for clients, staff or suppliers;

• final profit and loss statements and balances sheets.

Please note this is not an exhaustive list.

Keeping records in order makes good sense. If you are investigated by IR you should be able to justify all your claims with a minimum of time and effort.

© 2015 PricewaterhouseCoopers New Zealand. All rights reserved. PwC refers to the New Zealand member firm, and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see www.pwc.com/structure for further details.

Get in touch

If you need help with any of these issues, please contact your usual PwC advisor. We can help you review your year-end tax strategy.

tax@nz.pwc.com