Taxpayer wins important residency case against Inland Revenue
Tax Alert - February 2016
By Joanne McCrae and Veronica Harley
This article was first published on tax@hand on 21 December 2015 and is reproduced in this edition of Tax Alert.
The Court of Appeal has dismissed an appeal by Inland Revenue against a High Court judgment, finding that the taxpayer, Mr Diamond, did not have a permanent place of abode in New Zealand and was therefore not tax resident during the income years ending 31 March 2004 to 31 March 2007. We have reported on the earlier High Court (“Residency cloud clears”) and Taxation Review Authority (“Residence storm brewing”) cases. It seems with this Court of Appeal decision, the sun is shining brightly.
In dismissing the Commissioner of Inland Revenue’s appeal, the Court of Appeal has also set out clear guidance for how to correctly interpret the residency rules in the Income Tax Act. Essentially the dispute centred on the interpretation and correct approach to determining a person’s “permanent place of abode”.
A person will be deemed tax resident in New Zealand if they are personally present for 183 days in total in a 12-month period (also referred to as a bright line test). However, a person can also be tax resident in New Zealand if they have a permanent place of abode in New Zealand even if they do not meet the personal presence test. A person will be deemed not tax resident once they are personally absent for a period of 325 days in a 12-month period (provided there is no permanent place of abode).
Background to this decision
Mr Diamond left New Zealand permanently in 2003 to work in overseas hotspots as a security consultant. When he left New Zealand he was separated from his wife who he later divorced while overseas. He had children who remained in New Zealand who he supported financially and also had an investment portfolio (including rental properties) which he financed through a New Zealand bank account. Upon leaving New Zealand in 2003, Mr Diamond returned with reasonable frequency. However it was accepted that in each of the relevant tax years, Mr Diamond was absent from New Zealand for a period or periods exceeding in aggregate 325 days and was not resident under the personal presence bright line test. In the first case, the Taxation Review Authority agreed with the Commissioner's argument that one particular investment property (the “Waikato Esplanade property”), constituted Mr Diamond's permanent place of abode, despite the fact that Mr Diamond had never actually lived in the property. The High court disagreed with the Taxation Review Authority decision and found that the Waikato Esplanade property had never been Mr Diamond’s home and therefore could not be a permanent place of abode. It had never been lived in by him and besides owning it, he had no connection to it.
Key issue on appeal
The key issue on appeal was to determine which of the following approaches to the interpretation of a permanent place of abode is correct.
The Commissioner of Inland Revenue contended that if a taxpayer owns a dwelling in New Zealand, which is not his or her place of abode before leaving New Zealand, but is a place in which he or she could abide on a permanent basis, then that dwelling can then be assessed on the basis of the totality of the circumstances to ascertain its status as the permanent place of abode.
This is referred to as a “two-step process” and is the basis adopted in the Inland Revenue’s interpretation statement released in March 2014.
In the alternative, the phrase permanent place of abode means having a home in New Zealand in which the taxpayer usually abides on a permanent basis.
Analysis and key findings
The Court of Appeal started with analysing the legislative history of the relevant sections, and reviewed various government reports to determine parliamentary intention. The Court concludes that this analysis “does not convincingly demonstrate any parliamentary intention to depart from the concept of a “home” in order to achieve a broader tax base”. The Court of Appeal goes on to say “It also supports a desire to retain the nuanced and contextual approach captured in the same phrase as used (albeit in a different statutory context) in Australian cases such as Federal Commissioner of Taxation v Applegate. This includes the “concept” of home in its broader sense, namely a dwelling being the subject of enduring and clear ties on the part of the taxpayer.”
In finding that Mr Diamond did not have a permanent place of abode in New Zealand, the Court of Appeal makes the following important points:
- Case 55 does not support the Commissioner’s approach that the mere availability of a dwelling is sufficient, even if it has not been used by the taxpayer as a dwelling previously. Case 55’s authority is limited to cases where the taxpayer who is temporarily absent from a property with which there had been an enduring connection has a clear intention to return to it when the period of absence is finished.
- In examining the plain meaning of the statutory language, the word “permanent” is important. It is the opposite of temporary and means “continuing or designed to continue indefinitely without change”. The word “abode” means “habitual residence, house or home or place in which the person stays, remains or dwells”. The plain ordinary meaning coupled with an analysis of legislative history demonstrates the phrase means more than the mere availability of a place to stay and implies actual usage of the property by the taxpayer for residential purposes.
- The scheme of the sections, whereby the bright line test can be overridden by the permanent place of abode test, supports the interpretation of the permanent place of abode in New Zealand as a place where the taxpayer habitually resides from time to time even if the taxpayer spend periods of time overseas. Further, the implications of applying a permanent place of abode test (being that a taxpayer is taxed on their worldwide income) suggests that an interpretation beyond the ordinary and natural meaning of the term ought not to be adopted unless plainly indicated by the statutory language or the context.
- The Court of Appeal has dismissed the Commissioner’s two-step approach. The view expressed by the Court of Appeal is quite strong on this stating “the key issue with the Commissioner’s preferred interpretation is that, once a dwelling that is merely available is identified extraneous factors establishing a connection or remote ties to New Zealand can then be invoked to artificially assign to that dwelling the status of a permanent place of abode.”
- The Court of Appeal explains that the correct approach calls for “an integrated fact assessment directed to determining the nature and quality of the use the taxpayer habitually makes of a particular abode”. The Court of Appeal then goes on to set out various (non-exhaustive) factors to consider, such as continuity of the taxpayer’s presence, the duration of that presence, the durability of the taxpayer with the particular place, the closeness of the taxpayer’s connections with the dwelling, and so forth. The Court also makes the point that the evidence of the relevant circumstances of a taxpayer before and after the years in question may be taken into account in this inquiry. Also that the focus is on whether the taxpayer has a permanent place of abode and not members of the taxpayer’s family.
This is a welcome and sensible approach to the interpretation of the rules. It is a return to the normality of yesteryear in some respects and will go a long way towards providing taxpayers with more certainty on their tax residency status. It remains to be seen whether the Commissioner of Inland Revenue will seek leave to appeal to the Supreme Court. The Supreme Court will only grant leave if “it is necessary in the interests of justice”. The Court of Appeal has gone out of its way to provide clear guidance and it hard to see on what grounds an appeal may be laid. If leave to appeal is not sought or is not granted, then a new Inland Revenue interpretation statement should be forthcoming to incorporate the guidance provided by this case.
If you wish to discuss these issues further, don’t hesitate to contact your usual Deloitte tax advisor.
Tax Alert February 2016 Contents:
- Collective agreements and employee allowances – are they taxable or exempt?
- Implementing changes to transfer pricing documentation arising from BEPS actions
- Taxpayer wins important residency case against Inland Revenue
- Proposed deduction denial for detailed seismic assessments
- Tax treatment of lump sum settlement payments – draft released
- Business Transformation: Inland Revenue needs you!