Income Tax Amendment Act (No 2) 1982

This commentary item was published in Public Information Bulletin Volume 120, March/August 1983

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Section 1 - Short Title

Provides that this Amendment Act is to be read with and form part of the Income Tax Act 1976.

Section 2 - Application

Unless otherwise stated in relation to any particular section or subsection, the provisions of this Act first apply to the tax on income derived during the income year which commenced on 1 April 1982. It should be noted that there are a number of provisions in this Act which have their own commencing dates. These are pointed out during this commentary.

Section 3 - Superannuation

This is one of a number of amendments relating to the tax treatment of superannuation funds. A consolidated commentary on the effect of these amendments is contained in Appendix A of this publication.

Section 4 - Dividends

This section makes two changes to the meaning of the term "dividend" in section 4 of the principal Act.

The first of these changes is to ensure that with the repeal of bonus issue tax, bonus issues do not become an avenue to distribute "revenue" reserves tax free to the shareholders.

The Amendment Act inserts a new paragraph (ca) to section 4(1) of the principal Act, which amends the term "dividend" to include any return or reduction of capital where a company has, on or after 1 April 1982, made a bonus issue and subsequently within ten years from the date of that bonus issue makes a return or reduction of capital. As a general rule, a bonus issue is made on whatever date is specified by the company, in the relevant resolution, as being the date as at which the bonus issue is made.

Bonus Issues made before 1 April 1982

The application of the 10-year recovery rule is restricted to cases in which both the bonus issue and the return of capital are made on or after 1 April 1982. This means that a company which has, prior to 1 April 1982, converted its revenue reserves by way of bonus issue as part of the winding up of the company, will still be subject to the old three-year "further bonus issue" rule under section 263 of the Act. This is illustrated by the following example.

Example 1

Date		Company A	Company B
1 Jan 1981	Bonus Issue	$ 50,000	$ 50,000
1 Jan 1983	Return of Capital	$100,000	Nil
2 Jan 1985	Return of Capital	Nil	$100,000
1 Jan 1983
Section 263	Amount liable for further bonus issue tax	$50,000	N/A
Section 4(1)(ca)	Amount assessable as a dividend	Nil	N/A
2 Jan 1985
Section 263	Amount liable for further bonus issue tax	N/A	Nil
Section 4(1)(ca)	Amount assessable as a dividend	N/A	Nil

In this example Company A is liable to a further payment of bonus issue tax as it has made a further distribution within 3 years of the initial bonus issue, whereas Company B has waited 3 years and does not attract any tax under the 3 year or 10 year rules.

Bonus Issues made on or after 1 April 1982

The legislation uses a first in/first out (FIFO) basis to relate the return of capital to the first bonus issue and to the second and third, etc, bonus issues, made after 1 April 1982 which is or are within the 10 year period. This process is illustrated in the following examples.

Example 1

This example is to show a practical application of the proviso to section 4 which stipulates the order in which the return of capital is applied to the bonus issues.

1 May 1982	A.	Bonus Issue		$50,000
1 May 1984	B.	Bonus Issue		$60,000
1 May 1988			Return of Capital	$60,000
1 May 1990	C.	Bonus Issue		$70,000
1 May 1993			Return of Capital	$120,000

1. Period 1 April 1982 to 1 May 1988 (date of first return of capital):

Bonus Issues ($50,000 + $60,000)	$110,000
Previous Returns of Capital	NIL
ASSESS AS A DIVIDEND
THE RETURN OF CAPITAL	$60,000*1
($50,000 of bonus issue made 1.5.82 and $10,000 of bonus issue made 1.5.84)

2. 10 year period 1 May 1983 to 1 May 1993 (date of second return of capital):

Bonus Issues ($60,000 + $70,000)	$130,000
Previous Returns of Capital
treated as a Dividend	10,000*2
Balance	$120,000
ASSESS AS A DIVIDEND
THE RETURN OF CAPITAL	$60,000*1
($50,000 of bonus issue made 1.5.82 and $10,000 of bonus issue made 1.5.84)

Comment

1. Both Bonus Issues A and B were made after 1 April 1982 and within 10 years before the return of capital. Therefore the return of capital is treated as a dividend firstly to the extent of the bonus issue A made on 1 May 1982 of $50,000 and the balance $10,000 to the bonus issue B made on 1 May 1981.
2. Bonus issue A of 1 May 1982 is now outside the 10 year period. Bonus issue B of 1 May 1984 has been reduced by 10,000 to $50,000.
3. The return of capital is treated as a dividend firstly to the extent of $50,000 of the balance of the bonus issue B of 1 May 1984 and the excess to the bonus issue C of 1 May 1990.

Example 2

1 June 1982	Bonus Issue	$70,000
1 June 1987	Return of Capital (X)	$20,000
1 June 1989	Return of Capital (Y)	$10,000
1 June 1994	Return of Capital (Z)	$100,000

1. Period ending 1 June 1987

Bonus Issue (after 31.3.82 and within 10 years)	$70,000
Less previous Return of capital
"Unabsorbed" return of capital	$70,000
Assess as a dividend the return of capital (X)	$20,000

2. Period ending 1 June 1989

Bonus Issue (after 31.3.82 and within 10 years)	$70,000
Less previous return of Capital	$20,000
"Unabsorbed" return of capital	$50,000
Assess as a dividend the return of capital (Y)	$10,000

3. Period ending 1 June 1994

Bonus Issues (within the preceding 10 years)	Nil
Assess as a dividend	Nil.

Comments

1. Returns of capital (X) and (Y) are to be assessed to the shareholders as dividends.
2. Return of capital (Z) is not assessable as a dividend as no bonus issue was made within the preceding 10 year period.
3. Of the $70,000 bonus issue $40,000 has gone back to the shareholders but does not attract any tax in their hands.

The second series of changes to the term "dividend" are introduced by section 4(3) of the Amendment Act.

Section 4(3) - Tax Free Dividends

The amendments which this section make to section 4 of the principal Act apply with respect to the tax on income derived in the 1982/83 income year and every subsequent year. Previously, section 4(5) excluded from the definition of the term "dividend" any capital gain or capital profits arising on the realisation of a capital asset of the company.

The changes introduced by section 4 of the Amendment Act will prevent the growth in schemes aimed at creating artificial capital profits to facilitate the distribution of revenue reserves free of tax, in the guise of capital profits.

These changes are incorporated in the new subsections (5A) and (5B) of section 4 of the principal Act and their effect is to prevent the application of section 4(5) in these artificial cases.

From the income year which commenced on 1 April 1982 any distribution of a capital profit arising from the realisation of an asset by a company to a person deemed to be related to that company will not qualify as a capital distribution tax free in the hands of the shareholders.

A private company is excluded from this new legislation where that company "during the course of and for the purposes of the winding up of that company" sells an asset to a related person (not being a company).

Two new terms are introduced by this legislation. They are:

(a) Specified Company

For the purposes of the new subsections (5A) and (5B) of section 4, the company which realises the asset is referred to as the "specified company".

(b) Related Person

In the new subsection (5B), eight classes of person are deemed to be a "person related to the specified company". These eight classes can be summarised as follows:

• (i) and (ii) A person who owns, controls or has the right to acquire either:
  • 20 percent or more of the voting rights, or
  • 20 percent or more of the ordinary shares,

• of the specified company.

• (iii) and (iv) A company of which the specified company owns, controls or has the right to acquire either:
  • 20 percent or more of the voting rights, or
  • 20 percent or more of the ordinary shares.

• (v) A company of which 20 percent or more of the ordinary shares or 20 percent or more of the voting rights are held by the shareholders of the specified company where those shareholders own, control or have the right to acquire:
  • 20 percent or more of the voting rights,
  • 20 percent or more of the ordinary shares,

• of the specified company.

For the purposes of this paragraph where the shares or voting rights of one company are owned or controlled by another company those shares or rights will be deemed to be owned or controlled by the shareholders of that other company and so on.

• (vi) Any partner or co-venturer of the specified company.
• (vii) A trustee of a trust where the specified company or a person related to the specified company can benefit directly or indirectly under the trust.
• (viii) A partnership where any one or more partners are related to the specified company and that partner or partners either:
  • Hold in the aggregate an entitlement to 50 percent of the assets or profits of that partnership; OR
  • Are able to control the partnership.

For the purposes of the new subsection (5B), a person is deemed to hold any interest that is held by his or her:

• Spouse
• Child
• Spouse's child
• Nominee
  or by:
• Any spouse of any child referred to above.

Section 5 - Notice of Bonus Issues

Section 5 inserts a new section, 13A, in the principal Act, which requires every company to furnish with its annual return of income details of any bonus issues made during the year. This information was previously furnished at the time bonus issue tax was payable during the year.

Section 6 - Extensions of Time for Furnishing Returns

At present the Commissioner has the power, under section 386(3) of the principal Act, to grant extensions of time for the filing of tax returns by taxpayers who pay provisional tax.

Section 6 of this Amendment Act adds to section 17 of the principal Act, a subsection (4) which now enables the Commissioner to grant similar extensions of time for the furnishing of salary and wage earner returns.

Section 7 - Objections to Which this Part Does Not Apply

Section 7 makes changes to section 36 of the principal Act which specifies the decisions, determinations, and other matters in respect of which a taxpayer has no right of objection under the normal objection procedures provided in Part III of that Act.

This section removes the reference in paragraph (e) of section 36 to the Government Actuary's approval of superannuation schemes for the purposes of the Income Tax Act. Such approvals and objections to them are now dealt with under the Superannuation Schemes Act 1976. The reference in paragraph (e) to decisions or determinations of the Commissioner in considering applications for approval of sick, accident or death benefit funds for the purposes of section 61 has been retained.

In addition, determinations made by the Commissioner for the purposes of section 73 (which deals with the question of whether and to what extent allowances are reimbursing allowances and thereby exempt from tax) are now specifically referred to, in a new paragraph, (ea), of section 36, as being determinations to which the Part III objection procedures do not apply. This is because in the rewritten section 73, as enacted by section 11 of this Amendment Act, there is now a self-contained code for objections to such determinations.

The amendments made by section 7 apply from the 1982/83 income year.

Section 8 - Special Exemption for Life Insurance Premiums and Superannuation Contributions

This section, which is effective from 1 April 1983, makes three amendments to section 59 of the principal Act, firstly by incorporating the new Categories 1 and 2 Superannuation Schemes into the definition of "specified fund". It should be noted that Category 3 schemes are excluded from the definition and accordingly contributions to such schemes do not qualify for the special exemption.

The second amendment repeals the definition of the term "subsidised superannuation fund" and replaces it with the definition of "subsidised superannuation scheme". The new definition incorporates the Government Actuary's classification for the various classes of subsidised schemes.

The third amendment increases the life insurance/superannuation special exemption limit from $800 to $1,200 for taxpayers contributing to subsidised superannuation schemes and for other taxpayers, the maximum limit is increased from $1,000 to $1,400.

Section 9 - Incomes Wholly Exempt from Tax

Section 9 makes three amendments to section 61 of the principal Act which lists the various types of exempt income. Changes, which will apply from the income year commencing 1 April 1983, are made in respect of:

• the income of building societies,
• the income derived by trustees of superannuation schemes,
• the business income of charitable organisations.

Building Societies

Subsection (1) repeals subsection (4) of the principal Act removing the partial exemption from tax that previously applied to certain types of income derived by building societies. This change gives effect to the Budget announcement that all of the income of building societies is to be taxed at the company rate of 45 percent, commencing in the 1983-84 income year. Certain deductions have been provided in a new section 194A introduced by section 33 of this Amendment Act and are discussed later under that section.

Trustees of Superannuation Schemes

Subsection (2) provides that the exemption from tax which presently applies to the income derived by trustees of superannuation schemes will, from the income year commencing 1 April 1983, be restricted to income derived by trustees of superannuation Category 1 schemes (as defined in section 2 of the principal Act as amended by section 3 of this Amendment Act).

The income derived by trustees of superannuation Category 2 schemes and superannuation Category 3 schemes will now be taxed at the 31 rates of percent and 45 percent respectively (see section 42 of this Amendment Act).

Business Income of Charitable Organisations

Subsection (3) adds a second proviso to section 61(27) of the principal Act which deals with the exemption from tax of the business income of charitable organisations.

The proviso introduces a series of "control tests" which in general terms remove the exemption from tax which presently applies to the business income of the so-called "one-man charities" while retaining that exemption in respect of the business income of recognised charities.

Business income derived by charitable organisations will no longer be exempt from tax where a person (which includes a company) who is:

• (a) a settlor or trustee of a trust by which the business is carried on; or
• (b) a shareholder or director of a company by which the business is carried on; or
• (c) a settlor or trustee of a trust that is a shareholder of a company by which the business is carried on; or
• (d) an associated person of any of the persons referred to in (a) to (c) above, is, in the opinion of the Commissioner, able by virtue of that capacity to determine or to materially influence the nature or amount of any benefit, advantage or income (of the kinds referred to in section 65(2)) that is given or is able to be given to himself.

There are several important points which should be noted in the application of this control test. They are:

• The decision of whether or not business income will be taxable is one that is to be made by the Commissioner, in his discretion. Each case will be considered on its merits bearing in mind the tenor of the section.
• The benefit, advantage or income which one of the specified persons could receive need only be able to to be received for the test to operate. It is not necessary for that benefit, advantage or income to be actually given. Otherwise, it is possible that the exemption from tax might apply to business income in some years and not in others, depending on whether such benefits, advantages or income were actually given.
• The benefits or advantages referred to above need not be convertible into cash.
• The types of income, included in section 65(2), which could cause the test to come into effect are:
  • salary, wages and allowances (section 65(2)(b));
  • rents, fines and premiums (section 65(2)(g) - see also the commentary on paragraph (f) following);
  • royalties (section 65(2)(h));
  • interest, dividends, annuities, pensions (section 65(2)(i) - in respect of interest see also the commentary on paragraph (g) following);
  • benefits from money advanced (section 65(2)(j)).
• The amount of the benefit, advantage or income involved is irrelevant. No matter how small the amount, the business income could lose its exemption from tax. That is, there are no partial exemptions.

Paragraphs (e) to (h) of this section modify the application of the control tests in various ways.

Paragraph (e) expands the meaning of settlor. It deems to be a settlor any person who has not completely divested himself of an asset which he has disposed of to the trust which carries on the business.

Paragraph (f) deems the deriving of any rents, fines, premiums or other revenues by a trustee, from any asset which a person of any of the specified classes has disposed of (to the trust carrying on the business) but has not completely divested himself of, to be a business carried on by the trustee, for the purposes of the control tests.

Paragraph (g) excludes from income, for the purposes of the control tests, interest derived on money lent to the business, by a person of any of the specified classes, that is payable at not more than current commercial rates having regard to the nature and term of the loan. Current commercial rates of interest are published by the Reserve Bank.

Paragraph (h) provides that for purposes of the control tests, a professional person in public practice, who in that capacity renders his services to a charitable organisation will not, by reason only of the rendering of those services, be considered to be able to "control" the benefit, etc, that he derives from the company. For the purposes of this exclusion, the Public Trustee, the Maori Trustee and trustee companies are each deemed to be a professional person in public practice. This concession does not however allow such persons to avoid the control tests, if they receive or are able to receive, etc, income from the charitable organisation by reason separately of any other relationship, of any of the kinds specified at paragraphs (a) to (d) above, with the trust or the company concerned.

The new provisions in respect of the business income of charities apply from the income year commencing on 1 April 1983.

Section 10 - Removal of the Dividend Exemption in Respect of Dividends Derived by Life Insurance Companies

The section amends section 63 of the principal Act by excluding from the dividend exemption, dividend income derived by a life insurance company in respect of its New Zealand life insurance business. As explained in Appendix D, from the income year commencing 1 April 1983, the business of life insurance in New Zealand will no longer be taxed on the basis of reversionary bonuses but taxed on investment income derived.

Section 11 - Power to Exempt Employees' Allowances

Section 11(1) substitutes a rewritten section 73 in the principal Act. Section 73 deals with the power of the Commissioner to exempt from tax any allowance paid to an employee to the extent that it is a reimbursement of expenditure the employee has incurred in gaining or producing his assessable income.

While section 73 has been substantially expanded in size, there is little change to the basic concepts of the previous legislation.

The section can conveniently be divided into three parts:

• subsections (1) to (4) - constitute the previous s 73.
• subsections (5) to (7) - application dates of determinations made by the Commissioner.
• subsections (8) to (16) - objection procedures.

Subsections (1) to (4)

Subsection (1) contains the definitions for the section. Definitions of "award", "collective agreement" and "instrument" have been added and these are relevant to subsection (6). Each of these expressions has the same meaning as in the Wage Adjustment Regulations 1974.

Subsection (2) empowers the Commissioner to make determinations as to what part (if any) of an allowance is reimbursing and thereby exempt from tax. This subsection is unchanged.

Subsection (3) deals with determinations made by the Commissioner in respect of travelling allowances. A minor drafting amendment has been made to the subsection.

Subsection (4) deals with the situations in which determinations can be made in respect of groups of employees. Prior to this year's amendment, "group determinations" could be made only on the written application of any employer or workers' union. The subsection now provides that the Commissioner also may originate such determinations where he considers it necessary to do so.

Subsections (5) to (7)

These subsections set down specific application dates in respect of determinations made under subsections (2), (3) and (4).

Subsection (5) specifically requires that determinations made by the Commissioner under section 73 be in writing and that, in the absence of subsection (6) applying, those determinations are to apply from a date one month after the date of the written determination.

Subsection (6) allows for a deferral of the application date that would otherwise apply under subsection (5), in certain cases. The cases are where:

• An allowance is paid under any clause or other provision of an award, collective agreement or other instrument; and
• A determination has been made, on or after 24 September 1981, by the Commissioner under section 73 in respect of that allowance; and
• The Commissioner has not fully exempted that allowance from tax; and
• No prior determination in respect of that allowance has been given effect to by the Commissioner (eg, where a determination has been made by the Commissioner but for national reasons its implementation has not been insisted on.)

In these cases, the application date of any determination under section 73 will be the date on which payment of that allowance is first made on or after the earlier of:

• The date on which the award, collective agreement or instrument, having been first renegotiated (after the date on which notice of the determination was given) and registered with the Arbitration Court, comes into force with respect to the clause or other provision covering the payment of the allowance.
• The later of:
  • The date 6 months after the date on which notice of the determination in respect of that allowance was given.
  • Any later date agreed to by the Commissioner in the circumstances of the particular case.

Subsection (7) is an anti-avoidance section designed to restrict the unfair use of the deferral provisions of subsection (6).

Subsections (8) to (16)

These subsections set down specific objection procedures in respect of determinations made by the Commissioner in terms of section 73. The amendments allow objections to be heard as soon as possible after determinations have been made without having to wait for the issue of a notice of assessment, so as not to adversely affect the rights of individual employees, particularly because of the PAYE deduction implications of such determinations.

Subsections (8) and (9) specify the parties who may object to a determination made under section 73 and the time for objection. Any party subject to a determination made under subsections (2) and (3) may object to that determination, within one month of the date on which notice of that determination is given by the Commissioner, by delivering to the Commissioner a written notice of objection stating the grounds of objection. A similar procedure applies in respect of determinations made under subsection (4) except that in such instances only employers or workers' unions (or their authorised representatives) may object.

Subsection (10) allows late objections to be accepted at the Commissioner's discretion.

Subsection (11) requires the Commissioner to consider each objection and authorises him to alter the determination objected to.

Subsection (12) allows the objector to require his objection to be referred to a Taxation Review Authority where that objection is not wholly allowed by the Commissioner. This is achieved by the objector giving written notice in that regard within 2 months from the date on which notice was given by the Commissioner of the disallowance of that objection.

Subsection (13) provides that the use of the objection procedures provided for in section 73 shall not affect:

• the powers of a Taxation Review Authority on determinations of objections or cases stated (section 32 of the principal Act),
• the obligation to pay tax, which is not suspended by objection or appeal (section 34),
• determinations of objections not to affect other income (section 35).

Subsection (14) requires a Taxation Review Authority to consider every objection referred to him pursuant to subsection (12) and to redetermine the extent to which the allowance, subject to the objection, constitutes a reimbursement of expenditure and is thereby exempt from tax.

Subsection (15) gives a Taxation Review Authority access to the Department's records which relate directly to the remuneration concerning those employees to whom the allowance (to which the objection relates) was paid, for the purpose of considering objections.

Subsection (16) provides that every determination or decision by a Taxation Review Authority on any section 73 objection is final and conclusive. This means there is no right of appeal to the High Court.

Section 11(2) makes a consequential amendment to the Inland Revenue Department Act 1974 which also ensures that every determination or decision by a Taxation Review Authority on any section 73 objection is final and conclusive.

Section 12 - Deduction for Forestry Expenditure

Section 12 amends section 74 of the principal Act to remove the deductibility in the year incurred of forestry establishment and maintenance expenditure currently available to companies. This change results from the Budget announcement that as from 1 April 1983 the "current year deduction" would be replaced by a new scheme of forestry encouragement grants which are to be administered and paid out by the New Zealand Forest Service.

Situation Prior to Amendment

The second proviso to section 74(2)(b) has allowed companies engaged in forest development to claim a deduction, in the year incurred, of the following forest establishment and maintenance expenditure:

• (i) Expenses in planting or maintaining trees on the land or in preparing or otherwise developing the land for forestry operations.
• (ii) Rents, rates, land tax, insurance and other like expenses.
• (iii) Interest on money borrowed and employed as capital for the purposes of that business.

The third proviso to section 74(2)(b) allowed the forestry companies to also claim a current year deduction for depreciation on plant and machinery used primarily and principally in forest establishment and maintenance.

Since the 1980 income year a company claiming the current year deductions referred to above, and in a loss situation, could convert its loss (up to the amount of the current year deduction for the year) to a refundable credit of tax at the rate of 45 cents in the $1. The provisions relating to this tax credit scheme are contained in section 74A of the principal Act.

Taxpayers engaged in commercial afforestation, other than as companies claiming the current year deduction, had to either:

• Capitalise their establishment and maintenance expenditures to what is known as a "cost of bush" account and deduct them on a pro rata basis at the time of deriving income on the felling of the trees; or
• Obtain forestry encouragement grants under the old grants scheme which had certain limits both as to total qualifying annual forestry expenditure and per hectare costs.

