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Published March 2012
 

In this update you can read about how the 
Penny and Hooper tax avoidance case went in favour of the IRD, how to ensure you are calculating holiday and parental pay correctly, common GST errors and what you need to be doing from a financial standpoint to ensure you are maximising your income but limiting your tax this year. I'd also like to update you on a few key tax changes as of April including Working for Families and multi-use assets.

 
Remuneration of shareholder employees

The Penny and Hooper decision is a landmark tax avoidance case mentioned in our previous Newsletter that has implications for small businesses operating through a company or trust.

Essentially, the Supreme Court decided in favour of Inland Revenue, concluding that setting artificially low salaries amounted to tax avoidance.

Penny and Hooper were two orthopaedic surgeons, each earning taxable income of between $600k and $850k a year. They restructured their businesses into companies with a family trust owning most of the shares. They provided their services to the companies in return for salaries of $100k - $120k each year. The balance of the company's income was declared as dividends to the family trust which the surgeons drew from regularly.

Each year tax of between $20k and $30k was saved by having the profits after salaries taxed at the trustee rate rather than at the surgeons' individual top personal tax rates. The court found these savings a 'more than merely incidental' reason for their low salaries.

The IRD has put businesses on alert and is actively reviewing those operating through a company or trust where the income is generated from services provided by an individual, and the individual's salary is unreasonably low. Although there may be good reasons for setting the salary low in a particular year, e.g. adverse business conditions, or a planned expansion of the business, in some cases the sole reason for the salary level is to take advantage of the lower tax rate that applies to companies.

The IRD is entitled to go back four years into a business' records, but have publicly confirmed that where a 'voluntary disclosure' is made, only the last two income tax returns will be reassessed. A voluntary disclosure might significantly reduce IRD penalties or avoid them entirely.

If you are concerned and would like to discuss this, please do contact me.
 
 
 
Holiday pay and parental leave

An employee's annual leave entitlement accrues while they are away on parental leave as the leave is considered to be part of the employee's continuous service. However, the method of calculating holiday pay for employees who have returned from parental leave is different to the normal holiday pay calculation.

Holiday pay is normally calculated as the higher of either the average weekly earnings for the 12 months immediately before the end of the last pay period before the holiday is taken, or the employee's ordinary weekly pay at the beginning of the holiday. However the calculation changes when the employee takes holidays in the 12 months following parental leave; it is then based on the average weekly earnings for the 12 months immediately before the end of the last pay period before the holiday, and is not compared to the ordinary weekly pay. This means that it is very likely that the amount of holiday pay maybe less than the employee is expecting.

It is important that both employers and employees are aware of the difference in calculation methods before annual leave is taken.
 
 
 
Common GST errors

It is generally understood that the IRD has a practice of reviewing the first GST return filed by a taxpayer that claims a refund over a prescribed amount. Given the potential for scrutiny and the regularity with which GST returns are filed, it is important they are correct.

Identification of a GST error by the IRD can provide the impetus for a full investigation, which can be costly in terms of both time and money. Some common mistakes that can easily be avoided are outlined below.

Not closing the GST period
Many computerised GST systems give users the opportunity to finalise and close a GST period once the GST return has been completed. However, when a GST period is not closed, some systems allow the user to back date transactions without giving any warnings. This may happen when an invoice or credit note is received late and it is entered with the same date as the original transaction. If this happens, these transactions may not be picked up when completing the next GST return as they do not fall within the specified date-range, which can result in GST inadvertently being under or over paid.
GST claimed on exempt supplies
Exempt supplies are not subject to GST, and therefore GST should not be charged or deducted. The most common types of exempt supplies are:
financial services (such as share transfers, interest, dividends),
residential rental accommodation, and life insurance.

A common example is where a farmer has another house on the property and rents it out to a third party. GST cannot be deducted on any expenses incurred in relation to the house or the supply of rental accommodation.
GST claimed on instalment payments
Payments made by instalments may include an amount of interest in each payment. In many cases taxpayers do not separate out the interest and end up claiming GST on the total instalment payment.

As interest is a "financial service" it doesn't include GST and that portion of the payment shouldn't be deducted. Taxpayers should obtain all of the relevant documentation for such transactions in order to determine the correct amount of GST that can be claimed for each instalment.
GST on Fringe Benefit Tax (FBT)
In most circumstances, the provision of a fringe benefit under the FBT rules is treated as a supply for GST purposes. The FBT return includes the need to make a GST payment. A common error is to subsequently claim this amount through the next GST return.
GST on entertainment
If an amount of entertainment expenditure is treated as 50% non-deductible under the entertainment provisions it is deemed to be a supply for GST purposes and a GST output adjustment is required based on 3/23 of the non-deductible amount.
 
