New Zealand PM Speech Presages Substantial Tax Reform

In his statement at the opening of parliament, New Zealand’s Prime Minister, John Key, said measures to reform the tax system would be introduced as part of the annual budget in May. He was, however, able to signal changes to various taxes, and rule out others, while emphasizing that fiscal reform would be targeted away from the taxes considered most harmful to growth.

“Tinkering over recent years,” he said, “has made the tax system more complicated, led to poor incentives in the economy, and created a raft of different ways for people to minimize their tax payments. The government will therefore be introducing measures this year to reform the tax system.”

In fact, Key began the section of his statement relating to taxation by agreeing with the major thrust of the government’s Tax Working Group (TWG) that New Zealand has a tax system that taxes labour and investment income at relatively high rates, taxes consumption at a relatively low rate and generally gives money back to people when they invest in residential property.

He therefore underlined that the objectives of tax reform should be a system which creates incentives for people to work hard; which encourages savings and investment; which is not difficult to administer or comply with; and in which people pay their fair share of tax.

With fairness in mind, he said that the government was not only looking at possible reductions to the top personal income tax rate, but at the whole personal tax structure. While the TWG had also looked for reductions in the company tax rate, Key was, as yet, silent on the government’s policy in that respect.

The TWG had discussed a broad range of options for balancing such income tax reductions with a package of tax increases, including the introduction of property taxation and a rise in goods and services tax (GST). Key confirmed that the government has considered all of these options closely.

Some of those options discussed by the TWG are not favoured by the government and will not be progressed. In particular, he said, “we will not be developing any proposals for a land tax, a comprehensive capital gains tax, or a risk-free return method (RFRM) for taxing residential investment properties.”

He explained that, in the opinion of the government, “a land tax is effectively a lump-sum tax on people who own land at the time the tax is introduced, would only fall on people who hold their wealth in one particular form, and would create cash flow problems for many landowners, especially those with lower incomes.”

Furthermore, “an RFRM is another tax that would also create cash flow problems for taxpayers. A property owner could have a very sizeable tax bill each year under an RFRM, but little or no ability to pay it, except by putting up rents. A comprehensive capital gains tax extends the tax net and is highly progressive. However, it would make the tax system more complex to administer and comply with, and may encourage taxpayers to hold on to assets longer simply to avoid tax.”

Nevertheless, he said, the government does believe there is “a gap in the current tax system around property investments where income is being derived but, in aggregate, no tax is being paid.” He therefore flagged up that there would be changes to property taxation to increase government revenue, but gave no details. Some property investment companies have expressed concern that the removal of building depreciation could therefore still be on the table.

He did, however, divulge that the government is considering a “modest increase in the rate of GST, to no more than 15%” but, being aware of the regressive nature of such a change, any rise in GST would “be accompanied by across-the-board reductions in personal taxes, as well as up-front increases in benefits, New Zealand Superannuation, and Working for Families payments.”

He concluded that: “The net result of a reduction in personal income taxes, and a modest increase in GST, is to give people more choice. Their take-home pay would increase and they could use that increase to save, or pay off their mortgage, without being taxed on it. Savings and investment are therefore encouraged, rather than consumption.”

Within a section of the statement on trade, Key also confirmed that, while in 2009 New Zealand signed free trade agreements (FTAs) with Malaysia and with the 10 ASEAN countries, FTAs should be signed this year with Hong Kong and with the countries of the Gulf Cooperation Council. The government will also work towards an FTA with the United States through the Trans-Pacific Partnership; undertake important trade negotiations with India and South Korea; and push hard for progress on the Single Economic Market with Australia.

The government believes that a good proportion of New Zealand's future economic prosperity depends on obtaining these trade agreements, as exports provide an increasing number of high quality jobs in the country.