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How we keep the foreign fat cats away

By Deborah Hill Cone

Friday 16th May 2003

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We might have beautiful beaches and award-winning sauvignon blanc, but when it comes to attracting billionaires to this country, we simply don't cut it.

"Why would you come down to New Zealand? People are not going to come here just because it is clean and green. There are a lots of other beautiful places in the world," tax lawyer Denham Martin said.

Tax advisers report New Zealand scores well in what they describe as first-tier issues, such as lifestyle and safety. But they say immigrants are not going to make the move if it costs too much.

"They are obviously attracted to the lifestyle but once they get over the emotion they look at the business implications," PricewaterhouseCoopers tax partner John Shewan said.

"For a guy who's worth $1 billion, tax will be close to his mind ­ when the rubber hits the road, he's not going to be silly about it."

Despite the exposure the country enjoyed during the America's Cup there has not been a flood of mega-wealthy immigrants who were so smitten with the place they decided to move here.

New Zealand Assets Management director Alan McChesney, whose firm specialises in handling funds on behalf of high net worth individuals, said he had few clients who were new immigrants.

"The element that makes New Zealand attractive to people is not the investment environment ­ it's lifestyle and education. But what you want is for those individuals to bring their assets with them," Mr McChesney said.

Accounting giant PWC says it sees "a steady stream" of about 60 very wealthy would-be immigrants per year, with about six (10%) choosing to make the move. "I'd like to see that at 50%," Mr Shewan said.

Malcolm Pacific operations manager David Cooper said the "steady stream" of people wanting to move here under the government's investor category (where they must bring $1-6 million) has slowed since last November's tightening of the English language test.

He estimated 80% of the investors who applied before the rules were tightened are now not eligible ­ meaning most of the $1.5 billion brought in by those immigrants has been wiped out.

"And for every $1 million that they bring in under the rules, they probably bring in another $1 million they spend on things you do not measure," Mr Cooper said.

But from immigration specialists to accountants, everyone who deals with wealthy immigrants agrees on one thing ­ our tax rules are no incentive.

The accrual rules (tax on investment returns) are the most draconian of all countries in the OECD, tax experts say, and a real turn-off to potential immigrants.

The foreign investment fund (FIF) regime frightens off more potential immigrants than any other measure, Mr Shewan said.

"You try telling a Frenchman about the unrealised gains business and they say, 'Non, non, Monsieur, that must be a mistake.' Their thirst for a Marlborough lifestyle suddenly vanishes and they skip across to Queensland," he said.

Another tax adviser who deals with potential immigrants said: "You have to duck for cover when you tell an American he is going to pay unrealised gains on that overseas mortgaged rental property they have invested in. Some of them get really angry with you."

How it works: If you invest in any country other than the very small list of good countries ­ Australia, Canada, the US, the UK, Japan, Norway and Germany ­ you will have to pay tax on your unrealised gains.

That means if it is an investment fund, you pay on the increase in value even if you did not actually get a cent. If your investment is in shares you pay on the increase in the share's value.

All investments, not just funds and shares, are caught in the net. For investments that are hard to value, tax specialists say they apply a notional rate of return ­ say 4% ­ and you pay tax on that. If you can't estimate the value Inland Revenue will do it for you.

And if your investment decreases in value those tax losses are not deductible except from other offshore investment income ­ for example, you cannot claim the losses against tax to be paid on New Zealand-derived income.

Criticism of the regime includes that the list of approved countries is far too narrow ­ and it is a shorter list than in other countries such as Australia.

(Don't ask how Norway got on the list; someone got drunk in a bar with some backpackers when the legislation was being drafted seems as good an explanation as any.)

The rules also throw up all sorts of anomalies. For example, if you bought shares in listed oil company Royal Dutch Shell on the Netherlands stock exchange you would be taxed on unrealised gains, but if you purchased shares in the same company through the London Stock Exchange you wouldn't.

"Some of the outcomes are just bizarre. You pay tax even though no income may ever be derived," a tax specialist at one of the big four accounting firms said.

In this week's federal Budget, Australian treasurer Peter Costello announced he was loosening up Australia's FIF rules to encourage Australians to invest in foreign-based investment funds and to encourage foreigners who had assets in foreign super funds to bring their skills to Australia.

"The Australian regime is not nearly as harsh as ours but even they realise it is too harsh," Mr Shewan said. "What we need is a much more middle-of-the-road tax regime."

Australia has been looking at ways to encourage investment to stop businesses and wealthy individuals going to other tax-savvy jurisdictions such as Singapore.

Mr Martin, who has given tax policy advice to the Treasury in the past, said the New Zealand policymakers took a narrow ideological view.

"It would be better to tax at 15% but make it attractive to be based here so we get more taxpayers. Where are our taxpayers? Thirty per cent of us are beneficiaries," Mr Martin said.

