FBT on motor vehicles refresher

Calculating Fringe Benefit Tax (FBT) on motor vehicles can be complex, due to the various permutations that can exist depending on the use of the vehicle, its type and the approach adopted by the employer. As a result, it is very common for businesses to get the calculation wrong.

As a refresher, a fringe benefit will arise when an employer makes a motor vehicle available to an employee for their private use, in connection with their employment relationship.

Sedan, FREE Stock Photo, Image, Picture: Red Sedan Sport Car, Royalty-Free  Car Stock PhotographyThe amount of FBT payable depends on the value of the motor vehicle benefit. This is calculated based on either the cost price or depreciated value of the motor vehicle, multiplied by the applicable FBT valuation rate. The rate varies depending on whether the GST inclusive or exclusive cost or tax value is used - with the tax value method applying a higher percentage than the cost price method. As a result, the cost price method is typically used from ‘day 1’, while the tax value method becomes more favourable for vehicles that are held for more than five years.

The value of the fringe benefit is also apportioned by the number of days the vehicle is “available” for private use. It should be noted that the employee does not actually have to be using the vehicle for a fringe benefit to arise, it only has to be available for them to use. For example, if a vehicle is being repaired and is unavailable to the employee, this is generally considered an excluded day and would reduce the value of the benefit.

Other examples of exemptions from days counted as available for private are where the employee is away on a business trip with the car for longer than 24 hours, or they are required to attend an emergency call. However, if an employee goes on a private holiday and uses their work vehicle to get to the airport, parking it there for the duration of their holiday will likely to be subject to FBT unless the employer and employee have specifically agreed otherwise.

If a vehicle qualifies as a work related vehicle, travel between home and work and other incidental travel on work days is not subject to FBT. To qualify as a work related vehicle:

  • it must be sign-written,
  • cannot be designed to mainly carry passengers, and
  • employees must be notified in writing that the vehicle is not available for private use except for travel between home and work and travel incidental to business travel
  • Close companies may also chose not to apply the FBT rules to motor vehicles. This is allowed where the only fringe benefit provided is the provision of up to two motor vehicles to shareholder-employees for their private use. In this case, they may choose to apply the rules in subpart DE, where expenses can be claimed based on the proportion of business use of the motor.

Note: For most of our clients we calculate and record a private use adjustment to avoid the need to pay FBT.

Deductibility of holding costs for land

On 31 March 2023, Inland Revenue released a draft interpretation statement (PUB00417) addressing the deductibility of land holding costs - namely, interest, rates and insurance - and the relevance of whether the land is taxed on disposal. This had been an area of uncertainty since the introduction of the residential bright-line provisions in 2015, which can result in a disposal of land being taxable even if it was held on capital account or used privately.

Inland Revenue previously released a consultation document in October 2019, which considered three options in relation to a taxable disposal of land, where the land had been used wholly for private purposes (for example, a holiday home subject to the bright-line test):

  1. Apportion the holding costs between the taxable gain and private use of the land.
  2. Allow deductions for all holding costs, despite private use.
  3. Deny deductions for all holding costs for periods of private use.

While Inland Revenue conceded that apportionment would provide the most accuracy, they concluded that due to complexity, the preferred option was to deny deductions for holding costs for periods of private use.

Inland Revenue’s view on this issue remains unchanged from the initial 2019 consultation document. The draft interpretation statement reaffirms that land held on capital account will not give rise to deductible holding costs, even if the disposal is taxable. It was emphasised that there must be a sufficient nexus between the expenditure and the derivation of income from the taxpayer’s income-earning process, and that taxpayers must look at what the land was used for in the period that the expenditure is incurred. Consequently, holding costs will only be treated as deductible to the extent that there is income-earning use of the land. It is further noted that income-earning use can comprise holding the land for the purpose of resale or deriving rental income, but specifically excludes holding the land on capital account, even if it is taxable under the bright-line provisions.

