Chapter 3
Income
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Contents
3.1
The Concept of Income.................................................................................................................... 84
3.1.1
Introduction................................................................................................................................................ 84
3.1.2
Statutory Basis........................................................................................................................................... 85
3.1.3
General Categories of Income Listed in Part C of the ITA 2007...............................................86
3.1.4
Income under Ordinary Concepts........................................................................................................ 87
3.1.5
Income is Something Which Comes in..............................................................................................88
3.1.6
Periodicity, Recurrence or Regularity................................................................................................ 89
3.1.7
Quality in the Hands of the Recipient................................................................................................ 90
3.1.8
Economic, Accounting and Legal Concepts of Income................................................................91
3.1.9
Income: An Artificial Construct...........................................................................................................92
3.2
Income/Capital Distinction............................................................................................................ 93
3.3
Source and Residence........................................................................................................................97
3.3.1
Scope and Purpose....................................................................................................................................97
3.3.2
Definition of Residence.......................................................................................................................... 98
3.3.3
Permanent Place of Abode...................................................................................................................101
(1)
(2)
(3)
Inland Revenue Interpretation Statement IS 14/01 and Case Law.................................................... 101
OECD Model Tax Convention on Income and Capital....................................................................... 108
Tax Residence versus Immigration Status............................................................................................. 109
3.3.4
Residence of Companies...................................................................................................................... 109
3.3.5
Tax Holiday for New Migrants.......................................................................................................... 110
3.3.6
Residence and the Concept of Income............................................................................................. 110
3.4
Exempt Income................................................................................................................................... 112
3.4.1
Meaning and Scope................................................................................................................................ 112
3.4.2
Income Exempt from Tax.................................................................................................................... 113
3.5
Excluded Income................................................................................................................................119
3.5.1
Meaning and Scope................................................................................................................................ 119
3.5.2
Goods and Services Tax....................................................................................................................... 119
3.5.3
Fringe Benefits........................................................................................................................................ 119
3.5.4
Specific Statutory Regimes..................................................................................................................120
3.6
Capital Gains....................................................................................................................................... 122
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83
Contents
Income
3.6.1
Taxing Capital Gains in New Zealand............................................................................................. 122
3.6.2
The Theory of Taxing Capital Gains................................................................................................ 122
3.7
An Income Framework.................................................................................................................. 126
3.8
Conclusion............................................................................................................................................. 127
3.9
References and Further Reading............................................................................................. 128
3.10
Review Questions...............................................................................................................................130
3.1
The Concept of Income
3.1.1
Introduction
Income tax is the predominant tax on individuals and business in New Zealand.
Understanding the concept of “income” is key to understanding the application of the income
tax laws. How is taxable income defined so that Inland Revenue can apply the taxes set in the
ITA 2007? By considering the concept of income, the source and residence rules, and the
different types of taxable and non-taxable income, this chapter seeks to provide some answers
to this question.
When considering income it is worthwhile to establish a framework showing how the
different terms and concepts of income relate to each other. Understanding the terms and
concepts used for income (as discussed in this chapter) is facilitated by observing the position
each has in the process of determining assessable income and then taxable income.
Table 3.1 — A Framework for the Terms and Concepts of Income
Term or Concept
Total receipts
Less
Non-income items and amounts
Equals
Income as listed in sub-pts CB-CV
Plus
Income under ordinary concepts and
Foreign-sourced amounts of non-resident trustees income
Less
Exempt income and
Excluded income
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Equals
Assessable income
When allocated to an income year
Equals
Annual gross income
Less
Annual total deductions
Equals
Net income (loss)
Less
Available net losses
Equals
Taxable income
This chapter explores these income terms and concepts and how they operate in the taxation
system of New Zealand. The framework starts with all the receipts (income and gains that a
taxpayer receives), then moves through the different calculations and decisions, concluding
with the taxable income on which the tax is levied.
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Income
3.1 The Concept of Income
Non-income is a generic term (not stated in the ITA) used in this framework to group inward
flows or gains to a taxpayer which will not result in income as defined in the ITA. Examples
of non-income include:
•
•
•
•
non-resident foreign-sourced income (s BD 1(4)) which is covered in 3.3;
capital gains (s CB 1(2)), covered in 3.2 and 3.6;
windfall gains; and
some gifts and private receipts which have their treatment basis in case law, covered in
3.1.4 and 3.1.5.
Windfall gains include gains that are not earned but, rather, arise by virtue of luck, such as a
win in a lottery, prizes and inheritances. Gifts in kind (not cash gifts) to employees are usually
subject to fringe benefit tax (“FBT”). Whether a cash payment by an employer to an employee
is a gift is essentially a question of fact. Generally, a payment which would not have been
made had the recipient not been an employee constitutes income to the employee (see 3.1.7).
This chapter sets the background for the following chapters on income from business,
property and individuals (Chapters 4, 5 and 6). The details of income not covered in these
chapters are discussed in Chapter 7.
3.1.2
Statutory Basis
The ITA 2007 and TAA 1994 represent the statutory source of taxation law in New Zealand.
The ITA 2007 imposes the obligation to pay tax on taxable income and the TAA 1994
provides for the assessment, quantification and collection of that tax.
Income tax is payable on “taxable income”. Before calculating taxable income the taxpayer
must first determine their assessable income.
As income tax deals primarily with income, it would be reasonable to expect a clear definition
of income in the ITA 2007 (see 1.7.3). The main purposes of the ITA 2007 are outlined in
s AA 1.
Legislation:
ITA 2007, s AA 1
The main purposes of this Act are:
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(a)
to define, and impose tax on, net income:
(b)
to impose obligations concerning tax:
(c)
to set out rules for calculating tax and for satisfying the obligations imposed.
Section AA 1 of the ITA 2007 (and ITA 2004) arguably places a greater emphasis on the role
of the Act to define income, with the inclusion of the word “define” in para (a), than did its
predecessor, s AA 1 of the ITA 1994. Income is broadly defined in s YA 1 by reference to
s BD 1(1), which in turn refers to pt C. Section BD 1(2) and (3) also provides for the
treatment of exempt income in sub-pt CW and excluded income in sub-pt CX. In effect,
s BD 1(1) defines amounts of income as specific categories of income under pt C.
Legislation:
ITA 2007, s BD 1(1)
An amount is income of a person if it is their income under a provision in Part C (Income).
Net income is defined in s YA 1 by means of the method in which it is calculated under
s BC 4. For an example of the framework for the concept of income see the case study at 3.7.
For a detailed discussion on the calculation of income tax liability see Chapter 13.
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3.1 The Concept of Income
Income
Although s CA 1(1) specifically identifies amounts of income under pt C, it does not
comprehensively define “income” – instead it lists general categories of income. Categories of
income that are commonly encountered (eg, business income, personal income, and the like)
are legacies of the United Kingdom system providing for assessment under a number of
income schedules, including business profits. The New Zealand system lists these categories
in the subparts of pt C. However, under both systems there is a lack of a comprehensive
definition of “income”. The classification into types of income provides little more than a
convenient framework for discussing its aspects.
While the general categories of income in pt C are not comprehensive, s CA 1(2) does capture
as income anything that is income under ordinary concepts (ie, established under common
law). In effect, s CA 1(2) is the catch-all provision for the scope of income.
Legislation:
ITA 2007, s CA 1
Amounts specifically identified
(1)
An amount is income of a person if it is their income under a provision in this Part.
Ordinary meaning
(2)
An amount is also income of a person if it is their income under ordinary concepts.
The fact that income is not comprehensively defined, but rather formulated as a general list or
under ordinary concepts, does not mean there is no concept of income. Rather, the statutory
inclusion of the common law definition of income under ordinary concepts has ensured that
there is a concept of income.
Case:
Commissioner of Inland Revenue v Boyton (2001) 20 NZTC 17,389 (DC)
The taxpayer was a computer consultant, self-employed in 1998 and employed on salary and wages with two
different employers in 1999. The taxpayer was charged under s 143(1)(b) of the TAA 1994 with failing to file
tax returns for the 1998 and 1999 tax years. The taxpayer argued that the failure to file a tax return was due to
there being no definition of “income” in the ITA, and as a result the taxpayer did not know upon what he
should pay income tax.
The Court held that the taxpayer correctly recognised that there was no definition of “income” in the ITA.
However, there was no doubt that the taxpayer’s earnings came within the meaning of income under ordinary
concepts of taxation law, or of commerce, or of society in general. In addition, the meaning of “income” had
been a matter of settled law in the courts for many years. There was no doubt that the taxpayer’s earnings were
income in terms of common law.
As illustrated in Table 3.2, the ITA 2007 classifies income into four broad categories.
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Table 3.2 — Income Classifications
Income listed in pt C Income under Ordinary Concepts Exempt Income Excluded Income
(s CA 1(1))
(s CA 1(2))
(sub-pt CW)
(sub-pt CX)
The first two of these classifications are discussed in the following two sections of this
chapter. These are followed by a general analysis of the concepts and facets of assessable
income including the three features of income as described in Reid v Commissioner of Inland
Revenue (1983) 6 NZTC 61,624 (HC) at 61,629 (see 3.1.4). As exempt income and excluded
income are not included in assessable income they are itemised separately in sections 3.4 and
3.5 respectively.
3.1.3
General Categories of Income Listed in Part C of the ITA 2007
The seven general categories of income specifically defined in pt C of the ITA 2007 are:
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Income
•
•
3.1 The Concept of Income
Income from business or trade-like activities (sub-pt CB; see Chapter 4), eg income
from the operation of a business whether it be a trading or service, company or sole
proprietor. Business operations can include the sale of property, disposal of timber,
minerals, patents, or personal property;
Income from holding property (see Chapter 5). This can be divided into:
–
•
•
•
•
•
Non-equity (sub-pt CC; see Chapter 5) ie, leases, rents, commercial bills,
royalties, and the rights to the use of a film; and
–
Equity (sub-pt CD; see Chapter 7) ie, income from dividends;
Employee or contractor income (sub-pt CE; see Chapter 6) ie, employee income (wages,
salaries, bonuses and gratuities) or contractor income;
Income from living allowances, foreign superannuation, compensation, and government
grants (sub-pt CF; see Chapters 5 and 7) ie, benefits, pensions, compensation and
government grants;
Income from voluntary activities (sub-pt CO) is income of the person but is exempted
from income tax by s CW 62B (Voluntary activities).
Income from portfolio investment entities (sub-pt CP). Subpart CP applies when a multirate PIE attributes an amount of income, calculated under s HM 36 (Calculating amounts
attributed to investors), to a person who is an investor in the PIE; and
Attributed controlled foreign company (“CFC”) income (ss CQ 1-CQ 3) and foreign
investment fund (“FIF”) income (ss CQ 4-CQ 6; see Chapter 20).
Subpart CG states that recoveries of, eg depreciation, bad debts, losses and superannuation;
receipts from, eg insurance; and capital contributions are income. Adjustments for matching
rules and other specific regimes such as GST, finance leases, avoidance and non-market
transactions, and interest apportionment on thin capitalisation may also result in taxable
income under sub-pt CH. The treatment of income from insurance, superannuation funds,
petroleum mining, mineral mining and income specific to certain entities such as group and
amalgamated companies, statutory producer boards, Crown Research Institutes, Australian
wine producers, Māori authorities, non-resident shippers and film renters is covered in the
following subparts of pt C.
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3.1.4
Income under Ordinary Concepts
Section CA 1(2) provides that income includes anything that is income according to the
ordinary meaning of the word. As New Zealand’s income tax legislation leaves the term
“income” largely undefined, it has been left to the judiciary to determine what constitutes
“income” for tax purposes. In doing so, it has tended to favour “everyday usage” or “ordinary
concepts” over more fundamental principles. An indication of the ordinary meaning of this
term can be gained from case law.
Case:
Scott v Commissioner of Taxation (NSW) (1935) 35 SR (NSW) 215 (NSWSC)
Scott had been appointed Chairman of the Metropolitan Meat Industry Board for a term of five years at a
salary of £2,500 per annum. During that five years the Board was dissolved by an Act which also provided that
the members should cease to hold office, but should receive such compensation as they would have been
entitled to had their services been dispensed with otherwise than in accordance with the law. In an action for
compensation, Scott recovered the sum of £7,000. The Full Court (Jordan CJ, Stephen and Street JJ) held that
no part of this sum was assessable income. Jordan CJ held that the money paid to the Chairman whose Board
had been dissolved could not be regarded as “income” in the ordinary meaning of the phrase. Jordan CJ
observed that (at 219):
“… the word ‘income’ is not a term of art, and what form of receipts are comprehended within it,
and what principles are to be applied to ascertain how much of those receipts ought to be treated as
income, must be determined in accordance with the ordinary concepts and usages of mankind,
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3.1 The Concept of Income
Income
except in so far as the statute states or indicates an intention that receipts which are not income in
ordinary parlance are to be treated as income or that special rules are to be applied for arriving at
the taxable amount of receipts.”
A satisfactory definition of “income” remains elusive, if indeed it could be regarded as
achievable at all. According to Hannan (1946, at 1):
“The word ‘income’ is of such illusive import that it cannot be defined in precise
terms which would adequately meet legislative requirements. Why its meaning is
not to be found in any income tax statute is explained by the many shapes which
income may assume, and the illimitable variety of circumstances in which it may
be derived.”
Unfortunately case law has often led to definitions of income which, on close scrutiny,
contribute little to the interpretative solution. However, the courts have identified several
criteria that are considered to be the hallmarks of receipts of an income nature. The High
Court in Reid v Commissioner of Inland Revenue (1983) 6 NZTC 61,624 (HC) at 61,629
described the concept of income as comprising three features:
•
•
•
Income is something which comes in;
Periodicity, recurrence or regularity; and
Quality in the hands of the recipient.
Case:
Reid v Commissioner of Inland Revenue [1986] 1 NZLR 129 (CA) (NZT Casebook at [2.1.01])
The taxpayer enrolled in a primary teachers’ training course and received financial assistance in the form of a
student teacher allowance. Under the allowance the taxpayer received regular payments less PAYE tax
deductions and superannuation contributions on the assumption that the payments were assessable income.
The taxpayer undertook to serve in employment following completion of the training course. During the 1982
income year the taxpayer received $5,719 in allowances, yet claimed a tax refund. Inland Revenue disallowed
the refund claim on the grounds that the allowance was assessable. The High Court held the allowance was
income. The Court of Appeal overturned the High Court decision, finding the allowance was exempt income.
The allowance received was a regular periodical payment made to the taxpayer while attending training.
However, the allowance was in the nature of a bursary and therefore exempt.
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3.1.5
Income is Something Which Comes in
The first characteristic requires income to “come in”. An important feature of income is that it
is something which actually comes in: Tennant v Smith (Surveyor of Taxes) [1892] AC 150
(HL); Lambe v Inland Revenue Commissioners [1934] 1 KB 178. Income can only come in if
it is money or money’s worth. A gift that is not convertible into money or money’s worth is
not income. This doctrine is modified to include identifiable sums which have accrued and are
payable to the taxpayer where the taxpayer is assessable on an accruals as distinct from a cash
receipts basis. Mere increases in the value of assets held by the taxpayer are not income,
unless the assets are trading stock held by the taxpayer, in which event such an increase may
be assessable under certain circumstances (see Chapter 11).
Case:
Lambe v Inland Revenue Commissioners [1934] 1 KB 178 (NZT Casebook at [2.2.03])
The appellant taxpayer leased to North & Rose a clayworks located in Cornwall. To finance the lease the
appellant also provided North & Rose a loan to pay the lease. Subsequently North & Rose became embroiled
in financial difficulties and a receiver was appointed. The taxpayer had not received the owed interest on the
loan and it was stated before the Commissioners that it was doubtful he ever would receive it. The
Commissioners were of the opinion that the said sum, being payable in the year ending 5 April 1931, should
be included in the computation of the appellant’s total income from all sources for that year. It was contended
for the appellant that the interest should not be so included. The Court held that income was something that
actually comes in. The sum of interest was not income. Findlay J observed (at 182) that:
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Income
3.1 The Concept of Income
“Income may be of various sorts … but none the less the tax is a tax on income. It is a tax on what
in one form or another goes into a man’s pocket.”
It is a gain in money or money’s worth, derived by a person for services rendered, or derived
from an undertaking, property or a business. If a benefit is not convertible into money or
money’s worth, then it is considered not to be something which comes in and therefore cannot
be regarded as income: Commissioner of Taxation v Cooke (1980) 10 ATR 696 (FCA);
Dawson v Commissioner of Inland Revenue (1978) 3 NZTC 61,252 (SC) (NZT Casebook at
[2.2.01]).
Case:
Commissioner of Taxation v Cooke (1980) 10 ATR 696 (FCA) (NZT Casebook at [2.2.02])
The taxpayers were home delivery retailers of soft drinks who received free holidays from the drink
manufacturer. The holidays were non-transferable and could not be converted into cash. The Court held that
the benefit in the holidays did not amount to income under ordinary concepts because it was not convertible
into money or money’s worth. The Court (at 704-705) stated that:
“If a taxpayer receives a benefit which cannot be turned to pecuniary account, he has not received
income as that term is understood according to ordinary concepts and usages … If the receipt of an
item saves a taxpayer from incurring expenditure, the saving is not income: income is what comes
in, it is not what is saved from going out.”
However, a benefit such as this would be frequently caught under the FBT regime (see
Chapter 21).
