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# Core Provisions:

Part B
1. What is subject to tax: The Tax Base
2. When do income/deductions arise
3. How to calculate tax owing

s BB1 Provision that makes you liable for Tax The Tax Base
Income tax is imposed on taxable income, at the rate or rates of tax fixed by an annual taxing act, and is
payable to the crown under this Act and the Tax Administration Act 1994.

Rates in 2014
Individual: - \$0 - \$14,000 @ 10.5% = \$1,470
- \$14,001 - \$48,000 @ 17.5% = \$5,950
- \$48,001 - \$70,000 @ 30% = \$6,600
- \$70,001 and above @ 33% = ???????
Total tax owed (add them all up):

s BB2(1) Tax liability calculated in respect of each person:
NZ has an Individual tax system, not a family tax or couples tax system.
A persons income tax liability for a tax year must be calculated, and satisfied by the person

s BD1 Income Categories (assessable and not). From sBD1(1) to (5).
An amount is income of a person if it is their income under a provision in Part C (income)

s BD2 Deductions
An amount is a deduction of a person if they are allowed a deduction for the amount under Part D
(deductions).

s BD3 Allocation of assessable income-timing basically its income if derived this year unless a
provision in any Parts of C or E to I provides for another basis.

s BD4 Allocation of assessable deductions-timing any expenditure incurred this year unless a
provision in any Parts of D to I provides for another basis

s BC4 Net Income / Zero Net Income / Net Loss. Annual gross income less annual total
deductions:
If positive = amount is net income
If zero = zero net income
If negative = net loss

s BC5 Taxable Income Net income less available tax losses

Concepts of Income

s YA1 income, for a person, means income of the person as under BD1(1)
s BD1 exempt income, excluded income, non-residents foreign sourced income and assessable income
as per Part C
s CA1 an amount is also income of a person if it is their income under Ordinary Concepts

Assessable income, within the charge of tax as per s BD1(5) unless it is income of any of the following:
- Exempt income, neither the income nor any expenses incurred in its derivation come within the
charge of tax as per s CW or CZ. For example, Charities (CW41) and non-profit bodies (CW42) are
exempt.
- Excluded income, income is not assessable in the hands of a particular taxpayer but that any
expenses incurred in relation to its derivation by that tax payer is deductible as per s CX or CZ. For
Example, fringe benefits are excluded as per s CX3
- Non-residents foreign sourced income, is not income as per s BD1(4). Has to be a non-resident
and the amount is derived outside of New Zealand

Economic Definition based on increases in wealth for individuals with little or no discrimination
between concepts of income, capital, windfalls etc.

Legal Definition
1. something that comes in FCT v Payne; air miles under a frequent flyer scheme was not deemed
income, although it did save expenditure, there was nothing that came in. FCT v Cook and Sherden
soft drink retailer received free holiday from the manufacturer was not converted into money
or moneys worth and thus not income.

2. money or moneys worth Dawson v CIR; taxpayer received a TV for 5yrs only in return for not
getting any dividends from a companys stocks he had invested in held benefit was not income as
not in monetary form and not convertible into money (as he had to return it) To overcome this, the
CIR introduced s CC7 Consideration other than in money.

3. from property or labour Brent v FCT; taxpayer sold her story to the newspapers, out of the total
sum she was supposed to receive (\$65K), she only got \$10k for that income year. Held that only the
\$10k was assessable as she had devoted her time to interview = services rendered. Arthur Murray v
C of T; received money but not earned. Held not income yet.

4. has a certain quality in the hands of the recipient - Scott v FCT; Taxpayer was a solicitor engaged
in the administration of the estate of a deceased client, the clients widow gave the taxpayer a \$10k
gift. Held not assessable income, only a gift.
G v CIR; preacher getting donations for several years which he used to support himself. Held some
of the donations are assessable income as he relied on them for support and expected to receive it.

5. periodicity, recurrence, regularity FCT v Dixon; solider received regular payments to make up
his pay when he enlisted. Held income. FCT v Harris; retired bank employee received 4 ex gratia
payments from his previous employer to top up his pension. First payment assessed, held not
income.

Income must be derived / Expenditure must be incurred

Illegal activities will still be caught and subject to tax as per:

Windfall gains (gifts, legacies, prizes) not caught. Tips are caught as per your Assessable Income.

Gambling Winnings not caught unless regular and systematic activities Duggan v CIR.

