Skip to main content
Inland Revenue

Tax Policy

Main policy issues raised in submissions

Issue: The proposed commencement date of the 2013–14 income year is effectively retrospective


(New Zealand Institute of Chartered Accountants, Deloitte, Bell Gully, KPMG)

The bill is likely to become law in the second half of 2013 calendar year, but applies from the commencement of the 2013–14 income year. The 2013–14 income year starts on 1 April 2013 for most taxpayers, and even earlier for some. This means the legislation is effectively retrospective, and does not provide an opportunity for taxpayers to plan for it. It should be deferred by a year, and take effect from the beginning of the 2014–15 income year.

Submitters also suggested that “transitional rules” should be provided to allow companies to transfer assets to other entities.


The policy objective of these measures is to achieve a better balance of fairness between those who own mixed-use assets and those who do not. It is obviously desirable to achieve fairness sooner than later.

The Government’s intention to reform this area was first announced in the Budget of May 2011, followed by an issues paper released in August 2011. Taxpayers have therefore had some prior warning that change was likely in this area. While those earlier statements did not include detail about the interest rules for companies in particular, the bill was introduced in September 2012 which gave six months for a risk-averse taxpayer with the standard 31 March balance date to restructure their affairs.

There are two transitional rules requested by submitters:

  • a rule dealing with the tax consequences of depreciation recovery, when an asset is transferred for more than its tax book value; and
  • a rule dealing with the deemed dividend implications of the transfer of an asset from a company to a shareholder or associate for less than its market value.

These changes have been requested to enable assets to be transferred out of companies without “adverse” tax consequences.

Officials consider that these concerns have some merit, and make the following recommendations.

The bulk of mixed-use assets will be short-term holiday accommodation. Discussions with external parties lead officials to understand that most baches will be held in simple ownership structures, where the concerns raised by submitters are less. Officials therefore recommend that the 2013–14 income year commencement date should continue to apply to these assets.

Other assets – boats and aircraft – make up a small percentage of the pool of mixed-use assets. Due to difficulties ascertaining the number of these assets which potentially fall within the mixed-use asset rules, and the mix of their income-earning and private use, they have not been included in the fiscal estimate of these proposals. Given the smaller number and lower values of these assets compared with baches, we expect the revenue raised from them to be a relatively small proportion of the total revenue raised.

Some of these assets, in particular aircraft, will possibly be held in more complex structures for commercial (rather than tax) reasons.

For these reasons, officials therefore consider that it would be reasonable to defer the implementation date of the mixed-use asset rules to assets other than land until the commencement of the 2014–15 income year. While the revenue collected from them will be a relatively small proportion of the total revenue raised, it is important that they are included in due course from a fairness perspective.

The interest-stacking rules which apply to companies can have some adverse effect on the tax positions of those companies, and those who control those companies may choose to transfer the assets out of companies into other ownership structures where different interest allocation rules apply. Where those assets have been depreciated to a value below their market value, depreciation recovery will be triggered.

Submitters have proposed that a transitional rule be introduced under which assets can be transferred out of companies without triggering depreciation recovery. Officials consider that it is reasonable to allow assets to be transferred on this basis, provided that assets are transferred to shareholders in proportion to their shareholding, and the shareholders acquire the assets at the same tax book values as the company which transferred them. This means that a tax liability for depreciation recovery will arise if the shareholders subsequently dispose of the asset for an amount greater than the asset’s tax book value.

Officials consider that this rule need only be made available until the end of the
2013–14 income year, and that it should only be available to companies which hold mixed-use assets at 31 March 2013.

In light of the above approach to dealing with assets held in companies, officials do not consider that an exemption from the dividend rules as requested by some submitters is necessary.


That the submissions be accepted, in part.

Issue: The rules are unduly complex


(Ernst & Young, Chapman Tripp, New Zealand Institute of Chartered Accountants, New Zealand Law Society, Deloitte, Bell Gully)

Submitters’ concerns about complexity took a number of forms:

  • The rules should either not proceed or be revised and redrafted to provide a much simpler approach.
  • The rules need to be simple, because they are to be applied by relatively small and unsophisticated taxpayers.
  • The complexity creates a risk of non-compliance.
  • Rather than enacting such complex rules, it would be better to focus on the enforcement of apportionment rules already contained in the Income Tax Act 2007.
  • The entry criteria should be high and focused on situations when the current outcomes are inappropriate.


