Tax loss carry-back scheme: Important considerations
Standard imputation (ICA), ownership continuity and grouping rules still apply under the new tax loss carry-back scheme, while anyone who overestimates their loss will face IRD interest (UOMI) from the date of their first provisional tax instalment for the previous year.
Moreover, company profits already paid out via shareholder-employee salaries or dividends are unable to be reversed to take advantage of the scheme.
A basic overview of the scheme
Under the temporary scheme, taxpayers who expect to make a loss in either the 2020 or 2021 tax year will be able to estimate that loss and use all (or a portion of it) to offset any profit made in the previous year.
This allows those who need cash urgently to receive a refund of any income tax paid in the previous year.
It applies to companies, trusts, and individuals (other than those deriving only PAYE income) and those that operate through partnerships and look-through companies.
The legislative reference is sIZ8 Income Tax Act 2007.
Here are some of the things you need to consider before electing to use the scheme.
The ICA rules
Be mindful that standard ICA rules apply as part of the tax loss carry-back.
That means in order to obtain a refund of income tax, a taxpayer must have an ICA credit balance at the end of the most recently ended tax year (i.e. 31 March 2020) that is at least equal to the refund amount.
Alternatively, they can complete an interim ICA return up to the date of their refund request.
Provisional tax deposits held in a tax pooling account that are refunded under the loss carry-back scheme will be subject to the imputation debit rules that normally apply for pooling.
Given the potential exposure to imputation penalty tax of 10 percent and UOMI, the timing of tax pooling refunds due to a loss being carried back should be considered on an ongoing basis to mitigate this risk.
The results can be catastrophic if they’re not.
We strongly encourage you to contact us before you refund any balances from the pool.
Ownership continuity and grouping rules
The ownership continuity requirements that relate to the loss carry-forward provision, and the normal grouping rules, also apply under the tax loss carry-back scheme.
This means a company must have maintained at least 49 percent common ownership throughout the loss year and preceding profit year.
For entities part of a group, the group must have retained 66 percent common ownership throughout the loss year and the preceding year.
That said, there are provisions in the tax loss carry-back legislation that deal with part years in the ownership continuity period.
IRD has examples of this in its commentary for the COVID-19 Response (Taxation and Other Regulatory Urgent Measures) Bill.
Time bar rule
IRD can reassess both the loss year and the preceding profit year at the same time – even if the preceding profit year is time barred.
That is something to keep in mind.
Situations where the scheme cannot be used
A taxpayer must have taxable income in the previous year.
Given that, a company that has already paid out its profit via shareholder-employee salaries will not have any taxable income to which they can apply future losses they wish to carry back.
This is also the case if the taxpayer has already distributed its profits as a dividend or made a subvention payment.
Therefore, they cannot use the scheme.
Taxpayers who have ringfenced rental losses will not be able to carry back losses either.
It's the same with multi-rate PIEs. This is because they have a cash-out for losses that provides immediate tax relief in this situation.
Situations where it will offer limited benefit
A taxpayer can only carry back losses one year (e.g. from the 2021 tax year to the 2020 tax year).
As such, there will be situations where the scheme will only free up a small refund of income tax.
Example one
| Tax year | Taxable income |
| 2019 | Massive profit |
| 2020 | Modest profit |
| 2021 | Huge loss forecast |
Someone can only carry back the huge forecast loss for 2021 to the extent of the taxable income in 2020. As you can see, this is considerably lower in comparison to the 2019 tax year.
This will result in a very small refund of tax under the scheme.
Example two
| Tax year | Taxable income |
| 2019 | Massive profit |
| 2020 | Small loss |
| 2021 | Huge loss forecast |
Someone can only carry back the small loss from 2020 to the 2019 year. The huge forecast loss from 2021 cannot be utilised as part of the scheme.
Once again, this will result in a small refund of tax.
Here’s another thing to remember.
If the taxpayer is part of a wholly owned group of companies, the loss amount they can carry back is limited to the amount that cannot be offset against the profits within that group during the loss year. In other words, the loss must be used within the group first during the loss year.
UOMI ramifications
A taxpayer can re-estimate provisional tax in the previous year as many times as they like under the scheme. They can keep doing so up until the date they file their return for the loss year (or the date by which they must legally file this return if this is earlier).
However, re-estimating provisional tax means the UOMI rules in s120KB Tax Administration Act 1994 will apply.
That means if someone overestimates their tax loss carry-back for the loss year – resulting in tax to be paid later due to receiving a larger refund to which they were entitled – they will be liable to pay UOMI from the date of their first provisional tax instalment in the preceding profit year.
Interest will be charged on the difference between the income tax they owe for the profit year and the income tax they paid in that year.
