Blog description.

Accentuating the Liberal in Classical Liberal: Advocating Ascendency of the Individual & a Politick & Literature to Fight the Rise & Rise of the Tax Surveillance State.

The Soviets thought they had equality, and welfare from cradle to grave, until the illusory free lunch of redistribution took its inevitable course, and cost them everything they had. First to go was their privacy, after that their freedom, then on being ground down to an equality of poverty only, for many of them their lives as they tried to escape a life behind the Iron Curtain. In the state-enforced common good, was found only slavery to the prison of each other's mind; instead of the caring state, they had imposed the surveillance state to keep them in line. So why are we accumulating a national debt to build the slave state again in the West? Where is the contrarian, uncomfortable literature to put the state experiment finally to rest?

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Wednesday, August 8, 2012

LTC’s: NZ’s L(ost) T(he) C(ompany) Regime - A Fraud On The Taxpayer. No Really.


FOLLOW-UP POST NOW PUBLISHED: LTC Regime: Reprise - Fairness for Dummies - Where It Went Wrong.

FINAL POST NOW PUBLISHEDMy Submission to IRD Policy And Advice, & Their Reply.


Another post in my random acts of New Zealand law-making series. If you read no other of my posts, get yourself through this one.

If I send you an invoice for work not done, that is fraud. If an insurance company charges you a premium on a policy they know they will never have to pay out on, because of the way they've worked the conditions, that is fraud. So what about a government that levies an income tax on income you've not earned? Especially when those taxpayers caught won’t be that most persecuted class in New Zealand, rich pricks, but the ones who'll be least able to afford the price, and who may likely have to pay with their livelihoods.

This is a semi-technical post, it’s not ‘sexy’, I’m not breaking anything new to those who understand our taxing legislation, albeit this is new legislation coming into effect for the first time this year, but the fact it’s not been reported in the mainstream business press makes it all the more damning, because I take it from that we find a government treating businesspeople in this way acceptable. I’ll keep this post in simplified, layman’s terms, and though normally I try to make my posts entertaining, in this one I’m a bit more angry than usual, so I’m playing it straight. … Well, mostly.

New Zealand’s new Look Through Company (LTC) regime, which effectively means you’ve Lost The Company and are now a partnership, with all income and deductions flowing through to the shareholders, was set up hurriedly, and incompetently, to replace Loss Attributing Qualifying Companies (LAQC’s) that were abolished in Bill English’s 2010 budget, as part of this government's myopic effort to pander to the hysteria in our mainstream media of trying to stop Ma and Pa investor buying domestic rental properties, rather than putting their money in finance companies – albeit a policy which seems to have gone well, going by the current rental crisis, people sleeping in sand dunes and cars in Auckland and Christchurch, because the lack of rental properties has ramped up the price of rentals to a level many can't afford.

Despite the fact it’s a cold winter day outside, and I’ve read the – still being amended – legislation, plus have done the two TEO courses and NSA webinar, I’m sitting here doing the first tax return for an actual LTC, and I’m sweating. Though also thanking Ruaumoko for the good fortune, in this instance, of having been living in Diamond Harbour, Christchurch, through the earthquakes. In a sick sort of way, the February 22, 2011 quake may have done me a favour, as due to it, and leaving Christchurch afterward, I barely had time to read the legislation, initially, and only got to go to an introductory TEO course on the 31st of March on the new regime, meaning I basically missed the first transitional six month election period into the regime, other than for just two companies that I did put in owing to how the IRD had promoted the legislation, making both companies appear to be a logical fit. And to think at the time I was annoyed with the Minister for not putting the inception of LTC’s back a year due to the February quake, making it impossible for many of us in Christchurch, realistically, to make prudent decisions around such a momentous, irreversible, election.

