Thursday 4th of March 2004

I now turn to the vexed issue of the taxation of offshore portfolio investment. As you will no doubt be aware, my officials released an issues paper at the end of last year outlining two options to reform the tax rules in this area. One was the standard return approach – based broadly on the Tax Review’s risk-free rate of return method. The other was the offshore portfolio investment rules – essentially, a modified version of the current foreign investment fund rules. Under both options, the so-called “grey list” would be removed. It is fair to say that the proposals have generated significant interest and, among some commentators, a little concern. This is not surprising – there are no easy answers in this area. As an experienced politician, I should not have been surprised at some comments made that this is a devious attempt to introduce a capital gains tax or an across-the- board wealth tax. Let me assure you that I have no such agenda. My position is very simple. I cannot see sense in rules that, for example, tax an individual on accrued capital gains on investments in most countries of the world but impose almost no tax on such investments in a few selected countries – and, as a result, expose the tax base to Australian unit trust-type structures. I cannot see any sense in that. Nor can I see sense in rules that penalise investors using savings intermediaries, especially if the funds are actively managed and based in New Zealand rather than offshore. The issues paper raised options to try to bring a little more sense to this area. That is my objective. The options set out in the issues paper are not perfect. On the other hand, current rules seem to me to be far from perfect. If there are better options please raise them. But remember that viable options must continue to raise tax revenue and must not penalise investment in our own country. With your help I think we can have a process to work through these issues. Officials continue to receive submissions on the proposals and will report to me once these have been considered. I hope then to be in a position to make a final decision on the direction for reform. Meanwhile, as signalled in the issues paper, the savings industry is keen to consider whether a version of the risk-free rate of return method could be developed to tax the investments of domestic savings entities. Such an approach is worth exploring because it has the potential to provide improved consistency to the taxation of savings. There are a number of very complex issues that would need to be addressed before this approach could be implemented. I would like to work closely with industry representatives in the coming year to see if these issues can be addressed and an appropriate solution developed. This work has a greater chance of success if the taxation of offshore investment is considered along with domestic investment. This inevitably means that any offshore solution cannot be applied from the 2005-06 year. I am prepared to accept this delay on the basis that an interim solution is enacted to deal with the Australian unit trust issue. I am advised that a significant and growing amount of investment is now flowing into these structures, giving rise to a serious base maintenance concern. If officials can develop an interim solution to plug this leak, the government will be recommending it for enactment as soon as practicable. The use of a risk-free rate of return method to tax the investments of domestic savings entities also provides an opportunity to consider approaches to removing some of the disincentives to invest in retirement savings vehicles such as superannuation funds. By taxing the investor under a risk-free rate of return method, it is possible to tax that income at the marginal tax rate of the investor, thereby removing the current over-taxation or under-taxation of members of superannuation funds. That has appeal but is, of course, dependent on where we get to on the wider issue of the viability of the risk-free rate of return method generally. I am also keen to develop policy options that would increase work-based retirement savings schemes. The Periodic Report Group, in its December report, noted that there was value in promoting greater use of work-based savings schemes as a way for new Zealanders to save for retirement – the reasons being that as such schemes provide deduction at source, economies of scale and an avenue to reach a high proportion of the population. The report group recommended that the government establish a work-based savings group to develop an agreed approach to promote work-based savings. This recommendation has merit and I am in the process of developing terms of reference for a group to be established to look at the design of a work-based savings product. It is my intention to announce the membership of this group and its terms of reference before this year’s budget. The whole issue of saving for retirement – and New Zealand’s lack of it – has been a long-standing concern of mine. Some progress has been made in areas such as the superannuation fund. The Saving New Zealand forum last year provided a platform to move forward.