Mark Lodder
National Tax Leader, Tax Partner
Tax & Economy
Budget 2023 was pitched by Prime Minister, Chris Hipkins and Minister of Finance, Grant Robertson as a ‘no frills’ budget without any major tax surprises.
That pitch doesn’t seem quite correct. While it was arguably always on the table of possibilities, Budget 2023 announces a change to the tax rate applying to income retained by trustees of a trust.
From April 2024, the trustee tax rate will now be aligned with the top personal tax rate of 39% (currently it’s 33%). Click here to read more on this.
So what is the business impact of Budget 2023?
There were a number of announcements in Budget 2023 that will have a business impact, whether as a direct recipient or as a supplier of services in an industry with increased demand following Government spending through Budget 2023. Some of these include:
$27 million in a digital skills package to address the skills shortage in the tech sector workforce.
$30 million to scale up NZ’s innovative horticulture technology industry, helping to increase productivity in a sustainable way.
$18 million to drive better career opportunities, improved working conditions and greater innovation within the tourism and hospitality sectors.
$941 million of operating and $195 million of capital to support communities and business affected by floods and Cyclone related events. While not all of this is targeted at businesses, it will ultimately lead to demand for businesses including in the infrastructure and construction related industries to support those in need.
$71 billion has been allocated to infrastructure investment over the next 5 years for schools, hospitals, public housing, rail and road networks. Alongside Budget 2023, the Government has released its Infrastructure Action Plan which supports the Government’s response to the New Zealand Infrastructure Strategy which was developed in the last term of Government. The Government notes that this is crucial to continue to deliver the infrastructure transformation required while providing certainty to the construction sector.
$6 billion has been allocated to a new National Resilience Plan to support medium and long-term infrastructure investment, with an initial focus on building back better from recent weather events.
$160 million to support the gaming sector, by providing a new 20% rebate for game development studios. This will be available for eligible businesses who spend a minimum of $250,000 each year. The maximum rebate available is $3 million per game development studio per year. The scheme is backdated to commence from 1 April 2023.
$451 million has been allocated to create three new public and private multi-institution research hubs which will be based in Wellington. The focus will be on driving innovation, collaboration and export earning potential in health and wellbeing; oceans, climate and hazards and advanced manufacturing, biotech and energy. Supporting this work will be investment in research fellowships and applied doctoral training for more than 260 people.
The NZ economy: How do the books look?
Key numbers from Budget 2023:
GDP growth in NZ is forecast to be 3.2% in 2022/23, dropping to 1.0% in 2023/24 and averaging 2.7% over the remaining forecast period. While activity is weakening, Treasury now expects a more moderate slowdown, as opposed to a contraction, than previously forecast.
CPI inflation is forecast to be 6.2% in 2022/23. Treasury notes that inflation has begun moderating and it expects further moderation with inflation falling to 4.5% by the end of 2023 and then dropping back into the 1 to 3% target band in late 2024.
While there are mixed signals at the coal face about labour demand, the unemployment rate is forecast to increase through 2022/23 to a peak of around 5.3% by late 2024 (from the near-record low of 3.3% in September 2022) before falling back to 4.8% by 2026/27.
The operating balance before gains or losses is forecast to be a deficit of $7 billion this year, a deficit of $7.6 billion in 2023/24, a deficit of 3.6 billion in 2024/25 with a return to a (small) surplus of $0.6 billion in 2025/26. These are larger deficits with a slower return to surplus than previously forecast, which Treasury notes is the result of lower tax revenues than forecast, but in line with the economy, combined with the Government’s Budget 2023 decisions.
Net debt is expected to peak in 2023/24 at 22.0% of GDP ($91.2 billion), before falling to 18.4% of GDP in 2026/27. Across the forecast period, net debt increases by $27.3 billion largely because of the cash shortfalls over the forecast period. Core Crown finance costs nearly treble across the forecast period, to $8.6 billion in 2026/27, as interest rates on interest bearing Government lending increase.
Core Crown tax revenue is expected to increase by $39.0 billion from 2021/22 to 2026/27. From 2022/23 to 2026/27 Core Crown tax revenue is expected to climb from $115.3 billion in 2022/23 to $147.5 billion in 2026/27. The increase over the forecast period primarily comes from source deductions (mainly PAYE) at $15.1 billion, GST at $6.6 billion and corporate tax at $5.4 billion. Fiscal drag (the increase in a person’s average tax rate as income increases) is expected to contribute an average of $1.0 billion per year to the overall increase in source deductions.
Core Crown expenses are expected to remain elevated in the current year and are expected to increase by $24.6 billion over the forecast period - an average of $4.9 billion per year. This is from $128.2 billion in 2022/23 to $152.8 billion in 2026/27.
Tax
Change to the Trustee Tax Rate
Budget 2023 announces a change to the trustee tax rate, which increases from 33% to 39% to align with the top personal marginal tax rate. This is expected to apply from April 2024.
