Mood of the Boardroom

Author: Thomas Pippos

As published in the NZ Herald ’Mood of the Boardroom’ special report on 17 November, 2011

The 2011 Mood of the Boardroom survey results are a product of the environment – material fiscal deficits, substantial global uncertainty, an upcoming election and a RWC win by the narrowest of margins. The survey results bring out some decisive views across the spectrum of questions asked.

Before considering the responses it is important to also remember the context of the survey, which is akin to being placed between the devil and the deep blue sea – it assumes revenue needs to be raised (rather than Government expenditure cut) and considers the options available to achieve this.

The survey canvassed levels of support for four revenue raising options: capital gains tax, financial transactions tax, a temporary tax levy, and a new higher top personal income tax rate. The results reveal a number of surprises, particularly the extent to which some initiatives are supported.

The first is that a capital gains tax is viewed as a viable revenue-raising option, with 61% of the respondents in favour in this context. The percentage in support increases to 70% if the revenue raised was used to reduce personal and corporate tax rates, or stop these rates increasing. By an overwhelming majority the features of a capital gains tax that found favour with respondents are those that the Labour Party has put up as part of its package: that the family home is excluded, the tax only applies on a realisation basis, and that it also applies at a lower rate – say 15%.

These results are somewhat surprising given that traditionally any proposal to introduce a capital gains tax has polarised New Zealand society!

But let’s be clear, New Zealand already has a number of capital gains taxes in its existing statutory scheme. Gains on international shares and financial arrangements are subject to an unrealised capital gains tax at full marginal tax rates through, respectively, the FDR and Accrual Rules. Similarly, through the land provisions and other targeted charging provisions certain land and other gains are taxed on a realised basis, again at marginal tax rates. Labour’s capital gains suggestion, for lack of a better phrase, is really just an extension to the existing distortionary rules to tax further capital gains, subject to some pragmatic exemptions, on a realisation basis at a considerably reduced rate. It basically introduces another rung in the already distortionary capital gains ladder.

Again, in the context of the devil and the deep blue sea, it seems that respondents believe the proposal has some merit.

More surprising is that in the same context a financial transactions tax actually registers as a viable option, with a substantive 39% support. Why surprising? Because historically such a tax would have been viewed as a fringe policy, reminiscent of what one would (and did) expect from the Social Credit Party. Its viability in New Zealand however will be directly correlated with the traction it gets in the Northern Hemisphere, where the same debate is playing out in a considerably more severe fiscal environment. Another response at the more surprising end of the spectrum was that temporary tax increases, even with a sunset clause, registered a clear “we don’t like” by respondents. Australia has gone down this route with the flooding in Queensland and it has been mooted as an option to fund or partially fund the reconstruction in Christchurch. The reason for the “we don’t like” response is not clear from the survey, but it may be influenced by a concern that future Governments and officials would look to make such measures permanent. In any event, a lot of work would seem to be required to get support for any such measure as a viable revenue-raising tool, compared to the others already canvassed.

At the less surprising end of the spectrum is that there is no real support for the removal of GST on fresh fruit and vegetables. While this untargeted measure has popular support in some circles -notwithstanding the boundary issues that would result – 85% of respondents do not support it. Similarly, increasing the highest marginal tax rate, even so that it would not apply until $300,000, is not a winner from respondents, with one comment being to “stop punishing those that work their butts off to do well”. Again, increasing the top personal tax rate is a polarising topic (recognising also the relatively small amount of revenue that would be raised particularly if there was a material increase in threshold). Consistent with prior surveys, 85% of respondents see real merit in ensuring that our tax rules don’t discourage foreign direct investment from cohabitating with local portfolio investors. The mixed ownership model for SOEs potentially raises a real edge to this discussion. More relevant are the partial sell downs of companies like TradeMe. Respondents also sent a clear signal, some 92%, that it’s time to think about unilateral options to integrate tax bases rather than continue to pursue the perceived nirvana of mutual recognition of imputation credits with Australia, which seems less realistic now than ever.

The sacred cow of picking winners and losers still receives support, with 78% seeing merit in having a flutter to provide targeted tax and regulatory relief to encourage certain activity, noting that everyone else is doing the same in any event. That support doesn’t go as far as actively looking to attract high net wealth individuals to be based here, with only 38% in favour of taxing such individuals in a concessionary manner. However in saying that, an overwhelming 82% agree that the current tax rules that actively repel high net worth individuals from coming to New Zealand need some remedial action.

All in all the survey provides some clear signals that CEOs are not only influenced by economic theory; they are also pragmatists. Faced with options around the devil and the deep blue sea, the boardroom is accommodating of certain revenue-raising tax reforms that traditionally one would expect to be met with disapproval. This may be of interest to the current government particularly given that, at least to date, it has not recognised the existence of the devil and the deep blue sea choice.

Similarly pragmatic is that business leaders are supportive of the use of tax as a carrot to encourage certain positive economic behaviours – an area where the Government has taken a few baby steps to date. Likewise, the Government needs to address barriers that our current rules have around foreign direct investment from cohabitating with local portfolio investors and certain rules that actively repel foreign high net worth individuals from being based here. These issues have been outstanding for a considerable period of time, and clearly respondents would at a minimum like some comfort that they will be addressed in the near term.

Avoidance never far from the headlines

The banks were accused of tax avoidance by Inland Revenue as a result of entering into what became known as the “conduit” deals. They lost in the High Court and settled rather than take their chances on appeal.

Messrs Penny and Hooper were accused by the IRD of restructuring their businesses so as to pay tax at the company tax rate rather than the higher top personal tax rate. The Penny and Hooper case went all the way to the Supreme Court but was ultimately unsuccessful.

Currently, the much publicised OCN cases are proceeding through the High Court – and again the Department is sensing victory.

Inland Revenue is also raising the spectre of tax avoidance in a range of other cases that may or may not ultimately reach the courts for consideration. They themselves are still looking to push the envelope until they encounter resistance. Note also the extensive financial and emotional costs of defending any such attack. So how did it all come to this?

The answer is not necessarily that taxpayers have changed their behaviour over time; it is that the boundary of what is and is not considered tax avoidance by Inland Revenue and the courts has shifted. This by the way is a global phenomenon – it’s not just a New Zealand issue.

The obvious question that follows is where is the boundary now and where is it going? The results of the 2011 Mood of the Boardroom survey are a mixed bag as to the level of concern this uncertainty generates. Only 39% of respondents are concerned that uncertainty currently exists around what constitutes tax avoidance, while 62% think the Government should to more to provide certainty on the tax avoidance boundary.

This compares to a recent BusinessNZ survey of its members, in which more than half of respondents were concerned about the uncertainty and 77% thought that the Government should be doing more. The CEO responses are therefore in one sense surprising.

One reason for this may be that the responses provided could in part depend on how far Inland Revenue has been prepared to push tax matters within the respondents’ own organisations. In any event, a clear majority is still calling for greater clarity.

To this end, Inland Revenue has promised to release its long awaited guidance on the tax avoidance boundary “shortly”, actually now expected before year end. 

Time will tell when that guidance is actually released let alone whether it provides sufficient certainty. 

Either way it will reignite the debate on this topic which is long overdue.