Tax Talk | US IRS stimulus payments
Due to the unprecedented circumstances currently upon us because of COVID-19 governments around the world...
A tainted capital gain arises when a company sells an asset held on capital account to an associate. Capital gains can usually be passed out tax free on liquidation, but not if the sale was to an associate. The old version of this provision was there to prevent companies from creating artificial capital gains by inflating the value of assets transferred to associates, enabling cash to be distributed tax free in substitution for taxable income. The ambit of the rule was very wide, to the extent that almost all capital gains on sales to associates were captured. These rules made it difficult to restructure SME asset ownership without either unavoidably or inadvertently creating a future tax headache.
With these recent changes the scope is now much narrower, only targeting those gains made when the asset sold is retained in substantially the same group at the time of liquidation. If at least 15% of the shares in the company which purchased the asset are held by a third party when the asset-selling company is liquidated, then the tainted capital gain rule does not apply. That is, if the 15% threshold is met, the company which sold the asset and derived a capital gain can be liquidated and distribute the capital gain tax free to its shareholders. The thinking is that having 15% third party shareholders in the purchasing company will prevent transactions happening at greater than market value, and therefore inflating “capital gains”. In my view that is sound thinking. A further helpful change is that, where sales of the asset are to non-corporate associates the tainted capital gain rule does not apply.
These changes will undoubtedly free up corporate structuring in the SME environment.
The good news is that use of money interest won’t be charged on the first and second instalment of provisional tax, provided that the standard uplift method has been used. The standard uplift method is the one where you pay tax based on an uplift on your prior year income, on the assumption that your profits are always going up. If your profits go up more than last year, but you paid tax based on the uplift, then no use of money interest will arise on the first and second instalment of provisional tax. Use of money interest will still arise on the third instalment, on the basis that this is due on 7 May following the year end, so most taxpayers should know what their taxable income is by then, and be able to pay the “correct” amount of tax by that date.
Our system is peculiar in the sense that taxpayers are charged interest on their unpaid tax when they are not in a position to know how much that tax will be. I always find this the hardest thing to explain to clients. The usual answer “it is just how our system works” just doesn’t cut it. With this change this explanation will be needed less frequently in the future.
You may have seen Baker Tilly Staples Rodway in the media talking about changes to the Bright-line rules, which generally impose tax on the sale of residential land within two years. There is an exemption for your main home. However, an interpretation of the law resulted in a potential tax liability where you signed up for a house and land package, and then later nominated your trust to complete the purchase.
The interpretation said that if there was a change in the value of your land from when you signed the contract, to when you nominated your trust, the gain would be taxable. The IRD have backed away from that interpretation, and have come to a very sensible conclusion. Broadly speaking, if you nominate your trust you won’t be paying tax on the gain from the date you first signed to the date you nominate your trust. However, if you are passing the property onto someone else prior to settlement, and instead of selling them the property, all you do is nominate them to complete the purchase and they pay you a nomination fee, then that nomination fee will be taxable. That outcome seems fair to us, and is a welcome change to IRD’s interpretation.
These changes are very welcome and we believe result in fairer rules in play.
DISCLAIMER No liability is assumed by Baker Tilly Staples Rodway for any losses suffered by any person relying directly or indirectly upon any article within this website. It is recommended that you consult your advisor before acting on this information.