Despite a concept of income “being something which comes in”, there are situations where
something does not come in but assessable income still results from the transaction. An
example of this is given in s CC 7(1) of the ITA 2007. This section applies when money is
borrowed for use in a business that is carried on in New Zealand and the consideration is not
interest, relief from an obligation or convertible into money. This commercial transaction is
still income to the lender despite not coming in or being in money or money’s worth.
3.1.6
Periodicity, Recurrence or Regularity
The second characteristic requires income to be periodic, recurring or regular. The major
determinant in many cases is the periodic nature of the payment. Income receipts are
frequently distinguishable from capital receipts on the basis of their recurrent or periodic
nature: Reid v Commissioner of Inland Revenue [1986] 1 NZLR 129 (CA). This is sometimes
referred to as the “income flow” concept.
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In Reid the Court of Appeal observed (at 136):
“If it has that quality of regularity or recurrence then the payments become part of
the receipts upon which the recipient may depend for his living expenses, just as in
the case of a salary or wage earner, annuitant or welfare beneficiary. But that in
itself is not enough and consideration must be given to the relationship between
the payer and payee and to the purpose of the payment, in order to determine the
quality of the payment in the hands of the payee.”
A gift is unlikely to be income if it is unusual for the recipient to receive gifts. However, some
non-recurrent and isolated receipts are income: Edwards (Inspector of Taxes) v Bairstow
[1956] AC 14 (HL), and Commissioner of Taxation v Myer Emporium Ltd (1987)
163 CLR 199. An isolated receipt will be treated as income where it falls within a category
that is traditionally recognised as income, such as interest. On occasion some receipts which
are not ordinarily income, such as instalments towards a purchase price and gifts, will be
income if they are sufficiently regular and frequent.
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3.1 The Concept of Income
3.1.7
Income
Quality in the Hands of the Recipient
The third characteristic looks at the quality of the receipt in the hands of the recipient. It
involves taking an overall view of the circumstances of the case to ascertain how and why the
receipt was made. A receipt may have different qualities depending on who is receiving it.
When examining the quality of a receipt in the hands of the recipient, consideration must be
given to the relationship between the person making the payment and the recipient, and the
purpose behind the payment: Reid v Commissioner of Inland Revenue [1986] 1 NZLR 129
(CA). A payment for a car would be income to a motor vehicle dealer, but unless repeated
regularly it would be a non-income receipt to a private person. This characteristic tends to be
the most important when deciding if a gift is assessable income.
As a general rule, gifts will not be income where the personal needs and qualities of the
recipient are the motivating factor for making the donation. A gift will not be income if it is a
personal gift made purely as a mark of affection, esteem or respect. However, a gift to a
worker will be assessable income if it is a relevant product of the taxpayer’s activities: G v
Commissioner of Inland Revenue [1961] NZLR 994 (SC).
Case:
G v Commissioner of Inland Revenue [1961] NZLR 994 (SC) (NZT Casebook at [2.3.01])
G had been preaching and receiving donations for seven or eight years prior to the income years in question. G
supported himself and his family upon the donations he received from assemblies and individuals. This was
his only means of financial support. The Court held that G was carrying on business and the gifts were income.
The Court recognised that higher principles motivated G in his preaching, but considered that G did intend that
his work would lead to gifts which he would accept and use for his support.
Case:
Scott v Federal Commissioner of Taxation (1966) 117 CLR 514 (HCA) (NZT Casebook at
[2.1.02])
A client gave an amount to a solicitor. The Court held that the amount given was a gift and not income as it
was made as a consequence of the personal regard the client had for the solicitor (as a family friend). The
amount was not for professional services carried out by the solicitor – all such services had been charged to,
and paid by, the client. The Court stated at 526 that “[w]hether or not a particular receipt is income depends
upon its quality in the hands of the recipient.”
Example 3.1
Gifts
A father makes a gift of $500 to his son who is a voluntary worker for a charitable organisation. The father
made this gift out of love and affection for his son. Therefore, the gift will not be assessable income of the son.
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Example 3.2
Loyalty Points
Loyal Customers Ltd intends to establish a customer loyalty programme by encouraging customers to use a
loyalty card. Cardholders will accumulate loyalty points in two ways namely, points per dollar spent on the
card and bonus points for shopping at particular retail outlets. Points are able to be accumulated and carried
forward, but expire after a certain period of time. Cardholders will be entitled to rewards from a catalogue.
Cardholders will not get cash in lieu of prizes.
Unlike Reid, where a bursary was used to defray the taxpayer’s personal expenses and was paid in respect of
his training at the teachers’ college, a prize from use of the card is a bonus to the cardholder and is not relied
on for living expenses. The receipt of prizes from points earned by using the card will not be income,
assuming the receipt of the prizes is irregular. If use of the card gave rise to the regular receipt of prizes there
would be a strong argument for finding that those prizes were income.
A detailed analysis of income under ordinary concepts and the cases which over time have
defined this concept is given in Gupta (2010).
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Income
3.1.8
3.1 The Concept of Income
Economic, Accounting and Legal Concepts of Income
Holmes (1999) suggests that “the broadest notion of income is psychic income, for which
consumption expenditure might, for practical reasons, be a proxy.” However, he argues (at
206) that:
“… a more theoretically robust surrogate, which takes account of the benefits that
arise from saving or wealth accumulation, is the foundation concept of income …
The foundation concept can also be viewed as changes in wealth prior to
consumption (Haig’s approach) or as a combination of consumption and changes
in net wealth over a period (Simons’s approach). Both interpretations of the
foundation concept of income incorporate movements in unrealised market
values.”
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Haig (1921) proposed two bases for measuring income: a consumption approach based on the
value of goods and services from which utility is obtained, or alternatively an income
approach based on money receipts plus non-monetary receipts and imputed income from the
recipient’s own efforts and assets. Simons (1938) breaks down Haig’s accrual of economic
power into the methods by which it can be applied either as consumption expenditure or
saving (ie, the net change in wealth after consumption). Economists have introduced criteria
such as periodicity, productivity and permanence to determine income. Holmes suggests these
features have influenced the legal concept of income and constricted the broad equity-based
notion of income.
The accounting discipline has traditionally narrowed down the foundation concept of income
to recognise only realised gains from market transactions. According to Holmes (2001, at 147)
the theoretical accounting notion of income can be described as the “incremental net worth
calculated periodically (typically, annually) throughout the life of an entity.” In the 1920s, due
to asset valuation difficulties, a desire for conservatism and the development of United States
tax law, accounting theory moved towards a narrower approach of income recognition based
on past transactions. Holmes (2001, at 571) observes that in more recent times “accountants
have adopted modified historic cost accounting to incorporate selected changes in asset and
liability values where no transaction has taken place.” While current practice is toward a
comprehensive measurement of income, it “lacks theoretical rigour because value changes are
incorporated on an ad hoc basis” (Holmes 2001, at 571). However, “accountants now
recognise the theoretical shortcomings of their notion of income. By adopting (at least in
principle) a comprehensive income approach, they are moving towards the foundation concept
of income” (Holmes 1999, at 206). A more detailed analysis of the interface between financial
accounting and tax (ie, legal) accounting, and more specifically the use of financial reporting
standards-based accounting for the preparation of tax returns, is given in Alley and James
(2005). Holmes (1999, at 205) developed an income pyramid (see Figure 3.1). He states (at
482):
“Income concepts can be viewed as a pyramid. As one moves from the broad
notion of psychic income (which corresponds with an individual’s well-being)
through the foundation and accounting concepts to the legal concept, the
interpretation of income continually narrows. More and more items are excluded
from income as one progresses from one discipline to the next and in doing so one
moves further away from the ideal taxation target. Taxation is based on the legal
concept of income – the concept farthest removed from the ideal in the income
pyramid.”
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3.1 The Concept of Income
Income
Figure 3.1 - Holmes’ Income Pyramid
Legal Concept
Economists’ Deviations
Accounting Concept
Economic Concept
The income pyramid comprises:
•
•
•
•
Legal concept: inflow periodicity, product of labour or property realisation separate
from source, profit making purpose or motive, ordinary meaning, convertible nonmonetary benefits.
Economists’ deviations: periodicity, productivity and permanence.
Accounting concept: market transaction, realised gains, selected unrealised gains.
Economic concept: unrealised value changes, consumption expenditure, psychic income.
It can be seen from this pyramid that the legal concept of income is much narrower than the
economic or accounting concepts, because, as Holmes states (1999, at 206):
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“… of the judicial requirement that income must not be recognised unless certain
features are present in the receipts or benefits that a person obtains, the principal
consequence of which is that many real economic gains or benefits fall outside the
artificial legal concept of income …
“The traditional legal interpretation of income by the courts has breached generally
agreed (at least by most economists) basis conditions for an income tax system
based on ability to pay or taxable capacity. The judicial interpretation of income
has failed the tests of horizontal equity (some gains are simply left out of the tax
base), vertical equity (excluded capital gains are allegedly largely derived by the
ex ante wealthy members of a society), neutrality (resources are diverted to
producing non-taxable gains), and inefficiencies (dead-weight costs to the
economy arise from the socially unproductive activity of converting what would
otherwise be taxable income into non-taxable gains).”
3.1.9
Income: An Artificial Construct
All receipts of money or money’s worth which come in to a taxpayer (ie, transactions giving
rise to inwards cash flow or gain) are to be considered as a basis or starting point for the
calculation of the taxpayer’s income tax liability under the ITA 2007. However, capital and
windfall gains are non-income transactions and do not form part of this income.
In order to tax the income of a taxpayer, and because income is not explicitly and
pragmatically defined, it is necessary to identify the transactions that make up the receipts of
the taxpayer, which together form their taxable income. The most important lists of income
are located in sub-pts CB to CV. However, if income is not captured within these lists it may
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Income
3.2 Income/Capital Distinction
still be income under ordinary concepts (s CA 1(2)), or foreign-sourced amounts of nonresident trustees (s HC 25) and therefore taxable income of the taxpayer.
To tax income it is necessary to arrive at a figure or specific amount that is taxable income.
However, unlike measuring the distance of the defined route from Auckland to Hamilton,
there is no “real” or “true” figure for reported earnings or taxable income. Taxable income can
only be estimated, valued, assessed and checked because of the lists and rules in the ITA 2007
and the cases decided in the courts – which guide and prescribe its creation, and the
framework, structure and prescribed method of calculation.
The concept of income used in the ITA 2007 excludes all transactions listed as exempt or
excluded in pts C, D and E. Because of the difficulty of defining income, Prebble (2002),
when discussing what he calls the “fictions of income tax”, points out that income tax law
generally taxes the results of legal transactions, rather than their underlying economic effect.
The concept of income is artificial because it taxes the legal forms that we use to represent
economic transactions. This is, he states, “because the legal substance of a transaction is a
simulacrum [an unreal semblance or a representation] of its economic substance, the problem
of residence and the problem of time”.
In accounting, the final decision-making process of calculating income has been described as
earnings management – arranging matters to achieve a predetermined result. This is often
regarded as undesirable and frowned upon. However, Dunmore argues that (2008, at 32):
“… not only is stamping it out impossible, but there are good reasons for accepting
that it will always occur …. Fraudulent reporting of results is unacceptable but
when several different fair reports are possible, managers would be derelict in their
duty if they did not consider the consequences of the alternatives.”
The absence of a “real” or “true” income figure creates the opportunity for earnings
management and the incentives to report a particular result creates the motivation.
3.2
Income/Capital Distinction
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Income tax is levied on income, which in general usage is also called revenue, and as we have
seen in the above discussion it is important to distinguish what is and is not income. A
significant class of non-income receipts are those of a capital nature. Where capital receipts
are to be taxed this must be specifically stated in the Acts, otherwise they are not income.
The distinction between income and capital is critical. Income or revenue amounts are
assessable without allowing for inflation; capital is not, irrespective of whether there is an
allowance for inflation. Frequently the distinction between capital and income is clear, but on
occasions it may not be. Distinguishing capital and income items is more critical for tax
purposes than it is for financial reporting, because of the quite different treatment they receive
under tax legislation.
As with the term income, “capital” is not specifically defined within the Acts and it is
therefore necessary to turn to the courts to find the ordinary meaning of the word. The concept
of “capital” was encapsulated in an analogy drawn by the case of Eisner v Macomber
252 US 189 (1919), where Pitney J observed (at 206):
“The fundamental relation of ‘capital’ to ‘income’ has been much discussed by
economists, the former being likened to the tree on the land, the latter to the fruit
or the crop; the former depicted as a reservoir supplied from springs, the latter as
the outlet stream to be measured by its flow during a period of time … Here we
have the essential matter; not a gain accruing to capital; not a growth or increment
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3.2 Income/Capital Distinction
Income
of value in the investment; but a gain, a profit, something of exchangeable value,
proceeding from the property, severed from the capital, however invested or
employed, and coming in, being ‘derived’ – that is received or drawn by the
recipient (the taxpayer) for his separate use, benefit and disposal – that is income
derived from property. Nothing else answers the description.”
The fruit tree analogy (also known as the “flow concept”) carries two distinct aspects. The
first is that where a receipt is the natural produce of a capital asset, it will be income even
where the notion of gain, which is an essential attribute of the concept of income, is absent.
The second is that a gain which is realised as a growth of the principal and not as a detached
sum is regarded as capital. To return to the analogy drawn in Eisner, if the tree is sold before
the fruit is picked, the sum received for selling the tree with the fruit attached is wholly
capital.
Capital can be defined as an item of wealth or an asset capable of producing wealth.
Buildings, land, plant and machinery, investments and intellectual property are all capital and
the rent, interest, royalties, dividends and other payments derived from them are income.
When the capital item is sold or realised it is a capital receipt and is not income.
Case:
AG Healing & Co Ltd v Commissioner of Inland Revenue [1964] NZLR 222 (SC) (NZT
Casebook at [2.4.01])
The taxpayer was granted by will an option to buy land. The option was exercised and the land sold the same
day for more than a 100 per cent profit. The Court held that the profit or gain made on the bounty of the will
by resale was not income. Wilson J observed the dicta of Rowlatt J in Ryall v Hoare [1923] 2 KB 447, and
approved the following quotation:
“Two kinds of emolument may be excluded from [the UK statutory equivalent of the NZ taxing
provision]. First, anything in the nature of capital accretion is excluded as being outside the scope
and meaning of these Acts confirmed by the usage of a century. For this reason, a casual profit
made on an isolated purchase and sale, unless merged with similar transactions in the carrying on of
a trade or business is not liable to tax. ‘Profits or gains’ … refer to interest or fruit as opposed to the
principal or root of the tree. The second class of cases to be excluded consists of gifts and receipts,
whether the emolument is from a gift inter vivos, or by will, or from finding an article of value, or
from winning a bet. All these cases must be ruled out because they are not profits or gains at all.”
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Case:
GPO Holdings Ltd v Commissioner of Inland Revenue (1996) 17 NZTC 12,429 (HC)
A trading profit of $7.641 million had accumulated over the five months between the execution of a sale and
purchase agreement for a business and its settlement. This was payable to the objector on settlement. The High
Court held that only $102,564 of the trading profit was taxable income. All but $102,564 of the $7.641 million
received on settlement was in relation to the purchase price of the business (capital) and not trading income
(revenue) in the hands of the taxpayer. Until a “nomination agreement” had been entered into, the taxpayer did
not have a legally enforceable right to receive trading profits. Fisher J stated (at 12,438):
“It is true that on [the nomination date] … the objector acquired a valuable right to trading profits
which had already accumulated by that date. But it is the character of receipts viewed from the
taxpayer’s viewpoint that matters: [Reid v Commissioner of Inland Revenue [1986] 1 NZLR 129
(CA)]. There is no necessary connection between the character which a payment had in relation to
the payer and its character as a receipt by the payee (ibid). From the objector’s viewpoint it is
immaterial whether the $7.641 million received on settlement represented profits accumulated by
the vendor, an original asset of the business, or the post-contract realisation of capital assets. From
its viewpoint the funds simply represented a portion of the business assets acquired conditionally
on [the nomination date]. Those assets were purchased in a single capital transaction in return for
the purchase price. It could not be said that in the hands of the objector any of those assets had the
character of income as at [the nomination date]. Any income had to be derived by the objector on or
after that date. Accordingly the Commissioner’s argument under this heading cannot be sustained.
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Income
3.2 Income/Capital Distinction
“Although I heard no argument to this effect, it seems to me that the position was quite different
when it came to the assumed trading profits of $102,564 derived by the business over the two days
between assignment and settlement.”
Case:
Commissioner of Inland Revenue v Fraser (1996) 17 NZTC 12,607 (CA) (NZT Casebook at
[2.4.04])
The taxpayer was a television current affairs presenter. In 1985 he entered into an exclusive arrangement with
an advertising agency whereby he agreed to become the front person for an advertising campaign for BNZ.
The taxpayer accepted an inducement payment from the agency on behalf of BNZ. He also signed deeds of
covenant in favour of BNZ for restraint of trade payments for the next three years. The CIR claimed that each
of the payments constituted income. The taxpayer argued that they were capital in nature. The Court of Appeal
held that the inducement payment was a capital receipt. The Court observed that:
•
•
•
•
Case:
To determine whether the inducement payment was capital or income the proper inquiry was as to the
character of the receipt. The receipt was not for future services, which the taxpayer would render, but
compensation for giving up his vocation as a television current affairs presenter.