The problem - and I know I’m not alone because I’ve ‘heard’ of at least one CA firm that has put the majority of its former LAQC’s into it – is that over the first transitional period, 1April, 2011 through to 30 September, 2011, the legislation was very much still in flux, such was the rush of English and Dunne to foist this on business, and what I gleaned from the first TEO presenter, and IRD’s own booklet, IR 879 (you can download from IRD site, and it’s wording is still unchanged), was that the companies to transition into the regime, would most likely be former LAQC’s that were in the old regime because of problematic overdrawn shareholder current accounts which would become a fringe benefit tax (FBT) problem on the demise of the Loss Attributing feature of LAQC's; after all, LTC’s were brought in to replace LAQC’s. Ironically, these are the companies that may in many cases have severe problems in this regime; for some, quite possibly terminal.  I personally further believe that there are also serious problems around ‘shareholder remuneration’ for LTC’s with Trusts underneath them, and I have a query over this issue in with IRD policy, but that is for another post: the problem regarding what we might call marginal profit companies, that have negative retained earnings, and are having trouble making enough money to match owner’s drawings in any year, hence current accounts with their companies out of the old LAQC regime are at or near zero, is to do with what is known as the Owner’s Basis calculation on which this regime pivots its treachery.           

This regime was forced on the taxpayer under the notion it contained a loss limitation: IRD’s booklet on the regime, IR 879  still refers to the offending component only as a loss limitation, and that, indeed, would have been palatable: if a LTC makes a loss, then the shareholders such a loss flows through to perhaps not being able to claim the whole loss in one year against other sources of income, rather, having to carry it forward, would have achieved National's stated policy intent, and if fair has any meaning in relation to tax, would have been fair. But it’s not a loss limitation: it’s something quite different, and potentially deadly, for it’s a deduction limitation. This is where it really does start getting technical, but in this difference is quite possibly a business owner’s, hence employer’s, survival, or demise.

Due to the issues surrounding the launch of this regime, as explained in the preceding, an educated guess might be to say that the majority of the companies that elected into the LTC regime through the transitional provisions, might be companies of this type - marginal profit LAQC's - for LTC’s are such a dreadful, contradictory structure in almost every other respect that, frankly, you may as well simply use a partnership, including special partnership, which won’t get you into anything like the trouble I’m about to explain. It would be interesting if a MSM journalist who gets paid to investigate issues like this, requested the appropriate figures from IRD of the conversion rate of LAQC's to LTC's.

A deduction limitation means that while you will always have to return your gross income, that's total sales and revenues, you may not be able to claim all the legitimate deductions against such revenues, in any year. It’s easiest to show what I mean by way of a simple example of what would be an unremarkable company transitioning from an LAQC: consider the following data for this company, and don’t let your eyes glaze over, this is important, and there’s a magic trick at the end of it; promise.

The hypothetical company has a single shareholder with share capital of $1,000; the owner had a nil balance in his current account with the company at the start of the year, but over the year drew out $6,000 to live on. Over the year’s trading the company made total sales of $6,000, and incurred legitimate expenses/deductions of $10,000, meaning it made a bone fide loss of $4,000. Let’s assume no non-cash depreciation, nor debtors or creditors at year end, thus the company’s bank account, on nil at the start of the year, is now $10,000 overdrawn (being the $4,000 loss, plus the owners drawings of $6,000). The company is obviously in trouble, but the owner might well be thinking at least he doesn’t have any tax issues; none payable, it's a loss, right? Wrong.

Hopefully, I have your full attention now.

Without going into the calculation, from this data, the Owner’s Basis calculation gives the single shareholder an owner’s basis of only $1,000, and that’s a major problem, because he can only claim as much of the deductions as he has Owner’s Basis, thus, in this example, he is only allowed, for this year, $1,000 of the $10,000 of expenses; the difference of $9,000 are non-allowable deductions and he must carry them forward to next year. Thus, and this is a real doozy, in that shareholder’s tax return he will show his sole share of the LTC’s loss of $4,000, but also his share of the non-allowable deductions of $9,000 which must be added back. The government has hit the jackpot: this shareholder, this year, will have to pay tax on a ‘profit’ of $5,000, even though his business was in a loss, and he’s overdrawn at the bank. The shareholder, and his fledgling business, probably won’t make it to the next year to claim his carried forward deductions, when all the same calculations apply. Quite possibly, irresponsible, fraudulent taxation legislation just destroyed a future entrepreneur.

