SPS 16/04
Issued
13 Aug 2016

Payment of shortfall penalty using losses

SPS 16/04 sets out the law allowing a taxpayer to use tax losses in payment of a shortfall penalty imposed on an income tax liability.

Introduction

Standard practice statements (SPS) describe how the Commissioner of Inland Revenue (the Commissioner) will exercise a statutory discretion or deal with practical issues arising out of the administration of the Inland Revenue Acts.

This SPS sets out the Commissioner’s application of the law in section IW 1 of the Income Tax Act 2007. Section IW 1 allows a taxpayer to use tax losses in payment of a shortfall penalty imposed on an income tax liability.

Unless specified otherwise, all legislative references in this SPS are to the Income Tax Act 2007 (the Act).

Application

This SPS applies from 1 November 2016 and replaces SPS INV-245 Payment of shortfall penalty using losses (Tax Information Bulletin Vol 10, No 3 (March 1998)).

Standard practice

Summary

  1. Section IW 1 applies in a tax year a person has a shortfall penalty imposed for an income tax liability.
  2. A person who has a tax loss for the tax year (ie the year that the shortfall penalty is imposed) may choose to use some or all of the amount of the loss to pay all or part of the shortfall penalty.
  3. A person’s tax loss for the tax year includes losses carried forward from previous tax years plus any net loss that the person has for the tax year.
  4. The person must notify the Commissioner that they choose to use the loss to pay the shortfall penalty by the due date for payment of the penalty. The person may notify by post, facsimile, personal delivery, or by electronic means if the person complies with the provisions of the Electronic Transactions Act 2002.
  5. The amount of any tax loss that is used to pay a shortfall penalty cannot be used or carried forward from the date of notification.
  6. The shortfall penalty must be for an income tax liability. Losses cannot be used to pay a shortfall penalty in relation to a non-income tax liability, for instance goods and services tax (GST) or fringe benefit tax (FBT).
  7. If a company that is part of a wholly-owned group of companies has a tax loss, the wholly-owned group may use the loss to pay the penalty imposed on:
    • the company or
    • another company that is part of the same group
    upon notification to the Commissioner by the due date for payment of the penalty (subject to the shareholder continuity rules).
  8. For individuals, each dollar of an amount of a loss that is used to pay a shortfall penalty is equal to $1 multiplied by the lowest marginal tax rate that would apply to a person if they had tax to pay in the year the tax shortfall is for.
  9. For other entities, each dollar of an amount of a loss that is used to pay a shortfall penalty is equal to $1 multiplied by the rate of tax that would apply to the entity if it had tax to pay in the year the tax shortfall is for.

Detailed discussion

  1. Section IW 1(1) of the Act states that section IW 1 applies in a tax year a person has a shortfall penalty for an income tax liability in. The term “income tax liability” is defined in section YA 1 and relevantly means an income tax liability for a person and a tax year calculated under subpart BC - Calculating and satisfying income tax liabilities. So section IW 1 only applies in situations where a shortfall penalty has been imposed for income tax. Section IW 1 will not apply when a shortfall penalty has been imposed on a non-income tax liability, for example, goods and services tax (GST) or fringe benefit tax (FBT).
  2. Section IW 1(2) states that if a person has a tax loss for the tax year they may use the amount of the loss to pay the shortfall penalty. This includes using part of the tax loss and paying any part of the shortfall penalty.
  3. The reference to “the tax year” is to the tax year the shortfall penalty is imposed in. For example a shortfall penalty is applied on a tax shortfall for the 2014 tax year. The penalty is imposed on 15 September 2016. The tax year for the purposes of section IW 1 is the 2017 tax year (1 April 2016 - 31 March 2017).