For an inducement payment to be of a capital nature the payee need not leave behind all former
business pursuits or sources of income. It is enough that the payee gives up permanently or for a
considerable time an activity which was part of the structure of his or her revenue-earning capacity.
The amount of the inducement payment did not determine its character. The fact that it was not
refundable if the taxpayer died or the contract was otherwise terminated pointed to the nature of the
payment being capital.
Although the very nature of the contracted services meant that the taxpayer was constrained to an extent
from working for others or undertaking certain activities, this does not lead to the conclusion that the
payment was in the nature of income.
Union Steamship Co of NZ Ltd v Commissioner of Inland Revenue (1996) 17 NZTC 12,629
(CA) (NZT Casebook at [2.4.10])
A shipping company chartered three fully crewed ships for 10 years. By a separate agreement it was also
granted an option to purchase the vessels within five years. In 1975 it entered a further agreement to surrender
the option to purchase the ships in return for a payment of $750,000 to be paid by instalments over three years,
and a reduction in the annual fixed hire of the ships by $250,000 per annum for three years. The shipping
company included the entire $1.5 million in its accounts and return of income as “non-taxable income”. The
CIR maintained the payments represented taxable income as they were in reduction of charter fees.
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The Court of Appeal held that the payments were capital. The shipping company had surrendered the option in
exchange for the payment of $750,000 and the reduction in the hire charge. The agreement had to be construed
not in isolation but together with the prior agreements between the parties. There was an interest in the
continuance of the Deep Sea-Maritime bare boat charter and the Maritime-Union charter party, which was
assured once the option was surrendered by the shipping company. A payment which is capital in nature does
not acquire the character of revenue simply because it is paid by instalments and is set off against an obligation
to pay a trading expense.
Case:
Commissioner of Inland Revenue v Wattie & Lawrence [1999] 1 NZLR 529 (PC) (NZT
Casebook at [2.4.06])
On 31 May 1991 the taxpayer (Coopers & Lybrand) entered into a formal lease and a collateral deed providing
for a 12-year lease of commercial office space in central Auckland commencing in February 1992.
Accompanying the agreed rental for the office space and car parks was an agreement providing for an
inducement payment from the owners of the building. As between the partners of the taxpayer firm, the
inducement receipt of $5 million was paid into a suspense account. After allowance for losses and costs
associated with the move, the balance was paid out to the partners. The managing partner’s evidence was that
the firm’s actual exit costs came to a little under $2.9 million together with annual rent at $350 per square
metre. They included the monthly rent subsidy of $94,008.86 as assessable income but showed the $5 million
payment as a capital receipt. The CIR ruled that the receipt was of a revenue nature and therefore subject to the
provisions of the ITA. The taxpayer objected to this assessment. The Court of Appeal ruled in favour of the
taxpayer that an “inducement payment” for lease of a property by the taxpayer was a capital receipt: Wattie v
Commissioner of Inland Revenue (1997) 18 NZTC 13,297 (CA). The CIR appealed to the Privy Council.
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3.2 Income/Capital Distinction
Income
The Privy Council found for the taxpayer. The receipt was held to be an affair of capital and was therefore not
taxable. After examining the business and practical effect of the $5 million inducement paid to the taxpayer,
the payment was seen as being in the form of a “negative premium” and therefore capital in nature and not
subject to income tax. The CIR’s alternative argument that the inducement was a gain from a profit-making
venture and therefore assessable (ie, following the Australian High Court decision in Myer Emporium) failed
because the inducement was inextricably linked to the payment by the taxpayers of an above-market rental.
This meant that the undertaking was equal to the price and therefore there was no element of profit-making.
Before Wattie, and in the absence of special legislation, lease premiums had been traditionally
regarded as “capital” in New Zealand law as in the law of the United Kingdom, and Wattie
confirmed this view. From a practical and business point of view, the payment related to the
acquisition of a capital asset and it brought into existence an asset or an advantage for the
enduring benefit of a trade.
Case:
Case V8 (2001) 20 NZTC 10,092 (TRA)
The taxpayer operated a kiwifruit packhouse and storehouse. In September 1995, the taxpayer received an outof-court settlement of $270,000 for proceedings it brought against two companies: the supplier and the
manufacturer of an allegedly defective fruit processing machine. The terms of the settlement included a clause
denying liability. The taxpayer receipted the sum of $251,897, after payment of legal expenses, as a nontaxable capital receipt. The original claim within the statement of claim for the loss of profits was for an
excess of $1 million. The taxpayer contended that the principal issue was whether the settlement reflected the
pleadings or was a payment to save the costs of litigation, the latter being submitted as being a capital
payment. The TRA found for the CIR. The TRA held that the financial loss caused by the failure of machinery
to produce an expected quantity of goods was a loss of assessable income and any damages received were
therefore also assessable income: Omihi Lime Co v Commissioner of Inland Revenue [1964] NZLR 731 (SC)
followed.
There is no doubt that the settlement payment in Case V8 was essentially on account of loss of
business profits due to poor performance of the machine. The payment was mainly in
substitution for a loss of revenue that should have been earned by use of the machine. This
makes it revenue in character and assessable income.
Case:
Easy Park Ltd v Commissioner of Inland Revenue [2018] NZCA 296, (2018) 28 NZTC 23-066
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Easy Park was established for the sole purpose of undertaking commercial rental property investments. Easy
Park received from Whitcoulls 2011 Ltd $1.1 million for the early termination of a lease. The Court of Appeal
held that this receipt was revenue in nature as the lease was not part of the capital asset acquired by Easy Park,
the early termination of lease was an ordinary part of Easy Park’s business, and early termination did not alter
Easy Park’s underlying profit structure.
In addition, see 9.4.2(5) Guiding Principles from BP Australia Ltd v Commissioner of
Taxation (1965) 112 CLR 386 (PC) (NZT Casebook at [8.4.01]) and 9.4.2(8) Trustpower Ltd v
Commissioner of Inland Revenue [2016] NZSC 91, [2017] 1 NZLR 155 (NZT Casebook at
[15.2.03]) where case law and core provision statutes intersect.
Determining whether a payment or a receipt is of a capital or revenue nature will always be
difficult in borderline cases. Sir Wilfred Greene MR in Inland Revenue Commissioners v
British Salmson Aero Engines Ltd [1938] 2 KB 482 (CA) at 498, after referring to the fact that
many cases fall on the borderline, observed that the “spin of a coin” could decide the matter
almost as satisfactorily as an attempt to find reasons. However, the particular facts of each
case have to be taken into consideration, and it is frequently only on this basis that the income
versus capital issue can be solved.
Trombitas states (2006, at 94): “Courts in more modern times have been ‘maintaining’ the
established principles and there appear to be no new capital/revenue tests emerging in New
Zealand.”
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Income
3.3 Source and Residence
Trombitas (2006, at 94) agrees with Sir Wilfred Greene in British Salmson Aero Engines Ltd,
who does not consider that there (at 498):
“… is an easy solution because many of the cases that end up being litigated will
be close to the boundary. In terms of the proper approach, it is very fortunate that
our courts have provided extremely useful guidance in this area. It is a matter of
closely analysing all of the facts and legal arrangements, looking at the practical
business effect of a transaction and applying the established principles (as well as
any case law on point), in a dynamic way, to formulate an answer as to whether
something is capital or revenue. Although the subject matter is difficult, it is
reassuring to know that a principled and consistent framework has been developed
and endorsed by the New Zealand judiciary to enable us to deal with the (often)
difficult questions in a coherent manner.”
There are a number of categories of receipts that are recognised as being of a non-income
nature. These include: capital profits or gains; gambling wins; gifts and legacies; proceeds
from mutual transactions; private receipts from a hobby; and reimbursement of private
expenses (see Chapter 6).
3.3
3.3.1
Source and Residence
Scope and Purpose
The relevance of income to tax liability in New Zealand is closely related to the concept of
residence. New Zealand taxes residents on their worldwide income irrespective of the source
of that income and taxes non-residents only on that income which has its source in New
Zealand. This applies whether or not this income is remitted back to New Zealand. If you are
a non-resident of New Zealand who does not derive any income from a New Zealand source
the tax laws of this country will have no influence on your worldwide tax liability.
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Residence is a critical concept in tax legislation. In its more general meaning residence
identifies those persons belonging to the country. It is defined more strictly for tax purposes.
In most jurisdictions, persons defined as tax residents are taxed on their worldwide income.
Non-residents are usually taxed on their domestic income arising within the country in which
the income is earned. Therefore, the definition of residence in domestic legislation is an
essential determinant of liability to taxation. It is not the sole determinant. Definitions of
residence aim to delineate the taxing rights of a country. Bilateral double tax treaties allocate
taxing rights between countries in an attempt to prevent double taxation or double nontaxation.
Residents of New Zealand are liable for New Zealand income tax on income derived in New
Zealand or from any part of the world. Non-residents (ie, persons not resident in New
Zealand) are liable for New Zealand income tax only on income derived from New Zealand.
Sections BD 1(4) and BD 1(5) provide that an amount is not assessable income of a taxpayer
if it is foreign-sourced income and the taxpayer is a non-resident when it is derived.
The definition of “assessable income” in s BD 1(5) excludes “non-residents’ foreign-sourced
income” as defined in s BD 1(4).
Legislation:
(4)
ITA 2007, s BD 1(4)
An amount of income of a person is non-residents’ foreign-sourced income if—
(a)
the amount is a foreign-sourced amount; and
(b)
the person is a non-resident when it is derived; and
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3.3 Source and Residence
(c)
Income
the amount is not income of a trustee to which section HC 25(2) (Foreign-sourced amounts:
non-resident trustees) applies.
Section BD 1(4) provides the exclusion to the income source and residence rules. This is in
contrast to the repealed ITA 1994, which provided that New Zealand sourced income and the
worldwide income of New Zealand residents is the income to which the New Zealand income
tax system applies.
Legislation:
ITA 1994, s AA 2 (repealed)
A person who is resident in New Zealand or who has income from New Zealand is subject to this Act.
When ss BD 1(4)(c) and HC 25 are applied together they include amounts derived from
outside New Zealand by non-resident trustees as income and subject to the ITA 2007. Nonresidents’ foreign-sourced income is not assessable income, but s HC 25 (Foreign-sourced
amounts: non-resident trustees) is an exception. Non-resident trustees’ income is defined in
s HC 25.
Legislation:
ITA 2007, s HC 25(1) and (2)
Foreign-sourced amounts: non-resident trustees
When this section applies
(1)
This section applies when a non-resident trustee derives, as trustee income in an income year a
foreign-sourced amount that would be assessable income if derived by a person resident in New
Zealand.
Trustee income
(2)
Despite section BD 1(4)(a), (b), and (5)(c) (Income, exempt income, excluded income, non-residents’
foreign-sourced income, and assessable income), the amount is assessable income of the trustee if, at
any time in the income year,—
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(a)
a settlor of the trust is a New Zealand resident who is not a transitional resident; or
(b)
the trust is a superannuation fund; or
(c)
the trust is a testamentary trust or an inter vivos trust, of which—
(i)
a trustee is resident in New Zealand; and
(ii)
a settlor died resident in New Zealand (whether or not they died in the income year)
or the last surviving settlor was resident in New Zealand when that settlor ceased to
exist.
There are two exceptions to s HC 25(2). It does not apply if: the trustee is resident outside
New Zealand at all times and no settlement has been made on the trust after 17 December
1987; or settlement has been made on the trust after 17 December 1987 but it was made only
by a settlor who is not resident in New Zealand.
The test for determining whether a taxpayer is a resident in New Zealand is stated in s YD 1.
It is a twofold definition that defines when a taxpayer is both resident and non-resident.
3.3.2
Definition of Residence
Section YD 1 provides that individuals are resident in New Zealand if they:
•
•
•
Have a permanent place of abode in New Zealand; or
Are in New Zealand for more than 183 days in any 12-month period; or
Are away from New Zealand in the service of the New Zealand Government.
Individuals cease to be a resident in New Zealand if they:
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Income
•
•
•
•
3.3 Source and Residence
Are absent from New Zealand for more than 325 days in any 12-month period;
During that period of absence have at no time a permanent place of abode in New
Zealand;
Are not absent in the service of the Government of New Zealand; and
Are a non-resident seasonal worker.
The person is treated as not resident from the first of the 325 days until they are treated again
as resident under this section. A person present for any part of a day is deemed to be in New
Zealand for the whole of that day. The rules for determining tax residency for an individual in
New Zealand are illustrated in Figure 3.2 (Alley and Maples 2006, at 14):
Figure 3.2 - When is an Individual a New Zealand Tax Resident?
Do they have a permanent place
of abode?
[s YD 1(2)]
Yes
New Zealand Tax Resident
No
Deemed resident from first day
in NZ [s YD 1(4)]
No
Non-resident
No
Have they been in NZ for
183 days in the last 12 months?
[s YD1 (3)]
Yes
Non-resident from first day
absent [s YD 1(6)]
Yes
Have they been absent from NZ
for 325 days in the last
12 months?
[s YD 1(5)]
In relation to Figure 3.2, note that:
•
•
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•
An individual present for part of a day is deemed to be in New Zealand for whole of that
day (s YD 1(8)).
An individual absent from New Zealand on Government service is deemed to be a
resident in New Zealand during that absence (s YD 1(7)).
A non-resident seasonal worker is deemed to be a non-resident (s YD 1(11)). A nonresident seasonal worker means a non-resident person employed under the recognised
seasonal employment scheme to undertake work in New Zealand.
Under s YD 1, the “permanent place of abode” concept overcomes the arbitrariness of a test
based solely on the number of days spent in the country. A person is a New Zealand resident
if they have a permanent place of abode in New Zealand or if they have been personally
present in New Zealand for more than 183 days in any 12-month period (s YD 1(2)). It is an
either-or situation so that only one of those situations need apply for that person to be
adjudged a resident.
Residence commences from the first day the person was present in New Zealand during that
12-month period. The 12-month test period is not an income year or a calendar year. It is any
12-month period starting on any date (eg, the test period could be from 14 July in year 1 to
13 July in year 2). In counting the number of days of presence in New Zealand, part days are
included as days of presence. For example, if a person came to New Zealand on a flight
arriving at 8 pm, the whole of the day of arrival would be treated as a day of presence. A day
is a period of 24 hours finishing at midnight.
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3.3 Source and Residence
Example 3.3
Income
183-day Test for Residence
Ella, who had never been to New Zealand before, first arrived in New Zealand on 15 March for a working
holiday. She lived in a flat with other expatriates and took various casual jobs. Ella departed from New
Zealand on 4 July to return to her home country. She liked New Zealand so much that she returned on
3 October of the same year for a holiday, departing again on 22 December to spend Christmas with her family.
Ella does not have a permanent place of abode in New Zealand because her only connections with New
Zealand are two brief stays here, casual work and a bed in a flat. She has no enduring association with New
Zealand. However, Ella is present in New Zealand for a total of 193 days (112 days from 15 March to 4 July,
and 81 days from 3 October to 22 December) in the 12-month period commencing on 15 March. Because she
is present in New Zealand for more than 183 days, she is resident from 15 March. This example is continued
below under the discussion of the 325-day test.
Conversely, to be a non-resident a person must have been out of the country for more than
325 days in any 12-month period and must not have a permanent place of abode in New
Zealand (s YD 1(3)). Both criteria must apply.
The broadening of the definition appears to be driven by a desire to protect the revenue base.
It is easier to become a resident and subject to the tax laws than it is to become a non-resident
and fall outside the New Zealand tax laws applicable to residents. The fact that it only takes
183 days to become a resident, as compared to the 325 days to become a non-resident,
underlines the importance of the additional permanent place of abode test and the need for the
tie-breaker provision in double tax treaties.
An individual who is absent from New Zealand for more than 325 days in total in any
12-month period ceases to be resident. Residence ceases from the first day the person was
absent from New Zealand during that 12-month period. The 12-month test period is not an
income year or a calendar year. It is any 12-month period starting on any date. In counting the
number of days of absence from New Zealand, part days are not counted as days of absence;
eg if a person left New Zealand on a flight departing at 11 am, the day of departure would be
treated as a day of presence in New Zealand, not a day of absence. A day is a period of 24
hours finishing at midnight.
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Example 3.4
325-day Test for Non-Residence
Continuing from Example 3.3, Ella would cease to be a resident of New Zealand on 23 December. This is
because, assuming she does not return to New Zealand after that date, she will be absent from New Zealand
for a total of 365 days in the 12-month period commencing on 23 December. Because her days of absence
exceed 325, she is non-resident from 23 December. Ella will be liable to pay income tax on all the income she
derives, in New Zealand and overseas, during her period of residence in New Zealand (ie, from 15 March to
22 December). Outside that period, she will be liable for income tax only on income with a New Zealand
source. Because her period of residence overlaps two income years, she will be required to file two tax returns
– one for the period from 15 to 31 March, and one for the period from 1 April to 22 December.
The factors that are relevant in determining whether a person is a resident and remains a New
Zealand resident for tax purposes are covered in Inland Revenue’s Interpretation Statement
IS 14/01: Tax Residence. On 22 April 2020, Inland Revenue issued a public statement relating
to the unintended and unprecedented consequences for the tax residence rules caused by the
Covid-19 pandemic. These consequences are particularly relevant for people stranded in New
Zealand who were not intending to be a tax resident. For further information, see <https://
www.ird.govt.nz/covid-19/international/tax-residency>.
