Trustee Tax Rate Increase
The Taxation (Annual Rates for 2023-24, Multinational Tax, and Remedial Matters) Bill was introduced on 18 May 2023 to bring into effect the government’s 2023 Budget. The Bill admittedly hinges on the election. However, if passed the trustee tax rate will rise from 33% to 39% to align with the top marginal personal tax rate. This will be something to keep tabs on for those businesses who have trusts as shareholders.
Impact of the increase in tax on trust shareholders
Currently an ordinary company is taxed at 28% on net income. Companies can attach up to 28 cents of imputation credit for each $1 of dividend they pay to shareholders. When dividends are paid to shareholders they are taxed at their own marginal tax rate but can usually “offset” the imputation credits already paid by the company.
For example, if a company declares $100 of profit it pays $28 of tax. If the company decides to declare a dividend to shareholders, the company attaches its imputation credits to the dividend, so that the shareholders get credit for the tax the company has already paid i.e. the $28.
A trustee shareholder receiving the dividend is currently taxed at 33% and is required to pay the extra 5% tax on the dividend (being the difference between the ICAs it receives on tax paid at 28% and its own marginal tax rate of 33%). This additional 5% tax comes in the form of Dividend Withholding Tax which is withheld by the company when it declares the dividend.
However from 1 April 2024 when the trust tax rate moves to 39% the extra tax the trustees would need to pay will increase to 11%. Therefore, should the Bill pass business owners with trusts should consider the tax impact and particularly assess whether it is opportune to “clear out” any retained earnings the company may have.
Mitigating the impact
Between now and 1 April 2024 there is a window of opportunity to minimize some of the impact the rate change will have. Where a company has sufficient cashflow to pay a dividend to its trustee shareholder as well as to pay the extra 5% withholding tax to IRD at the point the dividend is declared, it can do so before the trust tax rate becomes 39% on 1 April 2024.
Exceptions
The tax increase to 39% will not apply to a deceased estate for a period of 12 months after death (unless the deceased was subject to a 39% tax rate). Nor will it apply to specific trusts, primarily for the benefit of disabled persons.
Brightside for trusts
Despite the increase of the trustee rate of tax to 39%, Trustees can continue to allocate or distribute trust income to beneficiaries on lower tax rates so that income can be taxed at that beneficiary’s personal tax rate.
Putting tax considerations aside, the existing purposes of creating a trust does not change.
If this tax change may affect your trust we recommend taking accounting and legal advice to understand the impacts on your situation and any changes that may be prudent to make. The above only highlights a potential issue or opportunity on the horizon that people with shareholder trusts should continue to monitor and take specialist tax advice for their circumstances.