IR may sniff at firms that declared billions in dividends to beat 39% tax rate

Tuesday, 1 February 2022

Inland Revenue says it was legitimate for companies to pay out years of retained earnings ahead of 39 per cent tax rate, but it may run the ruler over cases where the cash wasn’t paid over.

Inland Revenue has signalled it will consider taking compliance action against firms it suspects of illegitimately declaring dividends to help their wealthy owners avoid the new top income tax band.

Spokeswoman Gay Cavill said it could not comment at this point on the scale of “any potentially illegitimate behaviour”.

An IR briefing paper revealed that high earners had declared almost $9.5 billion in dividends in their tax returns for the 2020-21 financial year, about 2½ times the amount declared the previous year.

The bumper dividends probably represented “a number of years’ retained earnings” by the firms and it was likely that the purpose of declaring them as dividends last year was to ensure those funds were taxed at 33 per cent, it said.

* IR warns high earners not to try to be clever dodging 39% tax rate

* Here's how high-earners might avoid new top tax rate

The 39 per cent tax rate came into effect on April 1 for individuals who earn more than $180,000 a year.

By declaring dividends ahead of the 39 per cent tax rate, wealthy business owners will have been able to pay tax on that dividend income at the old rate of 33 per cent.

IR made clear that there was nothing wrong with companies making the larger pay-outs, as long as they had paid the dividends to shareholders “following normal commercial terms”.

Revenue Minister David Parker faces taxing questions over IR's wealth study at a select committee in July.

Companies were able to declare dividends if they were in a position to do so, it said.

But it also said in the briefing paper that “often” instead of actually paying out the cash, the declared dividends had remained invested in the businesses concerned, for withdrawal at a later date.

IR implied it was concerned that in an unknown number of those cases, the retained dividends might not have been genuinely surplus cash.

“Where entities have not in effect paid the dividend, we will consider applying compliance resources,“ IR said in the briefing note.

“The general anti-avoidance rules should address the most aggressive positions taken,” it said.

Cavill said there was no clear distinction between the circumstances in which it would be legitimate for companies to retain declared dividends and when doing so would amount to tax avoidance.

That was because tax avoidance enquiries were “fact based and depend on the exact circumstances relevant to each specific customer”, she said.

One effect of the very high level of dividends will be to deliver a one-off boost to the Government’s coffers this financial year as income tax payments for the 2020-21 year flow in.

The briefing note also estimated that about 119,000 people looked likely to fall into the new 39 per cent income tax band, according to IR’s latest information.

That would be 44,000 more than the tax department had originally estimated would be captured by the new top tax band.