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Income
3.3.3
(1)
3.3 Source and Residence
Permanent Place of Abode
Inland Revenue Interpretation Statement IS 14/01 and Case Law
The increased significance of a permanent place of abode in the definition of residence means
that it is important to consider what is meant by this concept. In March 2014 the Interpretation
Statement IS 14/01: Tax Residence was released by the Public Rulings Unit of Inland
Revenue. This 88-page statement deals with the rules governing the residence of natural
persons (individuals), and the relationship between these rules and the residence articles
contained in New Zealand’s double taxation agreements. It explains the residence rules for
companies, the consequences of a company being a dual resident, and briefly discusses the
relationship of the company residence rules to the controlled foreign company (“CFC”)
regime. The final part deals with residence and the taxation regime for trusts.
The permanent place of abode test was introduced in 1980 as a consequence of the Supreme
Court decision in Geothermal Energy New Zealand Ltd v Commissioner of Inland Revenue
[1979] 2 NZLR 324 (SC). A personal presence in New Zealand test was introduced at the
same time. The courts had focused on the “home” as a place around which the taxpayer’s
domestic life revolved.
The report of the Valabh Committee recommended the introduction of a branch-equivalent
regime and a foreign investment fund (“FIF”) regime, and changes to the trust regime. These
changes were intended to reduce the numerous opportunities available to residents to avoid or
defer New Zealand tax by interposing foreign entities between themselves and incomeproducing assets. To support these changes, the Valabh Committee also recommended
changes to the residence rules.
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Accordingly, the permanent place of abode test was amended in 1988 so that someone will be
resident, despite anything else in the provision, if they have “a permanent place of abode in
New Zealand, whether or not they have a permanent place of abode outside New Zealand”
(emphasis added). This amendment was to ensure that the focus of the test is on the person’s
connections with New Zealand, rather than whether the person has closer connections with
New Zealand or another country. This was intended to make it more difficult to lose New
Zealand residence than it had been previously, when the test presumed that a person could
have only one permanent place of abode. (See [2.4] of the Valabh Committee report.)
It seems implicit in the Valabh Committee report that the committee considered that a
permanent place of abode test would require a dwelling as opposed to just links or ties with a
locality. The report noted that, under the previous statutory provisions, a person could “cease
to be a resident here by disposing of any permanent place of abode in New Zealand and
acquiring a permanent place of abode outside New Zealand” (at [2.4.5] of the Valabh
Committee report). See also [2.4.6], which refers to “disposing of one’s permanent place of
abode in New Zealand” (emphasis added).
It is important to note that under domestic law, a taxpayer can maintain similar ties, a
residence, a physical home, or a permanent place of abode in other countries but still be a
New Zealand resident for tax purposes. If the taxpayer has an enduring relationship in New
Zealand that is a permanent place of abode, the taxpayer will always be a resident of New
Zealand. This test overrides the provision relating to the number of days the taxpayer is in
New Zealand.
Determination of the existence of a permanent place of abode is a matter of fact. Guidance has
been provided in a number of cases.
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Case:
Income
Federal Commissioner of Taxation v Applegate (1979) 9 ATR 899 (FCA)
A solicitor had been asked by his employer to go to Port Vila (Vanuatu) for one or two years to establish a
branch office there. The taxpayer actually resided in Port Vila for about 18 months. The Federal Court of
Australia held that the taxpayer’s permanent place of abode during the relevant year was in Port Vila.
“Permanent place of abode” does not mean permanent in the sense that the taxpayer intends to live there for
the remainder of their life, since that would be equivalent to domicile. The term “permanent place of abode” is
something less than domicile. As tax is imposed on an annual basis, residency must also be determined on that
basis, so that an expressed intention to return to a country at some time in the future is not in itself decisive of
the question whether the taxpayer has a permanent place of abode in that country in the particular income year.
Case:
Case F138 (1984) 6 NZTC 60,237 (TRA)
A university lecturer was overseas for just less than 12 months and always intended to return to New Zealand.
The TRA held that he was a New Zealand resident as his permanent place of abode was New Zealand. Judge
Bathgate noted at 60,243, referring to the Applegate case:
“… that ‘permanent’ was also to be construed in the light of the context in which it was used; it
could have many shades of meaning. I regard it as the opposite to ‘temporary’ …”
Case:
Case U17 (1999) 19 NZTC 9,174 (TRA)
The taxpayer was a successful New Zealand businessman. After he separated from his wife he accepted a
position and moved to Singapore where he leased an apartment, opened a bank account, took out credit cards,
leased a car, secured the services of a local doctor and learnt to speak Malay. The taxpayer’s wife and children
remained in New Zealand in a home provided by the taxpayer. The taxpayer subsequently purchased a dairy
farm as an income-earning asset that provided employment for his wife and children and as an asset against
which he could borrow to finance his Singaporean business. The taxpayer made frequent trips back to New
Zealand and while in New Zealand he generally attended to business relating to a New Zealand company in
which he had an interest as a director. The CIR assessed the taxpayer as a resident in both New Zealand and
Singapore and as liable for tax at the higher New Zealand rate. The CIR contended that during the relevant
income years the taxpayer had maintained a permanent place of abode in New Zealand and that his economic
relations were closer to New Zealand than Singapore.
The TRA disagreed and held for the taxpayer. The taxpayer had abandoned his residence in New Zealand and
was wholly resident in Singapore between 1990 and 1994. The fact that the taxpayer kept assets, both real and
personal, in New Zealand was explained by his desire to provide for his family in New Zealand and to provide
an asset base against which he could finance his Singapore business. His frequent visits to New Zealand and
involvement with a New Zealand company did not detract from his assertion that he had given up his New
Zealand residence and become wholly resident in Singapore during the relevant period.
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Example 3.5
Residence
A New Zealand resident planned to work for an international organisation in the United States of America for
two years. The taxpayer did not intend to resign from their New Zealand job, but to take a leave of absence.
The taxpayer was also considering employment opportunities in the United States of America and Europe at
the end of the two years, as well as the option of returning to their New Zealand job. The taxpayer’s family
was to travel with him, and their Wellington house was to be rented out while they were away. The only
investment (other than the house) remaining in New Zealand was to be ongoing contributions for one year into
a Government Superannuation Scheme. Counting against a finding of a permanent place of abode were the
circumstances of the taxpayer’s absence (the period of their absence being of significant length), the fact that
their family were to go with them, and that they were to take most of their personal property. On the other
hand, the taxpayer was to retain strong associations with New Zealand throughout their absence. Most
importantly, the taxpayer was to have a job here ready for their return and a house available for their family to
live in. The taxpayer’s intention was to come back to New Zealand at the end of their two-year contract. Some
property was to be kept here. Although the family’s house was to be tenanted in their absence, it could still be
seen as being available to family members to live in. Accordingly, the taxpayer would be subject to tax in New
Zealand on their worldwide income. Whether they would be subject to tax in New Zealand depended upon the
operation of the New Zealand-United States double tax agreement (see TIB vol 11:10 (November 1999) at 34.
Similar examples are available in IS 14/01 at 25 onwards).
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Example 3.5 is distinguishable from Case U17 (1999) 19 NZTC 9,174 (TRA) as the taxpayer
in Case U17 was away from New Zealand for four years, and did not have employment in
New Zealand available to him during that time (although he did have a business interest in
New Zealand). He had also separated from his wife and his old home was not available to
him.
A “permanent place of abode” does not require that a dwelling be always vacant and available
for the person to live in. Rather, it requires that there is a dwelling in New Zealand which will
be available to the taxpayer as a home when (and if) that taxpayer needs it and that the
taxpayer intends to retain that connection on a durable basis with that locality: Case Q55
(1993) 15 NZTC 5,313 (TRA).
If the person’s leave of absence was for a period of three years, and the other facts were the
same, the conclusion would probably be that the taxpayer would not have a permanent place
of abode in New Zealand. However, an absence of three years would not on its own be
determinative. The facts of each situation must be weighed up. In another situation, a person
may have a permanent place of abode in New Zealand even though they are working overseas
for three years, because of the existence of other ties with New Zealand throughout the period
of absence.
New Zealand operates a permanent place of abode test together with the arbitrary number of
days test. The interpretation of permanent place of abode has changed significantly.
Case:
Case 10/2013 [2013] NZTRA 10, (2013) 26 NZTC 2-009
The disputant joined the New Zealand Army in 1978 and served for 25 ½ years. In 2002 while serving in the
SAS in Afghanistan his vehicle hit a landmine and he lost a leg below the knee. He was married in May 1981
and separated in August 1994. The couple had four children. In 1996 his wife wanted to purchase a larger
property but did not have the finance. Jason agreed to put his name on the certificate of title so that she could
obtain a mortgage. She subsequently purchased a property (the Esplanade property) and the disputant
contributed to the mortgage payments in lieu of paying child support.
In 1998 the disputant agreed to buy his ex-wife’s share in the Esplanade property and agreed to his name going
on the certificate of title to assist her mortgage application. After 1998 the Esplanade property was rented on a
periodic tenancy basis. In 2000 he formed a partnership with his ex-wife to own rental properties. During the
2006 tax year, the Esplanade property was transferred to an LAQC in which the disputant was a director and
held one share.
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Following his retirement from the Army, the disputant’s employment involved security work in countries such
as Iraq. His employment had no association with New Zealand and he intended to eventually buy a house in
Australia and settle there.
In the three years and nine months between July 2004 and 31 March 2007, he returned for visits but spent less
than 42 days in any 12 months in New Zealand. He also had holidays with his ex-wife and children in other
countries.
The disputant’s ex-wife was in effect his financial advisor and business partner. She held powers of attorney
and managed his affairs in New Zealand. Her address was his contact address in New Zealand.
The disputant’s pay from his Iraqi employment in the relevant years went into a Fort Worth, Texas bank
account. His ex-wife operated a debit card on this account and apart from the disputant’s holiday and
miscellaneous expenses in Iraq, all the disputant’s income continued to be spent in New Zealand (with his
knowledge and approval) either on child support and expenses for the children or in relation to his property
investments.
The disputant continued to maintain bank accounts in New Zealand for mortgage payments but no other bank
accounts or credit card. He had a superannuation fund which he could not access until he was 60 and a New
Zealand life insurance policy.
The dispute covered the tax years 31 March 2004 to 31 March 2007. The CIR submitted that the disputant was
still a New Zealand resident by virtue of having a permanent place of abode in New Zealand.
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Discussion and decision
Place of abode
In the 2004 and 2005 tax years the disputant owned the Esplanade property which he could have lived in. In
August 2005 for tax purposes, to assist the disputant’s wife, this property was transferred to a company in
which the disputant was a director and held one share. The property was situated in a locality where the
disputant had continuing family and other economic ties.
Employment
His employment had no association with New Zealand. In the 12-month period from July 2003 the disputant
was employed in Papua New Guinea. In Iraq he was employed on 13-month contracts. The contract was rolled
over regularly.
Intention
The length of time which he has spent out of New Zealand favours the disputant’s position that he did intend
to leave New Zealand permanently in 2003, but it was not determinative.
Continuity and duration of presence in New Zealand
In the three years and nine months between July 2004 and 31 March 2007 the disputant remained outside New
Zealand for more than 325 days in any 12-month period; despite returning for visits, principally to see his
family, every five to six months.
Family ties
The disputant endeavoured to speak to his children every Sunday while he was in Iraq. When in New Zealand
he spent two to five days with his ex-wife and children (his visits were on average about two weeks). He also
had holidays with them in other countries. The disputant continued to pay child support and other expenses for
the children in this period. The taxpayer submitted that meeting a person’s moral obligation by the payment of
child support is not sufficient to establish a permanent place of abode and referred to the decision of Judge
Willy in Case U17 (1999) 19 NZTC 9,174 (TRA). In that case however, the taxpayer had been estranged from
his children.
Economic ties
The disputant’s ex-wife was in effect the disputant’s financial advisor and business partner. She held powers
of attorney and managed his affairs in New Zealand. The disputant’s pay from his Iraqi employment went into
his Fort Worth bank account. His ex-wife operated a debit card on this account and apart from the disputant’s
holiday and miscellaneous expenses in Iraq, on the evidence, all the disputant’s income continued to be spent
in New Zealand.
Differentiation from Case U17
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In Case 10/2013 the disputant’s property investments were more closely linked to New Zealand because of his
ongoing business relationship with his ex-wife to whom he had provided support by agreeing to be on the title
to various properties and permitting the shareholding in the LAQC to be structured so as to enable her to claim
the tax losses. He had investments in the Esplanade property and the rental property partnership before he left
the country. He continued to invest in New Zealand and in the 2006 tax year he purchased two bare blocks of
land (on his ex-wife’s advice) and became a shareholder in the LAQC.
Conclusion
Judge Sinclair held that the disputant continued to have a strong and enduring relationship with New Zealand
in the relevant tax years. He continued to have an available dwelling to return to and maintained close family
and financial ties to this country. Taking into account all the matters discussed Judge Sinclair was of the view
that the disputant had a permanent place of abode in New Zealand in the tax years of 2004 to 2007.
However, Case 10/2013, was successfully appealed to the High Court. See Case: Diamond v Commissioner of
Inland Revenue [2014] NZHC 1935, (2014) 26 NZTC 21-093; Commissioner of Inland Revenue v Diamond
[2015] NZCA 613, (2015) 27 NZTC 22-035 which follows after the summary of IS 14/01.
Following the decision of the Court of Appeal, Inland Revenue released Interpretation
Statement IS 16/03: Tax Residence. IS 16/03 provides further analysis relevant to these cases
and replaces IS 14/01, summarised below.
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3.3 Source and Residence
The requirement for a person to have a dwelling in New Zealand does not mean that they must
own, rent or otherwise control the dwelling. The focus is on whether there is a dwelling that
can objectively be said to be able to be used by the person as a place of abode. Ownership or
control of the dwelling significantly assists in establishing that the person would be able to use
the dwelling as a place of abode. However, the person may be able to use a dwelling even
though he or she does not own it – eg, where the property is held in a family trust or owned by
a family company (eg, as in Case 10/2013). Similarly, the dwelling may be owned by a family
member in circumstances where it would be able to be used by the taxpayer as a place of
abode: eg, see Case F139 (1984) 6 NZTC 60,245 (TRA) and Case H97 (1986) 8 NZTC 664
(TRA).
In addition, the requirement does not mean that the place of abode must be vacant or able to
be occupied immediately. A place of abode can be a person’s permanent place of abode even
if it is rented to or otherwise used by someone else while the person is residing in a foreign
jurisdiction: eg, see Case Q55 (1993) 15 NZTC 5,313 (TRA), Case 10/2013, Case F138
(1984) 6 NZTC 60,237 (TRA), Case J98 (1987) 9 NZTC 1,555 (TRA) and Case J41 (1987)
9 NZTC 1,240 (TRA).
In Case F138 the taxpayer rented his house out, but retained the right to possession on
30 days’ notice. In Case 10/2013 the dwelling that was considered available to the taxpayer to
reside in was an investment property rented out on a periodic tenancy. A property rented out
on a fixed-term tenancy could also potentially be regarded as a dwelling that the owner (or
some other person) could use as a place of abode, and that may therefore potentially be their
permanent place of abode. For example, in Case Q55, the taxpayer’s home was rented out
under a fixed-term tenancy and was held to be his permanent place of abode. It is
acknowledged that in that case the taxpayer and his wife timed their return to New Zealand to
be a few days after the expiry of the tenancy, ensuring that the house would be available for
them to reoccupy on their return.
In establishing whether a person’s place of abode in New Zealand is their permanent place of
abode, the consideration is not limited to factors occurring within the relevant income year. It
is appropriate to consider the person’s past and likely future association with New Zealand
and with the place of abode (Case Q55).
To determine whether a place of abode is a person’s permanent place of abode, IS 14/01 states
that two factors must be considered:
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•
•
the continuity and duration of the person’s presence in New Zealand; and
the durability of the person’s association with their place of abode here (which is
assessed by looking at the totality of the circumstances).
(Case Q55.)
Consideration of the durability of a person’s association with a place of abode involves an
examination of the extent and strength of the attachments that the person has established and
maintained in New Zealand. Applegate, Case H97, Case Q55, Case F138, Case J98, Case
U17 and Case 10/2013 establish that some of the material factors to be considered when
assessing whether a person has a durable association with a place of abode such that it can be
regarded as their permanent place of abode, are:
(a)
the nature and use of the dwelling and the person’s connection with the dwelling
(ownership, past use and intended future use);
(b)
the person’s intentions (to stay in New Zealand or move overseas. Is what happened
different to what was intended?);
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(c)
family and social ties (location of family and friends and other social ties such as
memberships of clubs etc);
(d)
employment, business interests and economic ties;
(e)
personal property; and
(f)
any other factors that shed light on whether the place of abode is the person’s
permanent place of abode.
IS 14/01, after discussing each of these factors, summarises the rules for a permanent place of
abode in New Zealand as:
•
A person must have a dwelling in New Zealand to have a permanent place of abode
here. However, the existence of a dwelling in which the person could live will not, of
itself, give rise to tax residence in New Zealand.
A place of abode will be a person’s permanent place of abode if it is a lasting or
enduring place where they usually live, or a place in which they can live or dwell when
required, in a locality with which they have a durable connection and that is a current
focal point of their living. To be a permanent place of abode the dwelling must be a
place that the person is able and likely to live on an enduring rather than temporary
basis.
