The political debate about asset sales means that the imminent initial public offering of shares in Mighty River Power is getting a lot of attention. It will no doubt get people who have never invested in shares before thinking about doing so. For the novice shareholder, there are some tax issues to consider.
As a broad generalisation, it’s likely that most private shareholders will hold the shares on capital account. If the shares are sold for a profit, it will generally be tax free. If they are sold for a loss, there will be no deduction allowed against other income. There are a couple of exceptions to this.
Firstly, if the shares are bought with the intention or purpose of selling them for a profit, then their sale will be taxable. A good example is where an investor looks to “stag” profits, buying shares with the intention of selling them quickly while the post-launch frenzy pushes the share price up. Of course, every investor will be hoping that they sell their shares one day for more than they paid. Such a vague, general objective is usually not enough in itself to make something taxable. But you can’t have it both ways. In 1987, a lot of people who had been steadfastly claiming that the shares they had bought were all on capital account suddenly changed their minds when the market crashed.
Share sales are also taxable if the investor is in the business of dealing in shares. There are a number of tests for determining whether someone is “in business”. They include the nature and extent of the activity, the number of transactions, the period the activity is carried on for and any statements made by the person. Generally, most private, individual investors will not be doing enough to be considered “in business”. Some organisations offer systems that provide a computerised method of making numerous and frequent purchases and sales on various markets. One website states that “hundreds of New Zealanders…are currently enjoying a regular cash income on a monthly basis” from using their system. It is likely that such activity would fall into the taxable category.
For the “capital” investor, the main source of income from holding shares will be dividends. This is how companies distribute their earnings to shareholders. New Zealand is one of the few countries that still has an “imputation” system. A credit is able to be passed on to shareholders for tax paid by a company on the profits it distributes as dividends. The gross amount of the dividend is taxable to the shareholder at whatever their marginal rate of tax is, and credits are allowed for the imputation credits attached and any resident withholding tax deducted.
The total tax credits attached to dividends paid by a New Zealand company generally add up to 33%. An individual shareholder whose total income is less than $70,000, will generally be better off when such dividends are included in the tax return.
A deduction is generally also allowed for interest charged on money borrowed to acquire shares because they will be an income (dividend) producing asset. Case law has established that dividends don’t necessarily have to be received in the year that interest is claimed as a deduction.
The structuring of share ownership should also be considered. Shares might be held personally, or jointly by a couple, or there may be reasons for favouring ownership by one person in a relationship rather than the other. Trustee shareholding might also be an option. Tax is not the only factor when making this decision; others such as asset protection and providing for family members are also relevant.
The rules for holding shares in foreign companies, especially those other than listed Australian resident companies, are quite different, and specialist advice should be sought.
None of this affects judgment calls about the merits (or otherwise) of investing in Mighty River Power, or any other shares. Potential investors should study the prospectus, take advice and make their own decisions.
Geordie Hooft
Partner, Tax Grant Thornton New Zealand Ltd
T +64 (0)3 379 9580
E geordie.hooft@nz.gt.com