It is not clear if the Labour Party’s proposed changes to the Capital Gains Tax (CGT) would affect financial arrangements and offshore investments, although overseas experience would suggest otherwise.
These would include New Zealand’s financial arrangements and the Fair Dividend Rate (FDR) regime.
Impact on KiwiSaver
While the proposed CGT would not apply to KiwiSaver withdrawals (although it will catch the sale of units in unit trusts), it may, prima facie, apply to investments of KiwiSaver funds (property, shares and other investments).
Currently, KiwiSaver funds that are Portfolio Investment Entities (PIEs) are not taxed on their trading gains on New Zealand (and certain Australian) share investments. The removal of this benefit under the proposed CGT may impact incentives to save for retirement using KiwiSaver.
In Australia, superannuation funds benefit from a CGT discount.
At a practical level, a CGT regime for managed funds will require further consideration, as the tax will apply on realisation. But PIEs generally allocate income/losses on annual or even basis to their investors.
Most countries limit the offset of capital losses to capital gains to manage fiscal risk and Labour’s proposed CGT is no different.
However, from a tax policy perspective, capital gain/losses should be treated no differently to any other gain/loss, if the objective is to tax ‘economic income.’
The equity and fairness argument is somewhat reduced if losses are, effectively, not allowed.
The details of these capital loss limitation rules need careful consideration.
For example, will the same continuity of shareholding requirements for normal losses apply where a company makes a capital loss (in Australia there is a combination of shareholding continuity and a same business test)?
Will normal business trading losses be allowed to offset against capital gains?
Roll over relief
The proposed CGT will allow temporary relief on transfer of assets on death or matrimonial and relationship splits. CGT on any gain will be deferred until there is a subsequent disposal.
The scope for roll over relief needs further consideration if a CGT is implemented – for example, roll over relief should also apply on transfer of assets on business consolidation, or on involuntary disposal of assets, such as a natural disaster similar to the Christchurch earthquakes.
The Australian CGT has a range of roll over relief events.
This is one of the many detailed design issues that Labour intends to refer to its panel of experts, if elected.
Labour has emphasised that its CGT will be prospective, with gains measured from a future ‘Valuation Day’ (the policy document notes that one of the issues will be if the so-called ‘V Day’ value is less than the purchase price).
There will be a five-year moratorium on gains in the case of buildings in the Christchurch Canterbury Earthquake Recovery Agency Zone.
While well intentioned, this policy may trigger unintended economic consequences, if landlords are incentivised to sell to avoid any tax impost.
There is no right or wrong answer to a CGT. There are strong tax policy arguments in favour of a comprehensive CGT as part of New Zealand’s “broad base low (tax) rate” approach.
However, there will inevitably be political and practical compromises, which could dilute the ultimate effectiveness of a CGT.
Labour will look to introduce ring-fencing rules on investment property losses.
This follows the concerns raised last year by the Tax Working Group (TWG) about the amount of tax revenue collected (or not collected) from the residential rental property sector.
Labour has also signalled that it will look at options to clamp down on what it perceives to be tax avoidance, particularly by high net worth taxpayers.
It appears that a review of the tax rules for trusts will form part of this focus.
Labour is expecting to recover about $500 million of ‘lost’ revenue from these initiatives.
Editor’s Note: The above analysis belongs to KMPG New Zealand. See related reports and analyses in this issue.