To determine whether a place of abode is a person’s permanent place of abode, the
continuity and duration of the person’s presence in New Zealand and the durability of
the person’s association with their place of abode here must be considered.
To determine whether a person has a durable association with their place of abode, the
person’s overall connections with their place of abode and with New Zealand must be
weighed up. It is then necessary to evaluate the extent to which those connections
indicate that the person has an enduring relationship with their place of abode here, such
that it can be considered to be their permanent place of abode (at 24).
•
•
•
Case:
Diamond v Commissioner of Inland Revenue [2014] NZHC 1935, (2014) 26 NZTC 21-093
The principal issue
The principal issue raised on appeal to the High Court was whether the TRA’s approach to the meaning of a
“permanent place of abode in New Zealand” was correct.
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Facts
The taxpayer Mr Diamond was born in New Zealand in 1960 and is a New Zealand citizen. From 1978 until
June 2003, Mr Diamond served in the New Zealand Army. After his retirement he worked in Papua New
Guinea as a security consultant with AusAid. Between July and October 2004 Mr Diamond holidayed and
worked in Queensland. He then worked until 2012 as a security guard in Iraq employed by DynCorp a United
States Corporation. More recently he lived in Australia. Mr Diamond, who the TRA assessed as a credible
witness, said in June 2003 his intention was to leave New Zealand permanently, and he had no intention of
returning.
Mr Diamond married his wife in 1981 and they lived in army accommodation. They separated in August 1994
when Mrs Diamond moved to Ngaruawahia with their children. However Mrs Diamond had direct access to
Mr Diamond’s United States bank account into which his Iraq income was paid. Mrs Diamond managed
Mr Diamond’s financial affairs in New Zealand. She held an Enduring Power of Attorney in relation to his
personal care and welfare. Mrs Diamond’s home address in Ngaruawahia was Mr Diamond’s contact address
for such as passenger arrival and departure cards, pay slips from his employer in Iraq and other documentation.
In 2006 Mr Diamond formed a relationship with a New Zealand woman he met at the Gallipoli
commemorations that year. Although the relationship did not last, a child was born. Mrs Diamond arranged for
maintenance payments to be made for that child from Mr Diamond’s United States bank account.
During the tax years in question (2004 to 2009) Mr Diamond visited New Zealand every five or six months,
staying with Mrs Diamond for between two to five days to see his children. He would also visit his mother,
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3.3 Source and Residence
other family and friends. During those years nearly all of Mr Diamond’s income was spent in New Zealand,
either to support his wife in providing for their children’s living expenses or to discharge mortgage obligations
on the various properties he owned during this period.
Mr and Mrs Diamond’s marriage was dissolved and relationship property matters were settled in March 2009,
when he made a will appointing his former wife as his sole executor and trustee.
The CIR contended that Mr Diamond’s permanent place of abode in New Zealand was at 24 Waikato
Esplanade, Ngaruawahia. He came to own that property in 1996 because when Mrs Diamond moved to
Ngaruawahia the house she first purchased was too small. She sold it and purchased the Waikato Esplanade
property. Mr and Mrs Diamond’s names were put on the title because the bank would not lend to her alone.
Instead of paying child support, Mr Diamond paid half the mortgage. Mrs Diamond lived at that address with
their four children. Mr Diamond did not. In 1998 Mrs Diamond moved house. Mr Diamond appeared to cash
up some army superannuation. Mrs Diamond contributed her share of that superannuation to purchase her new
property while Mr Diamond bought out her share in the Waikato Esplanade property, which was then rented
out and held by Mr Diamond as an investment property.
Mr Diamond also owns other real property in New Zealand; two blocks of inherited communally owned Māori
land; two blocks of bare land; and a half share of a property in Raglan jointly with Mrs Diamond. In 2000
Mrs Diamond formed a partnership with Mr Diamond to own rental properties. In 2005 Mrs Diamond
incorporated a company to own the Waikato Esplanade property and another property. Mr Diamond is the
beneficial owner of the Waikato Esplanade property and half the other property.
The challenged TRA decision
The TRA determined Mr Diamond had an available dwelling the Esplanade property and although rented out,
as beneficial owner it was available to him. The TRA in coming to its decision relied heavily on Judge
Barber’s reasoning in Case Q55 (1993) 15 NZTC 5,313 (TRA). In the TRA case Judge Sinclair concluded (at
[77]):
“While there are some factors supporting the disputant’s position I consider looking at the
circumstances overall, that the disputant continued to have a strong and enduring relationship with
New Zealand in the relevant tax years. He continued to have an available dwelling to return to and
maintained close family and financial ties to this country … I am of the view that the disputant had
a permanent place of abode in New Zealand in the tax years ending 31 March 2004, 31 March
2005, 31 March 2006 and 31 March 2007.”
The application of Case Q55 to the Diamond Case
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Clifford J for the High Court found that Case Q55 is not authority for the approach taken by the CIR in this
case. Clifford J’s view is that Case Q55 is authority for the proposition that a person’s permanent place of
abode in New Zealand will not cease to have that character merely because whilst the person is outside New
Zealand for a period greater than the statutory deeming period (183 days), that dwelling is rented out. The
dwelling can maintain its character as the person’s permanent place of abode, dependent on the particular
factual circumstances notwithstanding that fact. His Honour noted that nowhere in Case Q55 is it suggested
that a permanent place of abode in New Zealand may be a house that the taxpayer has never lived in and that
the application of the test involves some assessment of the likelihood of the taxpayer returning to New Zealand
and taking up residence in that house.
Clifford J considered the ordinary meaning of “to have a permanent place of abode in New Zealand” is “to
have a home in New Zealand”. In Clifford J’s view the significance of an appropriate degree of permanence is
emphasised by the meaning of the noun “abode” being itself that of an habitual residence, a house or home.
Mr Diamond had at no time lived at the Waikato Esplanade property and for so long as he owned that property
himself he had rented it out to others. The property was not Mr Diamond’s dwelling, or a home in New
Zealand.
The observations of Fisher J in Federal Commissioner of Taxation v Applegate (1979) 9 ATR 899 (FCA) were
quoted by Clifford J who concluded that the meaning of “permanent place of abode” is that it is Mr Diamond’s
fixed and habitual place of abode. The significance of an appropriate degree of permanence is emphasised by
the meaning of the noun “abode” being itself that of an habitual residence, a house or home. Material factors
were the continuity of Mr Diamond’s presence, the duration of his presence and the durability of his
association with the particular place.
The High Court’s decision
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3.3 Source and Residence
Income
Given that Mr Diamond has never lived at 24 Waikato Esplanade and for as long as he has owned it he has
rented it out to others, including during the relevant tax years, this property is not, in the ordinary sense of the
meaning of those words, a permanent place of abode Mr Diamond has in New Zealand. That is, for
Mr Diamond, 24 Waikato Esplanade is not a dwelling, or a home, in New Zealand.
The Waikato Esplanade property had never been Mr Diamond’s home, it was not intended by him to be his
home; it was never lived in by him; and it was purely used for investment for nearly 20 years. Mr Diamond did
have other ongoing personal connections with New Zealand but in the absence of the property having the
characteristic of a permanent place of abode those connections did not alter the Court’s conclusion that
Mr Diamond was not for tax purposes a New Zealand resident.
The TRA decision was based on the proposition that the two-stage approach of Case Q55 applied to this case.
Clifford J concluded that as a matter of law it did not. He then considered whether there was any other basis
for the proposition that, during the relevant tax years, Mr Diamond had a permanent place of abode in New
Zealand so as to make him resident for tax purposes by reason of that fact. He again concluded that there was
not; and allowed the appeal.
It was therefore not necessary to consider the shortfall penalty. However Clifford J stated that as counsel for
the respondent had acknowledged that this was the first time the CIR had approached the application of
s OE 1(1) (now s YD 1) in this way, and the inherent complexity of these issues, he would have had little
difficulty in concluding that Mr Diamond had not taken an “unacceptable position”. Clifford J stated he saw
no reason why costs should not follow.
The Court of Appeal’s decision
Given that Mr Diamond never lived at the address in question and rented it to others, including during the
relevant tax years, the property was not a permanent place of abode for him in New Zealand. As such, the
property was not a dwelling, or a home, in New Zealand for Mr Diamond.
Mr Diamond did have other ongoing personal connections with New Zealand. However, in the absence of the
address having any characteristics of a permanent place of abode for Mr Diamond, those connections did not
alter the analysis of a permanent place of abode.
Case:
Van Uden v Commissioner of Inland Revenue [2017] NZHC 2554, (2017) 28 NZTC 23-037
Mr Van Uden, a Master mariner, had spent over 40 years at sea working for an overseas shipping company
and on average was at sea for approximately eight months each year.
Despite being at sea for long periods, Mr Van Uden had a permanent place of abode in New Zealand. The
High Court applied the Diamond test (Commissioner of Inland Revenue v Diamond [2015] NZCA 613, (2015)
27 NZTC 22-035 (NZT Casebook at [2.5.01]) and held that the house was indefinitely available to the taxpayer
and the spouse when he returned to New Zealand. An appeal to the Court of Appeal was dismissed, see van
Uden v Commissioner of Inland Revenue [2018] NZCA 487, (2018) 28 NZTC 23-081; leave to appeal to the
Supreme Court was dismissed, see van Uden v Commissioner of Inland Revenue [2019] NZSC 29, (2019)
29 NZTC 24-004.
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(2)
OECD Model Tax Convention on Income and Capital
The centre of vital interests test involves evaluating an individual’s personal and economic
ties to determine to which country they are closer. The OECD commentary notes that this test
should include an examination of the individual’s family and social relations, his or her
occupation(s), his or her political, cultural, or other activities, his or her place of business, and
the place from which he or she administers his or her property. This test can be fairly
objective and the factors listed above may occur in both countries.
The OECD commentary states:
“The circumstances must be examined as a whole, but it would be nevertheless
obvious that considerations based on the personal aspects of the individual must
receive special attention. If a person who has a home in one State sets up a second
in the other State while retaining the first, the fact that he retains the first in the
environment where he has always lived, where he has worked, and where he has
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Income
3.3 Source and Residence
his family and possessions, can, together with other elements, go to demonstrate
that he has retained his center of vital interests in the first State.”
The “centre of vital interests” test when applied with a “number of days” test is the residency
rule which has gained international understanding and acceptance.
A detailed analysis of the concept of “residence” in the global context in which individuals
now operate together with a comparison with the Australian definition of residence is
available in Alley, Bentley and James (2001).
(3)
Tax Residence versus Immigration Status
The rules for determining a person’s tax residence should not be confused with the rules
relating to a person’s immigration status (permanent residence). The rules used to determine a
person’s residence for tax purposes are completely independent and separate from the
immigration rules in New Zealand. If a person has permanent residence in New Zealand this
does not necessarily mean that they are a tax resident, and vice versa.
3.3.4
Residence of Companies
The source of income rules that apply to New Zealand tax residents apply equally to
individuals, companies and trusts. Residents of New Zealand are liable for New Zealand
income tax on income derived from any part of the world. This applies whether or not this
income is remitted back to New Zealand. Non-residents are liable for New Zealand income
tax only on income derived from New Zealand (s BD 1(4)).
A company is resident in New Zealand if (s YD 2(1)):
•
•
•
•
It is incorporated in New Zealand;
Its head office is in New Zealand;
Its centre of management is in New Zealand; or
Its directors, in their capacity as directors, exercise control of the company in New
Zealand, even if the directors’ decision making also occurs outside New Zealand.
It is necessary for only one of these criteria to apply for a company to be a resident of New
Zealand. Consequently, a company can be resident even if it is not incorporated in New
Zealand and/or does not have its head office in New Zealand (s YD 2(1)). A company that is
not resident in New Zealand is deemed to be a non-resident (or foreign) company. The
concept of residence for a company and trust are discussed in Chapters 15 and 20.
Copyright © 2022. Thomson Reuters New Zealand Ltd. All rights reserved.
Case:
Case N28 (1991) 13 NZTC 3,242 (TRA) (NZT Casebook at [12.3.01])
A private company incorporated in Papua New Guinea (“PNG”) was a wholly-owned subsidiary of a New
Zealand-based company, which was incorporated in New Zealand but its physical activities and work were
carried out mainly, if not wholly, in PNG as a forestry management operation. The TRA held that the
legislation looked more to the centre of the day-to-day activities, the reality of carrying on business or the
administrative function to see where the head office of the company was situated. The administrative
management is not the same as management per se. The focus on the actual place of management is important.
The centre of the taxpayer’s administrative management was at all times in PNG. The actual carrying out of
decisions wherever made was executed in PNG. That is where they were administered from, so that was the
centre of the taxpayer’s administrative management. At all material times the taxpayer was not a resident in
New Zealand.
Whether the “centre of management” test deems a particular company that is not registered in
New Zealand and has no head office or directors acting in New Zealand as a resident company
depends on all the facts in the particular circumstances.
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3.3 Source and Residence
Case:
Income
New Zealand Forest Products Finance NV v Commissioner of Inland Revenue [1995]
2 NZLR 357 (HC)
A wholly-owned subsidiary of New Zealand Forest Products Ltd (“NZFP”) was incorporated and registered in
the Netherlands Antilles. The board, consisting of three directors, held all its meetings outside New Zealand.
One of the directors was also a director of the parent company, NZFP. Although the company’s articles of
association gave NZFP the power to remove directors, NZFP did not have the power to direct them how to
vote. The company’s shareholder meetings took place in the Netherlands Antilles. The ongoing administration
of the company was carried out by a trust company (unconnected with NZFP or its subsidiaries) resident in the
Netherlands Antilles. The High Court applied the test in De Beers Consolidated Mines Ltd v Howe (Surveyor
of Taxes) [1906] AC 455 (HL) (NZT Casebook at [12.3.02]) and held that the company was not resident in
New Zealand because:
•
•
•
3.3.5
All decisions by the directors were taken outside New Zealand;
The essential management functions of the company took place outside New Zealand; and
All shareholder meetings took place outside New Zealand.
Tax Holiday for New Migrants
From 1 April 2006, people arriving to live in New Zealand who have not been a tax-resident
in New Zealand during the last 10 years (transitional residents) may qualify for a temporary
tax exemption on qualifying foreign income. All foreign-sourced income will be exempt,
except for employment income connected with employment performed while in New Zealand
and income from services. The exemption starts from the first day of the month in which they
acquire a permanent place of abode in New Zealand, and lasts a further 48 months (four years)
(s HR 8).
3.3.6
Residence and the Concept of Income
Critical in deciding which assessable income becomes taxable are the problems of time and
residence (ie, source of income). Prebble (2002) observes that income is the result of people’s
transactions with one another, and due to the difficulty in measuring the underlying economic
substance of the transaction, it is the legal substance that the law taxes.
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Figures 3.2 and 3.3 illustrate the interaction and relevance of the residency rules to the
concepts of income for New Zealand. The larger square symbolises the world and the smaller
rectangle inside this square represents New Zealand. A resident taxpayer of New Zealand is
liable for New Zealand income tax on income sourced from any part of the world including
New Zealand (see 3.3.1). The resident taxpayer’s assessable income is represented by the
entire circle (income sourced from within New Zealand and from the rest of the world).
Annual gross income is that portion of the circle that occurs during the current income year.
When assessable income is allocated to the particular current income tax year it becomes
annual gross income. When looking at the timing of income, assessable income can therefore
be broken down into that which relates to the following year, the current year (whereby it
becomes annual gross income) and the previous year.
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Income
3.3 Source and Residence
Figure 3.3 - Concepts of Income: Resident Taxpayer
World
Assessable
income
Timing
of
Income
New Zealand
Following Income year 3
Annual gross
income
Current
Income year 2
Previous
Income year 1
Resident
taxpayer
World
New Zealand
World
Source of income
Copyright © 2022. Thomson Reuters New Zealand Ltd. All rights reserved.
The non-resident taxpayer is only liable for New Zealand tax on the income sourced in New
Zealand. A non-resident taxpayer’s assessable income is represented by that portion of the
shaded circle that exists inside New Zealand (see Figure 3.4). Non-residents’ foreign-sourced
income is represented by that part of the circle that is outside New Zealand.
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111
3.4 Exempt Income
Income
Figure 3.4 - Concepts of Income: Non-Resident Taxpayer
World
Timing
of
Inc om e
Ne w Zea la nd
Nonres idents '
foreigns ourced
inc om e
Non-resident
t ax pay er
Annual
gross
inc ome
F ollowing
Inc ome y ear 3
Current
Inc ome y ear 2
P revi ous
Inc ome y ear 1
As s ess able
inc ome
World
New Ze ala nd
Wo rld
Sour ce of Incom e
3.4
Exempt Income
3.4.1
Meaning and Scope
Exempt income is excluded from assessable income by s BD 1(2). Exempt income covers
amounts that would normally be considered to be income, but are exempted by virtue of the
nature of the income or the person who receives the income. Items may be exempt income
only if they would otherwise have been assessable income. This ensures there is no overlap
between items of exempt income and capital gains because capital gains do not fit within the
scope of assessable income. It is also intended that the exempt items are gross items, as no
deductions are allowed (s DA 2(3)).