Available losses

  1. A “tax loss” for the tax year is defined in section IA 2 of the Act. It includes losses brought forward from previous tax years and either reduced by the net income for the tax year or added to the net loss for the tax year.
  2. The losses that a person may use to pay their shortfall penalty are losses carried forward and still available from years previous to the year that the shortfall penalty is imposed together with any loss incurred in the tax year it was imposed in.
  3. In practice at the time a shortfall penalty is imposed and payable in a tax year the final tax loss for that year will have yet to be confirmed. However a person who reasonably expects that they will have a tax loss for the tax year that the shortfall penalty is imposed will be able to notify the Commissioner that they choose to use the tax loss in payment of the shortfall penalty.
  4. For example, a person has their 2014 tax assessment amended by the Commissioner and incurs a tax shortfall. A shortfall penalty of $5,000 is imposed on the tax shortfall for the 2014 tax year on 1 July 2016 (the 2017 tax year). The due date for payment of the shortfall penalty is 29 August 2016 . Losses carried forward from the 2016 tax year are $3,000 and the person expects they will have a net loss for the 2017 tax year of $2,000, a total tax loss for the 2017 tax year of $5,000. The person notifies the Commissioner on 31 July 2016 that they choose to pay the shortfall penalty using their tax losses. The losses that can be used in the payment of a shortfall penalty will be the loss carried forward of $3,000 from the 2016 tax year and the expected loss of $2,000 for the 2017 tax year.
  5. Where the tax loss for the tax year is later confirmed to be insufficient to pay the shortfall penalty, the person’s account will be adjusted. Late payment penalties and use-of-money interest will apply from the due date for payment of the shortfall penalty (29 August 2016 in the above example) to the date that the taxpayer pays the outstanding balance.
  6. The amount of any tax loss that is used to pay a shortfall penalty cannot be used or carried forward from the date of notification.

Notification

  1. The person must notify the Commissioner that they choose to use their loss to pay the shortfall penalty by the due date for payment of the penalty. A shortfall penalty is generally due on the due date for the payment of the unpaid tax. However when the penalty is subject to dispute, the due date is the due date for payment of deferrable tax, generally by the 30th day after the last day of the relevant period of deferral.
  2. "Notify" has the meanings set out in sections 14C and 14F of the Tax Administration Act 1994 (“TAA”). These sections are applicable where a provision such as section IW 1(2) requires a person to notify the Commissioner. Together, these sections allow that person to communicate with the Commissioner by post, facsimile, or personal delivery or by electronic means if the person complies with the provisions of the Electronic Transactions Act 2002. So a person wishing to use their loss to pay a shortfall penalty (in whole or part) must notify the Commissioner using one of the means allowed by sections 14C and 14F of the TAA.

Wholly-owned group of companies

  1. If a company is part of a wholly-owned group of companies and has a tax loss for a tax year, the wholly-owned group may use the amount of the loss to pay a shortfall penalty imposed on the company or on another company in the group on notification to the Commissioner by the due date for the payment of the penalty.
  2. A company’s available tax loss for a tax year is subject to the shareholder continuity requirement. Losses incurred before a continuity breach cannot be carried forward and used in later years but are available to be offset against a shortfall penalty applied to a tax year that is before the breach occurred.
  3. For example, in 2017 a taxpayer has incurred losses of:
    • $10,000 in the 2014 tax year,
    • $10,000 in the 2015, and
    • $10,000 in the 2016 tax year.
    There was a continuity breach at the end of 2014 (when the taxpayer acquired all the shares in the company). This breach means that the 2014 losses cannot be carried forward and in 2016 the taxpayer has only $20,000 losses available to offset ($10,000 losses carried forward from 2015 and current year loss of $10,000). The 2014 tax year loss of $10,000 is restricted to 2014 use only.

Loss conversion

  1. For individuals, each dollar of the loss that is used is equal to $1 multiplied by the lowest marginal rate of tax that would apply if the individual had tax to pay in the year the tax shortfall is for. For other entities each dollar of the loss that is used is equal to $1 multiplied by the rate of tax that would apply if the entity had tax to pay in the year that the tax shortfall relates.
  2. For example, if an individual has $10,000 of tax losses available and their lowest marginal tax rate for the year is 10.5%, they will be able to pay shortfall penalties amounting to $1,050 (10,000 x 0.105). If a company has $20,000 of tax losses available they will be able to pay shortfall penalties amounting to $5,600 (20,000 x 0.28). A trust with tax losses available of $15,000 will be able to pay shortfall penalties amounting to $4,950 (15,000 x 0.33).

Part payment

  1. A person may use their losses in part payment of a shortfall penalty. Notification that they wish to use their losses to part pay the penalty must be received by the Commissioner by the due date for payment of the penalty. The remainder of the liability can be satisfied by the usual means (for example, cash, cheque or credit card) or the person may apply for financial relief if payment of the remaining debt is going to put the person in financial difficulties.

This Standard Practice Statement is signed on 13th October 2016.

Rob Wells
LTS Manager - Technical Standards