The bill as introduced contained two main areas of complex legislation:

  • the rules which deal with interest deductions in corporate groups; and
  • the rules which deal with deduction quarantining in corporate groups.

The main issue which arises is the ability for an interest deduction, which relates to the holding of the mixed-use asset, to be incurred in another entity in a corporate group. It is necessary to look beyond the company that owns the assets to other companies and shareholders which incur interest costs to ensure the arrangements which already exist now are treated fairly. Further, without rules addressing interest deductibility in complex structures, officials expect that the number of assets held in such structures would increase. These rules are therefore necessary and unavoidably complex.

However, these complex rules only need to be considered by taxpayers when the structure in which the mixed-use asset is held is itself complex. The rules are relatively straightforward to apply when, as will be almost always the case, the asset is not held in a complex structure.

However, officials understand that a relatively small proportion of mixed-use assets are held in companies, and of those, a much smaller proportion are held in complex corporate groups. Officials suggest that the Committee consider the proportion (and circumstances) of mixed-use assets these complex rules will apply to, rather than the number of pages of the bill they occupy. Detailed recommendations later in this report do, however, seek to streamline these rules where possible.

The majority of mixed-use asset owners, which are individuals, partnerships, qualifying companies, look-through companies and trusts, will be primarily concerned with the core apportionment rule, which officials do not consider to be complex, and which has been broadly accepted by submitters. A number of detailed recommendations have been made later in this report to streamline this and other rules which apply to these asset owners.

The deduction quarantining rule is required to deal with the consequences of the application of the simple apportionment formula to expenses. This is explained in more detail later in this report.

We do not agree with the submission that the policy objective can be achieved by enforcement of existing legislation. The approach that a full deduction can be claimed for “empty but available for use days” is made under current law and an attempt by the Commissioner to enforce a different approach is very likely to be unsuccessful. Even if the Commissioner were to be successful, current law would effectively permit sheltering of interest in structures involving companies, and these structures would soon become ubiquitous. The fairness objectives of these proposals would not be achieved by this approach.

Finally, Inland Revenue hopes to be able to make an on-line tool available for asset owners and tax agents to help them to make the calculations required by this legislation.


That the submissions be declined.

Issue: The rules applying to companies are too complex



Some amendments to the fringe benefit tax (FBT) and deemed dividend rules would meet concerns in this area.


The policy objective of the mixed-use asset rules is to better align deductions that are claimed with the taxable income that is earned. This is achieved by limiting the deductions which can be claimed for periods when the asset is not in use.

FBT and the deemed dividend rules take a different approach, which is to impose a tax liability on the private use of a company’s assets. For the FBT or the deemed dividend rules to address the policy issue here, it would be necessary for an FBT liability or a deemed dividend to arise when the asset was unused.

This would give rise to a number of concerns:

  • It would be conceptually difficult for people to understand why a tax obligation would arise when their asset was available for use, even though they did not use it.
  • It would be necessary to ascribe a value to unused days. This would be difficult because it would not be appropriate to ascribe the same value as a day of actual use. Therefore the question would arise over what value would be appropriate –for example, would it be 90 percent, 30 percent or 25 percent of the value of an actual day of use?
  • It would inevitably generate entirely different outcomes from a deduction apportionment rule. Incentives would be created for people to move assets into, or out of, company structures to reduce their tax liabilities.


That the submission be declined.

Issue: Interaction between these rules and other provisions which deal with personal use of assets


(New Zealand Institute of Chartered Accountants, KPMG, PricewaterhouseCoopers, Ernst & Young)

Under current law, FBT and deemed dividend rules apply to tax private use of company assets. The mixed-use asset proposals do not explain their relationship with these rules, and there is a concern that a form of double taxation would arise if both the mixed-use asset and the FBT or deemed dividend rules were to apply.


The FBT and the deemed dividend rules work well where a shareholder or an associate uses an asset owned by a company, but they do not deal with the time the asset is not used but available for use. As a general principle, the policy objective of the proposals of matching deductions to income-earning use is therefore more likely to be achieved by the mixed-use asset rules applying rather than the FBT or deemed dividend rules. This is also more likely to create an entity-neutral outcome, under which the incentive to move assets in or out of companies to achieve a more favourable tax outcome is minimised.