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Exempt income is listed in sub-pt CW and grouped under the following headings:
•
•
•
•
•
•
•
•
•
•
112
Income from business or trade-like activities;
Income from holding property (excluding equity);
Income from equity;
Employee or contractor income;
Certain income of transitional resident;
Income from living allowances, foreign superannuation, compensation, and government
grants;
Income of certain entities;
Partners and partnerships;
Income from certain activities; and
Restructuring under New Zealand Railways Corporation Restructuring Act 1990.
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Income
3.4.2
3.4 Exempt Income
Income Exempt from Tax
The following income is exempt from tax:
Income from business or trade-like activities
•
Forestry companies buying land with standing timber from Crown, Māori owners,
or a holding company (s CW 1).
•
Treaty of Waitangi claim settlements: rights to take timber (s CW 1B).
•
Forestry encouragement agreements (s CW 2).
•
Forestry companies and Maori investment companies (s CW 3).
Income from holding property (excluding equity)
•
Annuities under life insurance policies, not excluded under s CX 40
(Superannuation fund deriving amount from life insurance policy) (s CW 4).
•
Payments of interest: post-war credits (s CW 5).
•
Payments of interest: farm mortgages, 50 per cent of the interest from farm
mortgages, if the Rural Banking and Finance Corporation of New Zealand gives
the CIR notice of the approval (s CW 6).
•
Foreign-sourced interest, if the person was not resident in New Zealand during the
period for which the interest was payable, and the interest was exempt under the
laws of the overseas country from a similar income tax (s CW 7).
•
Money lent to government and a local or public authority of New Zealand, where
the interest or a redemption payment is payable outside New Zealand to a nonresident (s CW 8).
•
Certain amounts derived from use of assets (s CW 8B).
Income from equity
•
•
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•
•
Dividend derived by a resident New Zealand company from overseas. The
dividend withholding payment rules apply to the dividend. This section does not
apply to a direct income interest of less than 10 per cent in a controlled foreign
company (“CFC”) or foreign investment fund (“FIF”) resident in Australia; a
fixed-rate foreign equity; rights to a deductible foreign equity distribution; or a
dividend derived by a portfolio investment entity (s CW 9).
Dividend within New Zealand wholly-owned group, where the payer is not a
company that can derive only exempt income. Excluding: dividends from councilcontrolled organisations; debt release dividends; certain friendly society dividends;
certain sick, accident, or death benefit fund dividends (s CW 10).
Share disposal by a “qualified foreign equity investor” (QFEI). To qualify as a
QFEI, the person (eg, a fund) must be non-New Zealand resident and resident in a
country that is approved (s CW 12). With the exception of Switzerland, this list
contains all countries with which New Zealand currently has a DTA. The company
into which the investment is made cannot, for the entire period of the investment,
carry on as its main activity any of the activities listed in s CW 12, eg land
development and ownership (s CW 12).
Proceeds from a share or option acquired under venture investment agreement. The
investor must be a non-resident who provides equity capital to an unlisted New
Zealand resident company whose main activity is not a prohibited activity such as
land ownership or development, mining, financial services, insurance or public
infrastructure assets. The objective of the exemptions is to encourage foreign
equity investment in new business ventures in New Zealand (s CW 13).
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3.4 Exempt Income
Income
•
Dividends derived by qualifying companies. Section CW 10 (which relates to
dividends) does not apply (to treat as exempt income) a dividend derived by a
company that has been an attributing company at some time before the date that it
derives the dividend. Except to the extent to which the dividend is a dividend to
which s CW 9 applies (s CW 14).
•
Dividends paid by qualifying companies to a shareholder resident in New Zealand
which are more than a fully imputed distribution under s HA 15 (fully imputed
distributions). When it becomes a resident beneficiary’s income, it is also exempt
(s CW 15).
Employee or contractor income
•
•
•
•
•
•
•
•
•
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•
•
•
•
114
The allowance of the Governor-General, or the Administrator of the Government
paid under ss 6 and 15 of the Governor-General Act 2010 (s CW 16).
Accommodation expenditure: out-of-town secondments and projects. Workplace
must not be within reasonable daily travelling distance of their residence and must
comply with s CW 16C (s CW 16B).
Time periods for certain accommodation expenditure; period of secondment must
last for no more than two years. Employee must not receive a greater amount of
employment income to cover this expense (s CW 16C).
Accommodation expenditure: conferences and overnight stays; must be for a
period of continuous work and can be at a location that is not distant from their
regular workplace (s CW 16D).
Accommodation expenditure: applies to new employees when an out-of-town
secondment complies with above requirements (s CW 16E).
Accommodation expenditure: multiple workplaces which comply with above
requirements (s CW 16F).
Expenditure on account, and reimbursement, of employees, to the extent to which
the employee would be allowed a deduction if the employment limitation did not
exist. Depreciation losses are excluded. This amount can be estimated or published
rates may be used (eg, the Automobile Association or Inland Revenue for vehicle
expenses) (s CW 17).
Relocation payments (s CW 17B). An amount that an employer pays to or on
behalf of an employee in connection with the expenses of the employee in a workrelated relocation (s CW 17B).
An amount that an employer pays to or on behalf of an employee for a meal for the
employee when the employee is working overtime (s CW 17C).
Payments for certain work-related meals: includes a reimbursement payment or a
meal allowance where employee does not receive a greater amount of employment
income to cover this expense (s CW 17CB).
An amount that an employer pays to or on behalf of an employee for distinctive
work clothing for the employee, as defined in s CX 30 (s CW 17CC).
Allowance for additional transport costs between their home and place of work due
to: the day or time of day; the need to transport any goods or material; fulfilling a
statutory obligation; a temporary change in the employee’s place of work; or the
absence of an adequate public passenger transport service (where the costs are
more than $5 for each day). The costs of travelling any distance over 70 kms in one
day are not additional transport costs (s CW 18).
Amounts derived during short-term visits, if the total number of days spent in New
Zealand for all visits in the same tax year is no more than 92 days; or if the services
are performed for a person who is not resident in New Zealand and they would
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Income
3.4 Exempt Income
attract a similar income tax in the country of residence of that person. The day of
arrival and the day of departure each counts as a whole day for the purpose of
calculating the 92-day period (s CW 19).
•
Amounts derived by visiting non-resident entertainers (including sportspersons) or
their employers, if the activity or performance occurs under a cultural programme
of the New Zealand Government or an overseas government; or if the participants
are the official representatives of the overseas country (s CW 20).
•
Amounts derived by visiting crew of pleasure craft, where the services are
performed for a person who is not resident in New Zealand and the pleasure craft is
subject to security under the Customs and Excise Act 1996 and not owned by a
resident of New Zealand or a controlled foreign company (s CW 21).
•
Amounts derived by overseas experts and trainees in New Zealand by government
arrangement, where the services are providing professional or expert advice;
teaching or lecturing; making investigations; receiving education, training, or
experience; or are for a non-resident employer. Residency is determined as if the
183-day residency rule did not exist (s CW 22).
•
Income for military service in an operational area. This continues even if the
serviceperson is sick, injured or disabled during their service, unless the sickness,
injury or disability is caused by their negligence or misconduct. It does not include
a regular force gratuity or a bonus or bounty for re-engagement in a regular force
(s CW 23).
•
Deferred military pay for active service (s CW 24).
•
Value of board for religious society members, if the member’s sole occupation is
service in that society or order, and it is a condition of that service that members
are neither paid for their services nor receive a reward for them (s CW 25).
•
Jurors’ and witnesses’ fees, other than expert witnesses (s CW 26).
•
An amount derived from an exempt employee share scheme (s CW 26B to
s CW 26G).
Certain income of transitional resident
•
Foreign-sourced income derived by a transitional resident that is not employment
income (s CE 1) or income from a supply of services (s CW 27).
Income from living allowances, foreign superannuation, compensation, and government
grants
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•
•
•
•
•
•
Pensions or allowances of any other kind granted in New Zealand or overseas by
any government relating to any war or to disability attributable to, or aggravated by
service in the armed forces or police force; or a payment of portable New Zealand
superannuation, or portable veteran’s pension, or an overseas pension (s CW 28).
A foreign superannuation withdrawal derived by a person in the assessable period
referred to in s CF 3(8) (Withdrawals from foreign superannuation scheme) which
exceeds the amount calculated using the formula in ss CF 3(10) or CF 3(16).
Reinvested amounts derived by a natural person from foreign superannuation
schemes in Australia (s CW 29).
Amounts from Australian complying superannuation schemes reinvested in
KiwiSaver schemes within a year (s CW 29B).
Annuities from Crown Bank Accounts (s CW 30).
Services for members of Parliament, including travel, accommodation, attendance,
and communication services (s CW 31).
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3.4 Exempt Income
•
•
Income
Maintenance payments to a spouse for child support under the Child Support Act
1991, or a payment in the nature of maintenance out of money belonging to a
person’s spouse, civil union partner, de facto partner, former spouse, former civil
union partner or former de facto partner (s CW 32).
Allowances and benefits including (s CW 33):
–
•
A monetary benefit under the Social Security Act 2018, except payment
of a main benefit;
–
A payment under pt 5 or pt 13 of the Accident Insurance Act 1998, or
under pt 11 of the Accident Compensation Act 2001, of any of the
following kinds: a payment to an insured person for treatment or
rehabilitation; an independence allowance; a funeral grant; a survivor’s
grant; or a childcare payment;
–
A payment under s 363, 386AAG or 386B of the Oranga Tamariki Act
1989;
–
A participation allowance under regulations made under the Social
Security Act 2018;
–
A disabled workshop payment, when the sums paid are no more than
$50 per week as an average amount in a tax year;
–
An amount derived by a trustee of a trust created for the benefit of
persons harmed by thalidomide, or a distribution to a beneficiary from
the trust;
–
An amount derived by a trustee of the New Zealand Agent Orange
Trust.
Compensation payments including a payment (s CW 34):
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–
•
•
•
116
Relating to incapacity for work under s 25 of the National Provident
Fund Act 1950, but not a payment referred to in para (d), (e) or (f)
of the definition of the term “accident compensation payment” in
s CF 1(2);
–
Under the Workers’ Compensation Act 1956;
–
Under the Criminal Injuries Compensation Act 1963;
–
Of funds approved by the Minister in Charge of War Pensions to exprisoners of war held in German concentration camps in World War
Two;
–
Under the laws of a State of the Federal Republic of Germany or the
Republic of Austria to the victims of National Socialist persecution;
–
Under sch 1 of the Crown Forest Assets Act 1989 (except cl 3(b));
–
Of compensation, solatium payments, or payments to lessors for the
purchase of leases under the Maori Reserved Land Amendment Act
1997 (but not interest paid under s 23 of that Act).
Personal service rehabilitation payments;
Payment to a claimant of accident compensation payments under the Accident
Compensation Act 2001; where an amount is paid to another person for providing a
key aspect of social rehabilitation and the amount paid is equal to or less than the
amount claimed as accident compensation (s CW 35).
Scholarships and bursaries. A basic grant or an independent circumstances grant
under regulations made under s 645 of the Education and Training Act 2020 is not
exempt income, but any other scholarship or bursary for attendance at an
educational institution is exempt income (s CW 36).
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Income
3.4 Exempt Income
•
The s CW 37 film production grant for large budget screen productions has been
repealed. This previous scheme had resulted in the creation of artificial tax losses.
Some film companies could use these losses, while others could not. Under the
new rules, the Large Budget Screen Production Grants and the Screen Production
Incentive Fund grants are both afforded standard grant treatment, which reduces
the deductible expenditure by the amount of the grant.
Income of certain entities
•
•
•
•
•
•
•
•
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•
•
•
•
•
•
Public authority income derived from sinking funds relating to debt, excluding
amounts derived as a trustee, superannuation schemes, or income derived by Public
Trust, State enterprises, Crown Research Institutes or mixed-ownership enterprise
as specified in sch 36, pt B (Government enterprises) eg, Air New Zealand
(s CW 38).
Local authority income derived from sinking funds relating to debt and any other
income derived by the local authority excluding amounts derived as: a trustee; a
local authority trading enterprise or a port or energy company. The Wellington
Regional Stadium Trust was held not to be a “council-controlled organisation”. The
fact that it had an operating surplus and was run in a business-like manner did not
mean that its purpose must be profit-making: Commissioner of Inland Revenue v
Wellington Regional Stadium Trust [2006] 1 NZLR 617 (CA) (s CW 39).
Local and regional promotion bodies, where none of the funds may become
available to be used for any other purpose that is not a charitable purpose
(s CW 40).
Income derived by Te Urewera Board, Te Urewera Act 2014 (s CW 40B).
Charities: non-business income (excluding income derived by a council-controlled
organisation). The organisation must be registered as a “tax charity” under s 13 of
the Charities Act 2005 (s CW 41).
Charities: business income carried out in New Zealand where no person with some
control over the business is able to direct or divert, to their own benefit, an amount
derived from the business. The organisation must be registered as a “tax charity”
under s 13 of the Charities Act 2005 (s CW 42).
An amount of income derived by a community housing entity (s CW 42B).
Charitable bequests. Registration as a “tax charity” is not required until the end of
the income year that follows the income year in which the deceased died
(s CW 43).
Friendly societies, except where the amount is derived from a business carried on
beyond the membership of the friendly society (s CW 44).
Funeral trusts approved by the CIR where the fund is for funeral expenses of
employees and dependants (ie, spouses, civil union partners and de facto partners
and dependants of employees of the employer) (s CW 45).
Bodies promoting amateur games and sports, where no part of the funds is
available to be used for the private pecuniary profit of a member (s CW 46).
TAB and racing clubs, where no part of the funds is available to be used for the
private pecuniary profit of a member (s CW 47).
Income from conducting gaming-machine gambling through a gaming trust
provided they apply or distribute it as required by the Gambling Act 2003
(s CW 48).
Bodies promoting scientific or industrial research approved by the Royal Society of
New Zealand, where none of the funds are available to be used for the private
pecuniary profit of a member, but excluding a Crown Research Institute (s CW 49).
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3.4 Exempt Income
Income
•
Veterinary services bodies where none of the funds are available to be used for the
private pecuniary profit of a member (s CW 50).
•
Herd improvement bodies, where none of the funds are available to be used for the
private pecuniary profit of a member (s CW 51).
•
Community trusts income (s CW 52).
•
Disability support services paid by the Ministry of Health or a District Health
Board (s CW 52B).
•
Distributions from complying trusts (s HC 20) where the person derives the amount
as a beneficiary of a trust (s CW 53).
•
Foreign-sourced amounts (s HC 26) that a trustee who is resident in New Zealand
derives in an income year (s CW 54).
•
Māori authority distributions to a member, to the extent to which they are not
income under s CV 11 (s CW 55).
•
Income derived by a tertiary education institution that is established under
subpart 3 or 4 of Part 4 of the Education and Training Act 2020 and is not carried
on for the private pecuniary profit of any individual (s CW 55BA).
•
Rebate of fees paid by a Foreign Investment Fund (s CW 55BAB).
•
Minors’ income, to the extent it is not PAYE, resident or non-resident passive
income, excluded income or exempt income and the person derives in the tax year
a total amount of income that is less than $2,340 (s CW 55BB).
Partners and partnerships
•
Income which results from the application of sub-pt HG (Partnerships and joint
ventures) to partners and their partnership (s CW 55B).
Income from certain activities
•
•
•
•
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•
•
•
•
•
•
•
118
Non-resident aircraft operators, where a New Zealand resident aircraft operator
would not be liable to income tax imposed by the laws of the country in which the
non-resident aircraft operator is resident (s CW 56).
Non-resident company involved in exploration and development activities
(s CW 57).
Disposal of companies’ own shares, where the company acquired the shares and
the acquisition was treated under s 67A(1) of the Companies Act 1993 as not
resulting in the cancellation of the shares (s CW 58).
New Zealand companies operating in Niue, unless it is a controlled foreign
company (s CW 59).
Trustee income from the Niue International Trust Fund or the Tokelau
International Trust Fund (s CW 59B).
Life reinsurance outside New Zealand, where deductions for premiums are denied
under s DR 3 (Life reinsurance outside New Zealand) (s CW 59C).
Stake money for a dog race, horse race or trotting race if paid by a club licensed to
use the totalisator under the Racing Industry Act 2020; or the race is held outside
New Zealand (s CW 60).
Providing standard-cost household service by natural persons in terms of
s 91AA(2)(a) of the TAA 1994 (s CW 61).
Interest paid by the CIR under s 84 of the KiwiSaver Act 2006 (s CW 62).
An amount that is derived by a volunteer for voluntary activity and is a
reimbursement payment to cover actual expenses incurred (s CW 62B).
Avoidance arrangements under s GA 1 (CIR’s power to adjust) and excessive
remuneration to relatives (s GB 23) (s CW 63).
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Income
•
3.5 Excluded Income
Exemption under other Acts (eg, Child Support Act 1991, Defence Act 1990,
Racing Industry Act 2020 and Education and Training Act 2020) (s CW 64).
New Zealand Railways Corporation restructure (s CW 65).
•
3.5
Excluded Income
3.5.1
Meaning and Scope
The term “excluded income” is used to cover those amounts that the statute excludes from tax
other than by specific exemption.
Excluded income is income which is excluded from the calculation of income tax liability
because it results from the operation of:
•
•
Goods and services tax (“GST”) and fringe benefit tax (“FBT”), which create and
enforce their own tax liabilities, eg the output tax on goods and services supplied by a
registered person or GST payable to a person by the CIR, are excluded income. A
benefit that an employer provides to an employee in connection with their employment
is a fringe benefit and is excluded income of the employee.
