"Associated persons" definition
Issue: Power of appointment or removal
Submission
(New Zealand Law Society)
Section YB 11 of the Income Tax Act 2007 should be amended to ensure that a person who receives a power of appointment or removal of a trustee in their professional capacity (for example, a lawyer) is not associated with that trustee.
Comment
Section YB 11 treats a trustee of a trust and a person who has a power of appointment or of removal of that trustee as associated persons. This section is intended to supplement the trustee-settlor associated persons test in section YB 8 – that is, to treat a person who has the power to appoint or remove trustees similar to a settlor of a trust who usually retains the power.
However, section YB 11 currently includes the relationship between professional advisors and their clients. This outcome is not intended as professional advisors generally do not benefit under the trust. The rule associating the settlor of a trust with its trustee also does not apply to persons acting in their professional capacity only.
Officials agree with the submission that section YB 11 should be amended to ensure that a trustee is not associated with a person who holds the power of appointment or removal in their professional capacity only and who is not eligible to benefit under the trust. A person who is acting in their professional capacity would be defined as a person who is a member of an “approved organisation” defined in section 3(1) of the Tax Administration Act 1994.
The proposed remedial amendment should apply from the 2010–11 income year, which is the date when the current associated persons definition came into force.
Recommendation
That the submission be accepted.
Issue: Limited partnerships and tripartite test
Submission
(New Zealand Law Society)
Section YB 14 of the Income Tax Act 2007 should be amended so that a company is not associated with another company in which it has an effective 6.25 percent interest – where a company holds 25 percent of a limited partnership which holds 25 percent of the second company.
Comment
Officials agree with the New Zealand Law Society that there is currently overreach of the tripartite test in section YB 14 when a limited partnership is interposed between two companies. A company that has an effective 6.25 percent interest in another company should not be associated with the second company.
Officials consider that the overreach involving limited partnerships is not limited to the case raised by the submission. When a person other than a company holds 25 percent of a company and 25 percent of a limited partnership, the company and the limited partnership are associated under the tripartite test. If the limited partnership was a company, the two companies would not be associated under section YB 14 because the two companies are associated with the person under the same associated persons test. Therefore, they do not meet the different associated persons test requirement in the tripartite test (that is, the requirement that two persons have to be associated with the same third person under different associated persons tests).
Officials consider the tripartite test applies more widely than is necessary to protect the tax base in such situations. This is because the different associated persons requirement in the tripartite test – designed to prevent overreach – does not work effectively if a taxpayer’s structure involves a limited partnership. In particular, a limited partner and a limited partnership are associated under a different test (section YB 12(2)) to the company-related tests in sections YB 2 and YB 3.
To prevent this unintended overreach, officials recommend a generic amendment to treat a limited partnership as a company for the purposes of applying the tripartite test.
The proposed remedial amendment should apply from the 2010–11 income year, which is the date when the current associated persons definition came into force.
Recommendation
That the submission be accepted, subject to officials’ comments.