However, this is subject to several important caveats.

Officials have recommended later in this report an amendment to the definition of “assets to which these rules apply”. Certain assets where the private use is incidental and subject to FBT or the deemed dividend rules are recommended to be excluded from the proposed mixed-use asset rules.

Officials agree that, where the mixed-use asset rules apply, FBT should not also apply, and that a new provision should be included to this effect. Officials also note that, where the benefit provided is in the form of accommodation, an income tax liability may arise to the recipient. Officials recommend that where the mixed-use asset rules apply, the provision of accommodation not give rise to an income tax liability. In any circumstances where FBT does apply, or the provision of accommodation gives rise to an income tax liability, the use should be treated as an income-earning day under the apportionment formula.

This is subject to an additional change in the area of shareholder-employees, who can choose whether the use of an asset is subject to the FBT or dividend rules. The use ought always to be subject to the deemed dividend rules, so that the mixed-use asset rules apply. This amendment is necessary because, where use is relatively low and expenses high, FBT will generally give a more favourable outcome than the mixed-use asset rules and to allow a choice would provide a tax planning opportunity.

However, officials do not agree that where the mixed-use asset rules apply, the deemed dividend rules should not also apply. A simple comparison can be made with a cash dividend. A cash dividend is not deductible to the company which pays it, but is income to an individual who receives it. Imputation credits may be available to meet the tax liability on that income. This is exactly the same result that would be achieved by having both the mixed-use asset and the deemed dividend rules apply to an asset.


That the submission be accepted, in part (see later recommendation).

Issue: The interest rules which apply to companies unfairly treat debt as applying to the mixed-use asset first


(KPMG, Bell Gully, New Zealand Institute of Chartered Accountants, New Zealand Law Society, Chapman Tripp, PricewaterhouseCoopers, Ernst & Young)

The debt-stacking rule which applies to corporate groups is unfair because it is based on an assumption that any borrowings firstly relate to the mixed-use asset. A number of submitters suggested that a debt-tracing rule be available instead, and some submitters suggested that a gross assets / gross debt formula be used instead.


The policy objective of the proposed rules is to ensure that only an appropriate proportion of the expenditure which relates to a mixed-use asset is deductible.

Since 2001, a rule has existed under which all debt incurred by most companies is deductible (subject only to the thin capitalisation rules). This rule overrides the tracing rule that would otherwise apply, which requires identification of the application of each amount borrowed by a company to determine whether the interest was deductible or not. The rule that all debt was deductible was introduced to address the compliance costs which companies were incurring in ensuring that all of the interest they did incur was deductible. The 2001 rules are based on two related assumptions:

  • all money is fungible; and therefore
  • tracing is essentially impossible in corporate groups.

Submissions stating that debt relating to a mixed-use asset can somehow be traced inside a corporate group runs counter to the basis on which the 2001 rules operate. Officials’ view is that it would be conceptually inconsistent to operate two sets of rules, one assuming companies could trace debt and the other assuming they could not, at the same time. Corporate groups would eventually structure their affairs to ensure that no debt was able to be traced to the mixed-use asset and so avoid apportionment of any interest expenditure.

Other submitters suggested a gross assets / gross debt formula. This approach requires first ascertaining the value of all of the assets held by the group, the value of assets held by other corporate shareholders that have an interest in the company which holds the asset, and the value of the shares in the group held by natural (individual) persons. All of the debt held by all of the members of the group, other corporate shareholders and the relevant debt held by natural persons then needs to be identified. A ratio is then calculated which is the value of the mixed-use asset divided by the total asset value calculated earlier. This ratio is then applied to the interest expenditure of every member of the group and the relevant interest expenditure of any corporate and individual shareholders to calculate the part attributable to the mixed-use asset. The apportionment ratio is then applied to deny a deduction for a part of that interest expenditure by each group company and each shareholder.

Officials consider that the requirement to collect information from every group member and every shareholder, and for each to be denied a proportion of their interest deduction, makes this an extremely compliance-heavy approach compared with the interest-stacking rule. Under the interest-stacking rule, once sufficient debt has been identified (which may well be in the asset-owning company or its immediate parent) interest deductions in other companies and shareholders are unaffected by the mixed-use asset rules.


That the submission be declined.