Specific statutory regimes that have their own requirements for the calculation of
income tax liability (see 3.5.4).
3.5.2
Goods and Services Tax
This exclusion covers the output tax on goods and services supplied by a registered person,
and/or GST payable to a person by the CIR (ss CX 1, CH 5).
Goods and services tax is explained in Chapter 22.
3.5.3
Fringe Benefits
A fringe benefit occurs when an advantage or benefit is provided by an employer to an
employee, in connection with their employment, as provided by ss CX 6-CX 18. The main
classes of fringe benefit are:
Copyright © 2022. Thomson Reuters New Zealand Ltd. All rights reserved.
•
•
•
•
•
•
The private use of a motor vehicle (ss CX 6-CX 8);
Subsidised transport in the course of the employer’s business (s CX 9);
Employment-related loans and services for Members of Parliament (ss CX 10-CX 12);
Contributions to superannuation schemes (except where the contribution is an
employer’s superannuation contribution) and to sick, accident or death benefit funds or
to funeral trusts or life or health insurance (ss CX 13-CX 16);
Contributions to life or health insurance (s CX 16); and
Benefits provided to employees who are shareholders or investors or associates of both
employees and shareholders (ss CX 17 and CX 18).
By virtue of s CX 3, a fringe benefit is excluded income of the employee. The employer pays
tax on this income as FBT. To tax the employee as well would be to tax the same income
twice.
Exclusions and limitations to FBT are covered in ss CX 19-CX 33. These are transactions in
situations that could be a fringe benefit but which have their own ITA treatment, or benefits
provided to an employee by an employer which should not be taxed as a fringe benefit or as
income.
Benefits that have their own ITA treatment:
•
Benefits to non-executive directors are treated as a dividend under s CD 20(2) and
included as income for the director (s CX 22);
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119
3.5 Excluded Income
•
Income
Benefits received with PAYE income payments, which are not liable for income tax
(s CX 26);
Entertainment which is covered in sub-pt DD, the limitation rule for entertainment
expenditure (s CX 29);
Contributions to income protection insurance (s CX 31); and
Services provided to a superannuation fund, where a deduction would have been
allowed if incurred by the superannuation fund (s CX 32).
•
•
•
Benefits provided to an employee by an employer, which should not be taxed as a fringe
benefit or as income:
•
•
•
Benefits provided instead of allowances (s CX 19);
To enable performance of duties (s CX 20);
Of business tools used incidentally for private uses where the value of the tool is less
than $5,000 (s CX 21);
On the premises (s CX 23);
Related to health or safety (s CX 24);
By charitable organisations (s CX 25) unless the activity does not have a charitable
purpose;
Assistance with tax returns, where if it had been incurred by the employee, a deduction
would have been allowed under s DB 3 (Determining tax liabilities) (s CX 27);
Accommodation an employer provides to an employee in connection with their
employment (s CX 28);
Of distinctive work clothing (s CX 30);
Goods provided at discount by third parties (s CX 33).
For members of Parliament under Members of Parliament (Remuneration and Services)
Act 2013 (s CX 33B).
•
•
•
•
•
•
•
•
The category of transactions that would normally be a fringe benefit but are excluded and that
are not caught as income elsewhere in the ITA will not be taxed as a fringe benefit or as
assessable income.
FBT is explained in Chapter 21.
3.5.4
Specific Statutory Regimes
The following is a list of these exclusions:
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Insurance
•
•
Superannuation fund deriving amount from life insurance policy (s CX 40);
Income derived from carrying on the business outside New Zealand by resident
insurance underwriters (s CX 41).
Petroleum mining
•
Disposal of ownership interests in controlled petroleum mining entities (s CX 42);
•
Farm-out arrangements for petroleum mining (s CX 43).
Government grants
•
Government grants to businesses in relation to expenditure incurred. There are
requirements in this case, eg the expenditure would be allowed as a deduction in
the absence of s DF 1 (Government grants to businesses); or the expenditure was
incurred in acquiring, constructing, installing or extending an asset for which there
was a depreciation loss (s CX 47).
Government funding of film and television
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Income
3.5 Excluded Income
•
Government funding additional to government screen production payments
(s CX 48C).
Superannuation contributions
•
Employer’s superannuation contributions (s CX 49);
•
Tax credits for KiwiSaver and complying superannuation funds (s CX 50);
•
Contributions to retirement savings schemes (s CX 50B).
Farming, forestry or fishing
•
Refunds from income equalisation schemes (s CX 51);
•
Disposal of pre-1990 forest land emissions units (s CX 51B);
•
Disposal of fishing quota emissions units (s CX 51C).
Environmental restoration
•
Refund from environmental restoration account (s CX 52).
Inflation-indexed instruments
•
Credits for inflation-indexed instruments (s CX 53).
Share-lending arrangements
•
Share-lending collateral under share-lending arrangements (s CX 54).
Portfolio investment income
•
Proceeds from the disposal of shares (other than non-participating redeemable
shares) issued by resident New Zealand and Australian companies (not resident in
any other country) (s CX 55);
•
Proceeds from the disposal of certain shares and financial arrangements
(s CX 55B);
•
Attributed income of certain investors in multi-rate PIEs (s CX 56);
•
Distributions to investors in multi-rate PIEs (s CX 56B);
•
Distributions to investors by listed PIEs (s CX 56C);
•
Credits for investment fees by multi-rate PIEs (s CX 57).
Foreign investment income
•
Amounts derived during periods covered by calculation methods (s CX 57B).
Minors’ beneficiary income
Amounts derived by minors from trusts, to the extent to which s HC 35
(Beneficiary income of minors) applies (s CX 58);
•
Taxable distributions from non-complying trusts under s HC 19 (s CX 59).
Transactions between companies in consolidated groups
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•
•
Intra-group transactions. A company that is part of a consolidated group derives an
amount from a transaction or arrangement with another company that is part of the
same group (s FM 8) and the amount would not be income if the group were one
company (s CX 60).
Avoidance arrangements
•
Avoidance arrangements under s GA 1 (CIR’s power to adjust) and s GB 23
(Excessive remuneration to relatives) (s CX 61).
Partners and partnerships
•
•
Amounts of excluded income to the extent to which an amount of excluded income
results from the application of sub-pt HG (Joint venturers, partners, and
partnerships) (s CX 62).
Dividends derived after company ceased to be look-through company (s CX 63).
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121
3.6 Capital Gains
Income
Financial instruments and hybrid mismatches
•
Income from financial instrument (s CX 64).
3.6
Capital Gains
New Zealand has a distinctive and different treatment of capital gains from other tax
jurisdictions which deserves attention when considering the taxation of receipts and income to
a taxpayer.
3.6.1
Taxing Capital Gains in New Zealand
The distinction between income receipts and capital receipts is important in determining
income. A capital gain can be defined as the increase in value of an asset capable of producing
wealth, after any associated transaction or brokerage costs have been deducted.
New Zealand does not have a capital gains tax. That is, it does not have a separate piece of
statute setting out the requirements and rules for a tax which applies to the gains made on the
capital held and/or sold by a taxpayer. However, to suggest that the New Zealand tax system
does not tax capital gains is incorrect.
New Zealand may not have a comprehensive capital gains tax, but it still taxes certain capital
gains by specifically targeting them in the taxation system and classifying them as taxable
income. This is achieved by classifying income received from capital transactions as received
in the course of carrying on business (see Chapter 4).
Some provisions of the taxation system also target particular transactions that produce capital
gains. These provisions include:
•
•
•
•
•
Land transactions (ss CB 6A-CB 23B);
Personal property (ss CB 3-CB 5);
Calculation of controlled foreign company and foreign investment fund income or loss
(sub-pt EX);
Restrictive covenant and exit inducement payments (ss CE 9 and CE 10); and
Financial arrangements (sub-pt EW).
For a list of legislative provisions that tax as New Zealand income both realised and
unrealised capital gains, see Holmes (2001, at 383).
Copyright © 2022. Thomson Reuters New Zealand Ltd. All rights reserved.
3.6.2
The Theory of Taxing Capital Gains
Theoretically, ethically and from an equality point of view it can be argued that New Zealand
should have a capital gains tax. Revenue that is earned as a capital gain should attract tax in
the same manner as the income defined in this chapter. Whether a person earns their living
from a salary or from buying and selling an asset (even though they are not in the business of
selling those assets) there are many who suggest that such a person should be taxed at the
same rate on the income or the capital gain they make. For example The Report of the
Consultative Committee on Accrual Tax Treatment of Income and Expenditure (known as the
Brash Committee Report) recognised that the theoretical considerations of equity and
economic neutrality dictated that there should be no distinction between “income”’ and
“capital gains” for tax purposes.
As explained, some capital gains are taxed as income in New Zealand but this applies only to
the selected regimes mentioned above.
For many years, and increasingly since the recession and Global Financial Crisis, a capital
gains tax has been proposed as the panacea that will solve all the problems that New Zealand
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Income
3.6 Capital Gains
has with the high level of investment in property. Most of those making this proposal forget
that New Zealand already has the means, and does tax the capital gains on property
transactions (ss CB 6A-CB 23B). Further, countries such as the United Kingdom, Australia
and others with a capital gains tax did not experience lower inflation of property values over
the last 10 years compared with the inflation in the property values in New Zealand. The
existence of a capital gains tax in these countries did not slow the inflation of their property
values.
Capital gains taxes operating in other countries are traditionally expensive to administer and
do not prove significant in the overall net tax which they contribute to the government’s
coffers. Invariably in the laws applying the capital gains tax, an exemption is made for owneroccupied properties, but this reduces the efficiency and adds to the complexity of the regime.
Exemption of owner-occupied property also excludes a significant portion of capital gains
from the capital gains tax net, reducing the revenue raised.
Generally, a capital gains tax is applied on a realised basis (ie, after the sale of the property);
however, this creates a strong incentive for taxpayers to hold onto their properties, restricting
their efficient economic use. Alternatively an accrual method could be used to account for the
tax, but this would require an annual valuation of the property and also generate a tax liability
when the taxpayer has not generated the funds to make the payment of the tax liability.
In 2009, Victoria University of Wellington, in partnership with the Treasury and Inland
Revenue, coordinated a Tax Working Group (“TWG”) to address key medium-term tax policy
challenges facing New Zealand (for details and publications see <www.victoria.ac.nz/sacl/
cagtr/twg/>). This group considered two alternatives to a capital gains tax to overcome the
economically undesirable high level of investment in real property in New Zealand. These
alternatives were a land tax and a rental property tax.
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A land tax would tax the value of all land (excluding improvements) at an annual flat rate of
tax. When a comprehensive single-rate land tax is applied, this is an efficient and proportional
taxing method. It also has a high degree of integrity in that it is hard to avoid and would
impose relatively low administrative and compliance costs. The authors of a working paper
for the TWG (Coleman and Grimes 2009, at 46) calculated that, using 2006 figures:
“… a 1% p.a. tax on all non-government land could raise approximately $4.6
billion annually (rising to $6.7 billion annually by 2030 with 2% p.a. land
inflation). To place these numbers in perspective, $4.6 billion represents 20% of
all income tax revenue forecast for 2009/10. The top personal tax rate of 38%
applies above an income threshold of $70,000 p.a. Total income tax revenue raised
on those earning above this figure is forecast to be $9.8 billion for 2009/10. If the
top personal tax rate were reduced to 33%, the direct loss in income tax would be
$491 million, which represents just 11% of the revenue from a 1% p.a. land tax.”
The other alternative, a rental property tax, would apply a risk-free return method (“RFRM”)
tax on rental property. Under an RFRM tax, rents from land would not be subject to tax and
associated investment expenses would not be deductible. Instead a risk-free rate of return
would be applied to the net equity in the property and be included in taxable income. Neither
of these proposals has been endorsed by the Government.
Burman (2009) considers there are two appropriate baselines for taxation – income and
consumption. He states at 115:
“Under a pure Haig-Simon income tax, capital gains are taxed as ordinary income
as they accrue, like interest payments, not as realised, because the increase in asset
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123
3.6 Capital Gains
Income
value represents an accretion to wealth. Accrued capital losses would be
immediately deductible. For logical consistency, income and expense should be
indexed for inflation. Thus only the real gain or loss on the asset should be
included in income. Interest expense would also be indexed, so only the excess of
interest above inflation would be deductible. This is important because, otherwise,
the taxpayer could gain pure arbitrage profits by deducting nominal interest while
only recognising real gains.”
Burman continues at 118:
“The actual tax regime for capital gains in Australia follows neither the pure
income nor consumption tax model. Capital gains are taxed when realised, not as
accrued. Losses are not deductible. And long term gains held by individuals are
taxed at half the rate of other income – more than they would be under a
consumption tax but generally less than they would be under a pure income tax.
“The rationale for the current system is that a realisation-based tax is the only
practical option since some assets are hard to value and, even for those whose
values are easy to assess annually, it would be unreasonable to require taxpayers to
pay tax before they have disposed of the assets and realised the cash from sale.”
Burman suggests the problems with the current system of taxing capital gains in Australia are
largely due to taxing gains on realisation. He states at 123:
“An ideal solution would be to tax assets whose value is easily determined on an
accrual basis. Fortunately, most capital gains are in that category. Shares comprise
38% of directly held individual capital gains in 2005-2006 ($11.8 billion) … Unit
trusts were significantly larger at $34.3 billion. The proposal would be to tax
shares and unit trusts on an accrual basis with full loss deductibility by individuals
and companies. Other assets would be taxed on a realisation basis with the
limitation that losses may only be deducted against gains on other assets taxed on
realisation. The 50% exclusion would be eliminated.”
Copyright © 2022. Thomson Reuters New Zealand Ltd. All rights reserved.
In contrast Duncan Baxter in his “Commentary: Taxing Capital Gains” at 129 suggests the
proposal to tax capital gains on an accrual basis (as proposed by Burman and others):
“… could only be implemented if the government is prepared to refund the tax
benefit of excess losses (which would have a cost more than approximately $140
billion for 2008). Even then, the proposal will still contravene Adam Smith’s four
maxims of tax policy, will raise practical difficulties (eg, liquidity problems) and,
having regard to the substantial increase in share ownership since 1985, serious
political risks.”
Baxter at 149 also points out that Burman’s proposed combination of an accruals-based
system for liquid assets, and an “imputed income” system for illiquid assets:
“… is unlikely to be feasible. Neither of these systems satisfies Adam Smith’s
maxims, and this partly explains why both would adversely affect taxpayers in a
way that creates high levels of political risk. In any event, our [Australian] tax
system is already more than progressive enough, and – indeed– may already be
past the ‘tipping point’ at which too few voters are still required to pay tax. The
system clearly does not need to be made even more so.”
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Income
3.6 Capital Gains
Baxter at 149 concludes “[o]ne should therefore follow Adam Smith’s lead in hesitating to
apply too theoretical an approach to the proportionate tax burden on capital, relative to the
other factors of production,” land and labour.
The Australia’s Future Tax System (“AFTS”) Review Panel in Recommendations 14 and 15
on the future Australian taxation system, proposed a 40 per cent discount to capital income
received by individuals. This discount was extended to include non-business related net
interest, net residential rental income and interest expenses related to listed shares as well as
net capital gains. A pure dual income tax, where capital income is taxed at a flat rate was also
considered but rejected. The AFTS committee considered it important to sustain the overall
progressivity of the personal income tax system. Difficulties in the transition to a low flat-rate
tax and the possibility of increased taxes faced by low-income earners were reasons for the
committee settling on the discount approach. These recommendations have been rejected by
the Australian Government, so the 50 per cent discount for long-term gains and the 50 per
cent discount for up to $1,000 interest income (2011-12 onwards) remain.
New Zealand has a history of consultative tax documents and committees set up to review and
evaluate the NZ tax system and policies. A number of New Zealand Review Committees have
in the past considered whether the tax base should be broadened by introducing a capital gains
tax (“CGT”). These review committees have a holistic emphasis on the New Zealand tax
system in contrast to the consultative documents, which generally focus on a specific tax
regime within the system. The following is a list of some of these committees:
•
•
•
•
•
Copyright © 2022. Thomson Reuters New Zealand Ltd. All rights reserved.
•
•
LN Ross and others Taxation in New Zealand: Report of the Taxation Review
Committee (Government Printer, Wellington, October 1967) (“Ross Committee
Report”);
PM McCaw and others Report on the Task Force on Tax Reform (Government Printer,
Wellington, 1982) (“McCaw Committee Report”);
Donald Brash and others The Report of the Consultative Committee on Accrual Tax
Treatment of Income and Expenditure (Wellington, June 1987) (“Brash Committee
Report”);
New Zealand Planning Council For Richer or Poorer: Income and Wealth in NZ
(Wellington, June 1988);
Robert McLeod and others Tax Review 2001: Final Report (Wellington, October 2001)
(“McLeod Review”);
Victoria University of Wellington Tax Working Group A Tax System for New Zealand’s
Future (Centre for Accounting, Governance and Taxation Research, Victoria University
of Wellington, Wellington, 2010); and
Tax Working Group Future of Tax: Final Report Volume I – Recommendations
(February 2019) and Future of Tax: Final Report Volume II – Design Details of the
Proposed Extension of Capital Gains Taxation (February 2019).