Hobby activities - most receipts from a hobby activity are generally not caught but if there are any
characteristics of a business activity then it could be taxable as per:

Reimbursements of private expenses, are not caught as income

Second hand personal property - such as garage sale proceeds are not caught

Proceeds from mutual transactions - i.e. trademe sales unless business, are not caught.

Capital/Revenue Distinction based on Ordinary Concepts i.e. Case Law

There is no formal capital gains tax in NZ, and thus are generally excluded from the scope of taxation.
Equally, capital expenses are non-deductible against revenue receipts.

To find something that is either Capital by nature or Revenue account property, we can start by looking at
Eisner v Macomber where revenue was seen as the fruit or produce (i.e. dividends, rents, royalties) and
capital was seen as the tree (i.e. land, or other property) from which revenue is able to be derived.

Broad tests applied by the Courts:
1. Frequency:
a) Recurrent/Regular indicates that its part of the incoming earning process
b) One off/Lump Sum More likely to be structural-capital assets being acquired or sold

But not concrete as in FCT v The Myer Emporium Ltd. the lump sum return for their investment
was held to be taxable income and not capital

2. Purpose:
a) Business structure/creation of an asset or advantage for an Enduring Benefit
b) Were they expended as part of the income earning process/regular conduct of the business
ordinary expenditure in regular conduct.

3. Indica from other sources
a) Accounting Treatment how its treated in accounting standards
b) Fixed and circulating capital to find where the source of funds comes from to determine the
nature of expenditure.

Enduring Benefit Test
The courts apply various tests and generally favour the enduring benefit test from BP Australia Ltd. v FCT;
any expenditure that brings into existence an asset or advantage for the enduring benefit of the business
will generally be regarded as an outgoing of a capital nature.

Sun Newspapers v FCT
TP tried to claim a deduction for the amount paid that stopped the competitor from publishing in the area.
Reckoned the amount paid was not capital but an expense and revenue in the hands of the recipient. But
courts held that the amount claimed was an outgoing of a capital nature and was not deductible. Dixon J.
concluded that the effect of the transaction was to strengthen and preserve the business entity or
organization, the profit-yielding subject, and therefore it affected the capital structure.

Looked at:
a) the character of the advantage sought and whether in that it is enduring
b) the manner in which it was to be used and whether in that it is recurrent
c) the means employed to obtain it and whether in that it is periodic

Found that the:
1. expenditure was a large sum incurred to finally remove threatened competition,
2. that the chief objective of the expenditure was to preserve the existing business from impairment
and dislocation, and
3. that the transaction involved the acquisition of a going concern, for a fixed period (3yrs), a thing
recognized as a capital asset.

BP Australia v FC of T
Same as Sun Newspapers case, but different outcome. BP wanted to deduct the lump sum payments it
made to service station operators to improve their premises. In return they would enter into trade tie
agreements to only sell BPs products for 5yrs. Courts held that the payments were an allowable
deduction.

The courts applied the tests of Sun Newspapers:
1. the courts considered the nature of the benefit sought and obtained by BP = more revenue rather than
capital
Analysis of the various tests:
need or occasion which calls for the expenditure
fixed or circulating capital
payments of a once and for all nature producing assets or advantages of an enduring
benefit
length of time of the trade tie agreements
treatment on the ordinary principals of commercial accounting, and
business structure/money earning process
2. then they considered the manner in which the desired benefit was to be used, relied on and enjoyed by
BP = also revenue, as the agreements become part of the ordinary process of selling the TPs products
3. Last but not least, the method of payments were periodic but did not point clearly in either direction to
say if it is revenue or capital.

New Zealand Cases that Distinguish BP Australia
C of IR v City Motors Ltd; C of IR v Napier Motors Ltd. similar facts to BP, but in this case it
looked at the retailer and held that the payments made by the wholesalers are capital receipts in the
hands of the retailer. The counter New Zealand case is:
Birkdale Service Station Ltd. V CIR All independent retailers bar one (Kenlock 2) payments were
revenue by nature. Kenlock 2 had to change its business structure significantly and also the fact that the
payment was specifically calculated on turn over suggested to the courts that it would be held as capital.

C of IR v LD Nathan tried to claim deduction for goodwill which had been made in the course of a
takeover of another company. Courts disagreed, said it was capital as a payment for goodwill is an
outgoing of a capital nature.

Buckley & Young Ltd. v C of IR TP came to an agreement with disgruntled director/shareholder to
sever ties and get slapped with a restrictive covenant not to compete and in return the TP agreed to pay
him some royalties like car, \$6k p.a., retirement funds etc. TP then tried to claim everything. Courts held
the restrictive covenant is part of the income-earning structure and thus capital, whereas the retirement
funds can be deductible.