Issue: Interest rules set a dangerous principle for denying deductions for other interest costs not incurred in generating assessable income and should not proceed



These rules set a dangerous precedent for unprincipled, wide-ranging and complex interest allocation and ring-fencing rules. The rationale is that no deduction should be allowed for interest costs which are not incurred in generating income. This reasoning could also be applied to interest incurred to generate untaxed offshore income or assets which do not produce income (such as land which is land-banked).


The submission is understandable, but it misinterprets the purpose of the proposals. The concern with an element of mixed-use asset expenditure is not that it is not incurred in generating income, but that it is incurred to deliver a private benefit.


That the submission be declined.

Issue: Interest rules are too complex, unprincipled and a deemed income solution would be preferred



Interest rules are complex and there is concern about the interest allocation proposal. A deemed income solution would be preferable.


The policy objective of the rules is to appropriately match deductions for expenditure incurred in relation to an asset with the balance of its income-earning and private use. A further important objective is to do this in a way which is relatively neutral across entities, to minimise the incentive for people to shift assets from one entity type to another to reduce their tax liability.

Using a deemed income rule for companies instead of applying the apportionment rule to interest would create the following problems:

  • Different tax outcomes would arise between companies subject to the deemed income rules, and other entities which would presumably not be.
  • Setting the appropriate rate of return would be difficult, highly subjective and extremely controversial.
  • A deemed income approach would effectively set a base-line, which would mean that those who actually earned less than the prescribed level of income would be over-taxed (and those who earned more would be under-taxed).


That the submission be declined.

Issue: Apportionment of interest deductions should only apply to the company which owns the asset


(Ernst & Young, KPMG)

Only the company which holds the asset should be subject to apportionment-of-interest deductions. KPMG suggests that if debt is deliberately structured elsewhere the anti-avoidance rules can be applied.


The policy objective of the rules is to ensure that deductions for expenditure align with the income-earning use of the underlying asset. It is extremely easy to ensure that interest deductions arise in a different entity than the one which holds the asset by having the asset owned in a company which purchases it with cash. The cash in the company comes from the allotment of fully paid-up share capital. The funds to purchase the share capital are borrowed by the shareholder (corporate or otherwise) who subscribes for the shares. Since the money was borrowed to purchase shares in a company, a deduction is generally allowed in full for any interest incurred.

This is the reason it is necessary to apply the rules on interest deductions beyond the company which owns the asset. If this was not done it is conceivable that the transfer of mixed-use assets into company structures as described above would become commonplace, defeating the policy intention of the rules.

Officials consider that relying on the application of anti-avoidance rules to address such transactions would be inappropriate, inefficient, and would give rise to considerable uncertainty. Further, this would be an unusual use of these rules.


That the submission be declined.

Issue: Regulatory impact statement


(New Zealand Institute of Chartered Accountants)

The regulatory impact statement understates the level of compliance costs arising from interest-stacking rules on companies and shareholders.


The regulatory impact statement acknowledges that compliance costs for asset owners would be likely to increase, particularly in the short term, as owners will be unfamiliar with the new rules. It went on to state that the additional compliance costs would be expected to reduce in the long-term as owners become more comfortable with the new rules.

We acknowledge the submitter’s concern.

The interest-stacking rules only become complex to apply when the structure in which the mixed-use asset is held is complex. Officials consider, having discussed this issue with external stakeholders, that a very small minority of mixed-use assets will be held in complex structures, and often they will be there for tax reasons.


That the submission be noted.

Issue: No justification for deduction quarantining rules


(New Zealand Institute of Chartered Accountants, New Zealand Law Society, KPMG, PricewaterhouseCoopers, Ernst & Young, Bell Gully)

The deduction quarantining rules are unnecessary and should be removed as the apportionment rules already provide equitable outcomes.


There were a number of alternative approaches to determining the deduction entitlement arising from days a mixed-use asset is unused. The principal options were:

Approach one: allowing full deductions for expenditure relating to unused days, on the basis that the asset was available for income-earning use on all of those days (the present rule);
Approach two: disallowing a deduction for the expenditure relating to unused days, on the basis that these are essentially private assets (the tightest rule); and
Approach three: allowing a deduction for a proportion of the expenditure relating to unused days, recognising that there is validity in both of the above approaches.