Budget documents note that this change is a response to the Inland Revenue’s High Wealth Individuals research work, and is being made to improve the fairness of the tax system and to reduce opportunities for high income earner taxpayers to circumvent the top personal tax rate.
Targeted exemptions are expected for trusts in certain situations, such as deceased estates and trusts for disabled persons, to allow income of eligible trusts to be taxed as though it is the income of the deceased person or the disabled beneficiary of the trust. Further, it is expected that trusts with lower tax-rate beneficiaries can continue to distribute trustee income to beneficiaries to utilise beneficiaries’ lower marginal tax rates.
The rate increase is expected to raise approximately $350 million per year in tax revenue.
While it’s somewhat surprising that this change was introduced in Budget 2023, the change itself is not entirely unexpected, as it has been mooted since the change to the top personal tax rate from 33% to 39%. It does, however, highlight other (current) anomalies in the tax system that enable high income taxpayers to invest through a Portfolio Investment Entity (“PIE”) which provides a top tax rate of 28% (rather than the 39% rate that might otherwise apply).
Reform of International Tax
While already well known, the budget and economic fiscal update notes that the Government is currently considering options for reform of the international tax framework through its work with the OECD. Work in this area is expected to progress in 2023. Watch this space.
No New Taxes
Despite the change to the trustee tax rate, thankfully, NZ has long moved away from major tax reform being announced during the Minister of Finance’s annual Budget day speech.
Other than urgent tax changes to protect the integrity of the tax system, major tax policy changes in NZ should always follow the generic tax policy process which creates a better tax system by providing opportunities for public engagement throughout the different phases of the tax policy process.
Prime Minister Chris Hipkins has recently said that the commitment to no new taxes during this Government’s parliamentary term would last right up to election day, noting that the current Government would be very clear on its tax policies well in advance of the election. While Budget 2023 was generally no frills from a tax perspective, it’s fair to say that there will be more interesting and some might say much needed tax policy debate in the lead up to the general election.
Tax Principles Reporting Bill
In unveiling Budget 2023, the Government also confirmed that the ‘Tax Principles Reporting Bill’ (the Bill) is being tabled in Parliament (18 May 2023) as part of continuing work by Inland Revenue to develop a ‘Tax Principles Act’. While the Bill will go straight into legislation, bypassing public feedback (and potentially a select committee process), expectations are that the principles the Bill entails will become the subject of much debate among political parties as we head into this year’s General Election.
So why is tax so important?
When operating expenses (Government expenditure) are paid for by operating revenue (Government revenue), the current generation pays for its own consumption. This is important given Treasury’s 2021 long term fiscal forecasts (to 2061) which show if there are no changes to current policy settings, net debt would increase to nearly 200 percent of GDP by 2061. This is largely due to an aging population with increased healthcare and national superannuation costs.
Tax is important because it funds Government expenditure. For example, improvements to the Government’s bottom line could be made by any combination of the following:
finding cost savings,
increased/new taxes; or
growing the economy thereby increasing tax revenue
One tax policy matter which is already causing some debate and was briefly referred to in Budget 2023 is the question of ‘fairness’ following the release of Inland Revenue’s report on High-Wealth Individuals (“HWI”), which concluded that the median effective tax rates (“ETRs”) for the HWIs surveyed was 8.9% compared to 20.2% paid by middle wealth individuals. Although the ETR results were not too surprising, given that unrealised/untaxed capital gains, which are generally not taxed under current law, were included as income.
The HWI report also seems to have recently motivated a group of 96 wealthy New Zealanders to write an open letter to the Government saying they want to pay more tax.
We can expect more debate on tax policy in the lead up to the general election. It will be key for policy makers to take a longer-term view rather than a shorter ‘parliamentary term ‘focus.
Fiscal Drag
Wage inflation is causing a degree of fiscal drag that is boosting Government tax revenue – as people get a pay rise they can move into the next tax bracket thereby increasing the amount of tax collected by the Government. Treasury documents suggest that this is adding an average of about $1.0 billion per year to the overall increase in source deductions tax revenue that the Government is collecting through the PAYE tax system.
Adjusting the tax brackets for inflation would improve people’s after-tax incomes and could help some with the cost of living crisis as it would let people keep more of the money they earn.
However, adjusting tax brackets won’t improve the progressivity of the tax system as it generally provides greater benefits to higher income earners than lower income earners.
Fiscal drag could be addressed by an episodic threshold adjustment or more boldly by inflation indexing the thresholds. However, the latter could hamper the ability of governments to collect more tax revenue through fiscal drag, which it might need to help fund unexpected expenditure (e.g. disaster related) without introducing new taxes or having to borrow heavily to do so.
For help digesting the Government Budget 2023 and what it means for your business, reach out to your local BDO team today.
