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RA 08/01

Revenue Alert

Revenue Alert RA 08/01 looks at when diverting personal services income by structuring revenue through an associated entity will be considered tax avoidance.


A Revenue Alert is issued by the Commissioner of Inland Revenue, and provides information about significant and/or emerging tax planning issues that are of concern to Inland Revenue. At the time an alert is issued risk assessments will already be underway to determine the level of risk and to consider appropriate responses.

A Revenue Alert will identify:

  • the issue (which may be a scheme, arrangement, or particular transaction) which the Commissioner believes may be contrary to the law or is inconsistent with policy;
  • the common features of the issue;
  • our current view; and
  • our current approach.

An alert should not be interpreted as being Inland Revenue's final position. Rather, an alert outlines the Commissioner's current view on how the law should be applied. For any alert we issue it is likely that some investigatory work has already been carried out.

If people have entered into an arrangement similar to the one described or are thinking about it, they should talk to their tax advisor and/or to Inland Revenue for advice about tax implications.

Issue: Diverting personal services income by structuring revenue earning activities through an associated entity such as a trading trust or a company: the circumstances when Inland Revenue will consider this arrangement is tax avoidance.

Inland Revenue has always been concerned about arrangements involving taxpayers who arrange to divert some or all of the personal services income they earn (or could earn) to an associated entity to take advantage of the lower marginal income tax rates payable by that entity and/or by family members as beneficiaries or shareholders of that entity.

We acknowledge that there are legitimate business reasons for using entities such as trusts or companies in many cases, and therefore the mere use of alternative business structures will not, on its own, amount to a tax avoidance arrangement. We will review each case on its own facts and, additionally, cases are independently reviewed before a final decision is made.

An important part of the scheme of the income tax legislation is that income substantially generated by the direct personal skills, experience or labour of an individual is derived by and therefore should be subject to tax in the hands of that individual.

In many cases taxpayers entering into these types of arrangements are also benefiting from reduced child support liabilities or reduced student loan repayment obligations. In some cases taxpayers are structuring their remuneration at a level that will allow them access (or greater access) to other non-income tax benefits that rely on income calculated for tax purposes such as Working for Families Tax Credits or other income tested benefits, for example student allowances.


The arrangements that we are concerned about generally have the following features:

  1. A person earns (or is able to earn) income from his or her personal services in the form of the application of skills;
  2. They arrange for an entity, such as a trading trust or company, which engages or employs them (or contracts for their services) in return for either no remuneration or for remuneration set at an artificially low level;
  3. They or their close family ultimately control the entity;
  4. A tax benefit is obtained as the entity and/or any beneficiaries or shareholders pay lower marginal tax rates than would have been payable by the taxpayer, but for the arrangement;
  5. There is often a redistribution of the underlying income from the entity to the person or to family members (in some cases by way of purported employment of them).

Current view

Inland Revenue considers that arrangements that exhibit the above features may constitute a tax avoidance arrangement in terms of section BG 1 or GC 28 of the Income Tax Act 2004.

To determine whether or not there has been tax avoidance we will look at all aspects of these arrangements including whether or not the level of remuneration paid by the employing entity to the taxpayer is commercially realistic in any given income year. For example, we are likely to consider the income paid to be too low if it is less than the net amount that would reasonably be distributed (taking into account its business environment, plans and risks) by the entity if it was a sole trader enterprise or a partnership.

We will also consider:

  • The taxpayer's commercial reasons and objective advantages for using the structure;
  • The way the arrangements are actually implemented and whether their operation is consistent with the structure;
  • The level of remuneration paid compared with previous earnings or with profits for a person in a similar situation;
  • The degree to which the business relies upon the specialist skills of the proprietor as opposed to other income producing factors;
  • The overall tax impact (including income diverted to associated parties).

Current status

Inland Revenue has already investigated, and continues to investigate, a number of these arrangements. Where the Commissioner considered the arrangement to be tax avoidance amended assessments have been issued which attribute some or all of the diverted income to the taxpayer to counteract the tax benefit resulting from the use of this arrangement. The Commissioner has also been successful in a number of court cases in respect of these arrangements.

We will continue to investigate these arrangements and, where necessary, will take steps to counteract the tax benefits obtained in appropriate cases. Options available to the Commissioner include deeming all of the income to have been derived by the individual, or deeming that individual to have received some other amount of remuneration personally (that the Commissioner considers are more commercially realistic in the circumstances).

Late payment penalties and use of money interest may also be applied to people entering into the type of arrangement described in this Revenue Alert. Shortfall penalties may also apply, although these may be reduced where a voluntary disclosure is made. Guidelines for making a voluntary disclosure are contained in our booklet putting your tax returns right (IR280) and Standard Practice Statement INV-251 Voluntary Disclosures (April 2002).

References to consider

The following related references will assist taxpayers with determining whether their arrangement is subject to the avoidance provisions in the Revenue Acts.

Subject references: Tax avoidance
Legislative references: BG 1 ITA 2004
GB 1 ITA 2004
GC 14B ITA 2004
GC 28 ITA 2004
Standard practice statements: N/A
Other policy statements: "Appendix C - Explanation to the application of section 99 of the Income Tax Act 1976" Tax Information Bulletin Vol. 1, No 8 (February 1990).
Revenue Alerts items: N/A
Case Law: Case W33 (2004) 23 NZTC 11,321
Case Y1 (2007) NZTC 13,001
Hadlee & Sydney Bridge Nominees Ltd v CIR (1993) 15 NZTC 10,106
Wells v CIR (1973) 1 NZTC 61,094
Halliwell v CIR (1977) 3 NZTC 61,208
Shine and Laird v CIR (1981) 5 NZTC 61,058
Peate v FCT (1962) 9 AITR 3
FCT v Gulland, Watson (1985) 17 ATR 1
Date issued: 26 March 2008
Authorised by Graham Tubb
Group Tax Counsel
Legal & Technical Services
Contact (via email): [email protected]
Media queries: [email protected]
(04) 890 1698