2014 technical and remedial changes to the taxation rules for insurance business in the Income Tax Act 2007, including deductions for life insurance claims.
Taxation rules for insurance business
Sections CR 4, DR 3, DR 4, DW 4, ED 3, EY 5, EY 15 to EY 17, EY 19 to EY 21, subpart LR, sections OB 47, OP 44 and YA 1 of the Income Tax Act 2007
A range of technical and remedial changes have been made to the taxation rules for insurance business contained in the Income Tax Act 2007.
Deductions for life insurance claims
Section DR 4 has had two changes made to it. The first change links the deduction provision to amounts allocated to the shareholder base by section EY 20, being expenditure or loss that relates to the life-risk component of a claim. Its purpose is to align the permission in the context of non-participation policies.
The second change confirms entitlements life insurers have in respect of claiming a deduction for life insurance claims that are tied to reserves that form part of any acquired or transferred insurance business. The change overrides the application of the capital limitation to reserve amounts attaching to a block of insurance business when it is transferred.
Both changes apply from 1 July 2010 or earlier income years that include 1 July 2010 (the date the new life insurance rules came into force).
Opening value for reserves in connection with insurance business transferred to New Zealand
Further modifications have been made to the Income Tax Act 2007 to deal with the valuation of reserves when insurance business is transferred. Changes made by the Taxation (Annual Rates, Foreign Superannuation, and Remedial Matters) Act 2014 deal with the situation when insurance business is transferred into New Zealand, more specifically with transfers affected by sections ED 3 or EY 5.
In respect of general insurance business and a life insurer's non-life business, sections DW 4 and CR 4 have been amended to specify how the opening balance of the outstanding claims reserve should be calculated by the New Zealand recipient of the insurance business. The new rule requires general insurers to actuarially determine the opening value of the outstanding claims reserve, being the insurer's incurred (but not reported) claims, reported claims and an appropriate risk margin.
For life insurance reserves, section EY 5 specifies who is required to calculate the opening balance under sections EY 24 to EY 27.
The changes apply from 1 April 2014.
Non-profit participation policies – shareholder and policyholder bases income allocations
Section EY 15 has been significantly rewritten. Central to the changes is a redraft of the formula that allocates income between a life insurer's policyholder and shareholder tax bases in sections EY 15 and EY 19.
The formula, as written in section EY 15, was unclear in its effect when allocating income to the policyholder base.
As part of the Finance and Expenditure Committee's consideration of the bill, section EY 15 was redrafted to make the operation of the section clearer, including the treatment of annuities and de minimis amounts under section EY 15(5). The life insurer may choose to exclude the de minimis life risk component of the premium from the shareholder base under section EY 19(2) and instead return the amount with investment income allocated to the policyholder base under section EY 15(5). The de minimis amount is not treated as a deposit of principal in respect of the policy as earlier described in Part II of the Tax Information Bulletin Vol 21, No 7. Section EY 19(1)(db) has been inserted to make it clear that investment income of annuities is taxed under the shareholder base.
Further changes have been made to sections EY 16 and EY 20 to mirror the changes in section EY 15.
The changes apply from 1 July 2010 or earlier income years that include 1 July 2010.
The change to the way the formula applies to de minimis amounts under section EY 15(5) applies from 27 February 2014.
Profit participation policies – shareholder and policyholder bases investment income allocation
Changes have been made to sections EY 17 and EY 21 in connection with the way that amounts that represent the shareholder bases' future claim on policyholder assets are described by the Income Tax Act 2007. The change responds to concerns about the imprecise description of claim on future amounts and the method for finding the value of that claim. References to "present value (net)" have been removed and replaced with the word "value" which should be actuarially determined (section EY 17(2)). In addition, reference to "future bonus declarations" have been replaced by the phrase "portion of future profits" to recognise that the allocation of income to the shareholder base is not "a bonus declaration" as the term is used by life insurers. The changes apply from 1 July 2010 or earlier income years that include 1 July 2010.
The Taxation (Annual Rates, Foreign Superannuation, and Remedial Matters) Act 2014 made a range of technical changes to the taxation rules for life insurance business as set out in the table below:
|Life insurance outside New Zealand |
The colon ":" in section DR 3 has been replaced with an "and".
|To improve the logic and interaction of the source rule in section EY 48.||27 February 2014.|
|Policyholder credit account |
Section LR 1 has been repealed.
|The operation of section LR 1 was contingent on the effect of a number of memorandum accounts that were repealed when the new life insurance rules took effect. The section no longer has any effect and has been removed.||With effect from the 2014 income year.|
|Incorrect cross-references |
Cross-references in sections EY 19(3) and EY 20(2) have been corrected.
|To improve internal consistency of the Income Tax Act 2007.||27 February 2014.|
|Timing of debit entries to the imputation credit account |
A debit entry should be recorded in the insurer's imputation credit account at the time there is a breach in continuity.
|The point in time when debit entries in a life insurer's imputation credit account need to be recognised has been clarified. The change to sections OB 47 and OP 44 ensure that a debit entry is not required if sections OB 41 and OP 42 apply (for example, if there has been a breach in shareholder continuity).||On and after 1 July 2010 or earlier for income years including 1 July 2010.|
Different application dates apply to the changes made. These have been specified under the relevant discussion.
