The New Zealand Offshore Trust Regime

Policy

Although New Zealand is in general a high tax country, it is host to a thriving offshore trust industry established after an amendment to the income tax legislation in 1987. The successor to this amendment is section HC 26 (1) of the Income Tax Act, 2007, which reads: 

A foreign-sourced amount that a New Zealand resident trustee derives in an income year is exempt income…if–

1. a) no settlor of the trust is at any time in the income year a New Zealand resident who is not a transitional resident²;and
2. (b) …. That is, where foreigners (or ‘non-residents’) settle income-producing property on New Zealand-resident trustees, New Zealand does not tax the income in the hands of the trustees so long as that income has a foreign source. Such trusts may be called ‘offshore trusts’. Paragraph (b) contains certain exceptions, but they relate to people with New Zealand connections, not settlors who are never resident in New Zealand. As is evident from its explicit language, section HC 26(1) is not a quirk or a mistake. Rather, it reflects fiscal policy, namely, New Zealand’s view that if a foreigner entrusts property to New Zealand trustees to administer that is no sufficient reason for New Zealand to tax the income of that property. Similarly, the fact that a trustee is the legal owner of income is not by itself a reason to tax that income. Legal ownership is simply the form of the trustee’s controlling interest. It does not represent the substance of the position and therefore should not be decisive as to assessability³.On the other hand, where the settlor or beneficiary is resident in New Zealand, or where the income has a New Zealand source, New Zealand will seek to tax the income, and will tax it in the hands of the trustee if that is the most practical approach.

Trust and Trustee Law in New Zealand

Trust law in New Zealand does not vary significantly from trust law in most common law countries⁴.  The Trustee Act 1956 codifies and governs the duties of trustees, but it contains no surprises and trust deeds may opt out of rules that are onerous or impractical. Broadly speaking, so long as the deed embodies the three certainties for the creation of a trust to the standard required by the common law⁵, a trust, including an offshore trust, may be almost infinitely flexible. 

In principle, any individual of full capacity or any corporation with the requisite power in its constitution may be appointed as a trustee. In practice, trustees of the offshore trusts that are the subject of this article are often companies established to provide trustee services on a general basis or companies incorporated to act as trustees of single trusts. So long as a company is incorporated in New Zealand it is by definition resident in New Zealand for tax purposes⁶, whether directors or shareholders are resident in New Zealand or not. Sometimes, shareholders are charities that are organised for the purpose. Trustees may also be trustee companies registered under the Trustee Companies Act 1967. These companies have a monopoly of certain trustee work, but not of work for ordinary private trusts. Individuals, usually but not necessarily professionally qualified, may also be appointed. 

Flexibility should not be confused with licence. As in all jurisdictions, the law requires trustees to observe high standards of conduct.

Registration Requirements of the New Zealand Exemption

Private trusts are not subject to registration requirements qua trusts, though where they derive taxable income they must file returns. However, offshore trusts, the subject of this article, have had to meet certain formal and reporting requirements since 1 October 2006 whether they derive taxable income or not. The genesis of the changes is thought to have been pressure from the Australian Government, which was concerned about Australian taxpayers using the New Zealand foreign trust regime to avoid or evade Australian income tax. ⁷

Omitting certain details, there are two core elements in the post-2006 regime. First, resident trustees of foreign trusts must disclose “The name or other identifying particulars (for example, the date of settlement of the trust) that relate to the foreign trust”⁸to the Commissioner of Inland Revenue, and “The name and contact particulars of the resident foreign trustees”,⁹ together with relevant details if the trustee claims to be a “qualifying resident foreign trustee”,¹⁰ a status that is discussed below. More significantly, the trustees must also tell the Commissioner whether the settlor is a resident of Australia.¹¹ This rule lays a foundation for exchange of information pursuant to the New Zealand/Australia Convention for the Avoidance of Double Taxation 1995, Article 26.

Record Keeping

Secondly, trustees must keep records sufficient to calculate the trust’s income, together with records of distributions.¹²  To paraphrase the legislation, the records in question include the trust deed, particulars of settlements and distributions, records of assets and liabilities and receipts and expenses, and, where the trust carries on business, charts, codes, manuals and other documentation that describes the trust’s accounting system.¹³ The Inland Revenue Department explains what may happen to these records:¹⁴

The records required to be maintained must be provided to Inland Revenue if requested. Such requests may be made periodically in respect of foreign trusts that have an Australian-resident settlor, and on a case-by-case basis if a valid request for information is received from another country with which New Zealand has a DTA.