Situation After Amendment

The two amendments which section 12 of this Amendment Act makes to section 74(2)(b) provide that establishment and maintenance expenditure incurred on or after 1 April 1983 by forestry companies will no longer qualify for deduction in the year incurred (or conversion to a tax credit under section 74A where a loss is involved).

A consequential amendment has also been made to section 213 of the principal Act which allowed holding companies to claim the current year deduction in respect of expenditure incurred by forestry companies under their control.

Instead of the current year deduction, these companies, along with all other commercial afforesters, may obtain forestry encouragement grants from the New Zealand Forest Service in respect of qualifying expenditure.

Briefly, the new grants will apply to all the afforestation expenditure (incurred after 31 March 1983) which up until now has qualified for the current year deduction by companies (including depreciation on plant and machinery acquired after 31 March 1983 and used primarily in establishment and maintenance). The new grants are being paid at the rate of 45 percent of the qualifying expenditure.

Practical Effects of Amendments

The practical effects of the changes for income tax purposes are as follows:

• Because the amendment applies to expenditure incurred on or after a certain date (1 April 1983) and not to a particular income year, forestry companies with early balance dates will be able to claim the current deduction for some establishment and maintenance expenditure (and the forestry expenditure tax credit where appropriate) in their 1984 returns, eg

Company A - Balance date 31 December

1983 return (ye 31.12.82)	All expenditure claimable on a current year basis.
1984 return (ye 51.12.85)	Expenditure in period from 1.1.83 to 31.3.83 claimable on a current year basis.
	Expenditure from l. 4.83 not eligible for current year deduction.

Company B - Balance date 30 June

1983 return (ye 30.6.83)	Expenditure to 31.3.83 claimable on a current year basis.
	Expenditure from 1.4.83 not eligible for current year deduction.

Plant and machinery which is acquired prior to 1 April 1983 and used by a company primarily in establishment and maintenance operations will continue to qualify for depreciation deductions on a current year basis under the third proviso to section 74(2)(b), until sold or discarded by the company. Where a loss results from the depreciation allowance deduction, the section 74A tax credit can apply.

Expenditure incurred after 31 March 1983 in respect of which forestry encouragement grant has been paid will not be deductible for tax purposes at any time, in terms of section 168 of the principal Act.

The new measure does not affect the deduction allowable to farmers under section 134 of the principal Act for expenditure incurred in planting and maintaining trees which are to provide shelter or prevent erosion in relation to the farm land.

Section 13 - Valuation of Trading Stock Including Livestock

This section makes machinery amendments to section 85 of the principal Act, which provides the basis for valuing trading stock.

The section firstly repeals the proviso to subsection (3).

As a result of the repeal of the proviso, the deduction of the cost of trading stock acquired in any income year (including the year a business commences) will now be governed solely by section 104 of the Act.

Subsections (6) and (7) of section 85 have been repealed and substituted, to state simply that:

• An amount equal to the value of trading stock on hand at the end of the income year is to be included in calculating assessable income.
• An amount equal to the value of trading stock on hand at the beginning of the income year is to be allowed as a deduction in calculating assessable income.

The opportunity has been taken to include in section 85, as subsection (10), the standard provision which relates an accounting year to the April/March year where the taxpayer's balance date is other than 31 March.

Section 14 - Standard Value and Nil Value of Livestock

Section 14 gives effect to the Budget announcement of the extension, from 2 years to 4 years, of the period for determining basic livestock numbers under the nil value scheme.

It gives effect also to the Budget announcement that in the case of new farmers and those who acquire or develop additional land, the write down from cost to standard value in respect of the new or additional livestock purchased will in future have to be effected over a period of three years.

The write down in year one cannot exceed one-third of the difference between cost and the standard value which the Commissioner has approved for ultimate adoption by the taxpayer.

The aggregate of the write downs in Years 1 and 2 cannot exceed two-thirds of the difference between cost and the standard value ultimately to be adopted.

Example

		$
Assumptions
	Cost per head of livestock	120.00
	Approved Standard Value	30.00
	Excess	90.00
Value - Year 1
	Cost less one-third "excess" ie, 120 - (1/3 x 90)	90.00
Value - Year 2
	Cost less one-third "excess" ie, 120 - (2/3 x 90)	60.00
Value - Year 3
	Approved standard value	30.00

Points to note:

• These provisions do not affect the approval of the adoption of an ultimate standard value.
• The progressive write-down applies to purchases of livestock made in the income year in which the taxpayer commenced or recommenced farming or brought into production or substantially increased production or purchased any additional land, and the subsequent three (3) income years.
• The taxpayer may write-down to a lesser extent than the maximum write-off specified above, in relation to any year.
• The proviso to section 86(3) allows the Commissioner to deny the adoption of nil values where, for any reason whatsoever, the taxpayer would achieve an unfair advantage from the adoption of nil values. The acquisition of additional land is expressly mentioned. The proviso also enables the Commissioner to accept in any particular case that the establishment of "basic livestock" has in fact been achieved in a shorter period than the four (4) years specified in the section.
• The acquisition of additional land or the bringing into production or substantially increased production of any land should be apparent from a perusal of the financial accounts of the business, eg, quantum of development expenditure, increased livestock numbers, increase in land cost, etc

The question of who is "caught" by the new measures has been raised. The following notes will assist in resolving the matter.

1. Taxpayer, not being an existing farmer

• Commences farming for the first time, OR
• Recommences after a break from farming,

AND:

• In the year of commencement or recommencement purchases livestock, OR
• In the 2nd, 3rd, or 4th years purchases livestock that are not simply livestock purchased to replace livestock sold or lost since that commencement or recommencement of farming.

2. Taxpayer, being an existing farmer

• Brings land, that he already owns, into production for the first time, OR
• Brings land that he already owns, into substantially increased production, OR
• Acquires additional land for farming,

AND:

• In the year in which that bringing into production, or that bringing into substantially increased production, or that acquiring of additional land occurs, purchases livestock that are additional to the livestock normally carried on the land farmed previously

OR:

• In the 2nd, 3rd, or 4th years purchases livestock that are not simply livestock purchased to replace livestock sold or lost since the happening of the relevant event referred to in paragraph 2(i) above.

NOTE

• The term "brings into production" means that the existing farmer develops, and thereby facilitates the farming of, land that he already owns but has not, for some reason such as the existence of native bush or lupin, farmed previously.
• The term "brings into substantially increased production" means that the existing farmer develops, and thereby facilitates substantially more intensive farming of, land that he already owns but has previously farmed to only minimal capacity.

For example:

• Swampland that previously was virtually waste land is drained, ploughed, and sown in grass.
• Land that over a period of years has reverted to scrub is cleared and resown.

Section 15 - Limitation of Deduction For Expenditure to Amount at Risk

Section 15 introduces a new section 106A into the principal Act. This new section is designed to limit the deduction which may be claimed in respect of expenditure for which the taxpayer is not personally at risk by effectively treating such investment in the same manner as if it had been financed by a specified suspensory loan. The new section 106A defers the allowance of a deduction for expenditure financed by means of limited recourse loan (as defined) until such time as the taxpayer is personally at risk for the funds invested. Limited recourse loans are defined as including non-recourse loans and loans covered by certain guarantees which protect the borrower against loss. At present, only limited recourse loans used in the film industry are covered by the legislation, and then only in respect of such loans made after 5 August 1982 in respect of films which commenced after that date (as determined by the Commissioner under section 224C of the principal Act).

Details of the application of the legislation are as follows.

Section 106A

Subsection (1)

This subsection contains the following definitions.

"Film" means a film as defined in section 224B of the principal Act (as inserted by section 38 of this Amendment Act) and includes any right in a film as defined in the new section 224A. The definitions contained in sections 224A and 224B are fully explained in Appendix F of this publication.

"Limited Recourse Loan" means any amount borrowed by a taxpayer where that taxpayer is protected (either wholly or partially) against loss arising from any investment of the amount borrowed by virtue of:

• the amount borrowed being wholly or partially provided as a non-recourse loan (as defined); or
• any guarantee provided by any person who has an interest (other than as a creditor) either in the business or activity in which the loan is invested, or in any product, consequence, effect or result of the carrying on of that business; or
• Any other arrangement which, in the opinion of the Commissioner, is of a substantially similar nature.

This definition is largely self-explanatory. However, it should be noted that the guarantee provision set out in paragraph (b) applies only to guarantees provided by a person who has an interest either in the business itself or in its output, and then only where the guarantee protects the borrower against loss. It does not apply where a person, irrespective of his relationship to the borrower or any interest he may have in the borrower's business, provides a guarantee which protects the lender against loss.

"Non-Recourse Loan" means any loan where the liability for repayment of the principal and/or the interest is secured upon the income to be derived from any venture or the happening of any other future occurrence, and where, in the event that the proceeds from the venture are less than the sum of the principal plus interest on the loan, or where the event does not occur or for any other reason, the taxpayer is liable to repay less than the whole of the principal or the accrued interest thereon.

To fall within this definition, the following elements must be present:

• The repayment of the principal and/or interest must be secured upon the income to be derived from a particular venture or ventures, or upon the happening of some other future event. AND
• There must be the possibility that the taxpayer can be placed in the position where he is not liable to repay the loan and/or the interest thereon in full.

If the loan agreement or an associated arrangement does not contain these elements, then it is not a "non-recourse loan" as defined. However, it should be noted that where the conditions of the loan are substantially similar to those set out under the definition of non-recourse loan but are arranged in such a way so as to avoid falling within that definition, the arrangement may well fall within paragraph (c) of the definition of limited recourse loan.

Subsection (2) sets out the types of loan, and the expenditure, to which this section applies. The section applies to:

• (a) Any limited recourse loan made on or after 6 August 1982 which is used by the taxpayer in any income year for the acquisition, production or marketing of any film; and
• (b) Any expenditure incurred in any income year by any taxpayer in the acquisition, production or marketing of any film where that expenditure is financed from any limited recourse loan of the kind referred to in paragraph (a) above.

The section does not apply to a limited recourse loan, whether made before or after 6 August 1982, where that loan is used wholly in the acquisition, production or marketing of any film which the Commissioner is satisfied commenced prior to 6 August 1982. The new section 224C requires the Commissioner to determine whether a film commenced prior to 6 August 1982. A commentary on this requirement can be found in Appendix F of this publication.

Subsections (3), (4) and (5) are the subsections which deny a deduction for expenditure, depreciation and investment allowance where expenditure has been financed from a limited recourse loan.

Subsection (3) provides that where a limited recourse loan is used to finance expenditure of a revenue nature, the amount of that expenditure which is allowable as a deduction (in any income year) is reduced by the amount of the limited recourse loan which was used to finance that expenditure. Any deduction which may be allowable in respect of that expenditure may be claimed only when, and to the extent that, repayment of the loan is made (subsection (7) refers).

For example, an investor receives a limited recourse loan of $400,000 and, together with his personal contribution of $800,000, invests $1.2 million in the production of a feature film which commenced after 5 August 1982. The film is completed on 28 July 1984 and the film production partnership has a balance date of 30 September. If it were not for the provisions of this section, the investor would be entitled to write off the $1.2 million as a deduction over 24 months. However, subsection (3) of this section limits the amount which may be claimed as a deduction to the $800,000 which was not financed by means of a limited recourse loan. This amount would then be spread over the 24 month period as required by section 224A.

Subsection (4) provides that where a limited recourse loan is applied towards the purchase of any asset which is used in the acquisition, production or marketing of any film, the cost of the asset for depreciation purposes is reduced by the amount of the loan which has been applied towards its purchase. Depreciation is allowable on the reduced cost price in the normal way. If any amount of that loan is subsequently repaid, the depreciation claim in the year of repayment and future years is based on the increased cost price or, as the case may be, book value in terms of subsection (7) of this section.

For example, a taxpayer purchases an asset for $100,000 using $30,000 limited recourse loan and $70,000 of his own money. Depreciation must be based on the $70,000, so in year one the claim for depreciation on a 10 percent diminishing value basis (in the absence of first year depreciation for the purposes of simplicity) would be $7,000 leaving a book value of $63,000. If in the second year the taxpayer repays $10,000 of the limited recourse loan, then the book value is increased to $73,000 for depreciation purposes, giving a depreciation claim for that year of $7,300 and a book value of $65,700. Repayment of the balance of $20,000 in the third year would increase the book value to $85,700 for depreciation purposes, giving a depreciation claim for that year of $8,570 and an opening book value for the following year of $77,130.

Subsection (5) provides that where a limited recourse loan is applied towards the purchase of any asset which is used in the acquisition, production or marketing of any film, the cost of that asset for the purposes of calculating any investment allowance entitlement is reduced by the amount of the loan which was applied towards the purchase of that asset. It should be noted, however, that if any portion of that loan is subsequently repaid there is no provision to enable an increased deduction for investment allowance to be based on the adjusted cost price.

Subsection (6) deems any limited recourse loan to have been used in a particular manner, irrespective of the use to which the loan was actually put. The loan is deemed, for the purposes of this section, to have been used in the payment, in the following order, of

• (a) Expenditure of a revenue nature (of the kind referred to in subsection (3)) towards which the limited recourse loan was intended to be applied, being expenditure which was incurred in a year preceding the income year under consideration and which has not been paid before the commencement of that income year.
• (b) Expenditure of a capital nature (of the kind referred to in subsection (4)) towards which the limited recourse loan was intended to be applied, being expenditure which was incurred in a year preceding the income year under consideration and which has not been paid before the commencement of that income year.
• (c) Any expenditure of a revenue nature of the kind referred to in subsection (3) which was incurred in the income year under consideration.
• (d) Any expenditure of a capital nature of the kind referred to in subsection (4) which was incurred in the income year under consideration.

Subsection (7) sets out the provisions which apply where the whole or any part of a limited recourse loan is repaid. It provides that the repayment shall be matched against expenditure in the same order as that for which the limited recourse loan was deemed to have been used under subsection (6) and the repayments shall, as far as they extend, be regarded as expenditure, incurred in the year of repayment, of the type to which the provisions of that subsection were originally applied. The legislation provides that where a taxpayer repays the whole or any part of a limited recourse loan:

• (a) The repayment shall firstly be deemed to be applied towards expenditure of the kind to which subsection 6(a) has been applied and shall be deemed to be expenditure of that type incurred in the income year of repayment.
• (b) To the extent that the repayment exceeds the amount deemed to be expenditure of the kind to which paragraph (a) can be applied, it shall be deemed to be expenditure of the kind referred to in subsection (6)(b), incurred in the income year of repayment.
• (c) To the extent that the repayment exceeds the aggregate of the amounts deemed to be expenditure of the kinds to which paragraphs (a) and (b) can be applied it shall be deemed to be expenditure of the kind referred to in subsection 6(c), incurred in the income year of repayment.
• (d) To the extent that the repayment exceeds the aggregate of the amounts deemed to be expenditure of the kinds to which paragraphs (a), (b) and (c) can be applied, it shall be deemed to be expenditure of the kind referred to in subsection (6)(d), incurred in the income year of repayment.
• (e) This paragraph provides that when the repayment of a loan is deemed to be expenditure incurred in the year of repayment under paragraph (a) and is less than the total amount available under that paragraph for such treatment on the repayment of the loan, the shortfall will, for future years, be the amount available under paragraph (a) for the next repayment to be applied against; and the same provisions shall apply in respect of paragraph (b) where the repayment, or the aggregate of repayments, exceeds the amount available under paragraph (a) but is less than the amount available under paragraph (b); and so on.

The provision to this subsection provides that where a repayment exceeds the amount which was available under any of paragraphs (a), (b), (c) or (d) of this subsection, no future repayment may be applied against the expenditure to which that paragraph referred.

Subsection (8) provides that where a limited recourse loan is used to repay an earlier limited recourse loan, that payment shall not be regarded as being a repayment for the purposes of subsection (7) of this section. Similarly, if a limited recourse loan could have been used to repay the original loan, but through any arrangement is not directly used as repayment but is used indirectly by making other funds available for repayment of the loan, that repayment will not be regarded as a repayment for the purposes of subsection (7).

Subsection (9) provides that any interest payable on a limited recourse loan is not allowable as a deduction until the year in which it is actually paid.

Subsection (10) provides that every reference in this section to an income year is deemed to be a reference to the taxpayer's equivalent accounting year.

Section 16 - Depreciation Allowances, etc, on Motor Cars

The amendment which section 16 makes to section 110 of the principal Act affects only rental vehicles. Section 110 limits the "cost" of a motor vehicle for depreciation purposes to a maximum of $11,000. The section excludes from this limit certain vehicles, among which are rental vehicles. A "rental vehicle" is defined in subsection (1) essentially as a motor vehicle used solely or principally for hire to any person pursuant to a rental service licence. Excluded from this definition (and therefore implicitly subject to the "specified sum" restriction) is any motor vehicle hired under a lease or bailment that is for a period exceeding 3 months.

Section 16 inserts a new subsection (1A) which effectively alters the meaning of the definition of "rental vehicle". This new subsection provides that where a motor vehicle is leased (or bailed) to one person under 2 or more successive leases separated by a period of no more than one month:

• those leases are deemed to be one lease covering the whole of the period of those leases; and
• every motor vehicle leased under all of those leases is deemed to be one vehicle leased throughout the whole period of those successive leases.

The effect of this is that none of those vehicles will qualify for exclusion from the $11,000 "specified sum" restriction.

This amendment applies with respect to any motor vehicle acquired on or after the 16th of December (the date of assent to the Amendment Act).

Example 1

A motor vehicle is leased to Mr X under two leases:

• Lease 1 - period 3-3.83 to 2.6.83
• Lease 2 - period 1.7.83 to 30.9.83

As the leases involve the same lessee, are consecutive, and are separated by no more than one month:

• (i) the leases are deemed to be one lease extending over the period 3.3.83 to 30.9.83, and
• (ii) the motor vehicle is deemed to be a motor vehicle leased throughout that period of time.

Under the previous legislation, the motor vehicle would have been clanned as a "rental vehicle" (as the vehicle was not hired under a lease for a period in excess of 3 months) and therefore excluded from the provisions of section 110.

Under the amended legislation, the vehicle will not qualify as a "rental vehicle" (as, under subsection (1A) it was leased for a period exceeding 3 months) and therefore will still be subject to the $11,000 limitation.

Example 2

If, in Example 1, the first lease had been made in respect of car A and the second lease in respect of car B, both vehicles would be excluded from the definition of "rental vehicle" as:

• (i) the leases are deemed to be one lease extending over the period 3 March 1983 to 30 September 1983 (as above), and
• (ii) each vehicle is deemed to be a motor vehicle leased throughout that period of time.

Section 17 - Packing Houses

This section omits from sections 112 and 116 of the principal Act the definition of the expression "export packing house" and substitutes the definition of the expression "packing house".

This machinery amendment is simply consequential upon a change in description made by the Meat Act 1981.

Section 18

This section inserts a new section 114B to permit ordinary depreciation allowances to be claimed in respect of the cost of the assembly line conversion of a new business motor car to either compressed natural gas (CNG) or liquefied petroleum gas (LPG). For the purposes of this section, the depreciable cost of the conversion will be limited to a maximum of:

• (i) $1,200 for a one-cylinder CNG conversion.
• (ii) $1,600 for a two-cylinder CNG conversion.
• (iii) $1,400 for a conversion to LPG.

This provision will apply in respect of new business motor cars acquired during the income year that commenced on 1 April 1982 (or equivalent accounting year) and any subsequent income year.

As the equipment installed in a conversion constitutes part of the motor vehicle itself, the depreciation allowance is calculated at 20 percent DV. It is important to note that any expenditure eligible for this depreciation allowance is excluded from the amount that is subject to the "specified sum" limitation imposed by section 110 and depreciable under section 108.

Section 19 - Regional Investment Allowance

Section 20 - Export Investment Allowance

Section 21 - Fishing Investment Allowance

These sections contain transitional provisions on the phasing out of the Regional, Export, and Fishing Investment Allowances due to expire on 31 March 1983.

Provision is made to allow these investment allowances in respect of qualifying expenditure incurred after 31 March 1983 provided certain conditions are met. These conditions are:

• (a) The taxpayer must have entered into, on or before 5 August 1982, binding contract to purchase, or a binding agreement to lease, qualifying plant and machinery, OR the taxpayer must have taken, on or before 5 August 1982, "preliminary steps of a definite nature" for the purpose of entering into such a binding contract or agreement and that binding contract or agreement must be entered into on or before 31 March 1983.

AND

• (b) The qualifying expenditure pursuant to that binding contract must be incurred within a reasonable time after 31 March 1983.

The types of "preliminary steps" required to have been taken by 5 August 1982 include:

• Documented decisions by the Board of Directors or management to proceed with a project.
• Near-completion of feasibility studies.
• The calling of tenders for equipment from overseas or New Zealand suppliers.
• Applications for financial assistance (including any approaches needed to be made to the Government).

The investment allowance will be allowable, as at present, in the year of first use of the qualifying plant or machinery, notwithstanding that this first use may be after the terminating date. It should be noted that where the "binding contract" requirements are fulfilled, the terminating date for the investment allowance concerned is the date the expenditure is incurred or the leasing commences (as appropriate).

Section 22 - Development Expenditure for Scallop Farmers

This section amends section 128 of the principal Act to extend the development expenditure incentive deduction for fish farms to include corresponding expenditure incurred in developing scallop farms.

Any taxpayer engaged in the business of scallop farming in New Zealand will be able to deduct the following kinds of capital expenditure incurred in that business in any income year commencing on or after 1 April 1982 and ending on or before the terminating date, 31 March 1984 (see section 43):

• (i) The acquisition, preparation, and mooring of floating structures for collecting spat; or
• (ii) The acquisition, mooring and outfitting of long lines from which the collected spat is suspended for subsequent growth.

Section 23 - Sale of Land, Fish Farms or Certain Assets Within 10 Years After Acquisition

This section provides that:

• the period of farm or fish farm ownership necessary to avoid recovery of the development expenditure deduction has been extended from 5 to 10 years; and
• interest deducted in respect of any land used in the production of income becomes assessable for income tax to the extent of the profit made on the sale of that land within 10 years of its acquisition.

A full commentary on the effect of these changes is set out in Appendix B of this publication.

Section 24 - Apportionment of Hill-Country Topdressing Expenditure

Section 24 repeals section 132 of the principal Act.

The section allowed farmers of hill-country marginal land to apportion the deduction of topdressing expenditure over the year incurred and up to 4 subsequent years.

The repeal of section 132 will have no practical effect as all farmers will continue to be able to apportion the deduction of fertiliser expenditure under section 133.

