Formula method

Clauses 8 and 103(10)

Issue: The “grow rate” should be removed

Submission

(Ernst & Young, PricewaterhouseCoopers)

The “grow rate” should be removed from the formula method.

Alternatively, the relevant rates could be provided by the Commissioner of Inland Revenue each year or else set out in a schedule (Ernst & Young).

Comment

The submitters note that the formula method, as an alternative to the schedule method, is too intensive, restrictive, and complex to be a viable option for taxpayers to apply. This is because people will struggle to understand and apply the concept of the interest component to account for the deferral of tax (“grow rate”).

Officials note that accounting for the deferral benefit is a major component of the proposed new rules for taxing foreign superannuation interests, particularly when taxpayers may hold these interests for at least 20–30 years before bringing them into the New Zealand tax base.

Officials do not believe that calculating the “grow rate” is too intensive, restrictive, or complex. The “grow rate” formula utilises information that the taxpayer would have used in calculating other components of the formula method.

Recommendation

That the submission be declined.

Issue: Changing the tax rate in the “grow rate” calculation

Submission

(New Zealand Law Society)

The tax rate used to calculate the “grow rate” should be the taxpayer’s actual marginal tax rate.

Where the actual rate has fluctuated during the relevant period, an averaging calculation should apply or the taxpayer should use the highest marginal rate applying over the period.

Comment

The term “grow rate” assumes that the person is on the highest marginal tax rate.

The submitter argues that when the taxpayer’s actual marginal rate is less, this inappropriately inflates the benefit of the deferral and the actual marginal rate should be able to be used if it is less.

Officials are of the view that this would add unnecessary complexity to the proposed legislation. This would particularly be the case if the taxpayer were required to calculate their average marginal tax rate over a 20 or 30 year period, when tax rates may have fluctuated or they may not have access to the required information.

Recommendation

That the submission be declined.

Issue: Application to defined benefit schemes

Submission

(Ernst & Young, Financial Services Council, New Zealand Institute of Chartered Accountants)

The formula method should be available to taxpayers with defined benefit schemes. The submitters note that actuarial valuations are available and are considered to be a recognised means of valuing interests in defined benefit schemes.

There should be a separate option available to taxpayers with interests in defined benefit schemes (New Zealand Institute of Chartered Accountants).

Comment

In establishing the formula method, officials were concerned that reliable actuarial valuations of defined benefit schemes are not available.

While it is possible in theory to obtain actuarial valuations, these can vary greatly. This raises serious integrity issues.

Submitters did not provide further suggestions on how these integrity issues could be addressed in practice.

Recommendation

That the submission be declined.