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Trusts that are active and meet certain criteria must now provide information about income, wealth and assets, and those connected to them. We’re talking retrospective changes, unknown compliance costs and the ability to request records going back to the 2013-2014 financial year, if Inland Revenue considers that necessary.
While the new rules won’t apply to all, there are an estimated 300,000 to 500,000 current trusts in New Zealand, according to Justice Department figures.
Inland Revenue records indicate that approximately 180,000 domestic trusts (excluding estates) report assessable income each year and may be affected by the new disclosure requirements. It estimates that about 55,000 of them previously didn’t need to prepare financial statements but will now. However, that figure could be a lot higher, considering that many people have simply “shelved” their trusts since they were set up. More about that later.
It’s well known that Kiwis have long considered trusts a haven for their assets, whether in the domain of businesses, charities, rental properties or simply the family home and bach. For many years they were a convenient way to separate who owns what and keep assets “safe” for trustees and nominated beneficiaries in the event of business failure, death or a relationship breakdown, although they no longer provide the protection that they once did.
Trusts have been relatively cheap to create and historically offered a high level of privacy. Until recently, the administration and record keeping of many trusts has been “spotty”, for example with few trustees formally meeting or recording their decisions. But the Trusts Act 2019, which came into effect in January 2021, has standardised minimum expectations and consequently trustees are having to lift their game.
“I believe for the previous generation it was almost the standard operating model that if you acquired a house, the lawyer set up a trust for you,” says Baker Tilly Staples Rodway Auckland tax associate director Daniel Merckle. “The house went into the trust and documents got handed over without any of the ongoing advisory support that you really require. That’s often where the record-keeping started and stopped.”
However, the new reporting requirements, which are retrospective, give people little time to get their heads around what this all means and remedy any information gaps.
According to Inland Revenue, the changes have been implemented to gain insight into whether the top personal tax rate of 39% is working effectively and to better understand and monitor the use of trusts and their financial positions. In short, there are questions around whether trusts are being used by the rich to avoid their higher tax rate.
Mr Merckle believes plenty of people will be pleased at the prospect of ensuring the wealthy pay their fair share, not realising that the compliance burden is partly on them and others, with assets in a trust for beneficiaries including younger or more vulnerable family members as well as charitable causes and future generations.
In the Regulatory Impact Statement put out prior to the Trusts Act reforms, officials admitted that they could not quantify the compliance costs that the changes would bring because trusts are private in nature and information about them is not generally available.
While the wealthy are under scrutiny, everyday family trusts will wear the cost because there’s every chance they’ll need an accountant to help with their reporting requirements.
Baker Tilly Staples Rodway Christchurch tax director Spencer Smith says there will be people who have ignored compliance since their trust was set up because they haven’t really known how their trust works or what to do with it. Some may have treated it as if it were a personal bank account.
“We’ve only just been told what we need to comply with or disclose and it comes on top of the Trust Act changes coming into effect in January 2021, so some people who have trusts will be given a real shock… to basically reach a higher level of compliance that many have not been at, ever,” he says.
Mr Merckle says the new legislation is just one means through which Inland Revenue is looking into the financial matters of high-wealth individuals, and the financial structures they’re using. “Inland Revenue is probably getting enough information through other channels to make informed policy decisions and I’m not sure this level of information gathering is warranted from ‘mum and dad’ type trusts.”
While Inland Revenue has exercised leniency around enforcement of tax rules during the COVID-19 outbreak, it remains to be seen whether they will be heavy-handed with trusts.
He says he’d like to think Inland Revenue will have a level of appreciation for “Mum and Dad” trustees who were simply unaware of the rules because coming down hard on them won’t do much for the integrity of the tax system and supporting the self-assessment regime.
Meanwhile, the changes will make it harder to find friends, family and professional advisors who are willing to act as trustees due to the increased compliance burden imposed by Inland Revenue and also the Trusts Act 2019.
Mr Smith says they’re starting to see a few clients who are questioning why they’ve got a trust.
“They’re choosing to wind them up rather than carry on because they’re seeing the increased compliance costs and now you add to that the IRD’s requirement for all this extra disclosure, so they’re saying, ‘remind me, why are we doing this? Let’s just shut it down’.
“There will still be very valid reasons to have a trust. Often, it is due to concerns about potential creditors or relationship claims. Sometimes it is to provide for education or a vulnerable family member.
“But you feel that the trust industry, which has encouraged people to establish a trust without enquiry, has probably come to an end. Going forward, people may only do it where they absolutely feel that they must, in order to protect and provide.”
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