Section 25 - Gifts of Money by Companies to Universities, Approved Institutes and Individuals for Education or Research

The amendments which section 25 makes to section 146 of the principal Act stem from two factors.

First section 146 was found not to cater for the situation where donations were made by companies to research trusts or to Government Departments that undertake research.

The amendment remedies this situation by widening the scope of the section to encompass research trusts and Government Departments. In future, therefore, where the National Research Advisory Council or the Medical Research Advisory Council establishes the credentials of a research trust or a Government Department (in relation to its research activities) and recommends its approval for the purposes of section 146 there will be no technical obstacle to the Minister's approval of the body for section 146 purposes.

The second point which prompted amendment to section 146 was a doubt as to whether a gift qualifies under section 146 where it is made to an approved organisation on the understanding that the capital sum is not to be expended but preserved intact, and only the income resulting from its investment is to be spent on research. It has now been made clear that such "tied" gifts do qualify under section 146.

Section 26 - Contributions to Employees' Superannuation Schemes

This section amends the provision relating to contributions by employers to employees' superannuation schemes (section 150 of the principal Act) to bring it into line with the Government Actuary's new classification of superannuation schemes.

A consolidated commentary on this and other amendments relating to superannuation schemes is contained in Appendix A of this publication.

Sections 27 and 28 - Export Performance Incentives

These sections are best considered together as each relates to the Export Performance Incentive for Qualifying Goods. Section 28 amends section 156C of the principal Act to empower the Secretary of Trade and Industry to issue a supplement, to the Schedule of Export Goods, making changes in the rebate entitlement percentages specified in the Schedule.

Effectively, the Secretary is now empowered to reduce the rate of incentive available in respect of any goods or to exclude, from the incentive, goods exported to certain countries.

Section 27 amends section 156A of the principal Act to provide that any reduction, in the rebate entitlement percentages of any goods, made by the supplement will apply equally to any individually assigned percentages determined by the Development Finance Corporation in respect of the export goods of a particular exporter.

Sections 29 and 31 - Export Suspensory Loans

Sections 29 and 31 make machinery amendments to the principal Act as a consequence of the Department of Trade and Industry introducing an Export Programme Suspensory Loan Scheme to replace the present Export Programme Grant Scheme (EPGS). The amendments ensure that the tax treatment of loans made under the new scheme is effectively the same as that for grants paid previously under the EPGS. Expenditure in respect of which the loan is made will not qualify for the Export Market Development Expenditure Incentive. The expenditure not met by the loan will be deductible in the normal way.

Section 30 - Government Grants to Business

This section includes grants made by the New Zealand Film Commission within the provisions of section 169 of the principal Act.

Section 32 - Loss Incurred in Specified Activities

This section inserts a new section 188A into the principal Act to provide that all losses, over and above $10,000 a year incurred by a taxpayer in any specified activity (as defined) are not available to be offset against income derived by the taxpayer from other activities or sources. The section also inserts a new section 188B being the section which contains the transitional provisions for payment of the income tax arising from the application of section 188A.

A full commentary on the effect of these new sections is contained in Appendix C to this publication.

Section 33 - Allowable Deductions of Building Societies

At present Building Societies are exempted from tax on income other than of the kinds referred to in section 65(2)(g) of the principal Act, namely revenues from land.

Building societies are to be taxed as companies, commencing with the 1983/4 income year, and dividends paid on withdrawable shares are to be deductible in calculating their assessable income.

Section 33 provides for the deduction, in calculating assessable income, of the following outgoings peculiar to building societies which would in the normal course be non-deductible:

• Dividends paid in respect of withdrawable shares (ie, fixed deposit accounts, passbook savings accounts, bonus balloting shares)
• Interest and financial charges incurred in making interest-free loans; (ie, expenses not incurred in earning income)
• Purchase of balloted loan rights

Section 34 - Life Insurance and Reinsurance Companies

This section introduces a new basis of taxation for life insurance and life reinsurance companies. Features of the new regime are:

• These companies will be taxed on net investment income, at the rate of 31 percent, instead of the present tax of 30 percent on allotted bonuses and dividends.
• The investment income is to include profits derived and losses incurred on the sale of investments (to be ascertained in accordance with subsection (7)).
• Premium income and costs incurred in deriving that income will not be taken into account.
• The new basis first applies to the income year which commences on 1 April 1983.

Full details of this new basis of taxation are set out in Appendix D of this publication.

Section 35 - Resident Mining Operators

This section amends the definition of "resident mining operator" in section 220 of the Tax Act, and inserts in that section a definition of "active miner". The amendment makes it more explicit that section 220 applies to only those taxpayers, be they companies or individuals, that are genuinely engaged in mining activities in the field. This clarification has been achieved by the inclusion of the words "personally and actively in the field" in the new definition of "active miner". Personal and active involvement has always been a criterion that the Commissioner has, pursuant to section 220, required to be fulfilled by a taxpayer seeking to qualify for the concessional tax treatment afforded under section 220. The amendment, therefore, will not affect the tax status of those taxpayers who currently qualify as "resident mining operators".

Section 36 - Non-Resident Mining Operators

This section amends the definitions of "non-resident mining operator" and "mining venture" in section 221. The amendment achieves the same objective as for section 220 (see section 35 above), ie, making the application of the provisions of section 221 more explicit. As with the amendment contained in section 35, the qualifying criteria have not altered and, therefore, the tax status of any taxpayers that currently qualify as "non-resident mining operators" will not be affected.

Section 37 - Specified Leases

This section provides that financial leases entered into on or after 6 August 1982 will be subject to the following provisions:

• (a) Financial institutions and other lessors will no longer be able to treat financial leases in the same manner as short-term hire contracts for income tax purposes. Instead they will be required to account for their leasing transactions on the same basis as if they were loans.
• (b) The lessor will be excluded from claiming depreciation on assets subject to financial leases.
• (c) The lessee will be permitted to deduct an amount equivalent to depreciation for the leased asset.

The new provisions, which do not affect leases of land or buildings or short-term hire contracts, are fully explained in Appendix E of this publication.

Section 38 - Film Owners

This section introduces three new sections to govern the taxation of film owners:

Section 224A sets out the basis on which the costs of producing or acquiring any film or any right in any film may be deducted against the assessable income of the film owner.

Section 224B makes it clear that all income from the sale, use, rental or other exploitation of any film or any right in any film is assessable income of the owner.

Section 224C requires the Commissioner to determine, for the purposes of section 106A and section 224A, whether a film commenced on or before 5 August 1982.

Full details of the effects of each of these sections are set out in Appendix F of this publication.

Section 39 - Trustees of Non-Exempt Superannuation Schemes

This section amends section 225 of the principal Act, section 225 being the provision relating to non-exempt superannuation schemes. The amendments:

• bring the section into line with the Government Actuary's new classification of superannuation schemes; and
• provide that profits derived and losses incurred on the sale of investments are to be taken into account in calculating the assessable income of the trustees of such schemes.

A consolidated commentary on this and other amendments relating to superannuation schemes is contained in Appendix A of this publication.

Section 40 - Bonus Issues

Section 40 repeals Part VI of the principal Act, which governs bonus issue tax. This repeal is, except as explained below, effective from and including bonus issues made on or after 1 April 1982. It is accordingly possible for a company to distribute by way of bonus issue made after 31 March 1982 its tax paid profits to shareholders without either the company or the shareholders attracting any tax, provided there is no subsequent return or reduction of capital within 10 years from the making of the bonus issue. (Refer to section 4.)

As a transitional measure, bonus issues made prior to 1 April 1982 will still be subject to the old legislation in Part VI. This includes the assessing of bonus issue tax of 17 1/2 cents in $1 on a "further" bonus issue where within 3 years of making a bonus issue (made before 1 April 1982) the company makes a distribution that in the opinion of the Commissioner is directly or indirectly a distribution of the amount capitalised by that bonus issue.

In practical terms, now that the empowering legislation has been passed, immediate steps will be taken to reasseas (to "Nil" tax payable) any bonus issue tax assessed on any bonus issue made on or after 1 April 1982, other than a "further" bonus issue referred to above.

Where the reassessment results in a credit of bonus issue tax paid, this amount will in the first instance be credited to the company's income tax account. Alternatively, where there are no income tax arrears, at the taxpayer's written request a refund up to the amount of the credit will be made.

The following points should be noted:

• (a) If bonus issue tax has been assessed but not paid
  • The reassessment will cancel this debit and no further action will be taken.

• (b) Bonus Issue tax paid but the company has income tax arrears
  • The bonus issue tax paid will first be credited against any arrears of income tax. Where the bonus issue tax paid exceeds the arrears then the excess will, at the taxpayer's written request, be refunded.

Section 41 - Keeping of Business Records

This section substitutes a rewritten section 428 in the principal Act.

The old section 428 which has been repealed has remained virtually unchanged since 1948. Since then there have been significant changes in the commercial world in relation to the medium in which business records are maintained, in particular with the use of computers and the change in emphasis on certain aspects of business documentation, eg, the issuing of receipts.

The new section follows substantially the record retention requirements contained in section 151 of the Companies Act as amended in 1980 and applies to all taxpayers both company and non-company.

The main points of the new section are:

• The definition of records has been expanded to include books of account contained in manual - handwritten; mechanical punch cards; and electronic - magnetic tape, disc, etc, format.
• The types of record required to be kept have been spelled out. They are:
  • record of assets and liabilities in relation to the business.
  • record of cash receipts and payments, ie, till tapes, receipt books, cash and payment books, etc.
  • record of goods purchased and sold together with identification of buyers and sellers (or agents). It will not affect such people as wholesalers who sell direct to members of the public, ie, cash wholesale sales made in exactly the same way as cash retail sales. Only wholesale sales made to other retailers will need to be recorded in detail.
  • statements of year-end trading stock, and the stocktaking records from which those statements are compiled.
  • record of services performed and the associated invoices.
  • record and explanations of the accounting system. This is especially essential for large companies with computer based accounting systems.

The section will apply to every person in business in New Zealand, every person who carries on (otherwise than as an employee) any other activity for the purpose of gaining or producing assessable income, and every person who makes, holds, or disposes of an investment for the purpose of gaining or producing assessable income. This will include salary and wage earners who have investments. They will now be required to keep such records as their savings passbooks and certificates, and dividend advice notices.

As in the case of the old section 428 the records must be sufficient to enable verification of assessable income and deductions, and they must be:

• in English; and
• held in New Zealand; and
• held for 10 years from the end of the year to which they relate. It should be noted that this extension does NOT apply to section 352 which covers the retention of PAYE records.

Section 42 - Basic Rates of Income Tax

This section sets out the new rates of income tax payable by:

• (a) Life insurance companies - 31 cents for each dollar of taxable income. (Please see Note 1.)
• (b) Trustees of superannuation Category 2 schemes - 31 cents for each dollar of taxable income. (Please see Note 2.)
• (c) Trustees of superannuation Category 3 schemes - 45 cents for each dollar of taxable income. (Please see Note 2.)

Note 1: Details of the new basis of calculating the taxable income of life insurance companies is contained in Appendix D of this publication.

Note 2: Details of the new basis of calculating the taxable income of superannuation funds is contained in Appendix A to this publication.

Section 43 - Terminating Dates of Taxation Incentives

Section 43 substitutes a new Third Schedule to the principal Act which sets out the terminating dates for various tax incentives and allowances.

The terminating dates which have been extended are:

Incentive	Section of Tax Act	Extended Terminating Date
Investment Allowance
Industrial development plan	121	31 March 1986
High priority activity	121A	31 March 1984
Farming and agriculture	122	31 March 1984
Development Expenditure
Farming and agricultural land	127	31 March 1984
Rock oyster, mussel, scallop and freshwater fish farms	128	31 March 1984

For incentives other than the above, the terminating dates remain the same as they were in the Third Schedule to the Income Tax Act, as amended last year.

APPENDIX A

Superannuation

Section 3 - Categories of Superannuation Schemes

This section, which is effective from the income year commencing 1 April 1983, repeals the definition of "superannuation fund" in section 2 of the principal Act and substitutes three new definitions. This amendment was necessary because of the removal of the exempt income status of certain superannuation schemes. In terms of the two 1982 Superannuation Schemes Amendment Acts, the Government Actuary, in addition to his statutory function of approving superannuation schemes, is now required to classify each approved scheme into one of nine classifications. The new definitions incorporate these classifications. The trustees of all existing approved superannuation schemes have to apply to the Government Actuary for classification by 31 March 1983. It should be noted that the Government Actuary is not permitted to approve any more "one-man superannuation schemes" and in addition he is required to withdraw all existing approvals for such schemes.

The new classifications have been incorporated into the following sections of the principal Act:

• Section 59 - Special exemption for life insurance premiums and superannuation contributions.
• Section 61(21) Tax exempt status for certain superannuation schemes.
• Section 150 - Deduction for employers' contributions to employees' superannuation schemes.
• Section 226 - Taxation of non-exempt superannuation schemes.
• First Schedule - New clauses 9A and 9B.

Summary of new categories of superannuation schemes

• (a) Superannuation Category 1 Scheme
  • This category comprises:
    • (i) The three classes of approved pension superannuation schemes. Included are "deemed pension funds" which were or are in the process of converting from lump sum funds to pension funds in terms of section 150.
    • (ii) The three classes of approved lump sum superannuation schemes' class A funds. Basically a class A fund of a lump sum superannuation scheme is made up of earnings and contributions at 5 August 1982 of members who were in the lump sum scheme on that date increased by contributions since 5 August 1982 from those members (at the same dollar level of contributions at 5 August 1982) together with the earnings of the fund since that date. This basis follows the criteria for "deemed pension funds" as set out in PIB No 92.
    • (iii) The Government Superannuation Fund.
      • The income derived by the trustees of a Category 1 scheme is exempt from tax in terms of the revised section 61(21) of the principal Act.

• (b) Superannuation Category 2 Schemes
  • This category comprises the three classes of approved lump sum superannuation schemes' Class B funds. The composition of a Class B fund is:
    • Contributions of members who join after 5 August 1982.
    • Increases in the level of contributions of members who were in the fund at 5 August 1982.
    • Earnings of the Fund (ie, earnings on the above).
    • Any superannuation scheme which has been previously approved by the Government Actuary and in respect of which the trustee has not applied for one of the new classifications will fall into this category. The income derived by the trustee of a Category 2 scheme is taxable at the rate of 31 cents in the dollar.

• (c) Superannuation Category 3 Schemes
  • Included in this category are all superannuation schemes which have not been approved by the Government Actuary or which have had their approvals withdrawn (such as "one-man superannuation schemes"). The income derived by the trustee of a Category 3 scheme is taxed at 45 cents in the dollar.

Section 9(2) - Income derived by trustees of superannuation Category 1 schemes exempt

This subsection, effective from the income year commencing 1 April 1983, amends subsection (21) of section 61 of the principal Act by limiting the exempt status in respect of superannuation schemes to Category 1 schemes only.

Section 26 - Contributions to employees' Superannuation Schemes

The section amends section 150 of the principal Act with effect from the income year commencing 1 April 1983.

Prior to the amendment the deduction allowed to an employer for contributions to an employee lump sum superannuation scheme was limited a maximum of $700 per employee, whereas the maximum deduction for employees' pension schemes was 10 percent of the earnings of the employees. The amendment removes this anomaly by allowing employers the same maximum deduction for contributions to all approved superannuation schemes, namely, 10 percent of the amount of the gross earnings paid to all employees who are members of the scheme. It should be noted that the Commissioner's discretion provided for by section 150(5)(a) has been retained. This provides that the 10 percent maximum deduction may be increased in certain circumstances.

The amendment also incorporates the new superannuation schemes classification into the provisions of section 150.

Section 39 - Taxation of income derived by non-exempt Superannuation Schemes

This section repeals section 225 of the principal Act and substitutes a new tax regime for non-exempt superannuation schemes. The former section 225 provided the basis for taxing the income derived by the trustees of non-approved superannuation schemes referred to in the section as non-exempt superannuation schemes. In addition to non-approved superannuation schemes (now referred to in the Act as Category 3 schemes), the new section 225 incorporates superannuation Category 2 schemes into non-exempt superannuation schemes. As explained in paragraph (b) of the notes on section 3, Category 2 schemes comprise approved lump sum superannuation schemes' Class B funds.

The new section limits the assessable income to the net investment income derived by the trustees of non-exempt superannuation schemes. Included in investment income are profits/losses on sale of investments. These are calculated as follows:

1. In respect of investments acquired after the commencement of the 1 April 1983 income year - the difference between the cost price of the investment asset and its selling price.
2. In respect of investments acquired prior to the commencement of the 1 April 1983 income year - the difference between the market value of the investment asset on the above mentioned date and its selling price.

Contributions received from members and benefits paid to members are not taken into account in calculating trustees' assessable income. Likewise as contribution income is not taxable, no deduction is allowed for marketing type expenditure incurred in attracting new members to institutional type schemes such as MFL or SIL schemes.

It should be noted that dividends derived by a trustee which is a company do not qualify for the dividend exemption provided by section 63 of the principal Act as such a trustee is deemed not to be a company for the purposes of the Tax Act. Finally as life insurance companies are assessable in terms of the new section 204 of the principal Act in respect of the investment income derived from the premiums of all policies including superannuation policies the income generated by these last mentioned policies is deemed not to be income derived by the trustee of the non-exempt superannuation scheme.

APPENDIX B

Section 23 - Recovery of Deductions Allowed for Interest and Farm Development Expenditure Where Property Sold Within 10 Years of Purchase

Introduction

Section 23 repeals with effect from 1 April 1983 the existing section 129 of the principal Act and substitutes a new section 129.

The new section 129 gives effect to the two Budget proposals relating to sales of property within 10 years of purchase.

• The first was the proposal to extend from the present 5 to 10 years the period of farm or fish farm ownership necessary to prevent deductions allowed for farm development expenditure being treated as assessable income on the sale of the property. (The "5 year ownership rule" is contained in section 129 which is being repealed.)
• The second was a totally new provision under which interest deducted in respect of property used in the production of assessable income will be recovered on the sale of that property at a profit within 10 years of purchase, in the same way as farm development expenditure.

Because many of the features of these two proposals were the same they have both been incorporated in the one section, the new section 129.

Application Date (Section 23(2) of the Amendment Act)

The new recovery provisions will apply to sales of property made on or after 1 April 1983. This differs from the Budget announcement which proposed that the provisions would apply to sales made after Budget night. However, although sales made before 1 April will not be subject to the new "10 year ownership rule" for interest and farm development expenditure recovery, sales of farms (including fish farms) may come within the present 5 year ownership rule applying to deductions for farm development expenditure only.

Date of Sale (and Purchase)

This date is relevant in determining both whether a sale is one which has occurred on or after 1 April 1983 (and accordingly must be considered under the new recovery provisions as opposed to the old 5 year farm development expenditure rule), and the period of ownership of a property.

The date of sale or disposition of a property (and the date of purchase or acquisition by the purchaser) is the date of execution of a specifically enforceable agreement for sale and purchase. A contract becomes enforceable when the agreement for sale and purchase becomes unconditional or absolute according to its terms.

The date of disposition is not the date of the memorandum of transfer, the date of settlement or the date of possession, nor (unless the agreement for sale and purchase is unconditional) is it the date of that agreement:

eg	Agreement for Sale and Purchase - dated	13.3.83
	(the Agreement is conditional on finance being arranged)
	Finance confirmed	4.4.83
	Memorandum of Transfer - dated	18.4.83
	Settlement on	21.4.83
	Possession on	5.5.83

The date of sale in this transaction is the date the finance was confirmed - 4 April 1983 (on that date the agreement became unconditional), and the sale is one which would fall to be considered under the 10 year rule.

The New Section 129

Before analysing the legislation in detail a brief description of each subsection of the new section follows:

subsection (1)	contains definitions of various terms and expressions used in this legislation.
subsection (2)	the operative subsection - recovers the deductions where land sold within 10 years.
subsection (3)	liability where depreciable assets sold within 10 years.
subsection (4)	spread of recovered amounts over year of sale and up to 4 previous years.
subsection (5)	relief for farmers on first sale of a farm caught by the 10 year rule.
subsection (6)	notice of election to spread recovered amounts under subsection (4)
subsection (7)	power to determine purchase and sale prices.
subsection (8)	recovery provisions can apply to part only of land being sold.
subsection (9)	exemption for certain sales and dispositions.
subsection (10)	anti-avoidance provision.

It is important to remember that the new section applies not only to sales of farm properties but also to sales of business and rental properties.

Subsection (1) - Definitions

Subsection (1) contains the definitions of five terms. These are outlined below:

"Deduction for interest" specifies the interest which is subject to recovery under the 10 year rule on the sale of a property. It includes interest on money borrowed for the purposes of:

• the initial purchase of the "land" in question including any buildings or other improvements thereon (less any proportion of the interest on borrowings allocated to chattels);
• the erection of any buildings or other capital improvements attaching to the property;
• the financing of expenditure spent on development on, or in relation to, the property. Such expenditure, even if for example it is deductible under section 127 or 128 as farm development expenditure, would be expenditure incurred in effecting improvements of a capital nature to the land;
• the repayment of any of the above borrowings and any subsequent refinancing of such refinanced loans or mortgages.

Although in many instances the borrowings for the above purposes will have been secured by a mortgage or loan over the property (the sale of which is caught by the 10 year rule) it is not necessary for this to be the case for the interest deduction to be recoverable. Any interest on borrowings used for the above purposes comes within the definition.

The recovery provisions do not apply to interest on money borrowed for:

• the purchase of livestock or other trading stock;
• the financing of the day to day running of a business either as loans for working capital or overdraft arrangements not specifically related to the purchase of land or effecting improvements to the land;
• the purchase of any assets not attaching to the land, eg, furniture in rental accommodation, farm machinery, vehicles, etc.

"Disposal" - This definition is self-explanatory and merely ensures that assignments, etc, of leases and licences relating to marine fish farms or farming areas come within the meaning of disposal as used in the section.

"Economic farm property" - This term is used in relation to the relief provision contained in subsection (5) which provided relief for farmers on the first sale of a farm caught by the 10 year rule. This relief is subject to the farmer buying a replacement "economic farm property" within 12 months and holding it until the balance of the 10 year period from date of purchase of the previous farm has expired.

A more detailed explanation of the term is contained in the commentary on subsection (5).

