Why did the Government increase the Trust Tax Rate?

IRD confirmed in April 2023 what the NZ public have long believed: that the very wealthiest pay tax on just 8.9% of their economic income[i]. This announcement was the culmination of the High Wealth Individuals Research Project, which investigated financial information on 311 of NZ’s wealthiest citizens. Economic income is income from all sources, including capital gains on investments and property.

96 wealthy New Zealanders responded in an open letter to the Government saying they want to pay more tax[ii]. Sir Ian Taylor and Phillip Mills have called for a capital gains tax or wealth tax to address this inequity. Other than the Bright-line Property Rule on residential property that is not your main home, we have no capital gain tax in New Zealand. The Government has decided not to introduce capital gains tax yet, but instead opted for raising the trust tax rate.

Why a 39% trust tax rate?

The top individual tax rate (for incomes over $180,000) is 39%, so the trust tax rate is increasing to match it, from 1 April 2024. Government’s rationale is that trusts were circumventing the top personal rate. The Government plans to keep trust tax rates at 33% for deceased estates and trusts for disabled persons.

Hon. David Parker, Minister for Revenue claims, “Only a small proportion of trusts will pay most of the additional tax. The top five percent of trusts with some taxable income in the 2021 tax year accounted for 78 percent of all trustee income ($13.3 billion out of $17.1 billion). This is estimated to raise approximately $350 million per year.”[iii]

That statistic may be reassuring for some, but there are plenty of trusts, outside of the top 5% of trusts ,which will be paying 39%.

Why will most trusts not be affected?

Investments in Portfolio Investment Entities (PIEs) have a maximum tax rate of 28%, the same as companies. This does not change if the investor is a trust which has chosen a 28% PIR. Check with your investment financial advisor if there are PIE investments which suit your trust. There is still no capital gains tax or wealth tax.

Trusts with lower-rate beneficiaries can still use existing rules to reduce over-taxation. In a family trust, you may have beneficiaries over 16 who are paying tax at 33%, 17.5% or even 10.5%. The difficulty arises if you don’t want pay out distributions to those beneficiaries yet!

Beneficiary Expenses

Instead of paying cash directly to beneficiaries, a trust may consider paying expenses on behalf of beneficiaries. These are not tax-deductible expenses for the trust, but it reduces the balance the trust owes to beneficiaries.

Typically, a trust would pay for:

•            Private school education, advanced tutoring.

•            Sports clubs, uniforms, equipment, travel to competitions.

•            Airfares for holidays.

•            Vehicle purchase.

In contrast, a parent would pay these personally, not through a trust:

•            School & BOT donations (though you can claim donation tax credit).

•            Normal clothing and school uniforms, stationery.

•            Food, medicine, home.

Our trust receives private company dividends. Anything we can do to prepare for the 39% tax rate?

If a company is paying fully imputed dividends to a trust at the 33% tax rate, it has to pay a top up 5% dividend RWT (33% - 28% imputation credits). When the trust tax rate increases to 39% there is another 6% of gross income that has to be paid as tax.

Consider whether the private company can declare dividends before 31 March 2024 instead of after that date. You can maximise the imputation credits available for dividends if you pay company income tax early. E.g. terminal tax 2023 due 7 April 2024 and provisional tax 2024 due 7 May 2024. If you’re buying tax for tax pooling, make sure that your tax purchase is paid before 31 March 2024.

You will need to review your cashflow beforehand to make sure you have the funds available to pay the income tax and dividend RWT.

Trusts are still okay, then?

Review the reasons that you have a trust, and ask are they still valid?

Family asset protection against commercial risk, like creditor claims.

Relationship property separation, protecting wealth from partners and former partners.

Income source for beneficiaries who are studying, or earning under $70,000.

Legacy or Special purpose reasons, like providing for grandchildren’s future tertiary education or charitable causes. Trusts can last for up to 125 years (or up to 80 years if settled under the previous Act).

The Trustees Act 2019 sets out the duties and responsibilities of trustees, and these should not be taken lightly. The Act also sets out core documents to keep and information for beneficiaries[iv]. IRD has specific disclosure requirements for trusts too. The administrative burden for trustees is higher than if the beneficiaries managed them in their own right, but a trust can benefit several beneficiaries at once.

Talk with your lawyer and accountant, to review that your trust has been set up correctly and how you want to distribute income to beneficiaries. If your trust has shares in a private company, consider if the company should be paying dividends before 31 March 2024. Even with the increase in trust tax rates, you may still have good reason to keep your trust.

-         Serena Irving

Serena Irving is a director in JDW Chartered Accountants Limited, Ellerslie, Auckland and trustee in a number of trusts. JDW is a professional team of qualified accountants, auditors, business consultants, tax advisors, trust and business valuation specialists.

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An article like this, which is general in nature, is no substitute for specific trust and tax advice. If you want more information about the issues in this article, please contact your adviser or the author.

  [i] https://www.beehive.govt.nz/release/ird-report-shows-wealthy-nzers-pay-much-lower-tax-rates-other-earners     

[ii] https://www.stuff.co.nz/business/132001093/wealthy-new-zealanders-say-they-want-to-pay-more-tax

[iii] https://www.beehive.govt.nz/release/trustee-tax-change-improve-fairness

[iv] https://www.jdw.co.nz/newsletters/blog/jdw/opening-window-on-trusts