The different outcomes that each approach delivers can be demonstrated with a simple example:


A bach has annual expenses of $20,000 and is rented for 30 nights per year at $200 per night, and used by its owners for 30 nights per year.

  Apportionment equation Allowable deductions Profit (loss)
Approach one (335/365) x $20,000 $18,356 ($12,356)
Approach two (30/365) x $20,000 $1,644 $4,356
Approach three (30/60) x $20,000 $10,000 ($4,000)


The third approach – a middle ground – is the key component of these proposals. The apportionment formula is applied regardless of the level of total use, or income-earning use, of the asset. This is in contrast to the approach suggested in the issues paper, which suggested a mixture of the three approaches discussed above, applying different approaches at different levels of income-earning use. This approach was not pursued in response to submissions that suggested that it was too arbitrary.

However, as demonstrated in the above example, when income-earning use is low, this middle ground is arguably too generous. This is because an asset with low levels of total use, and low levels of income-earning use, relative to its total expenses, will often generate persistent tax losses. If approach two had been taken, the taxable income would have been $4,356 and a quarantining rule would not have been necessary.

A loss of this nature might genuinely arise on a one-off or occasional basis, as a consequence of a poor rental season due to external or unforeseen factors. However, if a loss of this type is persistently generated, it suggests that the rules have allowed excessive deductions. This is because the tax outcome under the mixed-use asset rules is supposed to be a commercially realistic one, and it is not commercially realistic to have continual tax losses. Continual losses are likely to arise because tax deductions are being given for private expenditure.

In the income year in which the loss arises, it is not possible to know whether the loss is a consequence of unforeseen events, or is a consequence of excessive deductions being allowed. This can, however, be known over a number of years, because a loss due to unforseen events is unlikely to be repeated, whereas a loss due to excessive deductions being allowed under the apportionment formula will be.

The deduction quarantining rules therefore take a “wait and see” approach as a loss in a single year will be allowed against profits in future years, whereas long-term losses will effectively be permanently denied.

Officials consider this approach to be preferable to a “threshold” test which would deny deductions to those with low levels of income-earning use, because a threshold test would permanently deprive the asset owner who suffered unforeseen circumstances of the benefit of the deductions.


That the submission be declined.

Issue: Concepts of private use


(Chapman Tripp, New Zealand Law Society, Bell Gully, Ernst & Young, PricewaterhouseCoopers, New Zealand Institute of Chartered Accountants, BDO)

The rules should use the derivation of market value consideration as the test for whether there is private use or not. (Chapman Tripp)

The concepts of private use in the “gateway” tests and the apportionment test should be the same; having different tests complicates the rules and increases compliance risks. (New Zealand Law Society, Bell Gully, Ernst & Young, PricewaterhouseCoopers, Chapman Tripp)

Where market value is received from an associate, use should not be treated as private use. (Chapman Tripp, Ernst & Young, New Zealand Law Society, New Zealand Institute of Chartered Accountants)

Where market value consideration is received for all use by owners or associates, the use should be considered income-earning use and the related expenditure fully deductible. (New Zealand Institute of Chartered Accountants, Deloitte)

Where less than market value is received, it is inequitable to tax the income but treat the days as private days, thereby denying any deduction. The income should be exempt, and the New Zealand Law Society and Bell Gully suggest an alternative of taxing the income but allowing a pro-rated deduction based on the proportion of market value the income represents. (New Zealand Institute of Chartered Accountants, New Zealand Law Society, Bell Gully, Ernst & Young, BDO)


The proposals set out two different concepts of private use – one which applies to determine whether an asset is subject to the rules or not (referred to as “private use”), and the other which is used in the apportionment formula to determine the extent to which certain expenditure will be deductible (referred to as “private days”).

An asset will be subject to the rules if it is used by the person who holds it or an associate, or the person who holds the asset derives less than market value income from its use.

However, for the apportionment formula, private days do not include days when the asset is used by an associate of the person who has the asset, provided the person pays market value.

The reason for this distinction was to prevent owners avoiding the application of the rules (particularly the deduction quarantining rules) merely by the owner or associates paying market value for the use of the asset.

Officials accept that the difference between the various concepts introduced in the bill is potentially confusing, and recommend the adoption of a single concept of private use:

  • when the asset is used by a natural person who holds the asset, or an associate of that person (who is also a natural person), regardless of the amount received for the use; or
  • when the amount received from the asset is less than 80 percent of the market value of the asset.