 
 
Working for families

From April 1 2012 many of the small changes to Working For Families signalled last year come into effect:
  • The family tax credit amount for children under 16 will rise for inflation:

Qualifying child

Current amount

New amount

First child under 16yrs

$4,578

$4,822

Second child if under 13yrs

$3,182

$3,351

Second child 13 - 15yrs

$3,629

$3,822

  • The net income level guaranteed by the minimum family tax credit will rise from $22,204 to $22,568
  • The abatement rate will increase from 20 to 21.25 cents in the dollar
  • The abatement threshold will decrease from $36,827 to $36,350
 
 
 
New GST rules for multi-use assets

New rules came into effect 1 April last year replacing the old change-in-use rules by apportioning input tax deductions in line with the actual use of the goods and services. As the 2012 financial year closes, the new rules will be applied for goods and services acquired on or after 1 April 2011. In subsequent periods, when a change to the actual taxable use occurs, from what was first intended, a GST adjustment within an adjustment period must be made (a number of exemptions may apply).

There is a maximum number of adjustment periods according to the asset's value or estimated useful life and special 'wash-up' rules apply when goods and services that have been subject to the apportionment rules are sold or the person deregisters.
 
 
 
Financial New Year check list

Take the time to consider ways to minimise tax and maximise cash surpluses for the coming year.

Will the company make a loss?
File loss offset elections and make subvention payments for the 2011 income year by 31 March 2012.
Can you pre-pay expenses?
Many items can be prepaid and claimed as a tax deduction in the year to 31 March 2012.
Are you committed to employee expenses?
Amounts owing for holiday pay, bonuses, redundancy payments, long service leave etc. can be claimed, if the employer is committed to them at year end and they're paid within 63 days.
Have you scheduled a stock take?
Dispose of obsolete trading stock by 31 March or alternatively write it down to its net realisable value, the lesser of cost or market value.
Have you reviewed fixed assets?
If you have assets no longer in use, the book value can be written off - provided the cost of disposal is expected to outweigh the proceeds from its sale, e.g. the keyboard you spilt coffee on.
Are repairs and maintenance due?
Consider undertaking repairs and maintenance to key assets before 31 March to ensure a full tax deduction.
Do you discount for prompt payment?
You may claim deductions for a discount reserve. In the first year a deduction for the actual discount percentage is allowed. Subsequently the amount is calculated at a percentage level. Different rules apply if credit extended to customers exceeds 93 days.
Have you talked to us about the ICA and dividends?
The imputation credit account must balance so there is no debit balance at year end.
Have your reviewed your debtors' ledger?
To claim a deduction you need to physically write off bad debts in your debtors' ledger before 31 March. You must have taken reasonable steps to recover the debt first.
Have you reviewed all contracts?
Have you invoiced retentions that are not due and payable for another year? If they are payable in the current year they need to be declared as income but if not, the income will be deferred to a subsequent year.
Have you reviewed all credit notes?
Review credit notes issued to customers after 31 March which might be applied to the previous year, potentially reducing the current year's taxable income.

Get your docs in a row...

We aim to prepare your financial statements and tax returns in good time. To do this we need your completed annual questionnaires with full supporting documentation.

Minimise costly delays by keeping in mind likely supporting documents for:

New Bank Loans, balance outstanding at year end, security, interest rate, loan term
Fresh Hire Purchases Items, interest rate, term and repayment plan
Vehicle/Plant & equipment purchases, agreements. Was finance obtained?
Closing Stock and WIP (Work in Progress). Stock on hand at year end? Any un-billed work in progress?
Income, include details of Wage or Employer Subsidies, additional income as defined for Working for Families
Bank Statements. If you use MYOB or a similar system, copies of final bank and credit card statements let us check the reconciled balance
Property/Business Sales/Purchases, agreements and settlement statements
Debtors and Creditors. What is owed by or to your business, including whether amounts are GST inclusive or exclusive?
Donations/school fees? Receipts needed please
Interest, dividends and rebates? Provide details

Death and taxes may be inevitable, but they shouldn't be related. J.C. Watts, Jr.
 
 
 
Minimum wage update 
As of 1 April 2012 the minimum wage will increase from $13.00 per hour to $13.50 per hour.

Training and new entrants' minimum wages will increase from $10.40 to $10.80 - 80 percent of the adult minimum wage.
Kiwi saver update
As of 1 April 2012 employer contributions will no longer be tax free.

Employer Superannuation Contribution Tax will apply at the employee's marginal tax rate.
New Zealand economic crime 
A recent report released by PwC shows the top four types of economic crime in New Zealand from those surveyed were asset misappropriation (74%), accounting fraud (30%), cyber-crime (24%) and intellectual property infringement (13%).
Related Pages:

Business & Tax

+ Services for business owners
+ Choosing a trading structure
+ Accounting & Tax returns

READ MORE

Property Investment

+ Annual accounting & tax returns
+ Set ups & structuring

READ MORE

Trusts

+ Learn the benefits of trusts
+ Want asset protection?

READ MORE

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