The income tax they owe for the profit year is based on the original taxable income for that year, minus the actual loss from the loss year. The tax they paid in the profit year is based on the original taxable income for that year, minus the total loss year refund they initially received due to overestimating their loss.
The amount on which UOMI is charged will be split evenly across the number of provisional tax instalments payable for the profit year.
Section 183ABAB of the Act – which gives IRD the power to remit UOMI for taxpayers who cannot make tax payments after 14 February 2020 due to COVID-19 – will not be able to assist.
TMNZ can help reduce UOMI
However, someone who is incurring UOMI due to overestimating their tax loss carry-back can use TMNZ to reduce the interest cost by up to 30 percent on the additional tax payable if they are within 75 days of their terminal tax date for the profit year (or 60 days from the date IRD issues a notice of reassessment if the profit year is a closed income year).
Flexitax® allows them to apply backdated tax paid to IRD on the date it was originally due against their liability.
As such, IRD will treat the taxpayer as having paid on time once it processes this transaction, remitting any UOMI and late payment penalties incurred.
It’s a safety net for someone who has a ‘mare forecasting their loss.
It may pay to wait and see
For many taxpayers, the most recent tax year would have ended on 31 March 2020.
Up until the start of that month, when the impacts of COVID-19 really hit, everything was running smoothly. It’s quite likely their profitability was not significantly impacted.
But there’s a strong likelihood it will be during their 2021 tax year.
However, as it’s still early days in that year, having to estimate a loss to carry back to 2020 this far out is quite difficult.
Honestly, who really knows what the landscape will look like next month – let alone by 31 March 2021 – given the clouds of uncertainty lingering above the domestic and global economies in the wake of COVID-19?
The risk of incurring UOMI if they get it wrong means they may wish to err on the side of caution with their loss estimate and then re-estimate as the year progresses once the picture becomes clearer.
The other option is to hold off until later. That's what many appear to be doing at this stage given the low uptake.
Yet a downside of playing it safe or waiting a little longer is the taxpayer may not receive the full cashflow injection they are seeking right now.
Does their desperate need for immediate funds outweigh the potential UOMI consequences down the track, or can they afford to wait?
That’s something a taxpayer is going to need to weigh up before opting in.
Don't forget tax pool deposits
For those holding provisional tax deposits in TMNZ’s tax pool who want access to their payments now – but don’t yet have the confidence to file a loss carry-back – there is another option.
They can take a line of credit against their deposits, for interest rates below three percent. They also have the option of restoring those deposits at their original deposit dates once their cashflow situation improves.
However, there are a couple of things to note.
For starters, the ICA position needs to considered first as the debit rules for pooling apply in this situation as well since the transaction is treated as a sale of tax.
The tax must also be paid back and transferred to IRD within 75 days after the terminal tax date for that tax period.
Nonetheless, it's something else to think about if a taxpayer requires cash in the wake of COVID-19.
Summary
The above are some things of which to be aware when it comes to the tax loss carry-back scheme.
For business owners, this IS NOT tax advice. We recommend you speak with a tax specialist in the first instance about your particular situation. The legislation is quite complex.
You can find one of our premium accounting partners here.
IRD adjusts UOMI rates
Someone will now pay the taxman less interest (UOMI) if they underpay their tax – but literally receive nowt if they overpay.
That’s the key takeaway after IRD announced it is adjusting its UOMI rates today.
They are lowering the interest they charge for underpaid tax from 8.35 percent to seven percent.
IRD’s credit interest also falls from 0.81 percent to zero percent.
That’s right – someone will get no financial compensation if they pay too much tax now.
IRD's new rates are effective from 8 May 2020.
How IRD sets its UOMI rates
The department calculates its underpayment interest by taking the floating first mortgage new customer rate and adding 250 basis points.
A recent legislative amendment means their credit UOMI rate is now based on the higher of:
- The 90-day bank bill, minus 100 basis points; or
- 0 percent.
Previously, they used just the 90-day bank bill, minus 100 basis points to set this rate.
Without the legislative amendment, taxpayers would have faced the awkward situation of having to pay interest to IRD if they overpaid their tax given the Reserve Bank of New Zealand's 90-day bank bill sits at just 0.26 percent.
COVID-19: How tax pooling can still help taxpayers
IRD may be taking a more flexible approach in terms of its interest (UOMI) remission for taxpayers grappling with the financial impact of COVID-19 – but any request for relief will still be at its discretion and on its terms.
As such, an IRD-approved tax pooling provider such as Tax Management NZ (TMNZ) can assist with provisional tax this month if someone:
- Misses out on a remission of UOMI.
- Wants greater payment flexibility to manage cashflow during this difficult time than what they'll receive if entering an IRD arrangement.