But it would be difficult for New Zealand to give up its source rules ­ you pay tax no matter where income is sourced ­ because this country would lose so much tax revenue as our biggest companies, such as banks, are owned offshore.

Some tax commentators say the government does seem to have a desire to address these problems and is actively looking at the issues. But it has been too hard to restructure our tax laws because the government is worried it will open the way for avoidance.

Some "avoidance paranoia" still lingers, although the loopholes that allowed schemes such as the winebox have long since been closed and our tax rules tightened up since 1988.

In Australia commentators agree the FIF rules were a result of zealotry in their Treasury and that they "make it difficult to get people to come out here from overseas."

The New Zealand government has indicated it will consider loosening the pre-migration rules to allow new immigrants to quarantine their wealth for a period of time, possibly seven years, during which time they will be taxed only on New Zealand-derived income, not offshore income.

"Can the government sell that policy? They will have to say, 'Let those fat cats off some tax so they will come down here and pay someone's social welfare bill,'" Mr Shewan said.

Treasury acting branch manager (tax and regulatory planning) Peter Mersi said the department was looking at temporary tax relief for offshore income for new migrants, particularly targeting highly talented individuals who might choose to be based here rather than rich individuals.

He said the result of work in this area may give the government a clue as to how important the tax issue is to new sought-after migrants.

"There is not a clear case to say the tax issues are the significant drivers of behaviour," Mr Mersi said.

Former Deloitte New Zealand tax partner Greg Cole, now with Deloitte in the US, responded to NBR's story on tax exiles, saying New Zealand could have a highly incentivised tax system geared up to attract foreigners.

"I have to say it is amazing to me how little New Zealand does to encourage people to stay and invest compared with a whole bunch of other countries. As part of my job I have to look at a lot of different tax systems and New Zealand's approach is miles out of step with other countries that don't give a damn about theoretical purity and use their tax systems to achieve specific economic and social objectives in a very competitive international environment."

The foreigners New Zealand does entice confirm they are here because of its quality of life.

US multimillionaire entrepreneur Ed Aster, who moved to New Zealand from Oregon and has invested extensively in wine and property, said he had received no tax advantages in moving here.

"There is no exile for me. If I earn money here I have to pay taxes in the US," Mr Aster said.

The difficulty with being an American immigrant is that you not only have to lose your US residency but have to give up your US passport, something many American tax exiles are anxious about doing.

Also, if Americans do renounce their US citizenship but are deemed to be doing it largely for tax reasons, US tax authorities may choose to continue to treat them as resident for tax purposes.

Mr Aster said tax rates were very high in New Zealand but he thought the tax regime was "refreshingly" simple compared to the US.

"What is exciting and a turn on for me is you do not have any capital gains tax. I brought a lot of money down here and have it invested ­ but I do not get hit here [on my profits]."

Mr Shewan said having no capital gains tax was a real selling point.

"We seriously undersell that," Mr Shewan said. "I have sold New Zealand to people on that basis."

But tax lawyer Denham Martin said the lack of capital gains tax was a bit misleading, given New Zealand has some of the toughest punitive rules for investment in the world: "We have capital gains tax in drag."

Under the FIF rules tax is paid not only on unrealised gains but also on profits ­ a sort of capital gains tax.

While it is possible for migrants to restructure their assets using trusts, many very wealthy individuals may be too concerned about losing control of their assets to take that option.

If an individual is physically based here for six months of the year he or she will become a resident for tax purposes, but if the individual is a resident of another country with a double tax treaty with New Zealand, that may override the New Zealand claim to tax.

For example, Tom Cruise may have been in New Zealand for more than six months shooting his feature The Last Samurai but as a resident of the US he would probably be taxed only on his New Zealand income.

That's because his US residence would trump the New Zealand claim under the double tax treaty between the two countries.

Meanwhile, suggestions that seem to be a win-win situation for individual taxpayers and the taxman are not even on the government's agenda.

Last year's McLeod tax review put forward the idea that any individual's tax liability should be capped at $1 million per year.

The initial revenue loss from capping the tax on high income earners would be likely to be offset by raising a million dollars a year from wealthy New Zealanders who would otherwise leave and from wealthy immigrants who would choose to settle here.

"I suspect most of us would be happy for very high income people to keep more of their income if others benefited as well," former Business Roundtable chairman Murray Horn said when the proposal was released.

It was a serious proposal yet it was dismissed out of hand by Finance Minister Michael Cullen ­ a position that made little sense, Business Roundtable executive director Roger Kerr said.

"Even Jim Anderton ought to understand the argument ­ do you want $1 million or do you want zero? It doesn't seem to be a big ask," Mr Kerr said.

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