What you Need to Know About the New Tax Rate Increase from 33% to 39%

The Prime Minister announced on 7 December 2020 that there will be a new tax rate of 39% for individuals whose total annual income is $180,000 or more. This brings back memories for those of us who have lasted long enough to remember the tax regime under the Helen Clark led Labour Government from 10 December 1999 to 19 November 2008.

The introduction of the new tax bracket with the 6% increase has not been met with a lot of opposition. After all, no one can expect the current government to be able to afford the various wage subsidy and business rescue packages endlessly.

The additional funding must come from somewhere – either Aunty Cindy will keep printing money or the tax rate will have to go up.

Tax Rate Changes

From 1 April 2021 those earning $180,000 or above will have to brace themselves for the highest rate of 39% marginal tax rate, says tax consultant and chartered accountant Bernice Lo of BLO Consulting Company Limited.

Given March is already the busiest month for accountants as the majority of SMEs in New Zealand will end their financial year on 31 March, the new tax rate may bring new challenges for some of us.

The most prevalent form of how businesses in New Zealand are run is, naturally, via a limited liability company. And the most common form of shareholding in the SME landscape is for the shares to be held by a natural person.

Most people may not have considered that their shares in a SME limited liability company could be held by a trust instead of a natural person. Apart from other advantages, the obvious advantage a trust could bring a company is asset protection.

So instead of mum or dad; husband or wife holding the shares, a family trust set up by the same players could become the shareholder. The simple truth is that a trust’s tax liability (if the trustees choose to front the tax burden on all gross income) is that all tax paid profit of a trust can be distributed tax free to its beneficiaries.

Example

Imagine a company that makes $500,000 in net profit:

If it has only one natural person as a shareholder, the company pays 28% company tax and any after tax profit is paid to the sole shareholder via fully imputed dividend (i.e. 33%). Any dividend from $180,000 to $342,000 distributed to the sole shareholder will attract a further 6% tax due to the tax rate change for individuals. This is painful and unavoidable.

On the other hand if the shares in this company are held by a discretionary family trust, the entire $500,000 dividend will remain taxed at 33% without attracting further tax where these tax credits are already attached to the dividend.

Conclusion

Obviously a discretionary family trust is in itself an effective asset protection vehicle. It protects the nest egg of an individual settlor by alienating his assets from his or her name to that of a separate legal entity.

In the event the individual is faced with any creditors’ risk (like business suppliers or even IRD) or faced with a claim under the Property Relationships Act, the individual in question having been void of his possession, would have nothing to surrender to his creditor, IRD or his partner when he cannot meet the claims made against him.

The alienation of assets from the individual is of course performed in a controlled manner to ensure they are safe and can be held as one entity for the sake of the beneficiaries named by the settlor. Trust has been used as the most prevalent instrument in New Zealand since modern history. It is estimated that today, there are between 300,000 and 500,000 trusts in the New Zealand.

With the new tax regime, it is opportune time to structure one’s wealth to ensure it is held in a coherent manner, relatively free from risks. The need for asset protection is accentuated given the turmoil brought on by the epidemic. The starting point could be the establishment of a family trust.

With asset protection in mind one should talk with his or her legal advisor and tax advisor together to see how to improve the effectiveness and efficiency of tax management. This can always come as a welcome side benefit when one structures his or her wealth for the purpose of asset protection. The transfer of shares in a limited liability company from a natural person to a trust is one such example that, when done in a timely manner before the distribution of net profits at the financial year end, could save one from the burden of the new 6% tax burden.

Please note that the above is not legal advice.

If you want to apply the above methods to your work, please feel free to contact us:

Phone: 09 366 6860
Email: info@focuslaw.co.nz
WeChat: evaho888 (Eva Ho) // SimonS1215 (Simon Song) // negativebeta (Keith Yung)

We are happy to have a free initial consultation with you.

Contact Us

If you would like to make a query or book a consultation, please contact us by calling 09 366 6860, emailing info@focuslaw.co.nz, or filling out our secure and confidential contact form.