[The Department adds: “Inland Revenue will not entertain general “fishing expeditions” from tax treaty partners for information on foreign trusts, or satisfy requests for information from countries that do not have a DTA or a tax information exchange agreement with New Zealand”.]…¹⁵

Inland Revenue will provide the Australian Taxation Office with information relating to foreign trusts that have a resident foreign trustee and an Australian-resident settlor on a regular basis…Australia is the only country to which New Zealand is proposing to provide information on that basis. 

The words “case-by-case” and “valid request”, together with the deprecation of requests for fishing expeditions no doubt afford considerable comfort to trustees. Except in respect of Australia, unless the tax authorities of another country know the name of the New Zealand trustee in whom they are interested, and can identify the trust in question, it seems improbable that they will obtain information about New Zealand resident trusts. 

In addition to record keeping for tax purposes, trustees must comply with New Zealand’s anti-money laundering rules, most of which are in the Financial Transactions Reporting Act 1996. The rules are similar to those of most western countries.

Categories of Trustees

For purposes of enforcement, the act divides trustees into two categories: 

• “qualifying resident foreign trustees”, meaning, essentially, trustees who are  professionals; and
• others, who may be called “lay trustees”. 

In “qualifying resident foreign trustee”, the word “foreign” refers to the nature of the trust, not to the provenance of the trustee. Thus, such a person is a resident of New Zealand and is a trustee of a foreign trust, that is, broadly, a trust established by a foreign settlor that derives foreign-source income. The word “qualifying” distinguishes such a trustee from the hoi polloi of fiduciaries. One “qualifies” by being a member of an “approved organisation” with a professional code of conduct, such as a law society. Corporations may qualify as “qualifying resident foreign trustees” if a member of an approved organisation is a director of or holds an office in the company that allows significant influence over its management or administration.¹⁶ The Tax Administration Act 1994,¹⁷ empowers the Commissioner to designate organisations as “approved” so that their members can qualify as “qualifying resident foreign trustees”.  Inland Revenue publishes the names of approved organisations “on its website or in appropriate publications”.¹⁸ 

When this edition went to press, the only such “publication” was the instruction page of the new Zealand Inland Revenue form, “Foreign trust disclosure IR607”, which notes that the Commissioner has approved the New Zealand Law Society, the New Zealand Institute of Chartered Accountants and the Society of Trust and Estate Practitioners (New Zealand Branch).

Penalties

Whether qualifying or lay, trustees who fail to keep records face conviction and a fine or imprisonment.¹⁹ Because of the disciplinary codes of their professions, this threat is thought to be sufficient to ensure compliance by trustees who are “qualifying resident foreign trustees”. 

Lay trustees, who are not subject to disciplinary codes, face a further penalty. If they are convicted of non-compliance in respect of any tax year, the Income Tax Act removes the benefit of section HH 4(3B),²⁰ which confers their exemption from tax. The trustee then must pay the trust’s tax for the years in question,²¹ though ex post facto compliance in respect of any particular year brings relief for that year.²²

Uses and Modus Operandi of the New Zealand Trust Regime

Apart from the procedural and record keeping requirements explained above, there are few limitations on the way in which the New Zealand regime can operate. As long as record keeping requirements are met, trustees may delegate their functions within the normal bounds of trust law. In short, trusts may be thin or thick. 

Because trustees are ex hypothesi resident in New Zealand, it may be that they can take advantage of New Zealand’s extensive range of double tax agreements in inward-flowing income.²³

There are two relatively standard ways of operating a New Zealand offshore trust. The first is to appoint an established trustee company to act as trustee, that is, a company that undertakes this work as its business and that acts for numerous trusts. Broadly speaking, there are two options: 

•  a company established under the Trustee Companies Act 1967, (mentioned in the section on Trust and Trustee Law in New Zealand above); and
• a company established to operate as a trustee of a number of private trusts.  Such companies may be owned either by New Zealanders or, increasingly, by international groups in the offshore trust business.  

