HWI Chartered Accountants Auckland

Most of the legislation required to enforce the changes in the 2010 budget was passed on budget night, however one important part to do with changes to LAQCs has yet to be legislated.

Amidst the budget changes is a fairly significant proposal to change the tax treatment of qualifying companies and loss attributing qualifying companies. The changes aren’t included in the legislation introduced on budget night; rather they are outlined in principle in an issues paper released on 20 May 2010. The rationale behind the changes is that a shareholder who receives losses from an LAQC to offset against income at their marginal tax rate should also be subject to tax at their marginal tax rate when the LAQC makes a profit. Currently, the profits would be subject to tax at the company rate. This satisfies the government’s intention of removing distortions in the tax system and making things fairer.

However, the effect of the proposed changes is that QC’s/LAQC’s will be removed from the definition of “company” and instead come within the definition of “partnership” for tax purposes. This represents a huge change to the way these entities are taxed. QC’s/LAQC’s will no longer be subject to the dividend or imputation rules. Income and losses will flow through to “partners” and a partnership return will be filed and shareholder/partners will now be subject to the disposal rules applying to partnerships when one shareholder disposes of their shares.

Perhaps most significantly, is that shareholders/partners will now be subject to the loss limitation rules. The discussion document is light on the detail as to how the loss limitation rule will work in practice. It states that shareholders/partners can only offset tax losses from the LAQC against other income to the extent of their investment in the LAQC. Any excess losses will be carried forward and “ring fenced” until the shareholder’s equity increases. A comment is made that an investment in the LAQC includes the share of any debt guaranteed by the shareholder. It therefore appears that a tax loss will be permitted up to the level of paid up share capital plus the amount of debt guaranteed by the shareholder. Where any LAQC borrowings are subject to personal guarantees, the impact of the loss limitation rules may not be significant.

The issues paper requests comments by 5 July 2010, no doubt so the legislation can be finalised in time for the intended commencement date of 1 April 2011.