Aside from the hit to the free economy, and so to free lives, did you note the magic trick? That jackpot. The Minister has successfully turned water into wine; a loss into a taxable profit, and the mechanism will also turn profits into bigger – inflated - taxable profits. Particularly, a company going from loss years into its first profit year is likely going to get crucified, just when the shareholders may have thought their fortunes had turned around. From the point of view of the businessman in my example, having probably never made a stuff-up or rort on this scale in his own affairs, this seems mental, and he believes must be a mistake. Isn’t it? I sure thought so. Perhaps the policy makers have finally been so sunk by complexity, or lust to spend the businessman's money for him on their dreams, that they've unfortunately come up with a garbage calculation: once they realise their mistake, the legislation will be changed, pronto, for no Minister could pull a devious trick like this and expect to get re-elected?

No, this was, apparently, the intention. The policy makers, or at least the enforcers, certainly do understand the ill consequences of how the Owner’s Basis is calculated, and worked through into the deduction limitation. I’ve used the above figures purposely, because they are the fleshed out example IRD have used in their own guide to the LTC/Partnership tax return for 2012; publication IR 7G, March, 2012, pages 25 – 33, downloadable from their site. After you finish reading this piece, have a look at this publication; sit back, let it sink in and understand what has been done by the government to the business taxpayer here. And note the guide only ever refers, again, to a loss limitation, not a deduction limitation. I’ve abbreviated the example, the guide contains a second step which disallows another $500 worth of expenditure, but that’s by the by; for the department to use the example in their guide of a taxpayer having to pay tax on a $5,000 non-existent profit after making a loss of $4,000, is the school bully pulling the wings off a fly: it’s more than just poor taste, it’s Compliance Man, all over again, laughing at his victims as he taunts them. And as bad as this is, it’s even worse.

Burrowing down into the Owner’s Basis calculation, we find the policy makers have indeed been putting a lot of thought into this, and not in a nice way. Suffice to say in the example I’ve given, there might have been a fix for the single shareholder. Assuming he could take time out from his struggling business, and the matter of living, and have the nous to be able to try and calculate his Owner’s Basis pre-balance date so he wasn’t locked in afterward, and he realised that he needed to go to ‘someone who was really, really nice’, and lend him $9,000 across his balance date that he could advance to his company through his current account and hold in the company’s bank account, to give him $10,000 worth of Owner’s Basis to cover his company’s legitimate business expenditure, then Mr Dunne’s henchmen have thought of this. The Owner’s Basis contains the anti-avoidance provision that all such money introduced within 60 days of balance date, and then withdrawn over the same period afterward, cannot be counted in the calculation. They’ve deliberately led him into their trap, and ensured there’s no way out. Can someone tell me of a piece of legislation more evil than this from the Fortress of Legislation? In my client’s case - as stated, one of only two, thank Rand - there are two shareholders, one has what is known in the calculation as recourse property so is okay, for now, under the Owner’s Basis, but the other came within just $3,000 Owner’s Basis of being able to claim all her $350,000 share of expenditure. That’s why I was sweating, and note when this company elected in there was no overt shareholder current account problem – owners’ will have no control in this over time, because, sometimes, shit happens, although shit that shouldn’t happen is if you earn a loss, then your tax return shouldn’t show anything more than, worst case scenario, under a loss limitation, a nil income: never a profit! In this specific case, and incidentally, this client earned a profit over 2012, there would be one fix, which would be for me to simply funnel all drawings from their company through the shareholder’s current account with the recourse property, but with the way the courts have gone over the last fifteen years,  a judiciary dredged up from a school system infiltrated by Italian Communist Party founder, Antonio Gramsci’s, idea of slow revolution by grabbing the minds of the young, a judiciary that thus believes the individual taxpayer has no rights to their property, as in their earnings, or no freedom before the state, and who exists only to have their effort and risk-taking sacrificed to the common good of complete strangers (read my blog byline), may, I suspect, treat this as tax avoidance. I have another query in to IRD policy on just that point: note, I know they won’t be able to give me an answer, there’s no transparency in our tax system anymore, and the IR’s like to leave a jackboot keeping the door open on all future revenue for themselves, but I thought I’d make the point anyway.