- Prefers not to deal with the taxman.
IRD: ‘If you say you can’t pay, we’ll believe you’
During a Chartered Accountants Australia and New Zealand webcast last month, IRD said they will take a taxpayer at their word if they tell them they cannot pay tax on time due to COVID-19 and accept most applications to waive UOMI if they are for no more than two years from the date the legislation was enacted (this being 25 March 2020).
Taxpayers DO NOT need to have exhausted all financing options before seeking assistance either.
This indicates IRD will be more flexible in its remission of UOMI. It was certainly a different tone to what was found in the general guidance document they issued last month.
And that’s not a bad thing for those reeling from the effects of COVID-19.
Our view
However, we believe the department's approach to the remission of UOMI will fall somewhere in the middle. It won't be as heavy-handed as their general guidance suggest, nor will it be a no-questioned-asked waiver for all.
As such, with provisional tax instalments due on 7 May and 28 May, we explain how tax pooling can be of assistance to taxpayers who are short on cash given the current economic climate.
Below we compare the service to IRD’s remission of UOMI.
Tax pooling offers more flexibility
With Flexitax®, taxpayers have the complete flexibility to pay what they want, when they want for up to 13 months.
While IRD is applying a high-trust approach in terms of applications and offering a remission of UOMI until 25 March 2022, it may still determine the type of payment arrangement it strikes with a taxpayer, the length of that arrangement and the date(s) by which someone must make payment(s) after it reviews someone's request.
There is also an expectation for anyone seeking relief to pay the tax they owe as soon as practicable. Remember, this is not a tax holiday. Only in extreme circumstances will someone be granted 22 months to pay.
If someone cannot honour their arrangement, they will need to contact IRD to renegotiate an extension or request a write-off. They will have to show they've made every possible effort to pay their liability by the agreed date. Whether someone is granted an extension or write-off will come down to IRD’s discretion.
Given that, even though TMNZ interest applies during any Flexitax® arrangement, some may find paying this negligible seeing as it gives them the freedom to manage cashflow by letting them make payments as and when it suits them, rather than having to meet the rigid terms of IRD’s payment arrangement.
A taxpayer has 75 days past their terminal tax to settle any 2020 income tax they owe with TMNZ. They only pay for the tax they require and can easily amend the arrangement to reflect this.
TMNZ’s interest cost is up to 30 percent cheaper than the 8.35 percent IRD currently charges when someone misses a tax payment. It is very competitive in comparison to most other forms of credit or finance.
And with tax pooling able to eliminate late payment penalties, this makes us the next best option for anyone wanting the flexibility to manage their cashflow.
Tax pooling is easier to arrange
Someone can complete a Flexitax® request in less than five minutes by phoning TMNZ or via their online dashboard. If emailing us, we can have the arrangement ready to go within five hours of receiving someone’s correspondence.
It is also light touch in terms of organising. After all, approval is guaranteed, and no security or financial information is required.
The only thing TMNZ needs is a taxpayer’s IRD number.
Compare that to IRD.
A taxpayer applying for a remission of UOMI will require some financial documentation before they make their submission. While IRD may not ask for this information in all situations – they say it will only be in cases of serious hardship where someone is requesting a write-off of the tax they owe– it’s important to have it ready just in case.
IRD will not finalise and approve anything until it completes a review of the application. That can take three working days or more.
The department is also experiencing unprecedented query volumes right now due to COVID-19, so this may mean getting a response takes longer.
Tax pooling is your safety net
We encourage those seeking IRD relief to enter a Flexitax® request just to be on the safe side.
That’s because there are no guarantees IRD will accept someone’s application for UOMI remission. Again, discretion is key.
If the department accepts the request for relief, then great. There’s no obligation to complete the arrangement.
On the other hand, if IRD declines someone’s request for a remittance of UOMI, a taxpayer can rest safe in the knowledge that they have a way to defer their upcoming 2020 provisional tax payment until June next year, while eliminating late payment penalties and reducing their interest cost.
Please contact TMNZ today if you wish to know more about Flexitax®.
COVID-19 update: Devil in the detail with UOMI remission
Update as at 14 April 2020 after IRD clarified its position following the publication of this article
Someone who is struggling to pay tax on time due to COVID-19 will have to engage with IRD and agree to the terms of a payment plan if they want to receive a remission of interest (UOMI).
Given that, they might find setting up a Flexitax® arrangement with TMNZ much easier.
But more on that later.
The criteria for UOMI remission
First, IRD has issued general guidance on the requirements taxpayers must meet in order to be eligible for a remission of UOMI on tax obligations due after 14 February 2020.
