Announcements
PUBLISHED 5 September 2007

Govt to close PIE tax loopholes

The government announced today that it will close loopholes in the tax rules on portfolio investment entities (PIEs) to prevent their use by land-owning companies seeking tax advantages for their shareholders. The changes will be made effective from 1 October 2007, when the PIE rules come into force. For more information see the media statement, which includes annex, "PIE guidelines for land-owning companies”.


Hon Dr Michael Cullen
Minister of Finance

Hon Peter Dunne
Minister of Revenue

MEDIA STATEMENT

Government to close PIE tax loopholes

The government will close loopholes in the tax rules on portfolio investment entities (PIEs) to prevent their use by land-owning companies seeking tax advantages for their shareholders, Finance Minister Michael Cullen and Revenue Minister Peter Dunne announced today.

The PIE rules coming into force on 1 October 2007 prevent lower-income people being over-taxed on their earnings through passive savings vehicles such as managed funds. Investors in savings vehicles that choose to become PIEs and whose personal tax rates are 33 per cent or 39 per cent will have their earnings taxed at a final rate of 33 per cent until the beginning of the 2008-09 income year, when it will drop to 30 per cent. Investors on lower income tax rates will be taxed at 19.5 per cent.

"To ensure that these tax rate benefits are not clawed back, dividends paid by companies qualifying as PIEs are not taxed – unless the shareholder elects that they are. This make PIEs an attractive form for companies that earn some non-taxable income that they want to distribute to shareholders," the Ministers said.

"It appears that, because PIEs can invest in land, some land-owning companies that run active businesses are contemplating using a gap in the new rules to structure the land part of their business as a PIE, to reduce final tax on shareholder earnings. That is against the policy intent of the PIE rules. The government will introduce legislation at the earliest opportunity to prevent it occurring, allowing sufficient time for consultation.

"A second recently identified gap in the new rules concerns the requirement that income earned by PIEs must be passive in nature. An error in the legislation, however, means that requirement does not apply to PIE subsidiaries, which it should. That error will be corrected as soon as possible," the Ministers said.

The signalled changes will be made effective from 1 October 2007.

A set of broad guidelines [below] were also released today to help land-owning companies that are contemplating becoming PIES to determine whether such a move would be consistent with the policy rationale of the rules.

Contacts:
Bryan McDaniel, press secretary to Dr Cullen, 04 471 9412 or 021 270 9013
Ted Sheehan, press secretary to Peter Dunne, 04 470 6985, 021 638 920 


PIE guidelines for land-owning companies

The portfolio investment entity (PIE) rules were introduced last year to reduce barriers for people who invest through savings vehicles. The policy intent of the rules is that PIEs should be passive investment vehicles, such as managed funds.

Can land-owning companies be PIEs?

PIEs are able to hold land, as well as shares and debt investments, since prudent investment management principles generally require portfolio investments to be diversified.

Widely held companies can be PIEs if their main activity is to lease land and buildings to people who run businesses on those premises, since passive income includes rent from leases (but not payments from licenses to occupy). Listed property trusts that own commercial buildings would generally fall into this category.

The PIE rules were not, however, designed for active businesses that hold most of their assets in land – such as airports, hotels and rest homes.

Gaps in the legislation

Gaps in the current law allow companies to qualify technically as PIEs by using the following arrangements, contrary to the policy intent:

Stapled securities

While the rules ensure that companies with active operations cannot be PIEs, the land and active business parts of a company can be divided into separate companies. The company with the land qualifies as a PIE in its own right. The shares in both companies are "stapled" so they can only be bought and sold as a package. This means that the land part of a land-rich business can qualify for the PIE rules, even though the land and the active business remain part of the same economic unit.

Leasing land to an associated company

Another way of achieving the same effect as stapled securities is within a group of companies. Under this structure, a land-owning company leases land and buildings to an operating company, which is an associate of the investor. The land company qualifies as a PIE. As long as the operating company is worth no more than 10 per cent of the group, the group could operate as a PIE.

PIE subsidiaries

The law requires income from PIEs to be passive in nature. An error in the legislation, however, means that this requirement does not apply to land-owning subsidiaries of PIEs. As a result, a land-owning company's active business could be put into a subsidiary, thereby allowing it to earn active income without jeopardising its PIE status.

Technical contact: David Carrigan, Policy Manager, Policy Advice Division, Inland Revenue, 04 890 6146