What working for IRD taught me

My background as a tax accountant includes 3 years working for the IRD and another 2 working as a tax advisor in a big firm. So I have a bit of knowledge in the tax and land transactions space.

This blog WILL NOT be tax advice and is not a complete view of the issues. It is a warning to clean up and take advice if you need it. It is intended to be a wake up call. Because many New Zealanders, either deliberately or innocently, fail to comply with what is quite complex and comprehensive law. Due to the lack of resources and the inexperience of the tax officers charged with enforcing the law, taxpayers have got away with it and told their friends who have then done the same thing.

The quantum of property gains derived by NZ taxpayers that potentially have a tax consequence and are never reported would reach quite exceptional proportions. If tracked down they would have the potential to transfer to the rest of us via the IRD much of the wealth of some middle class baby boomers and others.

Now a few things every taxpayer should be aware of.

1) It is the taxpayers' obligation to provide a full and complete return of all of their income in every income year. If you fail to provide a tax return the IRD can request you do so and if you do not so comply they are free to assess you on a default basis on whatever basis they like. When I was an inspector with the IRD I forced compliance by simply issuing assessments for $1m a year and then seeking attachment orders to whatever assets the recalcitrant taxpayer had, it usually got the returns.

2) Once filed the IRD has 4 years from the end of the income year in which a return is filed to issue an assessment or reassessment. If it is a false return, or the return omitted income from any particular source, there is no such limitation. Thus non disclosed property deals have no statute of limitations protection and may be assessed by the IRD at any time.

3) If the IRD does so assess old property transactions for as far back as it has records, the onus of proof is on the taxpayer to disprove the assessment. Most people fail to keep old records so that onus is almost impossible to discharge.

4) If an assessment is made that sticks, the penalties for failing to return income are at the criminal end of the spectrum. Regardless, the shortfall penalties with use of money interest (UOMI) for a decade or more will wipe out just about anyone. For example UOMI and late payment penalties in the space of 6 years turned a tax debt on Trinity from $1 into nearly $3 and that was before shortfall penalties proposed at the 100% avoidance level. Total omission of income is at the fraud level and even higher. And if you want to travel a criminal conviction is a significant impediment.

5) On top of all of this when the IRD comes a calling if you are lucky, and I mean lucky, you will have a smart investigator. If your case is compelling, they will cut to the chase. You will do a deal and they will move on and the transactional cost of sorting out the issue will be relatively minor. If you are unlucky and you get a complete idiot, you will have to argue at length. Even for defendable and innocent omissions the costs of this are eye watering. I can't tell you the cost of Trinity in litigation but to suggest that it had six 000's on it with a number in front is not an exaggeration.

Now to the final factor that is not widely known but was disclosed to me recently by visiting IRD senior people. For my sins I get to talk to these guys when they are researching tax policy and I had a couple of hours with them last year on how to deal with resales prior to settlement.

The IRD has always had wide access to data. They have always had the power to examine public records and request third party records regarding you from anyone they like and without your knowledge and certainly without your consent.

When I was a boy in the IRD this was laborious work. I still recall sitting for days in the Land Transfer Office (LTO) tracing land transactions and mortgages, and even longer in dirty old warehouses going through bank deposit slips and paid cheques.

Also, do not forget that everything you tell your bank manager he keeps a record of in his diary notes. Thus if you tell your manager that you intend to flick a property on it will be in his file and the IRD get these too.

Advice from your lawyer can be privileged, but the rules of privilege are complex. Your accountants do not have  privilege, practically, and thus if they are the sort of people who want to write down everything you tell them and record all their advice in writing, if they wish to asset privilege they need to exert considerable care.

Computers have changed the world, that is why the whole world can read the stuff I write if they want to. This also means the IRD can read it too, and lots of other stuff as well.

You may recall that the LTO went digital around, what 7 years ago, so now all land transactions are on a nice easy to search data base by name, by length of ownership by price, you name it. The IRD has all this data, and the IRD has sorted it by name and matched it to taxpayer files and are ready to examine it.

So those of you who have a number of property transactions over the last 10 years, in particular if you have bought and sold in a short timeframe, can expect a letter from the IRD enquiring into the circumstances of your acquisition. These could go back 10 years or more so if you want to say you bought something with the intention of holding it long-term when in fact you sold it after 6 months, I hope you remember what you told your bank because whatever you tell them, the IRD will check.

Now just to round off on a few misconceptions.

There is an exemption for the family home, so if you sell the family home it is a tax free transaction. But if you are habitually buying and selling family homes the IRD can argue this is a business. It is particularly difficult for those who buy do ups and sell and do this to a pattern, such gains are income under the bought with the intention of resale provision.

Subdivisions are incredibly difficult and the exemptions are quite specific. This includes subdivisions of homes. I am sure we all know at least one family who buy an old house, subdivide the back off, build a house to live in, sell the front and then in due course sell the back repeating the process. Want to place a bet on whether they have paid tax?

If land is re-zoned and you sell within 10 years, regardless of your intention, the gain is in part taxable.

The really difficult area is associations. If you are associated with a builder developer or land trader, anything you sell within 10 years of acquisition is taxable and the association rules are mind numbingly complex and always have been.

Under the old rules you were deemed to be associated with a relative to the fourth blood degree. IE cousins. Do you know all your cousins? Do you know if they are in the buisness of dealing in land? I know some of my cousins and at least one is a builder. So anything I sell within 10 years is taxable. The new rules only go to two blood degrees but due to triangulation it goes a bit further.

Trusts create a problem. Do you have your accountant or lawyer as a trustee of your trust? Then you are associated with every other trust that they are a trustee of, and as you are associated with your trust through triangulation, you are likely therefore to be associated with a land dealer or developer and any investment that you sell within 10 years is taxable under the new rules. This only affects property acquired from the point of the new rules.

Just about every trust will have to be restructured and the trust, tax and property lawyers will make a fortune. All property developer structures will have to be reviewed, God I love tax. It's a licence to print money for people like me.

Now finally do you need to be wary? Yes, the IRD was funded to clamp down on tax evasion in property. And we now know what they have done with that, they have a huge data base on us all.

In fairness the Government should now offer a tax amnesty. We have not had one for over 15 years. Then New Zealanders could fess up, pay the tax they owe and not be forced into bankruptcy or migration.