"Land" - This definition is the same as that used in the new section 188A (inserted by section 32 of the Amendment Act). Land includes any estate or interest in land and any option to acquire such estate or interest, but does not include a mortgage.

A legal estate or interest in land is that proprietary interest which has been acquired with all the formalities required by common law or by statute law for conferring perfect ownership. An equitable interest is one under which there is no legal estate or interest vested in the person having the interest but he may, for example, have entered into a binding contract to purchase the property.

Corporeal property is something tangible as opposed to incorporeal property, which is the opposite. As applied to land, actual possession of it would be corporeal but an undivided interest, or a right as a remainderman in an estate, or a right to take timber from land would be incorporeal.

A freehold interest in land is that interest which gives the owner the largest rights of use and enjoyment allowed by the law together with the fullest power of alienation. A chattel interest in land is most commonly represented by a leasehold interest.

Land also includes any interest under a lease or licence of a leased or licenced area within the meaning of the Marine Farming Act 1971. Accordingly, any sale or other "disposal" of such an interest will be subject to the 10 year rule. All commercial marine farmers must obtain a lease or licence under that Act to operate a marine farm.

Freshwater fish farms which are operated on properties owned or leased by the farmer are covered by the general description of land outlined above.

"Lease improvements" - This term is self-explanatory and simply refers to the improvements made in relation to a leased or licensed area where a marine farm is situated or being established.

Subsection (2) - Recovery of Deductions

Subsection (2) is the operative subsection of the new section and recovers the deductions previously allowed for interest and farm development expenditure. The subsection is in an expanded format of the old section 129(1) and is made up of a series of steps or tests which are used in determining whether and to what extent the recovery measures apply. Before discussing in detail the provisions of subsection (2), it may help to briefly outline these steps.

Subsection (2) provides that where -

(a) land is sold within 10 years; and

(b) a deduction has been allowed for -

• farm development expenditure and/or
• interest; and

either -

(c) the sale price of the land (where sold without improvements) exceeds the purchase price; or alternatively

(d) the sale price of the land and improvements exceeds the purchase price plus cost of non-deductible improvements made since purchase, -

that profit, or excess as it is called, is assessable as income in the year of sale up to the extent of the total deductions allowed for -

(e) farm development expenditure; and

(f) interest, -

since the acquisition of the land.

The following simple examples illustrate how the excess is calculated.

Example 1

Farm property sold in June 1983 for				$800,000
Less	Purchase price (property purchased July 1977)		$350,000
	Cost of improvements not allowed as a deduction (new hayshed)		$31,000	$381,000
		Profit (Excess)		$419,000	A
Deductions allowed in respect of the property since purchase:
	Farm development expenditure		$90,000
	Interest		$120,000	$210,000	B

The amount recoverable is the lesser of A or B. In this example the total deductions allowed for interest and farm development expenditure (B) are recoverable on the sale of the property.

Example 2

Urban rental property sold in August 1983 for				$70,000
Less	Purchase price (property purchased 1978)		$40,000
	Non-deductible improvements made		Nil	$40,000
		Excess		$30,000	A
Deductions allowed in respect of property since purchase
	Farm development expenditure		Nil
	Interest		$31,500	$31,500	B

In this example the amount recoverable is limited to the excess arising on the sale of property (A).

The details of the steps used in determining the application of the recovery provisions are now outlined:

Paragraph (a) - Land sold within 10 years

This paragraph applies to any land (as defined) sold or otherwise disposed of by a taxpayer within 10 years of his acquisition of that land.

The definition of land has already been discussed in relation to subsection (1). As specified not only sales, but any other form of disposition of land by a taxpayer is included.

Disposed of has a wide meaning and would include most changes in ownership of "land". It would include for example, the assignment of a lease or licence under the Marine Farming Act (whether or not marine farming has commenced), the gifting or exchange of land, or the passing of land pursuant to a will (see exemption in subsection 9(b)).

Acquisition has the opposite meaning to disposition.

The meaning of the terms "date of sale" and "date of purchase" has already been outlined in some depth in relation to the application date of the new provisions. In general the date of acquisition in any transaction is the date of the coming into existence of an enforceable contract relating to the obtaining of the land (or interest therein).

The land may be sold with or without the improvements thereon. However, a separate sale of the land improvements whether by a lessee to a lessor on expiry of a lease, by a lessee to a third party, or otherwise by any taxpayer will be treated as a sale or disposal of an interest in land to which the recovery of deductions may apply.

There will be cases where a taxpayer has been leasing land (eg, farm land leased from the Crown under a long term renewable lease) for some time and then freeholds it. The date of acquisition for the purposes of the 10 year rule in such a case would be the date the taxpayer acquired a leasehold interest in the land rather than the date of acquisition of the freehold interest.

In a situation where for example two partners, each owning a one-third interest in partnership land, buy out the third partner's interest between them (ie a further one-sixth interest each) the date of acquisition of their original one-third interests would not be affected by the fact that the transaction may involve a transfer of the total land from the three partners to the remaining two. The newly acquired one-sixth interests would of course have a separate acquisition date, the date of the transaction referred to.

Paragraph (b) - Deduction allowed for Certain Expenditure

This paragraph requires that the taxpayer and/or an associated person has been allowed a deduction for farm development expenditure and/or interest in relation to the land referred to in paragraph (a).

The deductions subject to recovery include not only those allowed to the taxpayer disposing of the land but also deductions allowed to any associated person/s of that taxpayer since the acquisition of the land by the taxpayer. The associated person provision exists to ensure the recovery of deductions for farm development expenditure and interest allowed to a person associated with the taxpayer selling the land, in situations where the taxpayer has leased the land to the associated person.

This associated persons provision follows that added to the old section 129(1) in 1980, and would, for example, apply where land sold by a company had formerly been leased to a partnership (the partners in which are the shareholders in the company) and the partnership had received a deduction for farm development expenditure or interest.

The definition of associated person for the purposes of this section is the standard one contained in section 8 of the principal Act.

Deduction for Farm Development Expenditure (sub-paragraph iv)

The farm development expenditure deductions are referred to in paragraph (b)(iv) as deductions which, if it were not for sections 126, 127 and 128 of the principal Act, would not have been allowed. Briefly, section 127 relates to development expenditure incurred on farm or agricultural land and section 128 applies to development expenditure incurred by certain fish farmers (section 126 is effectively redundant as all expenditure formerly allowable under that section is now claimable only under section 127). Sections 127 and 128 specify in some detail the classes of expenditure which are deductible as development expenditure.

Deduction for Interest (sub-paragraph v)

The deduction for interest is a defined term and the explanation of this is contained in subsection (1).

Expenditure Relates to Land Disposed of

The deductions recoverable are those which have been allowed in respect of expenditure relating to the land disposed of. Where part only of a taxpayer's land has been disposed of, it will be necessary to establish the expenditure which has been incurred in relation to that part.

Paragraph (c) - Land Disposed of Without Improvements

This paragraph, which is an alternative to paragraph (d), refers to cases where the "land" is disposed of without its improvements for in excess of its purchase price.

It is thought unlikely that there will be many sales of land without the improvements thereon although they may arise where a fish farm lease or licence is sold or assigned with the removable fish farm improvements being bought by a separate purchaser.

To arrive at the actual excess of the sale price over the purchase price (profit) the purchase price is increased by non-deductible costs incurred in making the purchase. Similarly, the sale price is reduced by the non-deductible costs incurred in making the sale.

Paragraph (d) - Land Disposed of With Improvements

This paragraph refers to all sales of land with any improvements thereon where the value of the consideration received for the sale exceeds the total of the purchase price and the cost of any non-deductible improvements made since acquisition of the land.

The value of the consideration received for the sale and the original purchase price will in most instances be readily identifiable, although in cases where the land was either purchased or has been sold together with other land not caught by the recovery measures, apportionment will be required. See subsection (7) which gives the Commissioner power to determine purchase and sale prices.

As mentioned in paragraph (c) above, non-deductible costs incurred on purchase and sale, eg, stamp duty, legal fees, etc, are to be taken into account in determining the excess or profit arising on disposal of the land.

In arriving at the excess, the cost of certain improvements which have been made to the land by the taxpayer (and/or any associated person) since he acquired the property, are added to the purchase price. The improvements referred to are those for which no deduction (other than by way of depreciation or investment allowance) has been allowed for tax purposes, eg, buildings or extensions thereto. The associated persons test, as with paragraph (b), is to cover situations where the land has been leased by the taxpayer to an associated person who has effected improvements to the land.

Excess Deemed Assessable Income

The excess determined in accordance with paragraph (c) or paragraph (d) above is deemed, subject to the spread-back provisions contained in subsection (4) (see separate comments on that subsection), to be assessable income of the taxpayer in the year in which the land is sold or otherwise disposed of, up to the amount of the total deductions allowed (to the taxpayer and associated person) in respect of that land since acquisition, for:

• farm development expenditure (paragraph (e)); and
• interest (paragraph (f)).

In other words the amount recoverable which is deemed to be assessable income under the 10 year rule is limited to the lesser of:

• the combined deductions allowed for interest and farm development expenditure; and
• the excess or profit arising on the sale or other disposition.

Paragraph (e) - Farm Development Expenditure

This paragraph simply refers to the deductions for farm development expenditure which are recoverable, ie, deductions which have been allowed under sections 126, 127 or 128 since acquisition of the land.

To assist with the administration of section 129 a new form (an IR129) is being designed which should be completed and attached to returns by taxpayers who are subject to the recovery measures. The form will provide for the entering of full details of the land sold together with details of deductions obtained for farm development expenditure and interest in respect of the property.

Paragraph (f) - Deduction for Interest

This paragraph simply refers to the recoverable interest deductions as the "deduction for interest". Deduction for interest is a defined term and has been explained in detail in subsection (1).

The new IR129 referred to in paragraph (e) above will assist in providing details of the interest deductions on which to base a calculation of the amount recoverable.

Subsection (3) - Depreciable Assets Sold Within 10 Years

This subsection provides that where a taxpayer has been allowed a deduction under section 127 or section 128 for the cost of an asset, for which a deduction by way of depreciation would otherwise have been allowable, and the asset is sold or otherwise disposed of within 10 years of the acquisition of that asset, the amount received (up to the amount of the original cost) is deemed to be assessable income in the year of sale.

This subsection is identical to the old section 129(3) except that the ownership period has been increased from 5 to 10 years., It is important to remember that the 10 year period runs from the date of acquisition of the asset concerned and not from the date of purchase of the land in relation to which the asset is used.

Examples of assets to which this subsection applies are certain irrigation plant used by farmers, and pontoons, rafts and buoys used by mussel farmers.

Subsection (4) - Spread-Back of Recovered Deductions

This subsection allows taxpayers who come within the provisions of this section to elect to have the amounts deemed to be assessable under subsections (2) (sale of land) and (3) (sale of depreciable assets) spread between the year of sale or other disposition and any of the 4 immediately preceding years.

The spread-back can be made only to income years throughout the whole of which, the land or asset concerned was owned by the taxpayer. It is not a requirement however that the taxpayer must have received deductions (for the recovered amounts) in the years of spread.

Example

Land purchased	1 July 1980
Land sold	30 June 1984

Taxpayer has 31 March balance date.

A spread may be made involving the following income years -

1985 (Year of sale) 1984, 1983, 1982

Spread to 1981 is not permitted as the land was not owned for the full 1981 income year.

The recovered amounts are spread to give the taxpayer the maximum benefit (ie, to attract the least tax) and this may mean that the entire amount may be allocated to a single year. The spread is calculated in the same way as for section 93(3) spread-backs of excess income on the sale of livestock.

The election by a taxpayer to spread the recovered amounts must be made by written notice (see notes on subsection (6)).

Subsection (5) - Relief for Farmers on First Sale within 10 Years

This subsection allows relief from the recovery provisions for farmers (including stepping stone farmers) in respect of the first sale of a farm caught by the 10 year ownership rule, subject to certain conditions.

Briefly, subsection (5) provides that the first sale of a farm by each farmer which is caught by the 10 year ownership rule, will not be subject to recovery of farm development expenditure and interest deductions provided the taxpayer acquires a replacement economic farm within 12 months of that sale, and does not sell the replacement farm within 10 years of the date on which he purchased the first property.

The main features of the relief measure are as follows:

• (a) The land or interest in land which is sold must have been used by the taxpayer (or the taxpayer and another person) primarily and principally in the carrying on of a farming, agricultural, horticultural, viticultural or aquacultural business. The sale of farm land leased by the taxpayer to another person, who was conducting the farming business, will not therefore qualify for relief.
• (b) The sale of land involved must be the first sale by the taxpayer to which the new recovery measures apply. The relief is available to farming companies provided they meet the conditions imposed. Although it is not necessary for this first sale to be of the taxpayer's first farm (the relief is not affected by the number of previous farms owned), a taxpayer cannot save up this "once only relief" for the second or any other subsequent sale which might be subject to the new section 129. The relief applies only to the first sale which is caught under the 10 year rule.
• (c) The taxpayer must acquire a replacement "economic farm property" within the period of 12 months commencing from the date of sale of the land. The taxpayer may apply to have this 12 month period commence on an earlier date than the date of sale of the first farm. This is to provide for situations where the taxpayer may acquire the replacement farm before the sale of the first farm is completed.Economic farm property is a defined term and it is discussed in greater detail below.
• (d) The replacement economic farm property must be used by the taxpayer (or the taxpayer and another person) primarily and principally in the carrying on of a farming, agricultural, horticultural, viticultural or aquacultural business. Accordingly the replacement property can not be leased to another person who will conduct the farming business. It is not necessary for the type of "farming" activity conducted on the new property to be the same as that conducted on the land which has been sold.

Economic Farm Property

"Economic farm property" means any land (which includes any interest in land) which is of such an area and nature that it is capable of being worked by the taxpayer as an economic unit as a farming, agricultural, horticultural, viticultural or aquacultural business. Authority is given for the Commissioner to consult, for example the Ministry of Agriculture and Fisheries or the Rural Bank in determining whether any replacement property is a viable economic unit.

Regard will be had, in deciding whether a replacement property qualifies as an economic farm, to the following interrelated factors:

• The size of the farm property, or interest in land, acquired by the taxpayer.
• The nature of the property, ie, location, soil type, climate, extent of development on the property, etc.
• The type of activity the taxpayer intends conducting and does in fact conduct on the property.
• The capability of the property to return a livelihood to the farmer. The property need not provide the taxpayer's current or intended livelihood although it should have the potential to provide a living.

It is also not necessary for the replacement unit to be a fully paying proposition at the time of the acquisition but it must be capable, having regard to the activity the taxpayer conducts on the property, of being worked as an economic farm by the taxpayer in the future.

A reasonable approach will be adopted in interpreting the definition of economic farm property and the Department will have regard to the subsection's stated aim of providing relief for the genuine stepping stone farmer seeking to "step up" to a larger or better farm, albeit that this replacement unit may be only marginally economic.

Contingent Tax Liability

In spite of the relief provision, the tax payable in respect of recovered deductions on this first farm sale will still be calculated as though no relief applies. (Where elected by the farmer this calculation will also include the subsection (4) spread back.) This calculation of the tax payable is made even though the farmer may have already qualified for subsection (5) relief (by meeting the requirements in paragraphs (a) to (d) above) or intends to qualify for it.

The tax payable in respect of the first farm sale (as so calculated) becomes a contingent liability and will not be payable unless and until the replacement economic farm property is sold or otherwise disposed of by the farmer within the period of 10 years from the date he acquired the first farm. Accordingly, if the farmer sells the replacement unit within 10 years from the date of acquisition of the previous farm, the tax liability arising from that previous sale becomes payable immediately and an assessment and statement of account for the tax (which has already been calculated) will be issued.

The proviso to subsection (5) provides that where the replacement economic farm is sold, and that sale is itself exempted from the 10 year rule by subsections (9)(a), (b), (c), (d) or (e) of section 129, that sale (no matter when made) is deemed for the purposes of the subsection (5) relief not to have been made within 10 years of the acquisition of the previous farm. As an example, where a sale of a replacement farm within 10 years of purchase of the previous farm results from the farmer's death, that sale is deemed not to have been made within that 10 year period and accordingly, will not cause the contingent tax liability to become payable.

It must be remembered that subsection (5) provides relief from recovery of deductions only in respect of the first farm sale caught by the 10 year rule. Where the replacement economic farm is sold within 10 years of its purchase (even if more than 10 years after the date of acquisition of the previous farm) deductions allowed for farm development expenditure and interest incurred in relation to that replacement farm, will be subject to recovery without relief.

The following example illustrates the period of replacement farm ownership required for subsection (5) relief purposes:

Farm "A" sold on	30.6.83
Farm "A" purchased on	1.7.79
Replacement "Economic farm property" Farm "B" purchased on	1.10.83
Farm "B" must be retained until to prevent tax on recovered deductions from Farm "A" becoming payable	1.7.89
Farm "B" must be retained until to prevent recovery of deductions allowed in relation to it.	1.10.93

Subsection (6) - Notice of Election to Spread Recovered Amounts

Subsection (6) provides that notices of election for the purpose of the spread back of the recovered amounts (subsection 4) must be in writing and be given within the time within which the taxpayer is required to furnish his return for the year of sale of the land or asset. There is discretion for this time limit for the making of elections to be extended and a reasonable approach should be adopted in this area.

It is intended that the new form (an IR129) will enable taxpayers to provide details of sales caught by the 10 year rule. This form, which should be attached to the Annual tax return, will also provide for the taxpayer to make the election for the spread back.

Subsection (7) - Determination of Purchase and Sale Prices

This subsection gives the Commissioner power to determine the purchase or acquisition price, or the value of the consideration for the sale or other disposition of the land, in such manner as he thinks fit. It also allows the Commissioner to apportion the purchase price, or the value of the consideration for the disposal, between the land and any other property in situations where the piece of land caught by the 10 year rule was acquired, or disposed of, together with other real or personal property.

In such cases the Department will need to be satisfied that the acquisition or disposal prices attributed to the piece of land, in respect of which the deductions are being recovered, are not being inflated (in the case of the acquisition price) or understated (in the case of the disposal price) to reduce the excess on sale.

Subsection (8) - Recovery Apply to Part Only of Land Being Sold

This subsection is self-explanatory and simply ensures that the recovery measures apply where the land which is subject to the recovery is sold together with other land which is not caught by the 10 year rule.

Subsection (9) - Exemptions

Subsection (9) sets out certain specific exemptions from the new interest and farm development expenditure deduction recovery provisions. There were no such specific exemptions from the old 5 year ownership rule.

The subsection provides that the 10 year ownership rule does not apply to sales or other dispositions of any land or assets in the following circumstances:

• (a) Compulsory Acquisition
  • Paragraph (a) exempts land compulsorily acquired by the Crown or any public or local authority. This exemption extends to apply where land is sold to the Crown, local or public authority in circumstances in which, if the sale had not been made, the land would have been compulsorily acquired by the purchaser. For this extended part of the exemption to apply, the alternative of compulsory acquisition must have been a certainty at the time of sale and not merely a possibility.
• (b) Death of Taxpayer
  • Paragraph (b) exempts sales or other dispositions of land or assets made by a trustee following the death of the taxpayer. The exemption applies only to land and assets owned by the taxpayer at his death. This exemption does not extend, for example, to sales of land by other partners in a partnership where one partner has died.
• (c) Forced Sale by Spouse of Deceased - Joint Property
  • This paragraph exempts certain sales of property by the widow or widower of a person to whom paragraph (a) above has applied. This exemption applies where the property sold was (at the date of death of that person) used by the deceased and the widow/widower in the carrying on of a business, and the sale has been compelled by circumstances arising from the death.
  • This exemption would apply for example where a young married couple with pre-school children run a farm in partnership and the husband dies. The widow is forced to sell the farm because she is unable to look after the children and run the farm herself. The paragraph (c) exemption would exempt the sale of the farm by the widow in these circumstances. The sale of the deceased husband's share would, if made by his trustee, be exempted under paragraph (b).
• (d) Forced Sale by Spouse of Deceased - Inherited Property
  • Paragraph (d) exempts sales by a widow/widower of property inherited by that widow/widower from the deceased spouse, in cases where the sale is compelled by circumstances arising from the spouse's death.
  • Both paragraphs (c) and (d) require that the sale by the widow or widower be compelled by circumstances arising primarily, principally, and directly from their spouse's death. This requirement contemplates more than a decision to sell based simply on the personal preference of the widow/widower.
• (e) Court Ordered Sale
  • This paragraph exempts sales or dispositions made in compliance with a Court order made under:
    • Section 25 (2) of the Matrimonial Property Act 1976.
      • Orders can be made under that provision only in cases where there has been a breakdown in the marriage or where one spouse is bankrupt. This exemption does not include any other orders made relating to any ownership, vesting or possession of property, or agreements for the purpose of contracting out of the provisions of the Matrimonial Property Act.
    • Any other Act.
      • To qualify for this part of the exemption the taxpayer must satisfy the Commissioner that the Court order has not come about because of any moves on the part of the taxpayer which have frustrated any sale of the property contemplated by him.
      • This exemption would not apply for example, where the taxpayer enters into an agreement to sell a property end then, for any reason, defaults on that agreement. The purchaser then seeks an order for specific performance of the agreement and a Court orders the sale to proceed in spite of any objections the taxpayer/seller may have.
• (f) Profit on Sale Already Taxed
  • Exemption from the recovery provisions is provided where, and to the extent that, the profit or gain derived on the sale of a property is included as assessable income under any other section of the principal Act.
  • Where the profit from a sale of land is assessed under section 67 for example, that same profit cannot also be taxed under this section.
  • On the other hand if, for example, a block of forest land is sold the value of the standing timber only is taxed under section
  • Any profit made on the land sold with the trees, will be subject to the recovery provisions of this section.

APPENDIX C

Section 32 - Loss Incurred in Specified Activities

The section 32 measures provide, in a new section 188A of the principal Act, that the amount of losses incurred in certain activities (such as horticulture, livestock or fish farming, and property owning) that may be offset against income from other sources will be limited to $10,000 per annum. This "loss containment" provision will apply in respect of all such losses incurred in the 1985/84 income year and subsequent years.

A new section 188B is inserted in the Act to complement the operation of section 188A and permits a deferral of the payment of any "extra" income tax that may become payable as a result of the loss containment provision outlined above. The deferral will apply in respect of any or all of the 3 income years commencing on 1 April 1983, 1984, and 1985. In the event of such a deferral, the new section 188B imposes interest at the rate of 1.25 percent per month on so much of the deferred tax that remains outstanding throughout any month.