Examples of the Applications of Various Tests
1. Recurrent and once and for all payments basically considers whether it is a recurring expense
or a once and for all payment. A recurring expenses suggests it is part of the ordinary business
operations and thus revenue. However, it is necessary to look at the primary purpose for which the
expenditure is outlaid. If the recurrent expenditure relates to capital work, then it may be capital and
not deductible. Like wise for a once and for all payment being capital always, thats just not the case.
Christchurch Press Co Ltd. v C of IR Wages being a recurrent payment would usually be
revenue expense and thus deductible to the employer. But in this case it was held to be capital by
nature and non deductible because the employees were directed principally to the acquisition of a
capital asset rather than their regular performance of work.

Case Examples: the payment of wages

2. Enduring Benefit Test under this test, expenditure will be regarded as of a capital nature where it
brings into existence an asset or an advantage for the enduring benefit of a business. E.g. a 10yr lease
for the hire of something would be held to be capital.

British Insulated and Helsby Cables Ltd. v Atherton TPs company established a retirement
fund/pool for the benefit of its staff. They then wanted to claim deductions for the regular payments.
Courts held it to be similar to the nature or an asset, you control the asset and it gives you an enduring
benefits.

Case examples: trade ties, cancellation of agency agreement, capital injection into an ailing company,
and asphalting a car yard forecourt.

3. Fixed or Circulating Capital Fixed capital relates to fixed plant, whereas circulating capital is
turned over in the course of making profits. Very difficult to apply and criticized for being irrelevant.

Inglis v CIR determined that property bought for the intention of resale takes on the nature of
circulating capital by virtue of CB4.

Case examples: payment for the release from obligations (held to be capital)
payment to terminate an agreement (held to be revenue)
Purchase of stock-in-trade, and
Losses on discounted commercial bills

Lease Incentive Payments
Lump sum inducement payments have generally been regarded as a capital receipt however, the
Australian case of FCT v Cooling held the lease inducement payment to be income under ordinary concepts
as moving from one premises to another was part of its business activity. However, in the New Zealand
case of Wattie and Anor v CIR, courts held inducement payment to be capital and not taxable. Mainly due
to the fact that the payment was found to not be a form of rent subsidy and was not from the ordinary
course of the business.

Lease Surrender Payments
Section CB1 is seen to apply because the payment is derived from any business. However, if the surrender
of the lease is of such significance to the business that it constitutes the loss of a structural asset, the
payment will be treated as capital.

CIR v McKenzies New Zealand Ltd. McKenzies wanted to get out of a 32yr lease that they couldnt
sublet. They negotiated 2yrs rent for the surrender of the lease. This became income in the hands of the
landlord and McKenzies also wanted to claim it as a deductible revenue payment. Courts held that it was a
capital payment for McKenzies as it altered the structure of the business, was a one-off lump sum payment
and conferred an enduring benefit. And since the lease was a capital asset under accounting standards, the
lump sum paid as consideration for its disposal was also capital expenditure.

Questions on Income and Capital

Question 1

Explain the tests used by the Courts to determine whether an amount of income or expenditure is capital or income
according to ordinary concepts. Refer to any relevant cases or sections that apply these general rules, and briefly
identify any sections of the Act that create exceptions to the general rules.

Question 2

Subpart OB of the Income Tax Act 2004 contains definitions of numerous terms and concepts relating to the taxation
of income, but it does not include satisfactory definitions of either capital or income. Furthermore, case law has
indicated that the distinction between these two concepts is often blurred. What principles and approaches have the
courts developed over the years in order to bring the distinction into sharper focus?

Question 3

J Company has constructed a large apartment and office building and is looking for tenants. They offer B Company
\$115,000 in a lump sum to take on a 10-year non-transferable lease for 5 floors of the building. B Company accepts
the offer but is not sure whether to return the payment received as income in the financial year. J Company is also
not sure whether the payment is deductible.

Required:-

With reference to case law and legislation:

(i) Discuss the tax treatment of the payment for Company J.
(5 marks)
(ii) Discuss the tax treatment of the payment for Company B.
(5 marks)

Question 4

Using reference to appropriate statutory authority and relevant case law consider whether the receipt of this \$1 mil
is assessable income. What further facts could assist you in providing your advice?

Question 5

Advise whether income is their assessable taxable income?