Watershed verdict on taxable income

The tax case relating to Vector Limited vs the Commissioner of Inland Revenue Department (IRD) on a dispute of income or capital was decided in the High Court in August 2014. The court ruled that more than $50 million paid by Trustpower to Vector is capital in nature and hence should not be as capital gain. The court also ruled that the amount was non-taxable.

Some facts

Vector Ltd is an electricity distribution company. Its assets include an underground tunnel.

Transpower manages and operates the national electricity grid in New Zealand. Vector agreed to the Company’s proposal to upgrade the underground tunnel to ensure the stability of the grid. Vector offered Transpower ⅔ shares in the underground tunnel and the latter agreed to pay $53 million for the shares.

IRD stand

The issue in this case was whether the payment of $53million made by Transpower to Vector in lieu of share in underground tunnel is income. IRD Commissioner referred to Section CC1 (2) (g) as the phrase ‘other revenues’ and claimed that it did not matter whether the amounts are capital or income as it is other revenues of Vector. The Commissioner also claimed that the items in CC1 (2) are payments relating to the use of land rather than payments that are revenue by nature.

But according to Vector, ‘Other revenue’ does not capture capital amounts and ‘revenue’ must be integrated by giving effect to the plain meaning of the word.

Court decision

The payments made in respect of the Southern Access Right and for the Northern Easements did not constitute income under section CC1 of the Income Tax Act 2007.

The Court looked at CC1 (2) (g) ‘other revenue.’ Both parties agreed that revenue means income. Thus, ‘other revenues’ cannot be considered tax capital as it can only mean other items not covered by CC1 (2) (a) that are income in nature.

There is no Capital Gain Tax and if Parliament intends to tax capital, it must do so with clear language – Para (48) and (49).

Vector has also effectively permanently given up part of its income-producing asset in exchange for a lump-sum payment.

The payment is capital in nature producing advantages to Transpower, which was enduring. Thus, section CC1 does not apply in this case – Para (69).

The Lessons

Not all receipts are income; income is distinct in nature; it must have following characteristics: (a) Income must have quality in the hand of recipient, and it must have money or money’s worth (b) The taxpayer shows why this income has been received; for example, a gift on a birthday cannot be income in the hands of the recipient.

Income may not be in cash but even if this can be converted into cash, it would be income.

Income is something, which is periodic in nature, comes in regularly such as rent, interest, salary and wages.

Some examples

Winning lottery tickets or money from TAB cannot be regarded as income.

A one-off gift where love and affection is involved is not income in the hands of the recipient.

Holiday packages offered to an employee by the employer are not income; however, it would be subject to Fringe Benefit Tax.

Tips received by the hotel staff would be income since it is regular or periodic in nature, because the income they receive is in lieu of services they provide. But if an accountant receives $200 gift from his or her client, which is not in lieu of his service, it will not be considered as income.

In the Vector case, payment of $53 million was treated as selling a part of land, and if profit made on sale on land is not taxable (if capital in nature), then this transaction will not be taxable either.

Saurav Wadhwa is a Charted Accountant and Principal of IBBZ Accounting Limited based in East Auckland. Phone 027-5555458; Email: Saurav@ibbz.co.nz


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