To qualify, someone must satisfy the department that they are:
- Physically unable to make their payment when it’s due because of COVID-19; or
- Struggling financially to pay on time because of the economic impact caused by the outbreak of the deadly virus.
IRD also requires taxpayers seeking relief to both contact them and pay the tax they owe “as soon as practicable”.
Now on the surface that doesn’t sound too onerous. However, this is the taxman we’re talking about and the devil always lurks in the detail.
And, when you delve a little deeper, it appears that they’re asking a lot from anyone seeking assistance due to COVID-19.
What does ‘struggling financially’ mean?
IRD says there must be a reduction in someone’s income or revenue as a result of COVID-19 which prevents them from paying their tax on time and in full.
The extent to which there needs to be a reduction in income or revenue is not explicitly set out.
IRD will look at GST and other tax return information to help it get a picture of someone’s financial affairs when determining the extent of the relief it will grant them. That’s why it’s important to keep filing these returns.
They may want to know how a taxpayer plans to sustain their business if they own one.
IRD indicates that they may ask a taxpayer to provide the following information when applying for a remission of UOMI:
- Bank and credit card statements for at least the last three months.
- Any management accounting information.
- A list of aged creditors and debtors.
We understand this will be for more serious cases where someone is asking for IRD to write off the tax payable in addition to UOMI.
And, although they do not mention this specifically, their guidance document implies someone will also need to have reviewed other financing options before going cap in hand to IRD. The two examples they give are not helpful as they involve taxpayers who either cannot get an extension of their business overdraft or have maxed out their personal loans or credit cards.
If the department deems the taxpayer has the means to pay on time following a review of their financial affairs, it will expect that person to do just that –and will take appropriate action if they don’t.
What does ‘as soon as practicable’ mean?
IRD says it will determine this on the facts of each case.
As a general guideline, they say someone will satisfy this requirement if they both apply for relief and agree to pay the tax at the earliest opportunity (or over the most reasonable period given their specific circumstances).
We take this to mean that taxpayers seeking a remission of UOMI must:
- Be proactive and apply for this relief as soon as possible. If you have missed a payment, you can still contact IRD and ask for remission.
- Agree to pay the tax they owe as quickly as possible – most likely at a date or within a timeframe set by IRD based off the financial and tax return information it receives from the applicant. In other words, this WILL NOT be a two-year holiday or deferral from paying tax.
- Contact IRD as soon as possible if they encounter further difficulty and need to re-negotiate the terms of the agreement.
- Honour the agreement with IRD by paying the tax they owe.
If someone ticks those boxes, we believe IRD will consider them to have met the ‘as soon as practicable’ requirement.
How will the UOMI remission work?
Taxpayers seeking a remission of UOMI will agree to enter a payment plan with IRD.
This will likely be a regular instalment arrangement, but may also include:
- An instalment arrangement with a deferred payment start date.
- A partial write-off due to serious hardship and payment of the remaining tax by instalment or a lump sum.
- A partial payment and balance write-off under maximising recovery of outstanding tax.
Again, the type of payment plan entered – and any instalment amounts payable – will likely to be determined by IRD based on someone’s financial and tax return information.
In serious cases of hardship, IRD says it may agree to write off the debt.
UOMI and late payment penalties will continue to accrue for those who enter a payment arrangement.
However, once a taxpayer pays the tax they owe and IRD deems they meet the criteria for remission, it will automatically cancel UOMI.
IRD will also wipe late payment penalties.
Those who do not pay the outstanding tax will face UOMI from the date they stop complying with their arrangement.
IRD’s ability to remit UOMI due to COVID-19 under s183ABAB Tax Administration Act 1994 will apply until 25 March 2022.
Why paying with TMNZ might be easier
The requirements a taxpayer must meet to receive a remission of UOMI from IRD may prove to be one hurdle too many during what is already a difficult time due to the COVID-19.
They may find it easier to set up a Flexitax® payment arrangement with TMNZ if they’re unable to pay their 7 May 2020 provisional tax on time – or missed paying terminal for the 2019 tax year on 7 April 2020.
The reasons why are simple:
- It’s light touch in terms of organising the arrangement – approval is guaranteed, and no security or financial information is required.
- Taxpayers have the flexibility to pay as and when it suits their cashflow.
- No need to worry about late payment penalties.
- Competitive interest cost in comparison to most other forms of credit or finance. We’re the next best option for those who are ineligible (or don’t want to go through the process of applying to IRD) for a remission of UOMI.
- The arrangement doesn’t impact other lending arrangements.
- More time to pay – an extra 75 days to settle the 2019 terminal tax and up to 13 months to pay provisional tax for the 2020 tax year.
- You only pay for the tax you end up requiring.
- We’re approved by IRD.
Please get in touch with us today if you wish to know more about Flexitax®.