Detailed Notes on Section 188A

These notes should be read in conjunction with the legislation.

Subsection (1) - Definitions

The following definitions apply only to section 188A, they are not for the purposes of any other section of the Income Tax Act 1976.

"To Conduct"

• The term is self-explanatory; however the corresponding meanings of the words "conduct", "conducts", and "conducted" should be noted.

"Established Activity"

• An "established activity" is any "specified activity" (or activities) conducted by an "existing farmer" on the 11th of October 1982, the conduct of which, in the opinion of the Commissioner, constituted, on that date, the livelihood and sole or principal source of income of that "existing farmer".
• "... livelihood and sole or principal source of income" - In order for the Commissioner to be of the opinion that the conduct of a "specified activity" constitutes his livelihood and sole or principal source of income, a taxpayer must establish that:
  • (i) he conducts that activity to the exclusion of virtually everything else, and
  • (ii) his ability to derive income depends on the conduct of that activity to the exclusion of virtually everything else.
• Where the taxpayer conducts more than one specified activity those activities must jointly comprise his livelihood and sole or principal source of income.
• The taxpayer must be an "existing farmer" on 11 October 1982 and the conduct of the specified activity (or activities) must constitute his livelihood and sole or principal source of income on that date.
• Note that the type of activity within the meaning of paragraph (i) of the definition of "specified activity" is excluded from the definition of "established activity". The activity of, say, renting properties, therefore, cannot constitute an established activity.
• This definition is relevant for the purposes of subsection (6) of this section.

"Existing Farmer"

• An "existing farmer" is any taxpayer who conducts any specified activity (or activities) where the conduct of that activity (or activities) constitutes the livelihood and sole or principal source of income of the taxpayer throughout the period of conduct in any income year.
• For the Commissioner to be of the opinion that the conduct of the specified activity (or activities) constitutes the taxpayers' livelihood and sole or principal source of income, the criteria specified in the explanation of the definition of "established activity" apply.
• Note that whereas for the purposes of the definition of "established activity" the conduct of an activity must constitute the livelihood, etc, of the taxpayer on a particular date (11 October 1982), the definition of "existing farmer" requires that the conduct of an activity constitutes the livelihood, etc, of the taxpayer at all times during the conduct of that activity in a particular income year.
• Note also that, as with the definition of the term "established activity", a taxpayer conducting the type of activity within the meaning of paragraph (i) of the definition of "specified activity" is excluded from the definition of "existing farmer". A taxpayer who primarily conducts the activity of renting properties throughout an income year cannot, therefore, be an "existing farmer" in that income year in respect of that activity.
• Subsections (3) and (4) of this section make reference to an activity (or activities) "by virtue of which ... (the taxpayer) ... is an "existing farmer". The activity (or activities) referred to is simply the one (or ones) in respect of which the taxpayer is an existing farmer, ie, it constitutes his livelihood, etc, throughout the conduct of the activity in any income year.
• This definition is relevant for the purposes of subsections (3), (4) and (6) of this section.

"Income from Personal Exertion"

• "Income from personal exertion" is any income of the types specified in section 65(2)(a) and 65(2)(b), ie, business profits and employment income, but does not include income from the businesses of renting, lending money, or making financial investments.
• This definition is relevant for the purposes of subsection (8).

"Related Activity"

• In relation to a particular "specified activity" conducted by a taxpayer, a "related activity" is any other specified activity, conducted by the taxpayer that is either:
  • (a) of the same kind as that specified activity, irrespective of whether the activities are conducted on the same land, or
  • (b) deemed to be related to that specified activity under subsection (3) or (4) of section 188A.
• Paragraph (a)
  • "... of the same kind as ..." - Two (or more) specified activities conducted by a taxpayer in an income year are "of the same kind" if they are categorised under the same paragraph (and subparagraph) of the definition of the term "specified activity".
  • For example, the businesses of dairy farming and deer farming are "of the same kind" as they are both categorised under the same paragraph (a) of the definition of "specified activity", whereas the businesses of dairy farming and rock oyster farming are not "of the same kind" as they are categorised under different paragraphs (a) and (d) of that definition.
  • Note that an activity categorised under subparagraph (i) of paragraph (b) of the definition of "specified activity" can only be related to an activity within the same subparagraph. Paragraphs (b)(i) and (b)(ii) are separate and distinct categories for the purposes of determining whether activities are related activities under paragraph (a) of this definition.
  • For the purposes of paragraph (a) of this definition, two or more activities may be of the same kind irrespective of the location of the property or properties on which those activities are conducted.
• Paragraph (b)
  • This paragraph merely provides that the term "related activity" includes those activities which are deemed to be related under subsection (3) and subsection (4) of section 188A.
• This definition is relevant for the purposes of subsection (5).

"Specified Activity"

• An activity will constitute a "specified activity" if it falls into any one of the following 10 categories listed in this definition:
  • Paragraph (a)
    • This category covers the business of dairy, sheep, goat, deer and pig farming, etc, (ie animal husbandry), and includes poultry and bee-keeping, and the breeding of horses. The business of breeding of bloodstock is specifically excluded from this category and, as it is not included in any other category in this definition, it does not constitute a "specified activity". The term "bloodstock" includes thoroughbred and standardbred horses only.
  • Paragraph (b)(i)
    • This category is intended to cover all plant and tree nursery activities.
  • Paragraph (b)(ii)
    • This category includes all activities where the growing of trees or plants is for the purpose of the production of fruit, vegetables, flowers, seeds or other crops, but does not include:
      • the growing of trees or plants for the production of grapes (this activity is categorised in paragraph (c) of this definition), or
      • the growing of trees or plants for the production of crops (other than flowers) where the preparation of the land, the planting and cultivation of the tree or plant, and the harvesting of the crop is achieved within a period of 12 months. Such annual crops (from seed to harvest) would include potatoes, wheat, maize, pumpkins and lettuces.
  • Paragraph (c)
    • This category covers the business of grape growing.
  • Paragraphs (d), (e), (f) and (g)
    • These categories respectively cover the activities of rock-oyster, mussel, scallop and freshwater fish farming.
  • Paragraph (h)
    • This category covers activities whereby income is derived from livestock otherwise than in the conduct of an activity referred to in paragraph (a) of this definition. Note that the term "livestock" includes poultry, bees and horses, but does not include bloodstock.
    • It is envisaged that the main activity that will come within this paragraph is the leasing or bailment of livestock. The activity will constitute a "specified activity" of the lessor.
  • Paragraph (i)
    • This category covers the activity of acquiring or holding land with the intention to derive rents, fines, premiums or other revenues from any lease, licence, or other agreement relating to that land. It is not necessary that the whole of the land be used to derive revenue; the leasing, etc, of only a part of the land is included in this category.
    • As the activities covered by paragraph (i) of this definition are specifically excluded from the definitions of "established activity", "existing farmer", and from the provisions of subsection (8):
      • A taxpayer who conducts such an activity for his livelihood cannot be an "existing farmer", and the activity cannot therefore be an "established activity".
      • Those activities can only be "related activities" under paragraph (a) of the definition of that term (they cannot be "related activities" under paragraph (b) as that paragraph requires that the taxpayer be an existing farmer).
      • The Commissioner may not authorise an increase in the $10,000 "loss containment" limit in respect of any taxpayer who conducts such an activity for his livelihood (such authority is provided for in subsection (8) of section 188A).
• This definition is relevant for the purposes of subsections (1), (3), (4), (5), (7) and (8) of this section.

Subsection (2) - Definition of "Land"

This definition is the same as that included in section 23(1) of the Amendment Act (which substitutes the new section 129). For full details please refer to the explanation of that definition in Appendix B of this publication. Meanwhile, it should be noted that "land" includes leased and licensed areas within the meaning of the Marine Farming Act 1971, and does not include a mortgage.

Subsection (3) - Complementary Specified Activities

This subsection is intended to enable an "existing farmer" to diversify into an activity that is different from, but complementary to, his current activity without the two activities being subject to the $10,000 loss containment provision.

Where a taxpayer is, in any income year, an "existing farmer" and, during that income year, commences to conduct a new specified activity, both the following conditions must be met in order that the $10,000 loss containment provision will not apply in relation to the newly commenced activity and one of the taxpayer's other activities:

• (i) The newly commenced specified activity must be different from (see "explanation of terms" below) the specified activity or, if more than one, each of the specified activities by virtue of which the taxpayer is, immediately prior to the commencement, an "existing farmer".
• (ii) The Commissioner must be satisfied that the newly commenced specified activity is one that is usually conducted in association with, and is complementary to\, the specified activity or, if more than one, any of the specified activities by virtue of which the taxpayer is, immediately prior to the commencement, an "existing farmer".

If both of the above conditions are met, the newly commenced specified activity is, under subsection (3), deemed to be an activity related to the (one) specified activity to which it is complementary (see (ii) above) and, further, that activity is a "related activity" in terms of paragraph (b) of the definition of that term in subsection (1).

Explanation of terms used in subsection (3)

• "... different from ..." - This term is interpreted as being the exact opposite of the term "of the same kind", the meaning of which is explained fully in the notes on the definition of the term "related activity" (subsection (1)). It simply covers any "specified activity" that is not categorised in the same paragraph (or subparagraph) of the definition of that term.
• Note that if the newly commenced specified activity is "of the same kind" (ie, not different) as one of the activities by virtue of which the taxpayer is an "existing farmer", that activity will simply be a "related activity" under paragraph (a) of the definition of that term. As such, there will be no need to use subsection (3) in order to deem the activity to be a related one.
• "... the specified activity ... by virtue of which ... (the taxpayer) ... is an existing farmer" - See explanation of definition of "existing farmer" in subsection (1).
• "... immediately before that commencement ..." - The commencement referred to is the commencement of the conduct of the new "specified activity".

Subsection (4) - Activities conducted on land held for 5 years

This subsection provides a further "extension" of the application of the term "related activity". It is intended to enable an "existing farmer" to diversify into a specified activity that is conducted on land that has been held by him for five years preceding the date of commencement, without that activity and one of the taxpayers's other activities being subject to the $10,000 loss containment provision.

Where a taxpayer is, in any income year, an "existing farmer" and, during that income year, commences to conduct a new specified activity, both the following conditions must be met in order that the $10,000 loss containment provision will not apply in relation to the newly commenced activity and one of the taxpayer's other activities:

• (i) The newly commenced specified activity must be different from (see "explanation of terms" below) the specified activity or, if more than one, each of the specified activities by virtue of which the taxpayer is, immediately prior to the commencement, an "existing farmer".
• (ii) The newly commenced specified activity must be conducted on land that the taxpayer has owned or held (under any lease, licence, or other agreement) throughout the period of five years ending on the date of commencement.
• If both of the above conditions are met, the newly commenced specified activity is, under subsection (4), deemed to be an activity related to one other specified activity conducted by the taxpayer. The activity to which it is deemed to be related is determined as follows:
  • (a) If there is only one specified activity by virtue of which the taxpayer is, immediately prior to the commencement, an "existing farmer" the newly commenced activity is deemed to be related to that one specified activity.
  • (b) If there are two or more specified activities by virtue of which the taxpayer is, immediately prior to the commencement, an "existing farmer", the newly commenced activity is deemed to be related to the one specified activity that the taxpayer chooses, or, if no election is made, one activity that the Commissioner determines.
• The taxpayer's election must be made in writing and given to the Commissioner within the time in which the tax return for the income year in which commencement occurs is due. Should the taxpayer decide not to make an election, or if the notice of election is received after the due date, the Commissioner must then determine to which specified activity the newly commenced activity is deemed to relate.
• Once the specified activity to which the newly commenced activity is deemed to relate has been decided, the newly commenced activity is a "related activity" in terms of paragraph (b) of the definition of that term in subsection (1).

Explanation of terms used in subsection (4)

• "... different from ..." - See "explanation of terms used in subsection (3)".
• "... the specified activity ... by virtue of which ... (the taxpayer) ... is an existing farmer" - See explanation of existing farmer in subsection (1).
• "... immediately before that commencement ..." - See "explanation of terms used in subsection (3)".
• "... throughout the period of five years ending on the date of commencement ..." - The ownership or holding of any land must be continuous over the period specified. The required period, ie, 5 years ending on the date of commencement, is effectively a minimum period of 4 years and 364 days. To illustrate, for a taxpayer who has owned a block of land continuously since 11 June 1980 and wishes to commence a specified activity on that land at some time in the future, the provisions of subsection (4) apply only if the specified activity is commenced on or after 10 June 1985, that date being the end of the five year period.

Note that it is not necessary that the land held for 5 years has lain idle over that period, nor is it necessary that the land be separate from land currently used to conduct any specified activity.

Subsection (5) - Related Activities deemed to be one specified activity

This subsection provides that, for the purposes of subsections (6), (7) and (8), a specified activity that is a "related activity" shall be deemed to be part of the specified activity in relation to which it is a "related activity".

To illustrate, if a taxpayer currently conducts the business of growing kiwifruit plants for the production of fruit, and also conducts the business of beekeeping, the beekeeping activity is a "related activity" (paragraph (b) of the definition) to the kiwifruit activity and, under subsection (5), forms a part of that latter activity. As such, all profits and losses may be offset without limit between the related activities; any remaining loss available to be offset from other income is then subject to the containment provisions under subsections (6) to (8).

Subsection (6) - Losses Incurred in Conduct of an "Established Activity"

This subsection provides that the loss containment provisions contained in subsection (7) shall not apply in respect of stay loss incurred by an "existing farmer" 'in the conduct of an "established activity".

Note that this subsection exempts only those losses incurred in the conduct of the "established activity", it does not exempt losses incurred in any other activity.

Subsection (7) - Limitation of Offset of Certain Losses

This subsection specifies the degree to which a loss incurred in the conduct of a specified activity may be offset against other income in the income year that the loss is incurred, and also specifies the treatment of any excess of that loss that is carried forward to any future income year.

Where this subsection conflicts with any of the provisions contained in sections 19, 188, and 191 of the principal Act, this subsection overrides those sections, except where otherwise stated (paragraphs (b) and (c) of subsection (7)).

It should be borne in mind that every reference in this subsection to a specified activity may in fact relate to more than one activity if those activities are "related" activities (see note on subsection (5)).

Paragraphs (a) to (e) cover the loss containment with respect to one specified activity only. Where there are 2 or more specified activities refer to paragraphs (f) to (h).

Paragraph (a) - Offset of loss in year incurred

• Where a taxpayer incurs a loss in the conduct of a specified activity, this paragraph limits the amount of that loss that may be deducted from, or offset against, income from other sources to a maximum of $10,000 in the income year the loss is incurred. Where the amount of the loss is less than $10,000, the amount of the loss will be able to be deducted or offset in total.
• The amount of the loss that is able to be offset in the year incurred as specified in this paragraph applies notwithstanding any other provision in the principal Act.
• The treatment of the amount of any excess loss that is not able to be offset under this paragraph is dealt with in paragraph (b).
• Note that the income year in which the loss from the conduct of the specified activity is incurred is referred to in paragraphs (b) and (d) of this subsection as "Year 1".

Paragraph (b) - Carry forward of Loss from Year Incurred

• This paragraph provides that the amount of any loss incurred in the conduct of a specified activity that cannot be deducted or offset pursuant to paragraph (a) (ie, in the income year that the loss is incurred, "Year 1") shall be carried forward without limit to the immediately succeeding income year ("Year 2").
• Where the taxpayer has incurred a further loss from the conduct of that specified activity in "Year 2", the loss brought forward from "Year 1" in respect of that activity shall simply be added to the loss incurred in "Year 2".
• If, on the other hand, the taxpayer derives assessable income from that specified activity in "Year 2", the loss brought forward from "Year 1" in respect of that activity may be offset without limit against the assessable income derived from the same specified activity in that income year. This offset is to be carried out in accordance with the provisions of section 188.
• The treatment of the loss resulting from aggregation of the "Year 1" and "Year 2" losses, or any net loss resulting from the "Year 1" loss and any "Year 2" profit, is dealt with in paragraph (c) of this subsection.
• It is important to note that the carry forward of losses specified in paragraph (b) remains subject to the provisions of sections 19(3), 188(2A) and 188(7). These sections respectively provide for the determinations of loss carried forward, the order in which losses carried forward are to be offset, and the conditions required to be satisfied in order that a loss may be carried forward by a company. With the exception of the above subsections, all other sections of the Act are subject to this section.

Paragraph (c) - Offset of Losses in year following the year in which incurred

• Where a taxpayer has, pursuant to paragraph (b) of this subsection, a loss available from the conduct of a specified activity, this paragraph limits the amount of that loss that may be deducted from, or offset against, income from other sources to a MAXIMUM of $10,000 in "Year 2" (ie the year immediately following the year in which a loss is incurred).

Paragraph (d) - Offset of losses in subsequent years

• This paragraph does no more than ensure the "rollover" of the provisions contained in paragraphs (b) and (c) so that they relate also to any losses incurred in the conduct of specified activities in years beyond "Year 2".

Example of operation of paragraphs (a), (b) and (c)

Taxpayer A is a full-time accountant who also operates a kiwifruit venture. The profit/loss position in respect of the kiwifruit venture, and the taxpayer's accounting income for a four year period is detailed below:

	Kiwifruit Profit (Loss)	Accounting Income
Year ended 31 March 1983	(15,000)	$25,000
Year ended 31 March 1984	(15,000)	$25,000
Year ended 31 March 1985	(22,000)	$25,000
Year ended 31 March 1986	12,000	$25,000

The taxpayer's tax position for the four years above will be as follows:

Year ended 31 March 1983

1983 Accounting Income	$25,000
Less Kiwifruit loss	$15,000
Assessable Income	$10,000

The kiwifruit loss of $15,000 is able to be offset, without limit, against the accounting income as the loss containment provisions in section 188A apply only in respect of losses incurred in the income year commencing 1 April 1983 and subsequent years.

Year ended 31 March 1984

1984 Accounting Income	$25,000
Less 1984 kiwifruit loss (limited by s 188A(7)(a))	$10,000
Assessable income	$15,000
Balance of 1984 loss carried forward	$5,000

The offset of the kiwifruit loss against the accounting income is, in this year, limited to a maximum of $10,000 in accordance with the provisions of section 188A(7)(a). The balance of the loss not offset is carried forward to the next income year (year ended 31.3.85).

Year ended 31 March 1985

Balance of	1984 kiwifruit loss b/f	$5,000
	1985 kiwifruit loss	$22,000
Kiwifruit loss available to be offset (calculated in accordance with s 188A(7)(b))		$27,000
1985 Accounting Income		$25,000
Less Kiwifruit loss (limited by s 188A(7)(c))		$10,000
Assessable Income	$15,000
Balance of loss to be carried forward		$17,000

The kiwifruit loss brought forward from 1984 is added to the loss incurred in 1985. Of the total of these losses, only $10,000 is able to be offset against accounting income in accordance with the provisions of section 188A(7)(c). The balance of the loss not offset is carried forward to the next income year (year ended 31.3.86).

Year ended 31 March 1986

Balance of 1985 kiwifruit loss b/f	$17,000
1986 kiwifruit profit	$12,000
Kiwifruit loss available to be offset (calculated in accordance with s 188(2)(b))	$5,000
1986 Accounting Income	$25,000
Kiwifruit loss offset	$5,000
Assessable Income	$20,000

The kiwifruit loss brought forward from 1985 is reduced by the profit from the kiwifruit venture derived in 1986. You will note that, in calculating the loss available to be offset, $12,000 of the 1985 loss was offset against the 1986 kiwifruit profit. The offsetting of losses brought forward within the same specified activity is not subject to the $10,000 limit. The net kiwifruit loss available to be offset against other income, $5,000, is able to be offset in full against the accounting income as that amount does not exceed the $10,000 limit. There is no further loss to be carried forward.

Note: Losses carried forward to year ended 31.3.84

As the provisions of the new section 188A do not apply to losses incurred PRIOR to the commencement of the income year ending 31.3.84, any loss carried forward to that year (ie, incurred in a prior income year) are NOT subject to the loss containment provisions. In the above example, if Taxpayer A had incurred a loss from the kiwifruit venture in 1983 of $38,000, that loss would have been able to be offset without limit against 1983 accounting income, and the balance carried forward to 1984 ($13,000) would have been able to be offset against 1984 accounting income without affecting the calculation of the $10,000 limit. The taxpayer's tax position for that year would have been as follows:

Year ending 31 March 1984

1984 Accounting Income	$25,000
Less 1983 kiwifruit loss b/f	$13,000
Less 1984 kiwifruit loss of $15,000 (limited by s 188A(7)(a))	$10,000
Assessable Income	$2,000
Balance of 1984 loss to be carried forward	$5,000

Paragraph (e) - Partners Sharing Specified Activity Losses

This paragraph provides that where a specified activity is conducted by 2 or more persons (ie, partners or co-venturers), every reference in paragraphs (a) to (d) to a taxpayer and to the amount of a loss incurred by him in the conduct of a specified activity shall be read as if that reference were to each of those taxpayers in partnership and to the amount of each taxpayer's share of the loss incurred in the specified activity.

The effect of this paragraph is merely to ensure that each partner in a partnership is able to offset up to $10,000 of his share of a partnership loss incurred in the conduct of a specified activity.

Paragraphs (f),(g) and (h)

These paragraphs cover the position where a taxpayer is conducting 2 or more specified activities. Although the legislation is drafted differently from the preceding paragraphs, their effect is the same; the losses incurred in more than one specified activity are limited to a total of $10,000 per annum.

Paragraph (f) - Two or More Specified Activities

Where a taxpayer conducts 2 or more (unrelated) specified activities in an income year, this paragraph limits the total amount of the losses from those activities that may be offset, either against each other or against other income, to a maximum of $10,000.

Example 1

Taxpayer B conducts the following three activities:

Kiwifruit	Loss	$16,000	("specified activity", para (b)(ii) of definition)
Mussel farming	Loss	$8,000	("specified activity", para (e) of definition)
Accounting	Net income	$30,000	(not a "specified activity")

Under paragraph (f), the total losses from the specified activities (ie $24,000) may be offset against other income only to a combined maximum of $10,000. If it were not for this paragraph, Taxpayer A would, under the provisions of paragraph (a) of this subsection, be able to offset up to $10,000 of each of the losses incurred in the activities against other income, a maximum offset in this case of $18,000 ($10,000 kiwifruit, $8,000 mussel).

