In the May 2010 Budget the Government announced its intention to make broad sweeping changes to the Qualifying Company (QC) regime. An issues paper was also released suggesting QCs would be treated as partnerships and loss limitation rules would be introduced.
The proposals in the issues paper created much speculation and media coverage, along with concern by many taxpayers who have historically relied on the ability to utilise losses incurred.
After much lobbying by NZ Institute of Chartered Accountants (NZICA) and others, the qualifying company proposals in the issues paper have largely been scrapped in favour of the introduction of a new entity, a ‘Look-through company'(LTC), along with other transitional measures. Explanatory notes and draft legislation were released on 15 October 2010. Although the draft legislation may still be subject to some minor amendments, prima facie, this draft legislation represents the legislation that will be enacted. The LTC regime will be available from 1 April 2011.
The new measures allow taxpayers to:
1. elect to become a LTC
2. remain in the QC regime
3. drop out of the QC regime and become an ordinary company
4. transfer assets to other entities without tax consequences.
Shareholders of closely-held companies can elect to become an LTC. An LTC is effectively a flow-through entity. This means a LTC’s income, expenses, tax credits, rebates, gains and losses are passed on to its shareholders in accordance with their shareholding in the LTC.
An LTC retains its identity as a regular company and will keep its corporate obligations and benefits under company law, such as its limited liability.
An LTC will be subject to a loss limitation rule which is similar to the loss limitation rule for limited partnerships. This means shareholders in a LTC can only offset tax losses against their other income to the extent to which their LTC loss is less than their “owner’s basis”. The concept of owner’s basis is similar to that of “member’s base” used for limited partnerships.
The Government has announced a review of the tax rules for dividends, with a view to simplifying the rules for closely-held companies. While this review takes place, existing QCs and loss attributing qualifying companies (LAQC’s) can continue to use the current QC and LAQC rules, but without the ability to offset losses (with effect from the LAQCs income year starting on or after 1 April 2011).
The transitional measures included in the draft legislation provide certain timeframes for electing to be an LTC or for restructuring and transitioning into another entity without a tax cost. Every person that has a QC or and LAQC needs to review their position and seek advice to determine what structure is appropriate for them going forward.
The Hayes Knight team will shortly be contacting clients to discuss their options further.