20/04/2022·4 mins to read
Trustees beware: new tax disclosures and mandatory financial statements for trusts
While still grappling with the full implications of the Trusts Act 2019, many trustees will now also need to disclose wide-ranging trust information to Inland Revenue with trust tax returns.
On top of this, they will need to ensure that trust financial statements are prepared. This will impact many trusts, including small family trusts, that have not previously needed to have formal financial statements. Our sense is that the new requirements are not yet widely understood.
Overview of the new information disclosure rules
As we reported previously, from the 2021-2022 income year (generally ending 31 March 2022) trustees of many trusts will be required to disclose to IRD:
- Financial accounting information, including a basic profit and loss statement and statement of financial position (each to be extracted from the financial statements – see below)
- Settlements on the trust (being most transfers of value, in cash or in kind) and all distributions, whether or not taxable, in the income year, along with identifying details of the settlor and recipient beneficiaries (including their jurisdiction of tax residence)
- Details of settlors who have made settlements in earlier income years, if this information has not previously been provided to IRD
- Identifying details of any person with powers to appoint or remove a trustee or beneficiary or to amend the trust deed.
The new disclosure rules generally apply to trusts that derive any assessable income. However, a trust may be excluded as “non-active” if it derives a maximum of $200 from bank interest per tax year. The disclosures also do not apply to specific types of trust, including registered charitable trusts, foreign trusts (already subject to a separate disclosure regime), non-active trusts, and trusts eligible to be Māori authorities.
The information must be provided with the trust’s IR6 income tax return. For a trust with a 31 March balance date, the return and information for the tax year ended 31 March 2022 is due to be filed by 7 July 2022 unless an extension of time is granted (eg through the trust using a tax agent).
IRD has issued an Operational Statement setting out its view of the information required. For example it considers that at a minimum, a reconciliation on a line by line basis of all beneficiary accounts will be required, showing the opening balance, each and every distribution (and the category of each distribution), drawings (eg trust property enjoyed for less than market value, in-kind distribution of trust assets, debts forgiven and cash distributions), and the closing balance.
What is behind the new disclosure rules?
The stated purpose of the increased disclosures is to enable IRD to assess the incidence of the new 39% individual income tax rate, given that the trustee tax rate was left unchanged at 33%, and to better monitor the use of structures and entities by trustees.
In mid-March a discussion document was issued proposing measures to limit the ability of individuals to avoid the 39% or 33% personal tax rate by using a company structure. This was described as tranche one of measures to support the 39% personal tax rate. It was announced that a second tranche will include consideration of “trust integrity”, and that the specific information collected under the new disclosure rules may help to inform how trusts are used and what measures could be considered to prevent the under-taxation of income from the use of trusts.
Trust financial statements
An Order in Council was signed off in March which requires all trusts that are subject to the new disclosure rules to prepare financial statements that must meet certain minimum standards. The full financial statements are not required to be disclosed to IRD unless requested. However, the profit and loss statement and statement of financial position required to be disclosed must be extracted from the obligatory financial statements. The financial statements must:
- Include a statement of financial position setting out the assets, liabilities, and net assets of the trust as at the end of the return year
- Include a statement of profit or loss showing income derived, and expenditure incurred, by the trust during the return year
- Be prepared using the double-entry method of recording financial transactions
- Use prescribed valuation principles and disclose the valuation method adopted for land, buildings, and shares/ownership interests (the valuation method adopted may be different for each category). The valuation principles require assets and liabilities to be valued either at market value, historical cost or tax adjusted value (although the latter may only be used in relation to assets that produce assessable income, including income derived on the sale of the asset).
So-called “simplified reporting”, meaning financial statements meeting the above minimum standards, will be sufficient for a trust that, for the applicable return year, has:
- Less than $100,000 assessable income (excluding income under the residential property bright-line rules); and
- Less than $100,000 deductible expenditure (excluding deductible expenditure related to the residential property bright-line income); and
- Total assets in the statement of financial position (including both private and income producing assets) valued at less than $5 million as at balance date.
We expect that many smaller trusts that may have previously not had formal financial statements prepared by an accountant will now need to do so.
Where simplified reporting is not available, the financial statements must also (and in addition to meeting the minimum standards outlined above that apply to all affected trusts):
- Be prepared applying the principles of accrual accounting
- Include a statement of accounting policies
- Disclose comparable figures for the previous income year (where available)
- Reconcile profit or loss in the statement of profit or loss to taxable income
- Provide a schedule of fixed assets and depreciable property used for tax purposes
- Include details of associated person transactions, unless the transaction is minor and incidental to the activities of the trust or the transaction is at market value or has already been disclosed in any form prescribed by IRD.
The final straw for some trusts?
Given the compliance costs that will be involved for trusts to meet the new requirements, one consequence (whether intended or not) may be to encourage many trusts to be wound up – a step that some trusts may already be considering in light of the non-tax trustee disclosure obligations brought in by the Trusts Act 2019.