All of which is to say that for the business owner, this is a sickening legislative satire; or at least rushed policy made on the cloven hoof. For the first time I can think of, we’ve had legislated, via tax legislation, a direct fraud.  Because what else can you call this: forget the fact government can legalise every immorality they do, including the theft of compulsory taxation, this must be a technical fraud. My blog is partly set around the moral fraud of taxation and redistribution, and the offence to a free people that is the police state enforcement of taxation, but this is an actual fraud being visited on the taxpayers who can least afford it by either voracious or incompetent policy makers. Imagine the worthy righteous indignation there would be if salary and wage earners in either the private or the public sector were treated like this: ‘we’re going to gross up your wage by a fictitious amount, then deduct PAYE based on that, and just give you the smaller net amount in your hand’. The unions would call for nation-wide strikes and marches on Parliament, and so they should. John Minto might even shut up for once, stunned speechless at the audacity of the injustice. Is it because business people, under this twenty first century's new age Keynesian socialism, have become the scapegoats for everything that is wrong with big state crony capitalism, that they just don’t rate any more for the politicians, despite every plan those politicians ever had being reliant on cannibalising them?

These same politicians keep talking up their empty bromides of fairness, in relation to taxation; well I’d love to hear where the fairness is in this, and would ask what was so hard about doing the actual fair thing within National’s stated policy goals of the time: simply ring-fencing rental losses, no matter what entity they were earned in, meaning these dreadfully conceived, or aborted, more accurately, LTC’s didn’t need be foisted on an already depressed business sector; or at least making the calculations of the LTC regime for an actual loss limitation, as IRD documentation plus the Minister said it was going to be, and not the deduction limitation it’s proven to be. Instead we have this insidiously complicated, possibly entrepreneur destroying, Lost The Companies trickery, and, by the by, casting a jaundiced eye wider over the gamut of badly implemented tax law from this government against property investment, the loss of a depreciation claim on commercial buildings that is going to hold up the Christchurch commercial sector rebuild. As has become typical under our politicians over the last twenty three years – since Roger Douglas, the last minister with a coherent plan – we are constantly served this bodged, badly formulated nonsense, patched together in this case to a bureaucratic nightmare in which some innocent people are quite possibly going to lose their shirts. And no doubt with monsters like Chris The Fist Trotter wetting themselves on the side lines. Why did we let our lives be voted over to these awful people?

For some decades now, business has been slowly sinking under the swill of politics; forced to try and navigate the perfect storm that has been voted in against it, in vain. In this, New Zealand is typical of the West. National, in theory the pro-business party, having to fund the careless spending of all the Keynesian lunatics before them, including themselves, can make such immoral, and criminally bad law as this is - no, criminal in actuality - knowing business has no choice to vote for them because the ‘other lot’ are worse. And then when the ‘other lot’ get in, as they will in 2014, they know they don’t have the business vote anyway, and can just continue to screw private enterprise and entrepreneurship to fund a smaller and smaller portion, only, anymore, of this monolithic Gulag of Forced Altruism they’ve created, knowingly, and thus irresponsibly, putting off the cruel reckoning for the economic and (im)moral illusion of our welfare states onto our children. Even now, as we continue to borrow $300 million per week, our politicians remain oblivious to the fact that for Europe and the US the reckoning has befallen them already.

A state that perpetrates a fraud on the governed, such as this, is a state where the rule of law doesn’t exist: I’ve written on this before about New Zealand. The Owner’s Basis calculation is, at worst, a cynical government money grab, or at best I would ask the policy drafters check their keyboards, because I think they’ll find their Caps Lock says Idiot, and they’ve had the damned thing pressed on all through this. There's a debate at the moment about unqualified teachers in charter schools; well what about these unqualified meddlers and peddlers of nonsense in the Fortress of Legislation? Perhaps we should be looking at the institution of democracy itself, for our social democracies are not serving us well anymore, at least, not if you're a businessman. In the minds of those few sane people left, there needs to be a Western Spring.

FOLLOW-UP POST NOW PUBLISHED: LTC Regime: Reprise - Fairness for Dummies - Where It Went Wrong.
_____________________________


Postscript:

Many of my posts concern the immorality of our semi-police states under our current tax administration legislation; this is about that, and a concomitant feature that in this case needs to be highlighted: decency. A civilised society does not treat decent people in such a cynical, disrespectful manner as this. And people who would enact and enforce what has been described above, have the contempt of free men beyond words fit to be read by decent people. So I won't say what I really feel, indeed, good sense might deem I tone what I have said down a bit - this blog, in fact - but as Gore Vidal, a real prick, who may well also have been, as a former New Zealand Finance Minister would have disgracefully called him, a rich prick, who died last week, said: “style is knowing who you are, what you want to say and not giving a damn.” And in the face of law as bad as this, I don’t think I do anymore.

