With a proposed capital gains tax the major talking point at the moment, we take a look at possible implications for business owners and property investors.
The Tax Working Group (TWG) interim report released last week proposed the introduction of a Capital Gains Tax (CGT) that could raise billions of dollars in tax for the government by taxing profits on the sale of property, shares – and businesses.
While this is an interim draft submission only and is likely to change once it has gone through the parliamentary process, the uncertainty around its final shape is generating a lot of robust discussions.
However, it’s too early to make any real plans. The advisors to the TWG were divided on the submissions, so proposals are likely to be subject to robust debate in the coming year – and an election after that. We therefore suggest taking a cautious ‘wait and see approach’, looking at options, but waiting until the finalised form of the proposal is known before making any major decisions.
What is captured in the new tax (CGT)?
The TWG propose that profits from sale of appreciating assets such as businesses, intellectual property, shares and land investment property will be subject to tax.
What is specifically excluded from CGT?
The TWG has ruled out the family home and the land it stands on.
When would the proposed CGT be introduced?
The new tax is likely to be introduced from 2021 at the earliest for assets (ie. businesses, shares, property, land, etc). If the same approach is taken as with other tax changes the changes could be effective from, say, 1 April 2021. This would only apply to new assets purchased after this date. There would be two options applied.
The alternative is that they nominate a ‘Valuation Day’ for assets already owned. That is in the hands of the politicians to decide. If this approach is adopted, we could potentially see a number of business owners, investors in property and shares, exiting prior to this date and a glut of businesses, land, shares and investment property on the market.
It may also encourage the investors to re-assess the returns or yield from any such purchase.
What is the proposed CGT tax rate?
The TWG propose linking CGT through the existing income tax system. This means the CGT tax rate would be applied at the marginal tax rate of the individual, so it will correspond to the PAYE tax tables.
For example: You originally purchased a business or property for $700,000 and sold it for $800,000. You will pay tax on the Capital Gain of $100,000. In addition to this, you have an income of $70,000 say from rents, dividends, interest and or PAYE income your assessable income will now be $170,000. In this example, the $100,000 profit on the sale of your business, shares, land or property would be taxed at 33c in the dollar.
Tax Credits on Losses
But what if the business is sold for less than you originally paid for it? At the moment, any capital loss on a property sale is a straight hit for the vendor; if a tax credit is allowed against loss on sale of a business, this could potentially be seen as reducing risk. Given the level of information provided so far, it is too early to provide any comment on this.
Personal Income Tax
The TWG has proposed increasing the bottom tax threshold. The adoption of this would help both business owners who employ staff, and their employees, or those whose sole income is generated from an investment portfolio. This will see some pressure coming off low wage earners or investors with modest income who would have more disposable income after tax.
Family Home Exception
For some business owners or investors who operate themselves as home-based operations, or at least require admin and office work to be carried out from home. Whilst in most cases the family home is excluded from CGT, there are some circumstances where CGT may apply.
There are some tests around what is defined as a family home and what is not. For example, the property of a family home is limited to 4500m2, so if you own a 10,000m2 property, then if a gain on sale is made, CGT may apply proportionally. Also, if you operate a business from home there may be some matters you will need to take further advice on once the details on this are known. What seems a simple exclusion from CGT can get complicated.
How could Capital Gain Tax affect you as an investor or business owner?
If the proposed tax changes are finalised and passed into law, then:
Business Valuations. In the event that CGT is imposed on existing businesses via a ‘valuation day’, this could have far-reaching implications for the ultimate return on investment that a business owner or property investor might achieve. It might depend on what valuation method is adopted or approved.
Business Re-Sales. The impending introduction of CGT could see some business owners taking the opportunity to exit. With generation X forming the largest percentage of business owners. This aging population of business owners may find a shortage of suitable buyers to purchase their business. This could also impact upon business values. We recommend business owners seek advice around future succession and exit planning strategies.
Estate Planning, Trusts Asset Planning. Although the final form of the CGT is two years away, it may be prudent to revisit your estate planning whether as an individual who owns property or as a Trustee on behalf of your Trust.
Tax Planning for Property and business owners. With a profit on sale you will need to factor in how to fund the additional tax. The treatment of loss on sale of a business or property would also be an element to consider, although as noted above little is known about this yet. What is certain is that the introduction of CGT is likely to place increased compliance costs on property and business owners and the requirement to be better informed around tax matters.
These views are based on the TWG proposals published to date. This likely to be changed before coming into law. The final shape is likely to be known in next 12 months but not enacted until 2021 – if then. Ultimately, the machinations of our political system will determine the final form of CGT. This is likely to be a topical election issue and its ultimate fate will be decided at the ballot box.
There are pros and cons of any tax changes. Widening the tax base is often seen as spreading the tax burden, and any tax changes should be measured against balancing the social and economic impacts. Where inflation increases the value of land-based assets, one could see it as a stealth tax. Others might say a better-funded government is more able to deliver its social contract and serve the needs of the country.
Whatever the eventual outcome, business will go on investors will continue to play a major part in the economy of New Zealand. For now, we advise a wait and see as to what the final form of a proposed CGT takes and then work from an informed position. Stay informed and seek tax advice from your trusted tax advisor.
The views of this article are of a general nature only and are not a substitute for seeking tax advice, nor should reliance be placed on this.
Each person’s circumstances can vary and need to be evaluated on their own merits. Therefore we recommend you obtaining a tax opinion your trusted tax advisor