The suggested definition is simpler than two private-use concepts and still satisfies the policy concern around the avoidance of the rule. Further, it is suggested that when either of these two rules apply, any income received should be treated as exempt income. This aligns the treatment of income and expenditure, another issue raised by several submitters.

Officials do not agree that when market value is received from the owner or associate, relevant expenditure should be fully deductible. This would allow an asset which was used substantially by its owners to be treated as fully deductible if the owners made arrangements to somehow pay themselves for the use. This would defeat the purpose of the rules. A better approach seems to be, as outlined above, for the expenditure to be non-deductible (by treating the use as a private day) but the income as non-assessable.

Officials accept that it is inequitable to tax the income received from a below-market value transaction but deny any deduction by treating the days as a private day. It would be possible, but complex, to allow a pro-rated deduction, and a simpler alternative seems to be to treat both the income and the relevant deductions as outside the tax base. However, a person should not be able to elect to be outside the tax base by renting their asset for an amount slightly less than market value, as this would potentially enable them to derive untaxed profits. Officials therefore recommend a threshold of 80 percent – so that where an amount which is 80 percent of market value or greater is received, the income will be taxable and a full deduction will be allowed, and where the amount received is less than 80 percent, the income will be outside the tax base and no deduction will be allowed.


That the submissions that the private use and apportionment test be the same, and that receipt of amounts less than market value (where the amount is less than 80 per cent) be accepted, and other submissions be dealt with in the manner noted above.

Issue: Restriction of use of quarantined deductions


(New Zealand Law Society)

If the deduction quarantining rules are not to be removed, they should be relaxed to allow quarantined losses to be offset against income for other mixed-use assets.


As explained earlier, the purpose of the deduction quarantining rule is to address situations in which the apportionment rule has effectively allowed a deduction for private expenditure. The rule therefore needs to be applied on an asset-by-asset basis, and it is not compatible with the “wait and see” concept which underlies the rule to allow losses from one asset to be offset against profits from another in the year in which they are incurred.


That the submission be declined.

Issue: Deduction quarantining is a permanent denial of a deduction for business expenditure


(New Zealand Institute of Chartered Accountants)

The submitter is concerned that when a quarantined deduction arises in one year, and in a subsequent year the asset is not a mixed-use asset and generates a profit, the quarantined deduction will not be able to be offset against any subsequent profits.


As noted above, the purpose of the deduction quarantining rules is to address situations in which the apportionment rule has effectively allowed a deduction for private expenditure. When that situation has arisen, the amount quarantined is not business expenditure at all, but excess private expenditure. However, when the asset has been affected by an unforeseen event, the amount is arguably business expenditure.

Officials believe that almost all of the situations which fall within the deduction quarantining rules will be when deductions have previously been allowed for private expenditure, and that any permanent denial is appropriate.

However, a matter which the Committee’s advisor has raised with officials is the application of this rule where an asset is damaged, written off by the insurance company, and replaced with another asset. In this instance, officials agree that it would be reasonable for quarantined losses to continue to be available where the replacement asset is substantially identical.


That the submission be declined, but that the Committee advisor’s point be accepted.

Issue: Application of opt-out rules to companies


(Matter raised by officials)

The opt-out provisions in the proposals have unintended consequences when applied to companies, and should be restricted to other entities.


The proposals allow the owner of a mixed-used asset to treat any income arising from it as exempt income but not claim any deductions for expenditure relating to the asset. The owner can choose to do this in two situations:

  • when the income from the asset is below a threshold of $1,000; or
  • when the asset produces quarantined deductions in the income year.

The opt-out rules are designed to reduce compliance costs when assets have either low levels of income-earning use or no revenue is lost by taking the asset out of the tax system (because it is in loss anyway).

However, they have an unintended consequence when applied to assets owned by companies, which is that the disapplication of the mixed-use asset rules would allow a corporate group to claim all of its interest deductions. This is most obviously the wrong result when the asset was opted out because income from it was less than $1,000, but is also wrong when the proposals produce quarantined losses.

There would therefore be significant advantages to an asset owner of an asset which qualified under the opt-out provisions to move that asset into a company structure. This would be inefficient as well as defeating the policy intention of the rules.


That the submission be accepted.