FIF Taxation Reforms: A Step Forward - But Still More Work To Do

Revenue Minister Simon Watts has today introduced the Taxation (Annual Rates for 2025-26, Compliance Simplification, and Remedial Measures) Bill (Bill) we have been waiting for.  This Bill contains the long-awaited (and very overdue) amendments to the foreign investment fund (FIF) rules, amongst other things.

This is a topic we advise our clients about daily, and the Bill will have varying impacts on how they will invest and whether they will stay in New Zealand and become tax resident.  We have set out the key points relating to the FIF changes from the Bill, along with our comments and suggestions for further changes.

From 1 April 2025, eligible taxpayers can elect to use the revenue account method (RAM) for certain FIF interests, which allows those taxpayers to pay tax on a realisation basis as opposed to the current rules which provide tax on an unrealised basis.

Eligibility for the RAM

RAM interests must be unlisted shares acquired by the taxpayer prior to becoming New Zealand tax resident. The shares must have no redemption facility at market value, and the share must not be an entity that derives 80% or more of its value from shares that are not eligible and the prior to criteria.

RAM Taxpayers

The RAM is available to natural persons who become New Zealand tax resident (but not transitional tax resident) on or after 1 April 2024, and were non-resident for at least five years prior.  The draft legislation also proposes that those who are transitional tax residents on 1 April 2024, who then later cease to be transitional tax residents, will remain eligible.

Further, a person who is eligible for the RAM, may subsequently leave and return to New Zealand.  The cost base for those shares would remain the same.  The eligibility of any new FIF interests obtained while the person was non-tax resident would depend on whether the person newly qualifies for the RAM upon their return to New Zealand.

We are pleased to see that a family trust, whose principal settlor meets the above criteria, will also be a RAM taxpayer.

Extended RAM

The extended RAM method applies to taxpayers generally subject to foreign tax on the disposal of shares due to citizenship or the right to live and work in that country. In practise, this will apply to those moving from the US due to their ongoing US tax obligations being linked to citizenship. Again, a trust will be eligible for the extended RAM method if its principal settlor is eligible as above. Those taxpayers entitled to use extended RAM can elect to use the RAM method for all foreign shares. 

Mechanics of RAM

Those eligible taxpayers may elect to use the RAM.  RAM will apply on a portfolio basis, which means that if a taxpayer elects to use the RAM, then all eligible shares must be taxed under the RAM. Any other shares that are not eligible for the RAM must use another FIF calculation method.

An election to use the RAM will result in any dividends received being taxed at the taxpayer's marginal rate in the year of receipt. Further, any gains on disposal are taxed at the taxpayer's marginal rate with a 30% discount on the gain. For example, a $100 dividend and a $5,000 gain will result in income of $100 for the dividend and $3,600 for the gain (being 70% of the $5,000 gain). The total income of $3,700 is then taxed at the taxpayer’s marginal tax rate.

A taxpayer who chooses to apply the RAM may later elect out of the RAM and use one of the existing FIF methods. We note that this would trigger a deemed disposal of all shares to which the RAM applied. It is important to note that the Bill proposes that once one of the existing FIF methods is applied, either by election or default, the taxpayer cannot subsequently choose to apply the RAM.

Losses 

The bill proposes that any loss on disposal of a RAM interest can only be used to offset gains on disposal of other RAM interests.  In any income year, where losses are greater than gains, those excess losses will be carried forward.

Cost Base

In order to account for any gain or loss on disposal, the Bill proposes that the default method for determining cost base be market valuation as at the date on which the RAM is first applied to the share.

Pleasingly, the Bill proposes an alternative where a market valuation cannot be determined except by independent valuation, or simply where the taxpayer chooses not to obtain one. In this case, the Bill proposes to use a time-based apportionment method. Under this method, any gain (or loss) will be spread across the entire period of ownership with only the proportion of gain (or loss) relevant to the period of time that the person was New Zealand tax resident returned for New Zealand tax purposes.

Deemed Disposal

The Bill proposes three scenarios for a deemed disposal at market value:

1. Where a person elects to apply an alternative FIF method. In this scenario the disposal is deemed to take place on the last day of the income year in which the election is made. The new method will then apply from the first day of the following income year.

   
   

2. When a foreign share loses its eligibility for RAM such as when an unlisted share becomes listed.  In this case the share will be treated as being disposed of on the date that it loses eligibility.

   
   

3. When a person applying the extended RAM is no longer eligible to apply that method but chooses to continue to apply RAM, the Bill deems the person to have disposed of all shares that have one or more of the following characteristics:

• The share is listed on a Stock Exchange;

• There is a redemption facility for market value;

• The share is in an entity that derives 80% or more of its value from shares that meet one or more of the above.

In this case, the disposal is deemed to occur on the day before the person becomes ineligible for the extended RAM.

Deferred Realisation Tax

When a taxpayer who is applying the RAM, ceases to be New Zealand tax resident, they will be deemed to have disposed of all the RAM interests for market value immediately prior to becoming non-resident.  However, the deemed disposal will be disregarded for the RAM interests not sold within three years of them ceasing to be New Zealand tax resident, or by the time the person regains New Zealand tax residency (if they return within three years).

Death and Divorce

Current tax legislation provides relief when assets are transferred pursuant to a relationship property agreement or on death to a spouse or life partner. In circumstances where foreign shares are transferred that would be eligible to receive rollover relief under present legislation, the recipient can elect to apply the RAM where the transferor applied the RAM even when the recipient would not otherwise be eligible.

Where the recipient does not continue using the RAM, then a deemed disposal will occur. If the recipient is eligible for the RAM in their own capacity but they have previously chosen not to apply the RAM on their own shares, they cannot choose to apply the RAM on the interest they receive, and a deemed disposal will occur in this instance.

A great start, but more work to do

The much-needed amendments to our antiquated FIF rules, which deem income and create tax on unrealised gains, are long overdue. While the Bill makes a number of welcome changes, we note the wider application is only available to those who also suffer tax on a citizenship basis, such as US citizens.  New migrants, and returning kiwis from elsewhere, such as Europe and Asia, will still be required to pay tax on their listed shares using one of the current FIF methods, which is essentially a wealth tax, taxing unrealised gains, and not necessarily allowing a deduction for losses.  Further, it is unclear if the IRS will allow a foreign tax credit for tax paid on the RAM as it is still a form of FIF tax, rather than a capital gains tax.

While we appreciate the Government is trying to attract new investment New Zealand, the problems with the current FIF rules are not new, and not isolated to those now considering a move to New Zealand. We have advised countless clients over the years who have made the decision to leave New Zealand because they cannot afford the cost of the FIF rules. Those migrants and returning kiwis who became tax resident and ceased to be transitional tax resident prior to 1 April 2024 will not benefit from the proposed changes.

Another change we will advocate for on behalf of our clients is the use of a lower, flat rate for tax of the gain rather than marginal rate on only 70% of the gain. We anticipate most taxpayers paying tax on disposal will be paying at the rate of 39% which is extremely high by OECD standards.

We applaud this first step of the proposed changes which will make New Zealand’s tax system more palatable for potential new migrants as well as returning kiwis. However, we encourage broader changes which will result in a wider application to all New Zealand taxpayers with a lower, flat rate tax on the disposal.

This article is intended for informational purposes only and should not replace specific tax advice. For personalised advice on all tax issues please contact us.

This article was accurate at the time of publishing.