IRD closing in on income diversion ploys

Inland Revenue is pursuing taxpayers who divert income through trusts and companies to take advantage of lower tax rates.

The recent Court of Appeal decision in the Penny and Hooper case confirmed Inland Revenue's view that diverting personal income to companies and trusts can constitute tax avoidance.

The court ruled that orthopaedic surgeons Dr Penny and Dr Hooper had entered into tax avoidance arrangements where they formed companies and drew a salary that was not commercially realistic.

This enabled them to divert the remaining income to family trusts and pay tax on much of their income at a lower rate.

Inland Revenue is now pursuing taxpayers who it believes are impacted by the Penny and Hooper case and has amassed a list of taxpayers that may have similar structures.

These taxpayers can expect to have Inland Revenue contact them to probe further into their structures, profits and salaries paid.

Recognising the limitations and costs associated with this approach, Inland Revenue has offered an amnesty for those willing to come forward voluntarily.

It is willing to forgo some tax revenue to achieve a more efficient and comprehensive outcome.

Under the amnesty if a taxpayer makes a voluntary disclosure, Inland Revenue will only reassess the taxpayer's income for the two most recent tax years as opposed to four.

The usual penalties will be waived but interest charges will apply.

The amnesty has netted over $4 million of additional revenue but hasn't generated the big grab expected by some. At this stage only 170 taxpayers have made a voluntary disclosure.

Inland Revenue's amnesty applies only to taxpayers in "similar" arrangements to Penny and Hooper.

Taxpayers with more aggressive arrangements or in arrangements with unusual features may not qualify for the amnesty and are likely to feel the full force of Inland Revenue's powers.

The amnesty was initially intended to run until November 30, 2012, but it has now been extended to March 31, 2013.

Anyone with a trust or a company which derives income from the personal services of the shareholder or beneficiary should consider if a voluntary disclosure is appropriate.

Greg Harris is a specialist tax partner in the Hamilton office of Deloitte.