Time bar for amendment of income tax assessment
Section 108(1) of the Tax Administration Act 1994
Section 108(1) of the Tax Administration Act 1994 has been amended to clarify that the time bar applies not only to the Commissioner amending an income tax assessment to increase the amount of tax payable, but also to the Commissioner reducing the amount of a net loss.
Section 108(1) of the Tax Administration Act 1994 prevents the Commissioner amending an income tax assessment to increase the amount assessed if four years have passed since the end of the tax year in which the taxpayer provides their tax return, unless the return was fraudulent, wilfully misleading or failed to mention income of a particular nature or from a particular source.
Before the introduction of the income tax self-assessment rules in the 2002-03 income year, section 92(5) of the Tax Administration Act 1994 clarified that despite the words "so as to increase the amount assessed" in section 108(1), the time bar applied equally to prevent the Commissioner amending an assessment outside the time bar in order to reduce the amount of a net loss under a determination of loss.
Section 92(5) was repealed in its entirety as part of the introduction of the income tax self-assessment rules. A replacement provision was not enacted to confirm that a reduction in the amount of a net loss is to be treated as an increase in the amount assessed for the purposes of the time bar in section 108.
The amendment corrects this oversight with effect from the application date for the repeal of section 92(5) – the 2002-03 and later income years – so that the original policy intention is restored retrospectively.
The amendment applies for the 2002-03 and later income years.
Mixed-use asset rules
Section DG 3 of the Income Tax Act 2007
Section DG 3(4)(c), which excludes certain assets from the mixed-use asset rules, has been repealed for the 2013-14 and later income years.
Section DG 3(4)(c) was intended to exclude from the operation of the mixed-use asset rules assets that undergo a change of use in an income year from purely private use to purely income-earning use (or vice-versa). It was also intended that assets that became mixed-use assets part way through an income year would be subject to a part-year rule to apportion deductions appropriately.
Section DG 3(4)(c) was intended to achieve this policy intention, but, as drafted, it applied too widely and thus excluded assets that were intended to be within the mixed-use asset rules. Because of this wide application, the provision has been repealed and an appropriate part-year provision will be considered at a later date.
The change applies for the 2013-14 and later income years.
Rebates of fees paid by a FIF
Section CW 55BAB of the Income Tax Act 2007
Section EX 59(2) treats a person with an interest in a foreign investment fund (FIF) as having no income from the interest for a period other than FIF income. Section EX 59(2B) contains an exception where the amount derived by a person from an interest in a FIF is a rebate of fees and the person was allowed a deduction for the payment of the fees.
New section CW 55BAB ensures that a person is not taxed on rebates of fees they have derived in relation to an interest they have in a FIF, if the person has not been allowed a deduction for the payment of the fees, when the person derives the rebate of fees from a third party the FIF has paid fees to. This does not apply for persons who use the comparative value method to calculate their FIF income or loss from their FIF interest. The change reflects the policy intent behind the insertion of section EX 59(2B), which was to ensure tax symmetry in relation to management fees paid to an offshore fund manager and any related rebates for a FIF investment.
This amendment applies for rebates derived on or after 27 February 2014. Additionally, the amendment applies to persons who have derived a rebate between the beginning of the 2009-10 income year and 26 February 2014 (inclusive), if the person gives notice to the Commissioner of an election to have the new section CW 55BAB apply to rebates derived in the income year of the rebate.
Calculating amounts attributed to investors in a PIE
Section HM 36 of the Income Tax Act 2007
Section HM 36(2) contains a formula which a multi-rate PIE uses to calculate the PIE income (or loss) attributable to each investor. The formula in section HM 36(2) contains the item "percentage", which is defined in section HM 36(3)(a).
The definition of "percentage" in section HM 36(3)(a) has been amended to clarify that the investor's entitlement to a distribution referred to in the definition is the entitlement that accrues for the period on any given day, and not the total amount that would be distributed to the investor if a distribution was made on that day. The amendment ensures that the intended policy outcome is achieved in the case of an investor in a term fund with a fixed unit value (eg, $1), when investors enter the fund at different times, but for the same price.
This amendment applies for the 2010-11 and later income years.