Requiring taxpayers who elect to file tax returns to file across the previous four years
Issue: The four-year filing rule should not proceed
Submission
(KPMG)
Although there is asymmetry from being able to file for a refund while not being required to file when tax is owed, the result is a fiscal risk to the Government and a foreseeable consequence of the filing reforms of the late 1990s that removed the requirement to file for the majority of taxpayers. Since tax withholding systems collect, on average, the right amount of tax, no further square-up should be required. Requiring taxpayers to file over four additional years will add to compliance and administrative costs, and could be viewed as an attempt by Inland Revenue to restrict access to refunds.
Comment
The reforms of the 1990s did not anticipate the practice of “cherry picking” refunds and the extent to which it occurs. The rate at which personal tax summaries are requested by taxpayers has increased very significantly in recent years. Approximately 200,000 personal tax summaries were requested over a period of five years up to 2008; by 2010 this number was reached in the space of seven months. There has also been a corresponding increase in the rate and quantity of refunds issued over the same period. It is appropriate to address the inequity with the returns filing system that the practice of “cherry picking” has demonstrated.
Officials consider that requiring taxpayers who elect to file tax returns across the previous four years does not place an unreasonable compliance burden upon this group. This is because most of this group already either currently files for the four years, or at a minimum, completes the initial steps to determine whether they are due a refund or have tax to pay. The main difference is that they decline to complete income tax filing for those years when they have tax to pay. Therefore, the proposal does not materially increase the compliance burden of income tax filing relative to the tax filing activities that they currently perform.
Despite the small increase in compliance costs at the margin, this change is necessary to prevent the significant loss in Crown revenue that occurs under the current rules.
Recommendation
That the submission be declined.
Issue: The length of the four-year rule
Submission
(Corporate Taxpayers Group)
Although cognisant of the problem of “cherry picking” refunds, the proposed four-year rule is confusing and places a high compliance burden upon taxpayers as it will require them to search back through their records from the previous four years. This is not justified for taxpayers who for legitimate reasons may be required to file. The reforms will increase taxpayer interactions with Inland Revenue due to their complexity. A two-year retrospective filing requirement is more suitable than the proposed four-year period.
Comment
Officials consider that the proposed four-year filing requirement is not substantially more confusing or compliance-heavy than the status quo. Taxpayers routinely check across the previous four years to identify those years in which they are due a refund and filing for these years is a small extension to this process.
The proposal will not apply to taxpayers who are, for whatever reason, required to file an income tax return. The four-year filing requirement will only apply to taxpayers who choose to file a tax return. It allows taxpayers who are not otherwise required to file to choose between low compliance costs, or accuracy of income tax paid.
Four years is the current cut-off point for filing personal tax summaries retrospectively. Changing the rule to a two-year retrospective filing requirement is arbitrary and does not align with the existing filing framework. It would also fail to fully address the problem of “cherry picking”, unless there was a subsequent policy change to restrict retrospective filing to the previous two years, which would limit taxpayers’ access to claiming refunds in those additional back years. It should also be noted that taxpayers will still be entitled to view the salary and wage information that Inland Revenue holds about them, and subsequently make a decision regarding filing based on their net position.
Recommendation
That the submission be declined.
Issue: Refinements to the proposal
Submission
(New Zealand Institute of Chartered Accountants)
While broadly in support of the proposal, source-deduction information should be easily obtainable from Inland Revenue, and no late filing penalties should apply in respect of tax returns for prior years filed by taxpayers who had no obligation to file.
Comment
Individuals are currently able to obtain from Inland Revenue information that it holds on source deductions that have been made from their salary or wage income.
Officials agree that as a matter of policy, late filing penalties should not apply to individuals who choose to file but otherwise would not have been required to do so. Under current law, late filing penalties do not apply to persons whose filing obligations are governed by section 33A of the Tax Administration Act 1994.
Recommendation
That the submission be noted.
Issue: Commissioner’s discretion with respect to the four-year filing rule
Submission
(New Zealand Institute of Chartered Accountants)
Taxpayers who choose to file an income tax return should be entitled, on application to the Commissioner, to have the four-year filing requirement disregarded, due to the complexity of the rules and potential for taxpayers to erroneously expect a refund as a result of filing.
Comment
Officials do not consider this discretion to be necessary, as taxpayers have access to the salary and wage source deduction information that Inland Revenue holds about them and can do the necessary calculations to determine whether they are due a refund or instead have tax to pay before they file any returns. Inland Revenue provides online calculators and information to assist with this.
Providing a discretion would be difficult to administer, as it would require the Commissioner to make an objective assessment about whether the taxpayer had filed in error or not. It would also potentially increase the number of contacts with Inland Revenue, and require manual interventions to Inland Revenue’s IT systems.
Recommendation
That the submission be declined.
