Myth busting tax for start-ups

In my work I’m lucky enough to help start-up founders and leaders make decisions on how to structure and manage their businesses, particularly when they decide to expand overseas. Sometimes I’m able to give them some welcome information about how tax rules work, by correcting misinformation they’ve heard previously. Of course, that can go the other way as well, and I can do some more unwelcome myth busting. Recently, a few topics keep popping up in these conversations. I’ve collected them together in one place, so that hopefully a few more start-up founders and leaders can have the right information.

Decisions you make now can be changed in future. Big decisions like where to locate your IP, whether you should flip your company’s ownership to another country, whether to set up a foreign branch or company, might not be decisions that have to be made straight away, or even decisions that can only be made once. Keep revisiting your decisions as your business evolves.

Protecting valuable IP should be a top priority. When thinking about how to structure your business, consider how fundamental your IP is to the value of your business. Should it be owned by the same company that contracts with customers? Does your answer change if you consider your medium- and long-term plans for which markets you’ll pursue?

A New Zealand company can be subject to tax in a foreign country, even if you don’t think you’re doing business there. Every country, and sometimes states within a country, has their own definition of what “doing business” means, and when this means you need to pay tax there. Being incorporated and run in New Zealand doesn’t mean you can’t be doing business elsewhere. Your business could meet a threshold for doing business in another country or state by doing a certain number of transactions, a certain value of transactions, having property in the country (including leased premises or inventory), or having people working on your behalf there. The only way to be certain about whether your business could be taxed in a foreign jurisdiction is to get local tax advice.

A double tax agreement doesn’t completely protect you from foreign tax. DTAs are agreements negotiated between two countries to agree how to tax cross border income. New Zealand has forty double tax agreements in place with some of our most important trading partners. They can have a significant impact on reducing tax costs of doing business cross border.

What they don’t do is completely remove either country’s right to tax income sourced from that country. Rather, DTAs agree the circumstances in which each country can tax that income. Whether or not a DTA stops another country from taxing the income your company is earning from that country depends on a lot of factors. You need to consider all the activities your company has in that country, the local tax rules, and then the impact of the DTA, to determine where you need to pay tax, and if any New Zealand tax credit is available for the foreign tax paid.

Paying close attention to the tax benefits of your R&D expenditure can reap real rewards. If your business is undertaking research and development activities, you could potentially claim the R&D tax incentive, or the R&D loss tax credit (cashing out any losses you may have), or both. Many businesses don’t realise the full potential of the R&D regime, and how much of their expenditure qualifies for a credit, and miss out on valuable benefits. The timeframes for making claims are strict and there is no room for error – once the deadline has passed, the opportunity is gone. The decisions you make about where your IP is located, who does your R&D, how the different parts of your business interact with each other, all affect your eligibility. Getting advice, even if just in the first year of claiming the incentive or loss tax credit, can help you identify what you’re entitled to, and understand how the rules work.

No-one can assess the risk of a revenue authority deciding to audit you. All you can do is make the most informed decision you can about your tax risks in each country you operate in, and the level of tax compliance you can live with. Ensure your key stakeholders – your board, external advisors, major shareholders, if appropriate – are aware of the decisions you have made, and support them. Revenue authorities are collecting more data than ever before, and using more sophisticated analytics to identify potential non-compliance, so it is always best to assume you will not go unnoticed.

It’s ok to ask your advisors to talk to each other. Joining up your accountants, tax advisors, lawyers and other advisors is always a good thing. If we know what each other is doing, we can be co-ordinated, work towards the same plans, and make sure nothing we do is going to cause problems in another area.

It’s easier to get the basics in place when your business is small. The bigger and more complex your business gets, the more complex your tax obligations will be. Keep adding to your tax governance and tax compliance processes as you grow, rather than waiting until it feels like it’s all too big to tackle. Setting up a structure that separates your IP from your customer contracts, putting in place transfer pricing agreements, or ring-fencing your overseas sales activity, are all a lot easier to do when your business is just starting to export, rather than several years later.

And finally, if you only remember one thing, setting up your business structure should always involve a tax conversation. Tax matters when money, or anything of value, changes hands. This includes borrowing money, raising capital, paying employees, setting up employee share schemes, moving money between countries, buying significant assets, paying dividends, and so on. Make sure you are not storing up problems that will come to the surface when you want to raise capital or exit, and a potential investor undertakes due diligence.

If you’d like to discuss your business strategy, structure, or tax compliance, get in touch and we can have a chat.