Um, Postscript II:

The final paragraph of this piece initially included the following, (hash tag sarcasm):

Either way, over time I’m starting to realise that there is perhaps one piece of common ground between me and the statists, other than a need for the rule of law: care of our mentally ill. We must plan better for these people, because we have to finally realise they can’t be treated by simply voting them out of sight and mind and into parliament every three years, to keep them off the street: it hasn’t worked.

But then I watched 60 Minutes this Sunday, the piece on euthanasia, and realised – and don’t fall off your chair at me giving dues to a Labour MP; the free society will depend on individuals, not the hive mind – ... anyway, and I realised on watching MP Maryan Street’s intelligent defence of my right, my freedom, to die with dignity, with my loved ones present, such a statement as mine above, designed to get a cheap laugh, only, would be unfair on her. There is the very odd good MP in the Fortress of Legislation; it’s the system of our social democracies that is so wrong. We need to move to a classical liberal constitutional minarchy. But no, I'm not holding my breath.


UPDATE I:

This post has been put up on NZ Property Investment Tips, and from the comments I notice one possibly significant statistic:

I remember a survey by ANZ before LTC's came in that showed something like 2/3 of landlords were planning to use an LTC as their preferred investment vehicle. Moths to the flame!

Again, that conversion rate of LAQC's to LTC's would be an interesting one.

FOLLOW-UP POST NOW PUBLISHED: LTC Regime: Reprise - Fairness for Dummies.

9 comments:

  1. "Without going into the calculation, from this data, the Owner’s Basis calculation gives the single shareholder an owner’s basis of only $1,000"

    Don't spouse you could show that calculation here...It would help me get my head around this.

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  2. Part of the problem is the calculation is ridiculously complicated, and this post is already big enough to scare people off. I'm quite happy to send you a PDF of the calculation if you want to email me: mhubbard@ihug.co.nz. I won't breach your privacy.

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  3. Mark,
    In your example, I cannot think of any bank that would lend $10,000 to an LTC without the principal shareholder's personal guarantee. I understood that the principal shareholder's guarantee was counted as Capital introduced, as set out in the example you quoted. Tell me if I am wrong.

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    Replies
    1. Tauhei, remember I was originally trying to simply mock up the IRD Guide IR7G example, however, in the case of my client, also mentioned, the guarantee came from the shareholder (one of two) with the recourse property, as he had the property outside the LTC that could be used for the guarantee. Capital introduced proper, would simply add to a credit current account amount, so long as drawings were not higher, which contributes positively to the calculation via 'Investments' element of formula. The problem with the second shareholder (client) is they had no recourse property. And from that you can probably glean that the shareholder's 'guarantee' comes into the Owner's Basis calculation through recourse property, as it assumes they have property outside the LTC that can be used for a guarantee. Effectively, in the way the Owner's Basis calculation works, the assets owned by the LTC are useless, as the 'secured amount' of the investment part of the calculation is the 'lesser of' LTC guarantees and recourse property guarantees, outside of the LTC. IE, if no recourse property outside the LTC, the 'secured amount' equals zero.

      Hope that makes sense to you? Mind you, even that level of complexity on such simply examples points to how absurd this new regime is.

      Delete
    2. Tauhei: If I put up the actual calculation for the Guide example it'll put nine out of ten readers off reading, as too technical, but if you want to email me (my email is in the comment above your's) I'm happy, in the morning, to email you the actual worksheet calculation, along with the algebra.

      Delete
  4. The ltc is voluntary though.

    I prefer the laqc myself but either way the choice is voluntary.

    ReplyDelete
  5. Yes, it's voluntary, and there's only a subset of LTC's that, over time, might get caught out, but the legislation should've ensured no one could get caught out like this. It needed to be a loss limitation, not deduction limitation. LAQC's had problems, particularly trying to keep a company in the regime, but they had important uses across all industries and services, and their demise has left a hole, especially for 'struggling' companies, which LTC's have no where near filled.

    ReplyDelete