Alternatively, advisers may incorporate a single-purpose company established only to act as trustee for the trust in question. Typically, such a company will be maintained by the firm of solicitors who established it and who act as advisers to the trustee. 

It is customary for trusts to be constituted by an independent party who settles a nominal sum. This process does not prevent the true client who transfers wealth to the trust from being a settlor for purposes of New Zealand law, but it keeps the true client’s name off the trust deed, if people so desire. 

Where an individual takes up New Zealand residence after settling a trust it ceases to be that “no settlor of the trust is at any time in the year a New Zealand resident”. Already taxable on New Zealand source income, the trustee becomes taxable also on foreign income. In some circumstances penal rates apply. There are means of mitigating these consequences, but they require some care, notably where a proposed settlor contemplates immigration to New Zealand.

1.BA, LLB (Hons) Auckland, BCL Oxon, JSD Cornell, Professor and former Dean of Law, Victoria University of Wellington, Senior Fellow, Taxation Law and Policy Research Institute, Monash University, Melbourne. This article is based on the author’s ‘New Zealand’ in Milton Grundy and Aparna Nathan ‘Offshore Business Centres’ (2008) 8th edn, Sweet & Maxwell, London, 175–179. BA, LLB (Hons) Auckland, BCL Oxon, JSD Cornell, Professor and former Dean of Law, Victoria University of Wellington, Senior Fellow, Taxation Law and Policy Research Institute, Monash University, Melbourne. This article is based on the author’s ‘New Zealand’ in Milton Grundy and Aparna Nathan ‘Offshore Business Centres’ (2008) 8th edn, Sweet & Maxwell, London, 175–179.                                                  

2.Returning former residents. For purposes of most foreign-source income, the act treats them as non-resident for four years.                                                   

3.The present author successfully advanced these arguments in 1987 as a member of the Consultative Committee on International Taxation.                                     

4.But see the section on Trust and Trustee Law in New Zealand in this article for certain formal requirements in respect of the kind of offshore trust that this article describes.                                                                                         

5.Certainty of subject matter, of object, and of intent. See, eg, Philip Pettit ‘Equity and the Law of Trusts’ (7^th edn, London 1993) 40 ff.                                          

6.Income Tax Act 2007 s YD 2(1)(a).                                                         

7.Inland Revenue New Zealand ‘New Disclosure and Record-Keeping Rules for Foreign Trusts’ 18 Tax Information Bulletin, No 5, 107.                                                

8.Tax Administration Act 1994 s 59B(1)(a).                                                         

9.Idem s 59B(1)(b).                                                                                     

10.Id s 59B(1)(d).                                                                                        

11.Id s 59B(1)(c).                                                                                             

12.Id s 22(2)(fb).                                                                                        

13.Id s 22(7)(d).                                                                                    

14.Inland Revenue New Zealand ‘New Disclosure and Record-Keeping Rules for Foreign Trusts’ 18 Tax Information Bulletin, No 5, 107, 108– 109.                                        

15.Inland Revenue ‘Requests for information about trusts from other countries’, in ‘New disclosure and recordkeeping rules for foreign trusts’, www.ird.govt.nz/technical-tax/legislation/2006/2006-3/leg-2006-3-disc-record-keeping-foreign-trusts.html, last accessed 2 October 2007.                                                                      

16.Idem.                                                                                                  

17.Tax Administration Act 1994 s 3(1), definition of ‘approved organisation’ and s 81(4)(mb).                                                                                                        

18.Inland Revenue New Zealand ‘New Disclosure and Record-Keeping Rules for Foreign Trusts’ 18 Tax Information Bulletin, No 5, 107–108.                                        

19.Tax Administration Act 1994  s 143A(1)(a) and (8).                                     

20.See section 0 of this paper.                                                               

21.Income Tax Act 2007 s HC 26(3).                                                           

22.Idem s HC 4 26(4).                                                                               

23.John Prebble, ’Double Tax Conventions’ Beneficial Ownership Rules in the Context of the Taxation of Trusts’, in Rodney Fisher and Michael Walpole, eds, ‘Global Challenges in Tax Administration’ (2005) Fiscal Publications, Birmingham 30-44.