Example 2

In the income year ending 31 March 1985 Taxpayer C conducts the following three activities:

Kiwifruit	Loss	$16,000	("specified activity", para (b)(ii) of definition)
Mussel farming	Loss	$8,000	("specified activity", para (e) of definition)
Viticulture	Profit	$30,000	("specified activity", para (c) of definition)

As in Example 1, the total losses from the specified activities (ie $24,000) may be offset against other income (in this case from another specified activity) only to a combined maximum of $10,000 in the 1985 year.

To determine the composition of the total loss able to be offset under this paragraph, please refer to paragraph (g).

Paragraph (g) - Composition of offset losses

Where a taxpayer incurs losses from 2 or more specified activities, paragraph (g) gives the taxpayer the opportunity of influencing, with his foreknowledge of expected future returns, to what extent those losses are to be offset in the year incurred and in the following year. Where a taxpayer conducts two or more specified activities, and the offset of any losses from two or more of those activities is limited by paragraph (f), the taxpayer may elect how much of each or either loss will constitute the amount of offset limited under paragraph (f).

Example

We saw in Example 2 (paragraph (f) above) that the losses from two specified activities were able to be offset against the profit from the third activity to a combined limit of $10,000 under paragraph (f). The taxpayer may wish that the $10,000 loss able to be offset comprises $8,000 for the mussel farming loss and $2,000 of the kiwifruit loss. The reason for such a split may be that the taxpayer is expecting the kiwifruit venture to make a profit in the following year and therefore will wish to take full advantage of this ability in that year to offset the loss carried forward from that activity without limit against that profit (see paragraph (h)).

The taxpayer's election must be made in writing and given to the Commissioner within the time in which the tax return for the income year in which the activities are conducted is due.

Note that the taxpayer's notice in writing is irrevocable; under no circumstances can a change to such a notice be entertained.

Paragraph (h) - Carry forward and offset of losses from 2 or more specified activities

Paragraph (h) provides that, where the offset of the combined losses from two or more specified activities is limited under paragraphs (f) and (g), any excess of those losses in respect of each activity not offset may be carried forward to the income year immediately succeeding the year in which the losses are incurred. The losses so carried forward are to be treated as follows:

• (i) Each loss carried forward into that immediately succeeding income year in respect of one of the specified activities may be offset to the extent of any assessable income derived from that specified activity in that income year.
• (ii) Any excess not so offset is to be treated as a loss incurred in the conduct of that specified activity in that income year for the purposes of paragraphs (f) and (g).

Example

In Example 2, used in paragraphs (f) and (g), the $10,000 loss offset allowed in 1985 was, at the taxpayer's election, made up as follows:

Portion of kiwifruit loss	$2,000
Total mussel farming loss	$8,000
Total losses offset in 1985	$10,000

The corresponding losses to be carried forward to the 1986 income year are:

1985 kiwifruit loss carried forward	$14,000
1985 mussel farm loss carried forward	Nil
Total loss carried forward	$14,000

If the taxpayer's kiwifruit venture makes a profit in 1986 of $10,000, the mussel farm suffers a further loss of $8,000, and the viticultural venture, a profit of $25,000, paragraph (h) specifies the following treatment:

1986 kiwifruit profit	$10,000
Less 1985 kiwifruit loss b/f	$14,000
Net Kiwifruit loss		$4,000
1986 Mussel farm loss		$8,000
Total losses		$12,000

Paragraph (h)(ii) specifies that any excess of loss over the 1986 assessable income from kiwifruit (after the 1985 carried forward loss has been offset), is to be treated as a loss incurred in the conduct of that specified activity in the 1986 income year. Applying the provisions of paragraph (f) to this "1986" loss, the total amount of loss able to be offset against viticultural income is limited to $10,000.

1986 viticultural profit		$25,000
"1986" kiwifruit loss	$4,000
1986 Mussel farm loss	$8,000
Total Losses	$12,000
Loss able to be offset (limited by s 188A(7)(f))		$10,000
1986 Assessable Income		$15,000

Remember, the taxpayer may elect as to how the $10,000 offset is comprised in accordance with paragraph (g).

Subsection (8) - Hardship Provisions

This subsection enables the Commissioner to allow, in certain circumstances, the offset of an amount of loss greater than that specified in subsection (7) of this section. It is envisaged that this subsection will be utilised to ease the loss containment provisions for those taxpayers in hardship who are compelled by circumstances to derive income from sources other than their farm in order to maintain either their family or the continued operation of the farm.

Although this subsection applies irrespective of any foregoing subsections in section 188A, it does not provide an exemption for any taxpayer from any of the provisions of section 188A; it merely enables the Commissioner to alleviate the effects of those provisions in certain cases.

This subsection does not apply where the taxpayer conducts the type of "specified activity" covered by paragraph (i) of the definition of that term.

In order that the Commissioner may, in any income year, determine a loss offset limit higher than that set by subsection (7), the following conditions must be satisfied:

• (a) The taxpayer must be engaged, principally and personally, in the conduct of a specified activity on average over the whole year, and that activity is, in the opinion of the Commissioner, the livelihood of the taxpayer or the taxpayer is in the course of establishing it as his livelihood.
  • To satisfy this condition the taxpayer must be personally involved in the conduct of the specified activity throughout the income year except for the time taken to derive income from the activity referred to in paragraph (b) below.
  • To determine whether the conduct of a specified activity constitutes the taxpayer's "livelihood", the taxpayer should conduct that activity to the exclusion of virtually everything else (see explanation of definition of "livelihood", subs (1)).
  • Note again that the specified activity which the taxpayer conducts cannot be a specified activity of the type covered in paragraph (i) of the definition of that term.
• (b) The taxpayer is compelled to derive income from personal exertion, other than from the conduct of the specified activity, by reason of circumstances that arise in the course of and as the result of the conduct of that specified activity.
  • The taxpayer must be compelled to derive income from personal exertion, and that compulsion must arise in the course of, and result from, the conduct of the specified activity. The reasons why a taxpayer may be compelled to derive income are covered in paragraph (c) below.
  • By definition, the activity undertaken in order to derive the income from personal exertion should be of a temporary or short term nature.
• (c) The taxpayer derives that income from personal exertion to enable him to meet expenditure essential either for the maintenance of himself and his dependants, or for the continuance of the specified activity.
• (d) The application of subsection (7) of this section would, in the opinion of the Commissioner, cause hardship to the taxpayer.

In any case where a taxpayer satisfies all the above conditions, the Commissioner may specify that the amount of loss incurred in the conduct of the specified activity that may offset against the income from personal exertion will be higher than that authorised in section 188A(7) (ie $10,000).

It is important to remember that although the Commissioner may increase the offset limit specified in subsection (7), this does not mean that the taxpayer is automatically entitled to an increase in the limit sufficient to allow the full loss to be offset against income from personal exertion (although in some cases this may be deemed appropriate). The loss offset limit of $10,000 can be increased only to the extent necessary to alleviate the hardship based on fair and reasonable grounds.

Subsection (9) - Application of section to balance dates other than 31 March

This subsection contains the standard provisions for relating an accounting year to the 31 March income year, where the taxpayer has a balance date other than 31 March.

Detailed Notes on Section 188B

Section 32 of the Amendment Act also inserts a new section 188B into the principal Act allowing, as a transitional measure, certain taxpayers to defer the extra tax payable as a result of the $10,000 loss limitation measures contained in the new section 188A, and pay it, together with interest, over 3 years.

This transitional measure is designed to provide assistance for those taxpayers, affected by the provisions of section 188A, who might otherwise face liquidity problems. These may arise where the taxpayer had planned to contribute to the future development of his "specified activity" from expected tax deferrals created by the offset against other taxable income of losses in excess of $10,000.

The main points of the new section are set out below.

Determination of Application of Section 188A

The following diagram may assist you in determining whether a particular taxpayer is covered by the provisions of section 188A. It may also assist you in gaining an understanding of how the subsections of section 188A inter-relate.

Subsection (1) - Definitions

The following definitions apply to section 188B only.

"To Conduct"

• This has the same definition as in the new section 188A(1).

"Specified Activity"

• This term has a similar meaning to that given in section 188A(1) but it should be noted that the exclusion of any "specified activity" within the meaning of section 188A(1)(i) means that the transitional measures are not available where the loss results from, for example, the activity of renting properties.

"Specified amount of tax"

• This is an important term which defines what amount of tax may be the subject of the transitional arrangements.
• The amount of tax that is to be subject to the transitional provisions is the difference between the tax that is payable in any "transitional year" as a result of the new section 188A of the Act and the tax that would be payable had section 188A (ie, the limiting of losses to a maximum offset of $10,000) not applied.
• A "specified amount of tax" must be calculated only in respect of "specified activities" that were conducted on 11 October 1982. The transitional provisions are not available in respect of any losses in excess of $10,000 from any "specified activity" commenced after 11 October 1982 even if the losses were incurred within the transitional period.

"Transitional year"

• This term effectively defines the transitional period as the three income years commencing on the first day of April 1983, 1984 and 1985 (or corresponding accounting years).

Subsection (2) - Application

Subsection (2) sets out when the "specified amount of tax" is to be paid and provides that the "specified amount of tax" shall be due and payable in 3 equal instalments on each of the dates on which the taxpayer is required to pay the tax (if any) on the income derived in each of the 3 income years next succeeding that transitional year.

For example

• 1984 return received by 7 September 1984. (The first "transitional year".)
• The year ended 31.3.85 is the income year next succeeding the first transitional year.
• The tax relating to the year ended 31.3.85 is due and payable 7.2.86. (The last date for payment being 7 March 1986.)
• The "specified amount of tax" calculated from the 1984 return (say $9,000) would be due and payable as follows:

7 February 1986 (one-third of $9,000)	$3,000
7 February 1987 (one-third of $9,000)	$3,000
7 February 1988 (one-third of $9,000)	$3,000

The "specified amount of tax" in respect of the 1985 "transitional year" (for which a return should be filed by 7 September 1985 unless an extension of time is granted) would be due and payable in 3 equal annual instalments, the first due on 7 February 1987.

The taxpayer may, of course, pay any instalment at any time up to 7 March in the year in which it is due without incurring a late payment penalty of 10 percent.

Subsections (3) and (4) - Interest

Subsection (3) provides for the calculation of interest on the "specified amount of tax" and subsection (4) provides for its payment conditions.

Under subsection (3) interest is calculated for the period commencing on the day after the day on which terminal tax relating to that year would normally be due (ie, the 7 February following the end of transitional year) and ending on the day each instalment becomes due and payable.

Interest is payable at the rate of 1.25 percent per month for each complete month the instalment of the "specified amount of tax" remains unpaid during this period. In cases of early payment of the "specified amount of tax" the interest payable would be adjusted accordingly.

Subsection (4) provides that the interest is deemed to be income tax for collection (and recovery) purposes and that it is to be due on the same date as the instalment to which it relates. A late payment penalty of 10 percent is charged where it is not paid by the last day for payment (ie, 7 March). Interest does not continue to accrue on the tax not paid by the due date.

For example

• The "specified amount of tax" (say $9,000) is due and payable as follows:

7 February 1986 - one-third of $9,000	$3,000
7 February 1987 - one-third of $9,000	$3,000
7 February 1988 - one-third of $9,000	$3,000
(as described in the earlier example)

• The interest would be due and payable as follows:

7 February 1986	$450
(1.25 percent per month for 12 complete months 8.2.85 - 7.2.86 on 1st instalment of $3,000)
7 February 1987	$900
(1.25 percent per month for 24 complete months 8.2.85 - 7.2.87 on 2nd instalment of $3,000)
7 February 1988	$1,350
(1.25 percent per month for 36 complete months 8.2.85 - 7.2.88 on 3rd instalment of $3,000)

Subsection (5) - Election by Taxpayer

In order to take advantage of the transitional provisions contained in the section a taxpayer must make written application by the last date for filing his return of income. The subsection contains a discretion for applications made after this date and such applications will be accepted where an extension of time for filing the return has been granted. Other later applications will be viewed on their merits but will not be accepted unless it had not been possible to make written application within the prescribed time.

Subsection (6) - Early Payment of Tax and Interest

Subsection (6) provides the Commissioner a discretion to require early payment of the "specified amount of tax" together with the interest thereon in 3 circumstances:

• Where it is believed the taxpayer is about to cease carrying on business in New Zealand, or
• Where a taxpayer has ceased to carry on business in New Zealand or to derive income, or
• Where a taxpayer becomes bankrupt, or (being a company) is in the course of being wound up.

In the first two of those situations the due dates will be amended only where it is evident that a taxpayer has left or is about to leave New Zealand and will not derive business income (within the meaning of section 2 of the Act) from New Zealand following his departure. In these cases an amended assessment will be issued specifying that the tax is due within 1 month.

No action will be taken under this discretionary subsection to amend the due dates where:

• A New Zealand resident disposes of his specified activity before all instalments of tax and interest have been paid.
• A New Zealand resident ceases to derive business income but continues to derive other types of income, eg, salary and wage income.
• A New Zealand resident ceases to derive any income.

The proviso to subsection (6) provides a further discretion in cases where the taxpayer dies during the year. It allows not only for flexibility in determining amended due dates, but also for the variation of the rate of interest to be charged.

In setting new dates for payment, the Commissioner will allow a reasonable time for the affairs of the deceased to be put in order and for probate to be issued, but only in exceptional cases of hardship will any adjustment be allowed to the rate of interest to be charged.

Subsection (7) - Deductibility of Interest

The interest is deemed under subsection (7) to be deductible expenditure (in the year in which it is incurred) of the specified activity to which the "specified amount of tax" is calculated. This will be taken into account in determining any future losses to which section 188A applies.

APPENDIX D

Section 34 - Life Insurance and Reinsurance Companies

1. Introduction

Section 34 repeals three sections of the principal Act, sections 204, 205 and 206 and substitutes a new section 204 (referred to in these notes as the new section), for life insurance and reinsurance companies in respect of the business of life insurance carried on in New Zealand (hereafter referred to as life offices). The repealed sections were a complete tax regime for life offices whereas the new section is not. Other provisions of the Tax Act apply except to the extent that they are amended, modified or varied by the provisions of the new section. Under the former sections the assessable income of a life office was calculated on the basis of the funds allotted by way of reversionary bonuses and dividends paid. In terms of the new section the assessable income is effectively the net investment income including profits on sale of investments derived by the life office.

As premium income is not included in assessable income, costs must be allocated between investment income and premium income. In order, therefore, to ascertain assessable income it is necessary to split expenditure firstly into two main groups:

1. Direct expenditure.
2. Indirect general expenditure.

Direct expenditure is further subdivided into:

1. Direct expenditure exclusively incurred in deriving investment income, referred to in the new section as "direct investment revenue costs",
2. Direct expenditure exclusively incurred in deriving premium income, referred to in the new section as "direct premium revenue costs".

Indirect general expenditure is the balance of expenditure after deducting all direct expenditure. It is further subdivided into:

1. Indirect expenditure incurred in deriving investment income, referred to in the new section as "indirect investment revenue costs".
2. Indirect expenditure incurred in deriving premium income, referred to in the new section as "indirect premium revenue costs".

In brief then the profit derived by a life office is calculated as follows:

Gross investment income tax		xxx
Less direct costs incurred in producing investment income	xxx
Less proportion of indirect costs	xxx	xxx
Assessable Profit		xxx

2. The following are brief notes on the subsections of the new section.

Subsection (1) Definitions

(a) Direct investment revenue costs.

These are costs which can being specifically or exclusively incurred in producing investment income. This category would include the costs of administering the investment division of the life office. However if an employee performs a dual purpose function, such as part of his time being spent in the investment area activity and the balance on non-investment activities, his salary would be treated as indirect general revenue costs and not direct investment revenue costs. This would be the case even where it was possible to estimate the approximate time spent by the employee on each activity. The definition specifically excludes costs for which the company is reimbursed. An example of such costs would be the case of investment linked superannuation policies where the company recoups from the trustees of the superannuation fund, the costs associated with the administration of the schemes investment funds. As explained in the introductory paragraph direct investment revenue costs is one group of expenditure which is allowed as a deduction in calculating assessable income.

(b) Direct premium revenue costs.

These are costs which can be identified as being specifically or exclusively incurred in deriving premium income. The main category of expenditure in this class is commissions paid to agents and other marketing expenses. Included would also be the costs associated with the collection of and servicing of policies. However in the case of an employee performing a dual purpose function as outlined in paragraph (a) above, his salary would be treated as indirect general revenue costs and no part as direct premium revenue costs. As premium income is not included in assessable income, direct premium revenue costs are not allowed as a deduction.

(c) Gross Revenue.

This definition incorporates all sources of income, both taxable and non-taxable, generated by the life office, it includes profits and losses on sale of investments. The main application for the term is to apportion indirect expenditure between taxable and non-taxable income.

(d) Indirect general revenue costs.

This is the balance of expenditure after the deduction of the two classes of direct expenditure. It in turn is apportioned between indirect premium revenue costs and indirect investment revenue costs.

(e) Indirect premium revenue costs.

As explained in the preceding paragraph indirect general revenue costs are split between indirect premium revenue costs and indirect investment revenue costs. The amount of indirect general revenue costs to be allocated to indirect premium revenue costs is according to the formula set out in the new subsection (6).

(f) Indirect investment revenue costs.

The balance of indirect general revenue costs after the deduction of indirect premium revenue costs.

(g) Life insurance fund.

The definition is self-explanatory.

(h) Policy.

The definition is self-explanatory.

(i) Specified mortgage repayment insurance.

The definition is self-explanatory. Investment income generated from this class of policy is not subject to tax.

(j) Superannuation policy.

The definition is self-explanatory. The reason for definition is that some trustees of superannuation schemes arrange to have their schemes managed by life insurance companies. As insurance companies are required by law to transact all their activities through the medium of policies, the companies issue superannuation life insurance policies in respect of the superannuation funds they manage. Furthermore as the income derived by the trustees of superannuation category 1 schemes is exempt from tax, it was necessary to provide that the investment income generated by superannuation life insurance policies in respect of the exempt superannuation life insurance policies in respect of the exempt superannuation category 1 schemes be exempt from tax in the hands of the insurance companies.

Subsections (2) and (3)

The new section applies to any company engaged in the business of issuing life insurance or reinsurance policies upon human lives in New Zealand. This differs from the former section which had the additional requirement that the greater proportion of the life insurance business was to be in the form of policies with reversionary bonuses. There was also restrictions under the former section dealing with the extent that a proprietary company could pay dividends to its shareholders.

Subsection (4)

This deems the Government Insurance Commissioner to be a life insurance company.

Subsection (5)

The effect of this subsection is that other provisions of the principal Act apply except to the extent that they are modified, amended or overridden by the provisions of the new section. For example a life office could claim first year depreciation, export incentives, etc, in respect of its investment income. Likewise the loss carry forward provisions of section 188 and the grouping provisions of section 191 apply.

Subsection (6)

This provides the basis for apportioning indirect general revenue costs. The x / y X z formula provided for in the subsection gives the indirect general revenue costs to be allocated to the non-taxable premium income. The balance of indirect general revenue costs is then allocated to taxable investment income. The x factor in the formula contains the three sources of non-taxable income:

• Life insurance premium income.
• Life reinsurance premium income.
• Annuity considerations.

The Y factor is the gross income from all sources and Z is the total of the indirect general revenue costs.

Subsection (7)

This subsection sets out the method for calculating the profits or losses on sale of investments which now form part of assessable income.

Paragraph (a) deals with investment assets acquired prior to the commencement of the new tax regime year, 1 April 1983. In these cases the profit or loss on sale is calculated as the difference between the selling price of the investment asset and the greater of the cost price or the market value at the end of the 31 March 1983 income year.

Example 1

A life office with a 31 December balance date sells an investment asset on 30 June 1983. The following are the relevant details:

30.9.78 Cost price	$10,000
31.12.82 Market value	$15,000
30.6.83 Selling price	$20,000

As the market value at the end of the 31 March 1983 income year was $15,000 and as this was greater than the cost price of $10,000, the assessable profit is the difference between $20,000 and $15,000, namely $5,000. Had the cost price in this example been $15,000 and the market value $10,000, the resultant assessable income would still be $5,000.

Example II

Same details as in Example I except selling price is less than both cost price and market value.

30.9.78 Cost price	$10,000
31.12.82 Market value	$9,000
30.6.83 Selling price	$8,000

The assessable loss is $2,000, ie, the difference between the selling price $8,000 and the cost price $10,000 (as this is greater than the market value of $9,000). Had the cost price in Example II been $9,000 and the market value $10,000, the loss would still be $2,000.

Paragraph (b) of the subsection sets out the basis of the calculation in respect of investment assets acquired after the commencement of the new tax regime. It follows the usual method of calculating capital profits on sale of assets, namely the profit is the difference between cost price and selling price.

Subsection (8)

In terms of the subsection a life office is deemed to derive profits from the business of life insurance in New Zealand of an amount equal to the balance of:

Total gross revenue excluding premiums and annuity considerations		xxx
Less direct investment revenue costs	xxx
Less indirect investment revenue costs	xxx	xxx
Assessable Profit		xxx

An adjustment in terms of subsection (9) is made to the assessable profit in order to arrive at assessable income.

Subsections (9) and (10)

From the amount of the assessable profit as calculated in accordance with subsection (8) is deducted an adjustment for exempt investment income deemed to be derived from:

1. Specified mortgage repayment insurance premiums.
2. Superannuation policy premiums in respect of superannuation Category 1 Schemes.
3. Annuities.

The calculation of this adjustment is in accordance with the formula a/b x c as set out in subsection (9) -

1. is the amount of the liabilities in the Life Insurance Fund at balance date in respect of the abovementioned policies and annuities
2. is the total amount of all liabilities in the Life Insurance Fund at balance date and
3. is the amount of the assessable profits as calculated in terms of subsection (8).

The reason for exempting investment income deemed to be derived from superannuation Category 1 Scheme policies is because the amended section 61(21) of the principal Act provides exemption for income derived from this source. Some life offices may be in a position to ascertain the actual gross investment income derived from investment linked type superannuation policies. This basis cannot be accepted as there is only one statutory Life Insurance Fund for each life office and it was therefore not possible to provide for these in the legislation.

The Government decision to exempt the investment income derived from annuities in the hands of the life office is to avoid the double taxation, as annuities when paid to annuitants are assessable income in terms of section 65(2) of the principal Act.