The statement also clarifies that if there is both private use and income-earning use of the land, then holding costs will need to be apportioned. In the first instance, attention should be given to whether the mixed-use asset regime applies, in which case specific rules must be followed. Otherwise, general principles should apply, such as a time-based or space-based apportionment. To complicate things further, the interest limitation rules and the residential ring-fencing rules may also need to be considered.

Given the increasing scrutiny and tightening of legislation on residential property in recent years, Inland Revenue’s stance is somewhat unsurprising. However, for those who feel strongly on this topic, consultations are open until 31 May 2023.

Environmental correctness

The call for action regarding climate change and mitigating man’s negative impact on the planet is not new. However, there has been a shift in the last few years. It has moved from being a focus of ‘greenies’ and the ‘young’ to being accepted by the mainstream population as something that can no longer be ignored. It has evolved into a broader attitude encompassing Environmental, Social and Governance (ESG) issues. With it has come an expectation and pressure from all stakeholders - customers/clients, shareholders and employees alike – for businesses to prove they are taking ESG seriously and what actions they are taking.

It’s no secret that businesses have a large impact on the world's environmental state. Reports have found that 100 companies are responsible for 71% of the world's greenhouse gas emissions. To reduce this negative perception, global companies are betting big with sustainability investments. For example, international oil company BP have reformed their business by forming an ‘integrated energy company’ with a goal to reach net zero carbon emissions by 2050. They have created actional steps including developing offshore wind projects with capacity to power 5 million homes.

Realistic sustainable processes will vary depending on the nature and size of a business’ operations. Focus could start on the four low-hanging fruit of a company's operation - energy, water, material, and waste. Implementing change to reduce these elements not only addresses ESG expectations but can lower operational costs, as well as yield potential increases in revenue. For example, remote working has grown in popularity since COVID-19, and it has become an employee’s expectation that an employer will provide some form of flexible working. This offering is great for the environment, as fewer cars on the road equates to less carbon dioxide being emitted into the air. For paper items commonly used in the business place, look for materials made from post and pre consumer waste such as recycled products, which maintain a circular economy. There will be a portion of a business' carbon footprint that cannot be reduced through sustainable practices. For this portion, purchasing carbon offsets from carbon marketplaces can shift the needle to becoming carbon neutral.

Consumers are voting green with their wallets as they become educated about sustainability and ethical employment practices, causing buyers to reassess their purchasing habits. “Fast fashion” has become a well-known term – those who are lucky enough to afford it are doing their research about suppliers, to enable informed decisions when it comes to buying items such as clothes and shoes. People have become more willing to spend a bit extra for the peace of mind that they are not supporting unethical employment practices. In the same vein, existing and potential shareholders are increasingly scrutinizing a business’ non-financial results when making investment decisions.

While sustainability initiatives may not always deliver immediate benefits to the bottom line, a business that promotes environmental practices on the forefront of its business model may attract or retain clients and customers; while also connecting with its employees who value environmental sustainability at a personal level.

Trusts and distributions  (written pre the 18  May Budget)

Using a trust to manage and protect a family’s business and personal assets is common practice in New Zealand. However, the tax rules applicable to trusts also differ to that applicable to individuals and companies. With the top personal tax rate increasing to 39% from 1 April 2021 while the trust tax rate has remained at 33%, the differential provides a benefit in retaining income in a Trust to be taxed at 33%.

However, the nature of the trust’s activity, the assets held, the beneficiaries involved, and the costs incurred by the trust on behalf of its beneficiaries still need to be carefully managed. A common scenario is a trust being the sole shareholder of a company. A beneficiary of the Trust operates the company and pays themselves a salary. If the salary is intentionally set lower than market rates, with the remaining income of the company distributed to the trust in the form of a dividend, it could be deemed that a taxpayer has fixed the salary in an artificial manner to obtain a tax advantage and thereby is party to a tax avoidance arrangement.

