Facilitation of Budget 2010 PIE tax rate changes

Background

To coincide with the personal tax cuts announced in the 2010 Budget, the tax rates that apply to portfolio investment entity (PIE) investments (known as prescribed investor rates or PIRs) are being reduced from 1 October 2010. The Taxation (Budget Measures) Act contained some provisions to facilitate this change in rate, including a transitional method for applying the new rates.

This Act contains an alternative transitional method, designed to reduce compliance costs for some PIEs, and also some remedial amendments to the changes introduced in the Budget Act.

Key features

Alternative part-year calculation method

• An exit PIE can elect to treat the 2010-11 tax year as if it were two tax years, split by 1 October. A PIE that elects this option calculates its tax liabilities based on existing PIRs until 30 September, and based on the post-Budget PIRs from 1 October onwards.
• PIEs that elect this method will generally have to file returns and pay tax for both part-years.
• Foreign tax credits that are attributable to the first part-year ending on 30 September can be carried over to the second part-year.

Detailed analysis

Alternative part-year calculation method ("hard close" option) (section HM 42B)

The Act introduces new section HM 42B, which provides that for the 2010-11 tax year, PIEs to which section HM 42 applies (exit PIEs) can elect to treat the year as two separate tax years, split by 1 October 2010. A PIE makes such an election by filing its returns under sections 57B(5) or (7) of the Tax Administration Act 1994 (TAA) as described below.

If a PIE is not an exit PIE, or it does not make an election to use this transitional method, it must apply the 1 October PIR changes as set out in HM 60(3).

Effect of calculation method

A PIE that elects this option calculates its investors' tax liabilities using existing PIRs (12.5%, 21%, 30%) for the first part-year (1 April to 30 September). The PIE then calculates its investors' tax liabilities for the second part-year (1 October to 31 March) using the post-Budget PIRs (10.5%, 17.5%, 28%).

If an investor notifies an electing PIE of a new PIR after 1 October, that PIR is only applied to income attributed to the second part-year. The investor's tax liability for the first part-year remains unchanged.

Requirements for returns and tax payments

Section HM 42B(3) provides that an electing PIE must generally file tax returns and pay any resulting tax at the end of both part-years. However, a PIE can choose to send account summaries to its investors and certain information to the Commissioner of Inland Revenue, as required by sections 31C(4) and 57B(7) of the TAA respectively, separately for each part-year, or in a single consolidated form.

Treatment of foreign tax credits

Section HM 42B(4) sets out that foreign tax credits are not extinguished by the end of the first part-year. Specifically, despite the deemed tax year-end on 30 September, foreign tax credits (credits under subpart LJ) that are attributable to the first part-year can be carried over and used in the second part-year.

Credits attributable to the second part-year cannot be used to offset tax liabilities in the first part-year, as those liabilities are crystallised when the PIE performs its end-of-year tax calculation on 30 September.

Transition of rate for certain investors (section HM 58)

Section HM 58 is designed to automatically change investors' notified investor rates to reflect the new PIRs that take effect from 1 October 2010.

The Act introduces a remedial amendment to this section, so that investors with a notified investor rate of 19.5% are also transferred to the appropriate new rate, 17.5%, on 1 October. This change is necessary because PIEs with late balance dates will not necessarily have transitioned their investors from 19.5% to the 21% rate (introduced in the 2009 Budget) at 1 October 2010. Without the amendment, those PIEs would not have been able to use the section as it was intended.

Amendments to the existing PIR transitional rule (section HM 60)

The Taxation (Budget Measures) Act included a transitional method for PIEs to apply the 1 October PIR change. This Act makes two remedial amendments to that transitional rule.

• In section HM 60(3), the words "in every period for the income year" are replaced by "in the period". This change clarifies that quarterly PIEs, which calculate and pay tax each quarter, need to apply an updated notified investor rate only to the current and future quarters. PIEs with yearly calculation periods must apply the rate most recently notified by an investor to every day in the current income year.
• Despite the above rule, for the 2010-11 income year, a PIE with a yearly calculation period only has to apply a tax rate notified on or after 1 October to every day on or after 1 October. For days before 1 October, the PIE has a choice: it can apply the pre-Budget tax rate that corresponds to the newly notified rate, or it can choose not to adjust the investor's tax liability for days prior to 1 October.

The Taxation (Budget Measures) Act also repealed the exemption to the rule in section HM 60(3), described above. This exemption applied if the PIE made voluntary payments of tax to meet an investor's tax liability under section HM 45. The repeal was unintended. This Act reinstates this exemption through new subsection 3B.

Application date

These amendments apply from 1 October 2010.