Subsection (11)

Contains the usual provisions concerning the matching of the accounting year with the income year for those companies whose balance date is other than 31 March. As most life offices have a 31 December balance date, the new regime will apply to them on and from the financial year commencing on 1 January 1983. However, several companies have a 30 September balance date; they therefore would be subject to the new regime for the financial year commencing 1 October 1983.

Consequential Amendments

Subsection (2) of section 34 provides for minor consequential amendments to the principal Act.

Commencement Date

Subsection (3) provides that the new regime will apply on and form the income year commencing on 1 April 1983.

Guide to the Tax Treatment of Expenditure and Income

The attached addendum to this appendix lists questions with answers on the treatment of expenditure and income for the purposes of the new tax regime.

ADDENDUM TO APPENDIX D

Income
(i)	Question	Are dividends assessable income?
	Answer	Yes. The amendment to section 63 of the principal Act by section 10 of the Income Tax Amendment Act (No 2) 1982 removes the dividend exemption in respect of dividend income derived by a life office.
(ii)	Question	Are section 4(5) distributions tax free in the hands of a life office?
	Answer	These distributions are assessable income as they are part of "the total revenue received or receivable ... from its investments ... "in terms of paragraph (d). However, distributions from share premium accounts would be excluded. of the definition "gross revenue"
(iii)	Question	How are bonus issues of shares treated in the hands of a life office?
	Answer	In the case of a bonus issue derived prior to the commencement of the new tax regime - The assessable income on the realisation of the shares is the difference between the market value of the share immediately prior to the commencement of the new regime year and the selling price. In the case of bonus issues derived subsequent to the commencement of the new regime - The assessable income at the time of realisation of the shares would be the whole of the selling price.
(iv)	Question	What proportion of the profit is assessable on realisation of a property which is partly occupied by the life office and part rented?
	Answer	If the life office occupies an area greater than 60 percent of the total floor area, no part of the profit on sale is assessable. If the life office occupies an area less than 60 percent, the whole of the profit is assessable
(v)	Question	On what basis is income from interest to be returned?
	Answer	On the accrual basis. As loans generate interest income for the whole of the term of the loan, the interest income is derived throughout the accounting period irrespective of the due date for payment of the interest instalments.This means that the amount of interest to be returned under the accrual basis would include interest accruing up to balance since the previous due date for payment.
Expenditure
(vi)	Question	Does the cost price of shares and fixed interest securities include brokerage and stamp duty?
	Answer	Yes. These expenses are part of the capital cost of acquiring the investment asset.
(vii)	Question	What will be the value for depreciation purposes of assets held at the date of change the new tax regime?
	Answer	It will be necessary to calculate a deemed tax book value for existing assets at the beginning of the income year commencing 1 April 1983. This is achieved by taking the original cost price of the asset and reducing it by the amount of depreciation at tax scale rates for each year the asset has been used in the business. First year depreciation, where applicable should be used in the calculation.
(viii)	Question	As profits on sale of investments are taxable, are investments trading stock for the purposes of section 85 of the Tax Act?
	Answer	No. Subsection (7) of the new section 204 sets out the basis of the calculation of the profit or loss on sale of investments. Therefore section 85 and section 104 have no application to investments.
(ix)	Question	What proportion of the profit is assessable on realisation of a property which is partly occupied by the life office and part rented?
	Answer	If an employee is engaged on investment activities es well as servicing policies, can his salary be apportioned between the two activities on the basis of the time factor devoted to each?
(x)	Question	Are all tax concessions end incentives, such as first year depreciation and export incentives available to be claimed by a life office?
	Answer	Yes. In terms of subsection (5), the new section 204 is not a complete tax regime for life offices as the former section 204 was. Other provisions of the principal Act apply except to the extent that they are amended, modified or overridden by the new section 204.

APPENDIX E

Section 37 - Specified Leases

1. Introduction

(a) Background

This section inserts five new sections, 222A-222E, into the principal Act in respect of a new tax regime for financial leases and is consequent on the Budget announcement to treat such leases as loans for tax purposes and to allow depreciation allowances to the lessee rather than the lessor. Basically, taxpayers will be required to apply standard accounting practice in returning income from financial leases for tax purposes.

Because of the complexity of some lease agreements to which this new legislation will apply it has been necessary to spell out in some detail the definition of certain terms and care should be exercised in interpreting the legislation and understanding these notes.

(b) Types of Leases subject to new legislation

Section 37 introduces a new tax regime in respect of a "specified lease" which is a defined term. Any lease which is not a specified lease, will, subject to the new section 222E, continue to be treated for tax purposes as before.

A specified lease is basically a financial lease in accounting terms. However, the definition for tax purposes is not exactly the same in all circumstances and it is quite possible for a taxpayer to treat a lease as an operating lease (ie, not a financial lease) for his own purposes yet have it treated as a specified lease for tax purposes.

A financial lease is in effect no more than a mechanism for the purchase of the asset. The lessee under such a lease uses the asset for most, if not all, of its economic life and carries (or indemnifies the lessor for) all the financial risks and rewards of ownership. The finance lease is merely an alternative method of financing the purchase of the asset. The effect is exactly the same as an outright purchase utilising 100 percent borrowed funds. The lessor essentially makes a loan to the lessee of the cost of the asset and charges interest in a similar manner to that chargeable under a table mortgage. In other words interest is calculated on the outstanding loan at the commencement of each instalment period. The lessee makes repayments of the loan capital and interest in the form of lease rentals over the lease term.

The normal financial leases deal with long term leases of plant and machinery while an operating lease is for a short term. An example of a financial lease would be the lease of a major item of plant and machinery from a bank while the short term hire contracts offered by Hire Pool or Hertz/Avis rental cars are typical operating leases.

2. Application

The new legislation on specified leases applies to any lease entered into on or after 6 august 1982. If the lease agreement was completed and executed by the lessee or lessor prior to that date the current tax treatment will apply to any income or expenditure arising from that lease up until that lease has expired. This means that leases entered into prior to the 1982 Budget will be allowed to run their course under the existing tax treatment.

It should be noted that there is no transitional provision contained in section 37 and consequently all leases "entered into" (which will generally be when the lease agreement is signed, as at all prior times the parties have an opportunity to change the terms of the agreement) on or after 6 August 1982 will be subject to the new tax treatment. For example, an agreement in which the parties had documented all the terms of the lease before 6 August but had not signed it until that date would be subject to the new tax treatment.

3. Section 222A - Interpretation

This section defines many terms for the purpose of this section and the other sections in respect of leasing, ie, sections 222B, 222C, 222D and 222E.

Some of the definitions are self-explanatory but others require some elaboration.

1. "Cost Price" - This definition is crucial to the new tax treatment of specified leases as it enables the determination of the total interest over the lease term and is also the bases for depreciation claims by the lessee. The cost price of an asset subject to a lease is:
   1. The cost of acquisition and installation of the asset to the lessor. This will be the general case as the lessor will be required to purchase the asset in order to lease it in most instances; or
   2. Where the lessor manufactures, assembles or distributes assets and also offers leasing of the same assets as an alternative to outright purchase, the cost price for the lease shall be the normal selling price of the asset that would apply if the lessee had purchased the asset; or
   3. Where the asset subject to the lease has been used by the lessor in the production of assessable income prior the commencement of the lease the cost price shall be the tax book value at the commencement of the lease term.

It should be noted that if (ii) applies, the specified lease is deemed a sale to the lessee for tax purposes and will therefore be a sale of trading stock and any profit arising from that sale will be income to the lessor in the year the asset is first used.Where a lease asset is acquired by the lessor in his capacity as a lessee (ie where the lessor leases the lease asset from one person and leases it to another person) under a specified lease, the cost price to him is the same cost price that applies to the lessor in the head lease.

2. "Initial period" is the period of hire that runs from the start of the lease until the first instalment is payable.
3. "Instalment" is any payment made by the lessor, whether it is payment of interest, capital, or both.
4. "Instalment period" is the period of time between instalments. Note that for the purposes of the definition of outstanding balance the initial period is included in the meaning of instalment period.
5. "Lease" includes any hire or bailment or sublease. It will include therefore a financial lease, an operating lease and a hire purchase contract which involves a lease asset as defined.
6. "Lease Asset" means any personal property other than livestock or bloodstock.The new legislation will therefore not apply to any lease of real property, ie, land and buildings,
7. "Lease payment" includes any payment, whether in cash or kind made by the lessee under the lease.
8. "Lease term" is the time from the commencement of the lease until the expiry of the lease. This is the period of time specified in the lease itself and does not include any period of time for which the lessee may have the option to renew the lease. In cases where the lease is for an indefinite period of time, the lease term is taken as that period of time during which the lessee cannot withdraw from or cancel the lease without incurring a penalty. A common situation is for the lease to be of an indefinite period of time but the lessee may cancel the lease by giving one month's notice of his intention to do so. In this situation the lease term (subject to any penalty) would be one month for the purpose of this section.
9. "Outstanding balance" is basically the amount of principal outstanding in respect of the initial period or any instalment period. It is simply:
   1. The total amount of principal deemed to be advanced as a loan since the commencement of the lease; plus
   2. The total interest payable in respect of all previous instalment periods and the initial period; less
   3. The total amount of previous instalments paid by the lessee (ie comprising principal and/or interest).

10. "Specified Lease" defines the type of lease which is subject to the new tax treatment. A specified lease is any lease where:
    1. There is a guaranteed residual value clause present. A guaranteed residual value is one where the lease states a value, as agreed between the lessor and the lessee, which the lessor is assured or guaranteed to receive for the lease asset on the expiry of the lease term: or
    2. Any lease where the lease term is for more than three years, and
       1. Ownership of the lease asset is transferred to the lessee at the end of the lease term; or
       2. The lessee has the option to buy the lease asset at the end of the lease term at a price which is significantly lower than a fair market value at that time; or
       3. The total lease payments exceed the cost price; or
       4. The lessee is required to pay for all the costs associated with the repair and maintenance of the lease asset: or
    3. Any lease where the ownership of the lease asset is acquired by the lessee subsequent to expiry or interim termination of the lease.

11. Comment
    1. Leases without a guaranteed residual value and a term of less than 3 years may be specified leases provided the economic life of the lease asset is less than 3 years and the lease term is the same as that economic life. The economic life is regarded as the useful life of the asset for normal business purposes.
    2. Subpargaraph (B) of the definition refers to a bargain purchase option. The option price must be one which, at the commencement of the lease, is obviously lower than a reasonable valuation of the asset at the end of the lease term and such that the lessee would be able to purchase the lease asset at only a nominal sum.
    3. Subparagraphs (C) and (D) refer to "a small extent less than" and "or nearly all" respectively. This means that if, for instance, the lease payments are one dollar short of the cost price, and the lease term is in excess of 3 years, the lease is still to be regarded as a specified lease. There is no intention to place a hard and fast rule on these circumstances, but if the lease is one in which there appears to be a deliberate attempt to draft the terms of the lease so that one or other of these two subparagraphs does not apply by virtue of only very small margin the lease is to be considered a specified lease.
    4. Lease assets subsequently acquired by lessee - There is provision to treat a lease as a specified lease if the lease asset is subsequently acquired by the lessee. The provision means that a lease will be a specified lease if:
       • There is a compulsory purchase clause irrespective of the lease term.
       • The lessee subsequently purchases the asset after the lease has expired or the asset is purchased by an associated person.

This provision is basically to ensure that if the lease asset is acquired by the lessee the lease will be treated as a specified lease, ie, it was always intended that the lease was only a means of financing the asset. The effect of this provision is that any hire purchase contract will fall within the definition of a specified lease and the income derived from such contracts for tax purposes will be accounted for as a "receivable" and calculated on a diminishing principal basis or by a commercially accepted method approved by the Commissioner. This will mean that the interest derived on hire purchase contracts will no longer be accepted on the average basis for tax purposes.

12. Section 222A(2)If more than one lease is executed in respect of the same lease asset, and the same lessee (or related person), the leases to run consecutively, the series of leases are to be treated as one lease for tax purposes.
13. Section 222A(3)This is the normal subsection which relates the accounting year to the income year.

4. Section 222B - Effect of Specified Lease

(a) Sections 222B(1) - (4)

This section deems a specified lease to be a sale of the lease asset for tax purposes to the lessee at the commencement of the lease and a resale of the lease asset back to the lessor at the expiry of the lease. The lessor is deemed to have advanced a loan of an amount equal to the cost price to the lessee who in turn is deemed to have applied the loan in respect of the purchase from the lessor and incurred capital expenditure of the same amount.

Section 222B also sets out the basis for determining the deemed resale price of the lease asset to the lessor at the end of the lease term or earlier if the lease is terminated.

The effect of this section is that the tax treatment of a specified lease will be no different from a situation in which the lessee purchased the asset and later sold it. The lessee, provided the asset is used in the production of assessable income, may then claim depreciation allowances and any such allowances allowed will be adjusted, if required on the disposal of the asset. The lessor is expressly excluded from claiming any depreciation allowances.

(b) Lease Asset purchased by Lessee at end of lease under the terms of the lease

These situations are not expected to pose any problems. The lessee merely continues to depreciate the asset at the tax scale rates as there is no deemed sale to the lessor at the end of the lease term. In other words the tax treatment is exactly the same as a deferred purchase, ie, the sale is recognised at the commencement of the lease.

(c) Section 222B(5)

Lease asset reverts to Lessor at end of lease under the term of the lease

The lease asset is deemed to be sold by the lessee to the lessor at an amount equal to the guaranteed residual value (GRV) or in the case of no GRV, an amount equal to zero. This is the preliminary step to establishing the deemed sale price subject to subsection (7) of section 222B.

(d) Section 222B(6) - Termination of lease before the end of the lease term

Section 222B(6) applies to the situation where a specified lease is terminated prior to the expiry of the lease term. In this situation the lease asset is deemed to be sold for an amount equal to the outstanding balance (ie the amount of the loan principal outstanding) less any amount payable by the lessee in consideration for the termination of the lease.

Where the amount payable by the lessee to terminate a lease exceeds the outstanding balance at the time of termination, the lease asset is deemed to be sold to the lessor for no consideration and the excess is assessable income of the lessor in the income year in which the lease is terminated.

(e) Section 222B(7) - Deemed Sale on the Expiry of the Lease

This subsection relates to the normal situation when a specified lease has gone the full lease term and the lease asset has reverted back to the lessor. The deemed sale price to the lessor by the lessee at the end of the lease term under section 222B(5) may be altered by this subsection if the lessor disposes of the asset.

The effect of this subsection is as follows:

1. Where the consideration for the disposal exceeds the amount of the deemed sale under subsection (5), the deemed sale price is increased by the amount of the excess paid to the lessee.
2. Where the consideration for the disposal is less than the deemed sale price under subsection (5), and the lessee is required to make a further payment equal to the difference under a GRV clause, the deemed sale price is reduced by the amount of that payment.
3. If the consideration for disposal exceeds the deemed sale price under subsection (5), any amount of the excess not paid to the lessee is assessable income of the lessor in the income year the lease expires.

The deemed sale price (adjusted if applicable) on the expiry or termination of the special lease is the basis on which any depreciation allowances claimed by the lessee will be adjusted. The example given in the Addendum to this Appendix sets out this procedure.

(f) Section 222B(8) - Purchase and Resale of Lease Asset by Lessee

This subsection is a similar provision to that in section 107 of the principal Act. Where a lessee purchases the lease asset and subsequently sells it for an amount greater than that for which he purchased it, the excess will be assessable income of the lessee in the income year the asset is sold by the lessee. The usual associated persons test also applies.

5. Section 222C - Income of Lessor

(a) Section 222C(1) - Income from specified lease is interest

This new section sets out the income position of a lessor in any specified lease. For the purposes of the Act the income derived from a specified lease is deemed to be interest.

(b) Section 222C(2) - Amount of Interest

The total interest payable is that amount by which the total lease payments exceed the cost price. It does not matter for what purpose the payments under the lease are made or what they are called. For tax purposes the income from the lease is everything in excess of the cost price. (The lessor is excluded from claiming depreciation allowances in respect of the lease asset.)

The total interest is then allocated to each lease payment or instalment. This section allows an option in the calculation of the allocation of interest to each instalment but overall it must be on a diminishing principal basis if the lease payment contains some element of repayment of the loan. Most specified leases will require a repayment of principal and interest in each instalment. Those which have deferred capital payments will be in respect of major capital acquisitions and terms of the lease will be quite explicit on this point.

The options to allocate interest to instalments are:

1. The most common method of calculating interest by lessors is the actuarial (or annuity) method and is the basis of the interest calculation required by this section in the first instance. This method is the one used by financial institutions and the interest is based on the capital outstanding at the time of each instalment. As the loan principal is reduced by repayments so does the interest content of each instalment. This method of calculating interest on a diminishing loan principal basis is similar to that used table mortgage.
2. The Commissioner can approve an alternative method of allocating interest to instalments where that alternative is a method in common commercial usage and it gives a fair and reasonable approximation to the method required in (a) above. At this stage the only alternative method approved is the use of the Rule of 78. This alternative method is only approved when the lease meets the following criteria:
   1. The lease term is 5 years or less.
   2. All the instalments are of an equal amount other than the final instalment which must be within 5 percent of all other instalments.
   3. All instalments are payable on a regular basis, i e, weekly, monthly, six monthly, etc.

Once the interest has been allocated to the initial or any instalment period it is deemed to be derived in the income year in which that initial period or instalment period ends. This means that the income in any income year is the interest in respect of the instalments payable in the same income year.

6. Section 222D - Deduction to Lessee

The lessee is only allowed a deduction in respect of expenditure incurred pursuant to the lease to the extent of the interest content allocated to the instalments which are payable by him in the income year. If the lessor and lessee operate different balance dates it is possible that in any particular tax year the interest returned by the lessor as income will be different from that claimed as a deduction by the lessee. This arises because there may be:

1. A different number of instalments in the particular income year of the lessor as opposed to the lessee.
2. A different method of allocating interest to instalments.

The lessee may choose to use a method of allocating interest to instalments, different to that used by the lessor, ie, he may use a method approved by the Commissioner such as the "Rule of 78". This is in fact the principal reason for allowing an option as most lessees, while they know the total interest being paid over the lease term, may not have access to the expertise required to calculate interest under the actuarial method. The rule of 78 offers a simple and reasonable alternative. Those leases where the "Rule of 78" is not appropriate will be those involving larger sums of money and where the lessee has the expertise to allocate on the actuarial basis or in fact knows in advance how each lease payment is structured on that basis.

7. Section 222E - Non-Specified Leases

This section overrides section 104 of the principal Act in that, irrespective of when the lessee incurs the expenditure in relation to a lease (which is not a specified lease), the expenditure shall be deemed to apply to the whole lease term and shall be deemed to be incurred during the lease term in accordance with the following formula:

(a / b) x c

Where -
a	is that part of the lease term that falls within the income year
b	is the lease term
c	is the total lease payments in respect of the lease

For administrative purposes the Department will not always insist on the calculation being made on an exact basis calculated in days. It will be sufficient in leases with regular instalments of the same amount that (a) and (b) reflect the number of instalments in the income year and the total number of instalments respectively.

This new section applies to all leases of personal property (including livestock or bloodstock) but not to leases of real property).

8. Consequential Amendments

This section also consequentially amends section 118 of the principal Act which details the general provisions relating investment allowances.

Subsection (2) repeals the definition of the term "residual value" in section 118, which is no longer required. This term was previously only referred to in the definition of "qualifying lease" but as a result of changes made to that definition (see subsection (3) below), the term is no longer needed.

Subsection (3) amends the definition of the term "qualifying lease" in section 118, to refer to any specified lease (as defined in section 222A).

These changes apply to every lease entered into on or after 6 August 1982. However, by virtue of subsection (5), the old definition of "qualifying lease" will satisfy the requirements of claims for the regional, export and fishing investment allowances where the lease comes within the transitional provisions contained in sections 19, 20 and 21 of this Amendment. It should be noted that this relaxation only applies for the purposes of these investment allowance claims, but does not affect the tax treatment to be given to the lease itself.

ADDENDUM

Example of Specified Lease

Data

"A" (lessee) leases a computer from "B" (lessor).

Cost price $1,100,000; installation costs $100,507.65

Lease term is 5 years with guaranteed residual value (GRV) of $200,000.

The lease provides for 10 six-monthly rental payments of $191,801.48

Calculations (using Actuarial Method)

Instalment	Capital *1	Interest *1	Depreciation *2	Book Value
1	59,800.69	132,000.79
2	66,888.20	124,913.28	300,126.95	900,380.70
3	73,681.96	118,119.52
4	81,786.58	l10,014.90	180,076.14	720,304.56
5	90,782.66	101,018.82
6	100,768.68	91,032.80	144,060.91	576,243.65
7	111,853.32	79,948.16
8	124,157.14	67,644.34	115,248.73	460,994.92
9	137,814.27	53,987.21
10	152,974.15	38,827.33	92,198.98	368,795.94
	$1,000,507.65	917,507.15
GRV	200,000.00
Cost Price	$1,200,507.65

Notes

1. The apportionments between capital and interest have been calculated using actuarial tables.
2. Depreciation on the computer has been claimed at maximum tax rates of 25 percent (first year) and 20 percent diminishing value thereafter. Annual depreciation claims are shown. Most items of plant would only qualify for 10 percent DV in Year 2 onwards.

Using the above information, the tax treatment to be applied in several situations is shown overleaf. The following examples are based on the actuarial method of allocating interest to instalments.

1. Lease asset sold at end of lease term for $500,000
   1. If none of the sale proceeds are returned to the lessee the deemed sale price under section 222B(5)(a) is $200,000 (the guaranteed residual value) and:
      • The lessor is assessed on $300,000 (being the sale price of $500,000 less the GRV of $200,000) in the year in which the lease expires.
      • The lessee is allowed a loss on sale of $168,795.94 (ie closing book value ($368,795.94) less GRV ($200,000)).
   2. The normal situation would be the return of $300,000 from the sale proceeds by the lessor to the lessee.The deemed sale price in this case is:

	$200,000 - section 222B(5)(a)
Plus	$300,000 - section 222B(7)(a)
	$500,000

There is no effect on the lessor but the lessee will be subject to recovery of depreciation allowances of $131,204.06 ($500,000 deemed sale price less closing book value of $368,795.94) under the provisions of section 117.