Following the 2017 General election and change of government, the Labour-led coalition
government announced in December 2017 that it had established a Tax Working Group to
improve the fairness, balance and structure of the tax system over the next 10 years. In March
2018 it released a submissions background paper and summary for submitters to encourage
public feedback on a range of issues including whether New Zealand should have a CGT. In
September 2018 the Tax Working Group released an interim report before issuing their final
recommendations in February 2019 (see above). For further information see <https://
taxworkinggroup.govt.nz/>. In its Final Report the majority of the Tax Working Group
recommended a broad extension of the taxation of capital gains (Tax Working Group, 2019).
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3.7 An Income Framework
Income
Theoretically and ideally a comprehensive capital gains tax is justified in that it promotes
horizontal and vertical equity (see Ross Committee Report, Andrew Alston, Rick Krever Neil
Brooks and Paul Kenny) and neutrality (see Ross Committee Report and New Zealand
Planning Council Report) and the need to address the avoidance opportunities offered by not
taxing capital gains. The committees, while acknowledging this, have pointed out that a
comprehensive CGT is unattainable and invariably it is a form of a realised capital gains tax
that is proposed and introduced rather than a comprehensive (accrual basis) CGT. Primary
reasons against introducing a CGT are its complexity and the consequent difficulty in
administration and compliance. This compliance cost results in low net revenue return, and in
New Zealand this also needs to be balanced against the efficient and effective return that is
already being gained on, for example, the taxation of capital gains on property transactions.
The complexity results in further opportunities for tax mitigation and avoidance. There is also
the “lock in” effect inherent in all realisation based CGTs. The overwhelming response of the
New Zealand review committees prior to 2018 has been against the introduction of a realised
CGT.
3.7
An Income Framework
An understanding of the terms and concepts used for income (as discussed in this chapter) is
facilitated and summarised by observing the position each has in the process of determining
assessable income and then taxable income under the framework of the ITA 2007. This is
illustrated in Table 3.3 (adapted from Alley and Maples, 2006, at 28).
The first column lists the terms used by the ITA 2007 in the calculation of taxable income.
Examples of each of these are given in the second column. The legislative authority that helps
define and is the reason for the inclusion of each term in this particular place in the calculation
is given in the third column. For the non-income amounts of windfall gains, some gifts and
private receipts there is no legislative reference so the authority is taken from case law.
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Table 3.3 — Income Derived by New Zealand Residents or Sourced in New Zealand
Term
Example
Authority
Total receipts
Transactions giving rise to inward cash flows sub-pt BC
or gains
Less Non-income
Non-residents’ foreign-sourced income
s BD 1(4)
Capital gains
s CB 1(2)
Windfall gains, some gifts, private receipts
Case Law
Income from employment
s CA 1(1)
Amounts derived from business
s CB 1
Compensation for items of a revenue nature
(TAA, pt 6)
Proceeds from flood relief
s CA 1(2)
Equals Income as:
Listed in sub-pts CB-CV
Plus
Income under ordinary
concepts
Foreign-sourced amounts: Settlor of trusts resident in New Zealand
non-resident trustees
s HC 25
Less Exempt income and
sub-pt CW
126
Pensions, jurors’ fees, reimbursement of
employees
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Income
3.8 Conclusion
Term
Example
Excluded income
Fringe benefits, employer superannuation
contributions
Authority
sub-pt CX
Equals
Assessable income
Allocation to an income
year
s BD 1(5)
Current years amount of a Financial
Arrangement
Equals Annual gross
income
pt E
pt E, s BC 2
Less Annual total
deductions
Loss of earnings or profits, insurance
premiums
pt D, s BC 3
Equals Net income (loss)
If positive net income. If negative a loss
s BC 4
Less Available net losses
Carried forward from previous years
pt I
Equals Taxable income
s BC 5
Having established a framework for considering the concepts of income, assessable income
and taxable income within the New Zealand taxation system, it is now possible to define these
terms by the application of this framework.
From the total receipts of a taxpayer is subtracted non-resident foreign-sourced income (which
falls outside the New Zealand taxation system) and other non-income (capital gains, windfall
gains, some gifts and private receipts), and the result is the income of the taxpayer. This
income will be the total income as listed in pt C, including income under ordinary concepts
(s CA 1(2)) and foreign-sourced amounts of non-resident trustees (s HC 25). From this
income is subtracted exempt income and excluded income to give assessable income.
When assessable income is allocated to a particular income year it becomes annual gross
income. From annual gross income, annual total deductions are subtracted to give the net
income (or loss if deductions are greater than income) of the taxpayer. If there are any
available net losses carried forward from previous years these are deducted from the net
income to give the taxable income of the taxpayer.
These terms and this calculation format, that form the basic structure for determination of
taxable income, are discussed and applied in the following chapters.
Copyright © 2022. Thomson Reuters New Zealand Ltd. All rights reserved.
3.8
Conclusion
Taxation is a creature of statute. It is an artificial construct of geography, time and entity
types. While income is not specifically defined, but rather established from a list of subcategories of income, the statutory inclusion of the common law definition of income under
ordinary concepts has ensured that there is a concept of income. As Prebble (1993) observed
(at 20):
“Income tax law will never exactly fit the economic activity to which it relates.
The compromise and adjustments that must be made to make the system work
mean that there can never be a single, coherent system of income taxation. This is
sad, but bearable once you get used to it. However, the lack of basic principle does
distinguish taxation from other branches of the law.”
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127
3.9 References and Further
Reading
Income
Prebble continues (at 21), “[t]ax law is founded not on principle, but on practicality. There is
no echo of the infinite about tax law, only the discordant clash of the immediate.”
3.9
References and Further Reading
Andrew Alston The Taxation of Capital Gains in New Zealand (University of Canterbury,
1981).
Clinton Alley, Duncan Bentley and Simon James “The New Zealand Definition of
‘Residence’ for Individuals: Lessons for Australia in a ‘Global’ Environment” (2001) 4(1)
Journal of Australian Taxation 40.
Clinton Alley and Simon James “The use of financial reporting standards-based accounting
for the preparation of tax returns” (2005) 31(3) International Tax Journal 31.
Clinton Alley and Andrew Maples “The Concept of Income within the New Zealand Taxation
System” (2006) 87 Department of Accounting Working Paper Series 14.
Clinton Alley and Andrew Maples “An Analysis of the Framework and Terms Used in
Determining Assessable Income in the Core Provisions of the Income Tax Act 2004” (2007)
13 NZJTLP 462.
Asprey Committee Taxation Review Committee Full Report (Australian Government
Publishing Service, Canberra, 1975).
Duncan Baxter “Commentary: Taxing Capital Gains” in Chris Evans and Richard Krever
(eds) Australian Business Tax Reform in Retrospect & Prospect (Thomson Reuters, Sydney,
2009).
Donald Brash and others Report of the Consultative Committee on Accrual Tax Treatment of
Income and Expenditure (Wellington, June 1987) (“Brash Committee Report”).
Leonard E Burman “Taxing Capital Gains in Australia: Assessment and Recommendations”
in Chris Evans and Richard Krever (eds) Australian Business Tax Reform in Retrospect &
Prospect (Thomson Reuters, Sydney, 2009).
Winnie Chan “Income – A Subjective Concept?” (2001) 7 NZJTLP 25.
Andrew Coleman and Arthur Grimes Fiscal, Distributional and Efficiency Impacts of Land
and Property Taxes (Tax Working Group, Wellington, 2009).
Copyright © 2022. Thomson Reuters New Zealand Ltd. All rights reserved.
Paul Dunmore “Earnings management: good, bad or downright ugly?” (2008) 87(3) The
Chartered Accountants Journal 32.
Richard Green “Sir Ivor Richardson and the Capital v Revenue Dichotomy” (2002) 8
NZJTLP 169.
Ranjana Gupta “What is the Meaning of Income under Ordinary Concepts? What the Cases
Tell us about the Judicial Concept of ‘Income’” (2010) 16(4) NZBLQ 415.
Robert Murray Haig “The Concept of Income – Economic and Legal Aspects” in Robert
Murray Haig (ed) The Federal Income Tax (Columbia University Press, New York, 1921) at
2.
John Peter Hannan and Albert Farnsworth Principles of Income Taxation (Stevens & Sons,
London, 1946).
Ken Henry (chair) and others Australia’s Future Tax System: Final Report (Commonwealth
Treasury, Canberra, 2010).
128
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Income
3.9 References and Further
Reading
John R Hicks Value and Capital: An Inquiry into some Fundamental Principles of Economic
Theory (Clarendon Press, Oxford, 1946).
Kevin Holmes “Should accountants determine how much tax we pay?” (paper presented to
Victoria University of Wellington, 25 September 2007).
Kevin Holmes The Concept of Income – A New Zealand Analysis (Doctoral Thesis, Victoria
University of Wellington, 1999).
Kevin Holmes The Concept of Income – A Multi-Disciplinary Analysis (IBFD Publications
BV, Netherlands, 2001).
Inland Revenue Interpretation Statement IS 14/01: Tax Residence TIB vol 26:3 (April 2014).
Inland Revenue Interpretation Statement IS 16/03: Tax Residence TIB vol 28:10 (October
2016).
Paul Kenny “Capital Gains Taxation for New Zealand: Fairer and More Efficient” (2001) 7(4)
NZJTLP 265.
John Key, Prime Minister of New Zealand “Statement to Parliament” (speech to Parliament,
Wellington, 9 February 2010).
Rick Krever and Neil Brooks A Capital Gains Tax for New Zealand (Victoria University
Press, Wellington, 1990).
PM McCaw and others Report on the Task Force on Tax Reform (Government Printer,
Wellington, 1982).
Robert McLeod and others Tax Review 2001: Final Report (Wellington, October 2001).
Meade Committee The Structure and Reform of Direct Taxation (Institute for Fiscal Studies,
George Allen & Unwin, London, 1978).
New Zealand Planning Council For Richer or Poorer: Income and Wealth in NZ (Wellington,
June 1988).
Christopher Nobes A Conceptual Framework for the Taxable Income of Businesses, and How
to Apply it under the IFRS (ACCA, London, 2003).
OECD Model Tax Convention on Income and on Capital (OECD Publishing, 2010) at
Commentary on Article 4 para 15.
Copyright © 2022. Thomson Reuters New Zealand Ltd. All rights reserved.
John Prebble Fictions of Income Tax (paper presented to Australasian Tax Teachers
Association 14th Annual Conference, Manukau Institute of Technology, Auckland, 2002).
John Prebble Why is Tax Law Incomprehensible (Victoria University Press, Wellington,
1993).
LN Ross and others Taxation in New Zealand: Report of the Taxation Review Committee
(Government Printer, Wellington, October 1967).
Stan Ross and Philip Burgess Income Tax: A Critical Analysis (The Law Book Co of
Australia Ltd, Sydney, 1996).
Henry C Simons Personal Income Taxation: the definition of income as a problem of fiscal
policy (University of Chicago Press, Chicago, 1938).
David Solomons “Economic and Accounting Concepts of Income” (1961) XXXVI
Accounting Review 374. Reprinted in Robert Parker and Geoffrey Harcourt (eds) Readings in
the Concept and Measurement of Income (Cambridge University Press, Cambridge, 1969).
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129
3.10 Review Questions
Income
Tax Working Group Future of Tax: Final Report Volume I – Recommendations and Future of
Tax: Final Report Volume II – Design Details of the Proposed Extension of Capital Gains
Taxation (February 2019).
Eugen Trombitas “The New Zealand Judiciary and the Capital/Revenue Distinction at the
Beginning of the Twenty-First Century – Upholding the Integrity of the Tax System” in
Adrian Sawyer (ed) Taxation Issues in the Twenty-First Century (The Centre for Commercial
and Corporate Law Inc, University of Canterbury, Christchurch, 2006) 79.
Valabh Committee International Tax Reform: Full Imputation, Part 2 (Consultative
Committee on Full Imputation and International Tax Reform, July 1988).
Victoria University of Wellington Tax Working Group A Tax System for New Zealand’s
Future (Centre for Accounting, Governance and Taxation Research, Victoria University of
Wellington, Wellington, 2010).
3.10
1.
Review Questions
The ITA 2007 classifies income into four broad categories:
•
•
•
•
Income listed in pt C;
Income under ordinary concepts;
Exempt income;
Excluded income.
The first two categories explain revenue transactions which are assessable under the
ITA 2007. Exempt income and excluded income are not included in assessable income
and are itemised separately. State the parts, subparts or sections of the ITA 2007 in
which these categories are defined and give a practical example of each. (For example,
s CA 1(1) explains that various types of income are defined in pt C and therefore an
example can be found in sub-pts CB–CV. Section CA 1(2) explains an amount is
income if it is income under ordinary concepts. The term “ordinary concepts” is not
defined in the ITA so it is necessary to turn to case law to find an example.)
2.
Holmes (2001, at 147) comments that, in the accounting context, the theoretical
accounting notion of income can be described as the “incremental net worth calculated
periodically (typically, annually) throughout the life of an entity.”
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Ross and Burgess (1996, at 42) state that the legal concept of income “emerges as a
gain, heavily qualified not by grand design but by a long series of ad hoc decisions”.
3.
(a)
Explain these statements and compare and contrast the accounting and legal
concepts of income.
(b)
Explain the interrelationships of these concepts with the concept of income as
applied by the ITA 2007.
It is not possible to have an income tax without a concept of income. In order to tax
income, the law must make assumptions of the facts and legal nature of the taxpayer’s
income. When discussing what he calls the “fictions of income tax” Prebble (2002, at
2) explains that there are three reasons for the “dislocation between income tax law
and the economic profits that are its substance.” He continues:
“Income tax law generally taxes the results of legal transactions rather than
their underlying economic effect …
130
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Elliffe, C. G. E. A. (2022). New zealand taxation 2022 : Principles, cases and questions. Thomson Reuters New Zealand Ltd.
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Income
3.10 Review Questions
“The concept of income is artificial because it taxes the legal forms that we
use to represent economic transactions. This is because the legal substance of
a transaction is a simulacrum of its economic substance, the problem of
residence and the problem of time.”
Discuss, giving examples, how the three issues of the legal nature of a taxpayer’s
income, residence and time create difficulties when attempting to define the concept of
income.
4.
Part C of the ITA 2007 states seven general categories of income which are
specifically identified in Chapter 3. Name these general categories of income and the
subparts or sections in which the ITA describes their application. (Each is covered in
following chapters of New Zealand Taxation.)
5.
Sub-pt CB also includes the rules for the taxing of income derived by mutual
associations. There is a common law principle of mutuality that a person cannot derive
taxable income from mutual transactions. Explain how this principle is modified by
s CB 33.
6.
Which of the following items would you consider to be assessable income (and
therefore taxable income) for a taxpayer owning a grocery business? Give explanations
or qualifications if necessary, to support your answer, and provide relevant legislative
references from the ITA 2007 to support your answers.
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(a)
7.
An extra $100 added to the payment of their account every Christmas by a
regular customer in appreciation of the excellent service received during the
year.
(b)
An insurance claim for stock damage.
(c)
Bad debts recovered which were written off and deducted in an earlier year.
(d)
Sale of goodwill when the business was finally sold.
(e)
Interest from a finance company.
(f)
Sick pay from an insurance policy.
(g)
Accommodation attached to the shop occupied by the taxpayer, and included in
the rent paid for the shop premises.
(h)
A pension received from previous service to an overseas employer.
(i)
Private use of the business motor vehicle by an employee. This falls within the
fringe benefit regime.
For each of the independent situations described below, briefly discuss whether the
transactions give rise to “exempt income”, “excluded income” or “assessable income”.
Provide relevant legislative references from the ITA 2007 to support your answers.
(a)
A New Zealand resident operates an information technology business and
receives payments from his clients.
(b)
A government grant of $50,000 is received by a small business towards the
purchase of a depreciable asset.
(c)
A firm of chartered accountants provide a one-year scholarship for a staff
member to attend university full time to do a masters degree in accounting.
There is no requirement to work at the office of the chartered accountant firm
either while doing the degree or after graduation.
New Zealand Taxation 2022 – Principles, Cases and Questions
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131
3.10 Review Questions
8.
Income
(d)
A supermarket receives a payment of GST (output tax) on groceries it sells to
its customers.
(e)
The GST (input tax) a supermarket pays to its suppliers (for the purchase of
groceries) exceeds the output tax received from its customers, and the amount
of the excess GST paid to its suppliers is paid to the supermarket by the CIR.
(f)
Income from subscriptions received by the Hamilton Amateur Soccer Club.
(g)
Bill Bobbit receives $50,000 lump sum payment from his insurance company
in settlement of a claim for “loss of enjoyment of life” after a nasty accident.
This amount is not income-related in any way.
Josh is an Australian citizen who has extensive business interests in New Zealand and
Hong Kong. Josh owns a house in each country, and both houses are continuously
available for his use. Josh spends most of his time in Hong Kong, but regularly travels
to New Zealand in connection with his business here. In aggregate, Josh spends up to
five months of the year in New Zealand, staying in his house most of the time he is
here (except when his business requires him to be elsewhere in New Zealand). These
trips vary in length from two days up to several weeks. Josh has some friends and
investments in New Zealand, and he is a member of a number of cultural and sporting
associations here. Josh’s immediate family live in Hong Kong.
Explain whether Josh has a permanent place of abode in New Zealand. Provide
relevant cases to support your answer.
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Answers are available in the free eBook version of this publication. Please refer to the inside
cover of this book for information on accessing your free eBook on the Thomson Reuters
ProView® eReader platform.
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