Issue: Excluding certain taxpayers from the application of the four-year rule
Submission
(New Zealand Institute of Chartered Accountants)
Taxpayers who do not work a full tax year and who are due a tax refund should be excluded from the four-year filing requirement.
Comment
Individuals who do not work a full tax year are likely to have their income over-deducted and therefore be due a refund of PAYE withholdings. This is because the PAYE system calculates the PAYE for a pay-period as if the person will earn that pay-period amount for the full year. Individuals for whom this could apply include people who go on parental leave, and retirees in the year in which they cease employment.
However, excluding these taxpayers from the application of the four-year filing requirement would be difficult to administer, as it would substantially increase contacts with Inland Revenue and require, in particular, manual interventions to Inland Revenue’s systems. It also raises the question of whether other taxpayers who are over-deducted for other reasons should be excluded from the coverage of the four-year filing rule, such as taxpayers who receive a pay increase.
One option for addressing this concern is to set a level above which refunds could be paid out for a particular year, without requiring the taxpayer to file for the previous four years. This would go some way in addressing the potential for large over-deductions caused by a period of unemployment during a tax year. It also raises the same equity issues mentioned above in relation to other types of over-deductions, and has similar operational issues.
The potential impact from applying the four-year rule to taxpayers who do not work for part of the year is that they pay the correct amount of income tax. In that sense, they are not disadvantaged relative to what should have been withheld from their income.
Finally, the notion that taxpayers unfamiliar with filing returns will suddenly be required to file for a number of years in order to receive a tax refund for the current year is not a significant concern. Most taxpayers will currently check for refunds in all previous years, choosing not to finish the process for years when tax is payable. There is also a very active industry built around firms completing this process on behalf of taxpayers should they not wish to undertake it themselves.
Recommendation
That the submission be declined.
Issue: Improving the drafting of proposed new section 33AA of the Tax Administration Act 1994
Submission
(New Zealand Institute of Chartered Accountants, Matter raised by officials)
Although the proposed new section 33AA of the Tax Administration Act 1994 is an improvement on the existing section 33A (that it purports to replace), improvements could be made to make it easier to understand. (New Zealand Institute of Chartered Accountants)
The drafting improvements included in the new section 33AA should be incorporated into the legislation given that current rules relating to the issuing of personal tax summaries will remain in place. (Matter raised by officials)
Comment
Filing requirements for individuals begin with the principle outlined in section 33 of the Tax Administration Act, which states that all taxpayers, other than those to whom section 33A applies, are required to file. Section 33A and its redrafted version then goes on to outline which taxpayers do not have to file. As a consequence of the initial broad statement requiring all taxpayers to file, new section 33AA is framed negatively. Although this drafting can appear unintuitive, it is highly important that the initial principle be framed as broadly as possible, in order to apply generally.
One of the consequences of not proceeding with the amalgamation of the income tax forms for individuals is that the provisions relating to issuing of personal tax summaries will remain in place. Officials consider that the improvements in drafting made in the new proposed section 33AA should be retained in the bill.
Recommendation
That the submission from NZICA be noted and the officials’ submission be accepted.
Issue: Updating the income threshold within new section 33AA
Submission
(New Zealand Institute of Chartered Accountants)
The income level of $200 used in new section 33AA (and the current section 33A) of the Tax Administration Act 1994 should be updated to a higher level, between $500 and $1,000.
Comment
The $200 income level referred to in this submission is the level of income used generally within the provision to provide the tipping point under which an acceptable level of error can occur before a taxpayer will be required to file an income tax return. An example of this is in relation to taxpayers who earn income that is subject to resident withholding tax. If a taxpayer earns more than $200 of this type of income and this income is taxed at a rate other than their marginal rate, they will be required to file a return.
The policy changes in the bill do not extend to a reconsideration of these income levels. Furthermore, any increase in these will have a fiscal cost.
Recommendation
That the submission be declined.
Issue: Links between the PIR rules and the return filing rules
Submission
(New Zealand Institute of Chartered Accountants)
The links between the portfolio investment rate (PIR) rules and the return filing rules should be clarified. Portfolio investment entity (PIE) income that is not excluded income is taxable income and should be returned. However, there is no equivalent $200 income threshold as exists for other types of income such as income subject to resident withholding tax (RWT).
Comment
It is intended that PIE income that is not excluded income is covered by the general $200 threshold in new section 33AA(1)(a)(ii) for income that is not subject to withholding.
Recommendation
That the submission be declined.
Issue: The redundancy tax credit
Submission
(New Zealand Institute of Chartered Accountants)
The redundancy tax credit or similar relief should be extended to cover loss of earning payments made by the Accident Compensation Corporation (ACC) that relate to prior or multiple years.
Comment
The policy changes in this bill do not extend to consideration of the redundancy tax credit. The redundancy tax credit was repealed recently with effect from 1 October 2011.