Lease terminated and asset sold for $500,000

If we assume the lease was cancelled after instalment 7, the lessee paying a penalty of $210,000, section 222B(6) applies. The deemed sale price to the lessor is:

Cost Price	$1,200,507.65
Less capital repayments	(585,562.09)	(instalments 1 to 7)
Less payment to cancel	(210,000.00)
	$404,945.51

The lessee would be allowed a loss on sale of $171,298.14. (Book value at time of termination $576,243.65 less deemed sale price $404,945.51).

The lessor on the sale of the asset for $500,000 would be assessable on $95,054.49 ($500,000 received less the deemed sale price of $404,945.51) under section 65(2)(a) as profits arising from the business of lending.

Lease terminated and asset sold to the lessee

Using the same information as in (b) above, if the lease asset was sold to the lessee the same procedures will apply as set out in (a) above. The cost price for tax purposes to the lessee after the purchase will be the purchase price.

APPENDIX F

Section 38 - Film Owners

This section inserts three new sections which set out the tax treatment to be applied to owners of films. These are as follows:

Section 224A - Costs of Acquiring Any Film or Any Right in Any Film

Subsection (1) - Definitions

"Broadcaster" means a person who operates a television station or network or a cable television system. It is designed to cover TVNZ and any other person who is in the business of television broadcasting.

"Completed", in relation to a film, means that the film has been completed to the double head finecut stage of production (as defined in this subsection) or equivalent production stage.

"Copyright" is defined simply for the purposes of clarifying the definition of the term "right". For the purposes of this section, the expression "copyright", in relation to any film, is defined as including all rights and choses in action in, or in relation to:

• the film,
• the prints of the film,
• publicity material in relation to the film,
• all other tangible assets in relation to the film.

"Cost of Acquisition" - This expression is used throughout the section for references to the amount paid by the owner of a film to enable that person to become possessed of that film or any rights therein. It means:

1. In the case of an owner who invested in the actual production of the film, that person's share of that cost of production.
2. In the case of an owner who purchased the film or the right in a film, the purchase price.

"Cost of Production" is defined for the purposes of the definition of the expression "cost of acquisition". It means the total costs involved in producing the film, whether incurred before or after the completion of the film. This means that all pre-production and production costs are included, together with those post-production costs which are related to the actual production of the film (as opposed to those associated with marketing the film). This would include such post-production costs as:

• Taking the film from the double head finecut stage to the stage where it is ready for distribution to cinemas.
• Costs of converting the film from 18mm gauge to 35mm.
• Costs of adapting the film for overseas exhibition, such as dubbing or cutting. (These cannot be said to be marketing costs. Although it would be difficult to market the film without changes being made, the costs are in fact costs of production of the film for its exhibition in a specific market, not costs of selling to that market.)

Costs directly associated with marketing or selling the film do not come within the definition. These costs are allowable in the year incurred in terms of the general legislation.

"Depreciation Loss" means the amount of depreciation which would have been allowable as a deduction in a particular year had section 108 of the principal Act applied in respect of the assets used in the production of the film. The amount of the depreciation loss to be included in the accumulated cost of production figure (which will be spread upon the completion of the film) is the sum of the amounts of depreciation which would have been allowable in the years up to and including the year of completion had a current year deduction for depreciation been allowable in each of those years.

"Double Head Finecut Stage of Production" means the stage of production where the film has been completely edited, shot by shot, to its final length.

"Feature Film" means a film produced for, primarily and principally, exhibition in a cinema being a film which:

• is to be exhibited in a cinema in 35 millimetre gauge, and
• will have a continuous running time of not less than 75 minutes when exhibited in a cinema.

It does not include films made primarily and principally for television broadcast.

"Film" means a cinematograph film; and includes a videotape, any other material record of visual moving images that is capable of being used for the subsequent projection of those images in a fixed sequence on to any screen; and also includes any copy of the whole or any part of that film; but does not include:

1. an advertising film or a commercial;
2. a film which the Commissioner determines commenced on or before the 5th of August 1982.

This definition is designed to cover all films, including animated films, films of sporting events, documentaries, etc, and also includes videotapes, video cassettes and discs, audio-visual presentations and other similar property.

"Film Expenditure" means expenditure of a revenue nature which is allowable as a deduction under the general provisions of the principal Act; and includes any loss allowable under section 104 and any depreciation loss as defined in this section.

"Film Owner" is the person who owns the film or any rights to the film.

"Residual Value" means the total costs of acquiring a film which have been incurred at any time prior to the end of the income year, reduced by the amounts of the cost of acquisition of that film which have been written off in previous years.

The following example shows how the residual value is calculated.

Year Ending	Production Costs for Year	Total Production Costs to Date	Amount Claimed in previous Year	Residual Value
31.3.83	$ 600,000	$ 600,000	-	$ 600,000
31.3.84	$1,800,000	$2,400,000	-	$2,400,000
31.3.85	$600,000	$3,000,000	$400,000	$2,600,000
31.3.86	-	$3,000,000	$1,560,000	$l,040,000
31.3.87	-	$3,000,000	$1,040,000	-

(Note: This example assumes the film was a feature film which was completed in December 1983.)

"Right" in relation to any film, means any copyright (as defined in this section) and any licence in respect thereof and any other right which subsists in or attaches to the film (including any right to income from the film) and includes any equitable right. This means that the definition covers all rights associated with a film.

"Specified Deduction" sets out the formula for calculating the amount of the deduction for the cost of producing or purchasing a feature film (or purchasing a right in a feature film) which may be claimed as a deduction in any particular year. The formula, which gives effect to the 24 month write off allowed under subsection (5), is:

(X / Y) x Z

Where -
X	is, in the case of a film which was completed during the income year, the number of complete months in that income year from and including the month in which the film was completed. Where the film was completed in a year preceding the income year under consideration, X is the number of complete months in that income year.
Y	is 24 reduced by the number of complete months in the period commencing on the first day of the month in which the film was completed, and ending on the last day of the preceding income year.
Z	is the amount of the residual value.

For example, if we use the figures contained in the example given in the commentary on the definition of residual value, the specified deduction calculations are as follows:

Year ending 31.3.84
X		=	sum of the months of December (month of completion of the film) January, February and March - ie, 4 complete months.
Y		=	24 (Film was completed during the current income year so there is no reduction in this figure.)
Z		=	$2,400,000 (Residual value for this year).
Therefore, the specified deduction for the year ending 31.3.84 is:
4	x	$2,400,000	= $400,000
24		1
Year ending 31.3.85
X		=	Full 12 month period, ie, 12 complete months.
Y		=	24 reduced by the 4 complete months which expired in the previous year between 1.12.83 and 31.3.84, ie Y = 20.
Z		=	$2,600,000 (Residual value for this year).
Therefore the specified deduction for the year ending 31.3.85 is:
12	x	$2,600,000	= $1,560,000
20		1
Year ending 31.3.86
X		=	12 (number of complete months in the year)
Y		=	24 reduced by 16 complete months which expired in the previous years between 1.12.83 and 31.3.85, ie, Y = 8
Z		=	$1,040,000
The specified deduction for the year ending 31.3.86 is:
12	x	$1,040,000	= $1,560,000
8		1
(Note: The actual deduction allowable for this year is limited to the residual value of $1,040,000 in terms of subsection (5) of this section.)

It should also be noted that the calculations in X and Y are based on complete months. This means that if, in the above example, the film production business had a balance date of 20 March, then the calculations for each year would be as follows:

Year ending	Specified Deduction Calculation
20.3.84	3	x	$2,400,000	=	$300,000
	24		1
20.3.85	12	x	$2,700,000	=	$1,542,857
	21		1
20.3.86	Claim Residual Value of $1,157,143

Subsection (2)

Provides that the allowance of a deduction for the cost of producing a film, or the cost of acquiring a film or any right in a film, is governed by the provisions of this section and (apart from section 106A) where there is any conflict between this section and any other section of the Act, the provisions of this section take precedence.

When considering the effect of this subsection, it is important to note that subsection (3) restricts the application of the section to film owners (as defined) and that the provisions of subsection (2) will apply to those persons only. For example, subsection (3) does not include a person who produces a film as a service for another and never obtains ownership of any right in that film. For this reason the cost of producing that film, to the extent that it is incurred by that person, does not come within the provisions of subsection (2). On the other hand, the person for whom that film is being produced (the film owner) would be a person to whom subsection (3) applies and accordingly the cost of production incurred by that person would come within the provisions of subsection (2).

The proviso to subsection (2) excludes broadcasters (as defined) from the provisions of subsection (2) in respect of the cost of producing a film, or acquiring a film or any right therein, where the film was produced or acquired primarily and principally to enable that broadcaster to broadcast that film in New Zealand. This exclusion does not apply to films produced or acquired with the dual intention of broadcast in New Zealand and sale overseas; nor does it apply to films produced for cinema release which are also broadcast on New Zealand television. To come within the proviso, any intention other than to broadcast the film on television in New Zealand must be of a minor and supplementary nature.

Those films which do come within the proviso are not covered by subsection (2). The costs of producing or acquiring such films fall to be considered under the general legislation.

Subsection (3)

Sets out the films and film owners to which the section applies. It provides that the section shall apply in relation to any film, and to any film owner who:

1. becomes a film owner by reason of being the person who first owns a right in the film and who, before owning that right, incurred expenditure directly in the production of that film, or
2. being a film owner other than one referred to in paragraph (a) above, incurs expenditure in purchasing or otherwise acquiring a film or a right in that film.

This means, in effect, that the section applies to any person who, whether through direct contribution towards production or through any other means of acquisition, becomes the owner of a film or any right in a film.

The proviso excludes broadcasters from the provisions of the section in relation to the costs of acquiring or producing any film (or any right therein) to which the proviso to subsection (2) of this section applies.

Subsection (4)

Simply prevents a taxpayer from claiming a double deduction for expenditure to which this section applies. It provides that where a film owner incurs expenditure which is either allowable as a deduction under this section or in respect of which depreciation loss is allowable, no further deduction may be claimed under any of the other provisions of the Act (including the investment allowance provisions) in respect of that expenditure.

Subsection (5)

Governs the allowance of a deduction for the cost of producing or acquiring any feature film or any right in any feature film. It provides that no deduction may be allowed until the year in which the film is completed (as defined). Costs incurred up to that date are accumulated and the total allowed rateably over the 24 month period commencing with the month in which the film was completed. The amount allowable in the year of completion and subsequent years is calculated on the basis of the formula contained in the definition of specified deduction, but is limited to the amount of the specified deduction for that income year or the residual value in relation to that income year.

An example of how subsection (5) will operate in practice is set out below:

Year ending 31 March 1983
Cost of production						$600,000
Allowable Deduction
None of this amount is allowable as a deduction in this year because the film was not completed prior to the end of the year.
Year ending 31 March 1984
Costs of production incurred during the year						$1,800,000
Marketing costs incurred during the year						$ 150,000
Film completed (double head finecut) on 14 December 1983.
(Accumulated production costs to date ie, residual value $2,400,000)
Allowable Deduction
Production Costs		4	x	$2,400,000	=	$400,000
		24		1
Add marketing costs incurred during year						$150,000
	Allowable as a deduction					$550,000
Year ending 31 March 1985
Cost of production incurred during the year						$600,000
Marketing costs incurred during the year						$100,000
(Accumulated production costs not yet written off ie, residual value - $2,600,000.)
Allowable Deduction
Production Costs		12	x	$2,600,000	=	$1,560,000
		20		1
Add marketing costs incurred during year						$150,000
	Allowable as a deduction					$1,710,000
Year ending 31 March 1986
Cost of production incurred during the year						Nil
Marketing costs incurred during the year						$70,000
(Accumulated production costs not yet written off ie. residual value - $1,040,000)
Allowable Deduction
LESSER OF:
Specified Deduction of		12	x	$1,040,000	=	$1,560,000
		8		1
OR
Residual Value of $1,040,000
Production costs allowable as a deduction						$1,040,000
Add marketing costs incurred during the year						$70,000
	Allowable as a deduction					$1,110,000

For 1987 and future years, costs are allowable as incurred.

The proviso permits a higher portion of costs to be written off in any year where the income derived from the film (or any right in the film) in that year exceeds the specified deduction which would otherwise be allowable. Where such an excess occurs, this proviso increases the amount allowable as a deduction in that year to the lesser of:

• the residual value of that film (or any right in that film) in relation to that year, and
• income derived from the sale, use, rental or other exploitation of that film (or any right in that film) during that year.

In practical terms this means that if, in the example outlined above, the film earned $2.5 million in the year ending 31 March 1984 and $200,000 in the year ending 31 March 1985, the amounts allowable as a deduction in each of those years would be as follows:

Year ending 31 March 1984

Accumulated production costs to 31 March 1984	$2,400,000
Marketing costs for year	$150,000

Film completed (double head finecut) on 14 December 1983.

Specified deduction is $400,000

Allowable Deduction

As the income from the film exceeds the specified deduction, the amount allowable as a deduction is the lesser of:

• the residual value - $2,400,000
• the income from the film - $2,500,000

Production Costs allowable as a deduction	$2,400,000
Add marketing costs	$150,000
Total Allowable Deduction	$2,550,000

Year ending 31 March 1985

Cost of production incurred during the year	$600,000
Marketing costs incurred during the year	$100,000

Allowable Deduction

Specified Deduction (12 / 20) x ($600,000 / 1) = $360,000

As the income from the film ($200,000) is less than the specified deduction, the allowable deduction for the year is:

Production Costs (specified deduction)	$360,000
Marketing Costs	$100,000
Total Allowable Deduction	$460,000

Year ending 31 March 1986

The balance of production costs (residual value) of $240,000 plus marketing costs of $70,000 give a total allowable deduction for this year of $310,000.

Subsection (6)

Governs the allowance of a deduction for the cost of producing or acquiring a film other than a feature film or any right in a film other than a feature film. It provides that no deduction may be allowed until the year in which the film is completed (as defined). Costs incurred up to that date are accumulated and the total allowed over a two year period, 50 percent in the income year in which the film is completed and the balance in the following year.

The proviso permits more than 50 percent of the costs to be written off in the year of completion (or acquisition) where the income from the film (or from any right therein) which was derived in that year exceeds that 50 percent deduction which would otherwise be allowable under this subsection. Where such an excess occurs, this proviso increases the amount allowable as a deduction in that year to the lesser of:

• the total cost of acquisition which was incurred by the taxpayer prior to the end of that income year; or
• the income from the sale, use, rental or other exploitation of that film (or that right) which was derived during that income year.

Any portion of the cost of acquisition which is not allowed in the year of completion of the film (or year of acquisition) is allowable in the following year. The maximum allowable for the two income years is, of course, the total cost of acquisition incurred prior to the end of the income year following the year of completion of the film (or, as the case may be, the total cost of acquisition incurred prior to the end of the income year following the year of acquisition).

Subsection (7)

Provides that where a taxpayer (who is a film owner) sells or, by any other means or because of any other circumstances, ceases to own a film and/or every right in a film, the balance of the cost of acquisition which has not previously been allowed as a deduction may be claimed in the year in which the taxpayer ceases to own that film or those rights.

It is important to note that the taxpayer must dispose of all rights in the film which are in his possession before the deduction is allowable under this section. If, for example, the owner of three distinct rights in the film sold the two most valuable rights and retained one right which was of only minor importance, subsection (7) could not be applied. Similarly, if a person owned a right in a film at the commencement of the year, sold it during the year, and later in that same year purchased a further right in that film, the balance of the cost of acquisition of that right which was sold during the year could not be written off under this subsection. The cost of acquisition of each right would have to be considered under subsection (5) or subsection (6) because the taxpayer, at the end of the year, had not ceased to own every right which was in his possession at any time during that income year as required by subsection (7).

Subsection (8)

Sets out the basis on which a deduction is allowable for deferred fees and similar types of expenditure. It provides that where, in relation to a person who invests in the production of a film:

• an amount (referred to as the "specified amount") is contributed by the taxpayer or is contingently liable to be contributed in payment towards the cost of producing that film; and
• all or any of that specified amount relates to the provision of goods or the supply of services; and
• the liability for payment of the cost of those goods or services has, in terms of an agreement entered into between the supplier and any other person, been deferred; and
• the period between the time of the provision of those services or the supply of those goods and the time of the payment of the cost thereof is, in the opinion of the Commissioner, excessive, or the liability for payment of that cost is dependent on a contingency,

The expenditure in the acquiring of those services or those goods shall be deemed to be incurred at the time or times of the making of that payment or those payments.

This means that deferred fees, and other costs of producing a film for which payment is deferred beyond the period in which it would, in accordance with normal commercial practice, normally have been payable, are not allowable as a deduction until the year in which payment is made.

Subsection (9)

Provides that where, in relation to any taxpayer who invests in the production of a film, the Commissioner is satisfied, having regard to the relationship between the film owner and the person who supplies goods or services which are used in the production of the film (or to any other relevant circumstances) that:

1. the film owner and the supplier were not dealing with each other at arm's length, and
2. the expenditure incurred by the owner exceeds the amount which would have been incurred had the film owner and the supplier dealt with each other on an arm's length basis,

then the amount allowable as a deduction will be limited to the amount which the Commissioner considers might have been expected to have been incurred if the film owner and the supplier had dealt with each other at arm's length.

Effectively, this subsection prevents arrangements from being entered into for the purposes of artificially inflating the cost of producing a film. It limits the amount allowable as a deduction to that which would be expected to have been paid in a normal commercial negotiation entered into between parties acting on an arm's length basis.

Subsection (10)

Enables the Commissioner to determine the depreciation to be recovered where the asset on which the deduction was allowed is either sold or transferred to another activity. The normal rules for recovery of depreciation will be applied.

Subsection (11)

Provides that where, in relation to any taxpayer who acquires a film or any right in a film, -

1. the Commissioner is satisfied, having regard to the relationship between the taxpayer and the person from whom the film or right was purchased, that the taxpayer and that person were not dealing with each other at arm's length (in relation to the purchase); and
2. the expenditure incurred by the taxpayer in the purchase of the film or the right:
   1. exceeds the cost to the previous owner; or
   2. does not exceed the cost to the previous owner but exceeds the value of the film or the right at the time of purchase by the taxpayer,
   the cost to the taxpayer for the purposes of this section shall be deemed to be the lesser of the cost to the previous owner or the value at the time of purchase by the taxpayer.The proviso simply provides that because the provisions of this subsection also apply where a share in a film or a share in a right is purchased, the Commissioner shall determine the cost of that share or, where appropriate, the value of that share.The subsection is designed to prohibit arrangements from being entered into to artificially inflate the tax deduction which may be claimed for the cost of purchasing a film or any right in a film. It is an anti-avoidance provision which will be applied only where the Commissioner is satisfied that the parties were not dealing with each other on an arm's length basis. It cannot be applied to sales entered into on a normal commercial basis.

Subsection (12)

Provides that where a film or any right in a film is purchased together with other property and the purchase price is not apportioned, the Commissioner has the power to determine the amount of that purchase price which relates to the cost of the film or the right. In practice, any reasonable basis of apportionment which fairly reflects the separate values of each item of property will be accepted.

Subsection (13)

Is a general anti-avoidance provision which gives the Commissioner power to disallow any excess deduction where he is satisfied that arrangements have been made between the taxpayer claiming the deduction and another person to give an unfair advantage under the section.

Subsection (14)

Provides that this section shall apply subject to section 106A of this Act (as inserted by section 15 of this Amendment Act). This means that adjustments required under section 106A must be made before the allowance of any deduction under this section.

Subsection (15)

Provides that every reference in this section to an income year shall be deemed to be a reference to the taxpayer's accounting year.

Section 224B - Income derived from films

Subsection (1) - Definitions

"Film" means a cinematograph film; and includes a videotape, and any other material record of visual moving images that is capable of being used for the subsequent projection of those images in a fixed sequence on to any screen; and also includes any part, or any copy or part of a copy of the whole or any part of a film; and also includes any right therein. Unlike the definition in section 224A, this definition does not exclude advertising films or films which commenced before August 1982. It should also be noted that this definition includes any right in a film.

"Film owner" means the person who owns the film.

"Income from a film" means any income derived by the film owner from the sale, use, rental or other exploitation of the film; and includes -

1. any amount received or receivable by the film owner for the use of, or the right to use, the film or any right therein; and
2. any amount received or receivable by the film owner for the granting of any licence in respect of any future right in the film; and
3. any amount received or receivable by the film owner in respect of the -
   • disposal of, or
   • assignment of, or
   • assignment of any right to derive income from the use of any right or any interest in any right in the film.

The definition is designed to cover all income from the sale, use, rental or other exploitation of the film or any right in the film (the right being covered by reason of its inclusion in the definition of "film" for the purposes of this section). If it is found that the definition does not cover a particular source of income, or if any strong doubts exist, the matter should be referred to the Regional Controller.

"Right" means a right as defined in section 224A.

Subsection (2)

Provides that the assessable income of a film owner includes all income from a film derived by him in that income year. The purpose of this section is simply to make it quite clear that all income derived from films or rights in any film is assessable income.

Section 224C - Determination as to Whether a Film Commenced on or Before 5 August 1982

The new sections 106A and 224A apply to films which commenced on or after 5 August 1982, with films which commenced on or before 5 August being considered under the previous legislation. This section sets out the criteria which is to be used by the Commissioner when he determines whether or not a film commenced prior to 6 August 1982.

Subsection (1) requires the Commissioner to determine whether a film commenced on or before 5 August 1982. Many producers of films have already written to the Commissioner for such determination, but it should be noted that written applications and approvals are not required by the section. While it is advisable, on the grounds of certainty, for a producer to obtain written approval, in many cases it will be quite clear that the conditions of subsection (2) have been met and the determination required under the section can be made when the return of income for the film production business is furnished.

Subsection (2) declares that (without limiting the generality of subsection (1)) the Commissioner shall not make a determination that a film commenced on or before 5 August 1982 unless he is satisfied that:

• the film had, on or before that date, proceeded beyond the investigatory stages, and
• a firm commitment to make the film either wholly or partially in New Zealand was clearly evident on or before that date.

Subsection (3) places a terminating date on the approval. It provides that where a film has been confirmed as having commenced on or before 5 August 1982, but that film has not been completed on or before:

• 30 September 1984; or
• such later date as, in the opinion of the Commissioner, is the date before which the film could not reasonably have been expected to have been completed, notwithstanding that the making of the film has st all times proceeded with expedition and is continuing to so proceed,

the film shall be deemed for the purposes of section 106A and 224A not to have commenced on or before 5 August 1982.