Where taxable income derived by a trust is subsequently used to fund the lifestyle of beneficiaries there is a risk that IRD could take the view that the funds paid to the beneficiaries should be treated as taxable beneficiary distributions. When the top personal marginal tax rate and the trust rate was the same at 33%, there was no difference from a tax perspective and transactions were not subject to a high degree of review or scrutiny. Through this time, both trustees and their advisors may have taken a relaxed approach to how transactions were accounted for and documented. With income tax returns for the 31 March 2022 year now filed (by 31 March 2023), scrutiny by Inland Revenue is expected to increase, particularly if a beneficiary is subject to the top 39% tax rate.

If beneficiaries are reliant on dividend income that is derived by the trust, could Inland Revenue assert payment of the ‘dividends’ to the beneficiaries comprises taxable beneficiary income irrespective of the legal form of the payment. For example, if a trust owes a beneficiary $1m and a trust derives a dividend of $72,150 into its bank account and the same day that exact amount is paid to the lender – is it a loan repayment or the distribution of the dividend? If trustee resolutions reflect it is a loan repayment, will that suffice in the event of a review by Inland Revenue. What if there are no resolutions, what then? What if there is no loan to repay?

Issues like this have not been the subject of material scrutiny in recent years because the tax rates were aligned at 33%. But with the rates no longer aligned, care and due consideration must be applied to ensure tax outcomes are as expected and not open to challenge.


Global tax rates

Inland Revenue made the headlines end of April 2023 with the release of its report on the amount of tax paid by our high-wealth individuals (HWIs). The findings were that HWIs’ overall effective tax rate when taking into account all sources of income, including unrealised capital gains, is 8.9%. The Treasury simultaneously released a number of reports which investigated the progressivity of New Zealand’s tax system. The Treasury found, using information from the Household Economic Survey, that an average middle-income New Zealander has an effective tax rate of more than double the HWI rate, at 20.2%.

When comparing these numbers at face value, it is no wonder the difference caused a reaction. However, without a comprehensive capital gains tax regime to tax the gains on sale of land and shares, the rate of 8.9% is not particularly surprising.

How do our tax rates compare to the rest of the world? Unfortunately, no other country has recently undertaken a similar exercise on the effective tax rate of HWIs, but it is possible to compare our other tax rates against the world’s heavy hitters:

  • Ivory Coast’s highest personal income tax rate (i.e. tax on an individual’s salary and wages) is an eye watering 60%. New Zealand’s top personal marginal tax rate increased from 33% to 39% from 1 April 2021.
  • The highest corporate tax rate goes to Puerto Rico, at 37.5% - higher than New Zealand’s corporate tax rate of 28%.
  • The highest sales tax is in Bhutan, at 50%. Our equivalent tax, GST, pales in comparison at 15%.
  • Denmark has the highest capital gains tax at a rate of 42%. At this point in time, New Zealand does not have a broad-based capital gains tax.

Proposed amendment to directors’ duty

One of the fundamental director’s duties within the NZ Companies Act 1993 (‘the Act’) is to act in good faith and in what the director believes to be the best interest of the company. This has traditionally been interpreted to mean decisions should be aimed at maximising shareholder returns. In September 2021, an amendment was proposed to make it clear that directors of companies can consider a wide variety of factors, such as:

  • recognising the principles of the Treaty of Waitangi (Te Tiriti o Waitangi),
  • reducing adverse environmental impacts,
  • upholding high standards of ethical behaviour,
  • following fair and equitable employment practices, and
  • recognising the interests of the wider community.

On 8 May 2023 the Select Committee recommended that the list above is not enacted, but instead replaced with the following: 

“To avoid doubt, in considering the best interest of a company or a holding company for the purpose of this section, a director may consider matters other than the maximisation of profit”

This addresses submitters’ concerns that the original drafting of the bill may create inconsistencies within the Act, as well as confuse directors about their responsibilities. Further, some submitters felt that the law already allows a director to consider non-financial factors when deciding the best interest of a company.

We will wait to see what is ultimately enacted.

If you have any questions about the newsletter items, please contact us, we are here to help.

All information in this news story is to the best of the authors' knowledge true and accurate. No liability is assumed by the authors, or publishers, for any losses suffered by any person relying directly or indirectly upon this newsletter. It is recommended that clients should consult a senior representative of the firm before acting upon this information.

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