However, the issue with payments of this kind is that despite the fact that they may relate to prior years, they are taxed in the year in which they are received, and may be taxed at a higher marginal rate than they would have if the income had actually been received in the year(s) to which it relates. This is because these taxpayers are typically cash-basis taxpayers, and so are taxed on their income at the time they receive it. The tax treatment of ACC back-dated compensation is the same as that for other lump sum payments, such as bonuses and long service leave.
Recommendation
That the submission be declined.
Issue: Applying the four-year rule
Submission
(Matter raised by officials)
Under the current drafting of the four-year rule, it is possible that taxpayers could choose to file for one of the previous years in which they are due a refund, and have the four-year rule apply from that year.
For example: It is now July 2020 and Sarah is aware she has a credit of $100 for the 2018 year, but a debit in the 2019 and 2020 tax years.
| 2020 | 2019 | 2018 | 2017 | 2016 |
|---|---|---|---|---|
| (10) | (50) | 100 | 20 | 10 |
Sarah chooses to file for the 2018 tax year. The four-year rule is triggered and she also has to file for 2017 and 2016, but no further back because of the statute bar.
Comment
The policy intent of the four-year rule is that the relevant four-year period should start from the most recently ended tax year.
The scenario outlined in the example above would be inconsistent with the policy intent. Officials therefore recommend that the four-year rule be clarified to apply from the most recently ended tax year and not from the year for which the taxpayer is choosing to file. So, in the example, if Sarah wanted in 2020 to square up for 2018, she would need to file for 2020, 2019, 2018, 2017 and 2016.
Recommendation
That the submission be accepted.
Issue: Application of late payment penalties and interest
Submission
(New Zealand Institute of Chartered Accountants, Matter raised by officials)
Late payment penalties and use-of-money interest should not be imposed on tax debts that arise from the requirement to file returns for the previous four years. People should be given a new due date for such debts and late payment penalties and use-of-money interest should apply from that date if payment is not made.
Comment
Late payment penalties and use-of-money interest typically apply when a taxpayer does not pay their tax by the due date for a particular tax year.
Under the proposals in the bill, taxpayers who file for a previous year (due to the operation of the four-year rule) and have a debit, would be subject to late payment penalties and use-of-money interest from the original date that the debit would have been due, had the taxpayer been required to file a return.
Officials consider this would be unfair. To apply penalties and interest to amounts arising from tax years when taxpayers were not required to file would effectively undermine the principles underlying section 33A and the proposed section 33AA of the Tax Administration Act 1994. To avoid penalties and interest applying, a new due date for payment will need to be set. If payment does not occur by this date, late payment penalties and use-of-money interest will apply from that date.
Recommendation
That the submission be accepted.
Issue: Offset of credits and debits within four-year period
Submission
(Matter raised by officials)
Any credits and debits that arise during the four-year square-up period should be able to be offset against each other.
Comment
Under the current tax rules, an income tax refund due for an income year may be offset against any income tax owing from previous income years (that is, tax unpaid after the due date for payment). However, to ensure that taxpayers are not subject to late payment penalties and use-of-money interest for returns required to be filed as part of the four-year square-up rule, a new due date will be set (see above submission).
The effect of this will mean that any credits will not be able to be offset against a debit as the debt is not due. The result will be that any refunds will be paid to the taxpayer and tax owing will be payable by the due date. The following example demonstrates this outcome:
Sarah is not required to file returns and chooses to file for the 2020 year. As a result she is issued PTSs for the 2016 to 2019 tax years.
| 2020 | 2019 | 2018 | 2017 | 2016 |
|---|---|---|---|---|
| 100 – refund | 50 – refund | (60) – tax to pay | 20 – refund | (50) – tax to pay |
Sarah would be paid refunds totalling $170 and be liable to pay tax of $110 by the new due date (two months after issue of statements).
For administrative ease and to prevent the non-payment of any tax due, officials recommend that any credits and debits arising as a result of the application of the four-year square-up rule be able to be offset against each other. That is, any debit for a year should be treated as being due from its original due date for the purpose of offsetting it against any refund due.
Recommendation
That the submission be accepted.
DEFERRING THE APPLICATION DATE
Submission
(Matter raised by officials)
The application date of the 2014–15 tax year should be deferred until the 2016–17 tax year, and the application date should be able to be set earlier by an Order in Council.
Comment
As noted previously, Inland Revenue is under significant resourcing pressure to implement a number of policy changes, such as student loan redesign, child support and the proposals in this bill over the short- to medium-term. Furthermore, the Department is in the process of developing its Business Transformation blueprint and its future operating model. This will lay the foundations for the information technology platforms and business processes it will operate in the future. To provide greater organisational flexibility to implement these proposals, officials propose that the application date be deferred but be able to be set earlier by an Order in Council.
We propose that the application date be deferred by two years to the 2016–17 tax year. Furthermore to provide flexibility, we further propose that the implementation date be able to be set by Order in Council if it was decided to implement the proposals from an earlier tax year.
Recommendation
That the submission be accepted.