Over the last ten years there have been major changes in the tax law and tax administration, including increased responsibility being placed on taxpayers to assess their own tax liabilities.
Avoiding Penalties (Press Ctrl-P to Print)
Up until the 1997/98 income year, however, the responsibilities were never clearly spelled out, and taxpayers who wanted to play the system could do so without exposing themselves to much risk or loss.
However, tax laws are now in place which impose significant penalties and interest on taxpayers who do not comply with the required standards. These changes are regarded as being among the most significant changes to the tax law in many years. Below we set out your obligations as a taxpayer and outline the penalties that apply on tax shortfalls, late filing and late payment. This is an area of tax which you need to fully understand as the consequences of non-compliance are severe and can include not only exposure to civil penalties but in some cases criminal penalties involving severe fines, name publication and possible imprisonment.
Your tax obligations
Because the tax system is primarily based on self-assessment, all taxpayers from individuals through to companies must assess their own tax liability and pay tax accordingly. Up until the 1997/98 income year, there were no clear rules setting out taxpayer compliance obligations, and those taxpayers who were so inclined could play the system without fear of much reprisal. While there were sanctions in place for non-compliance, the imposition of such sanctions by the IRD was often discretionary.
This issue has been addressed with the introduction of a set of obligations or standards with which taxpayers must comply. These standards are reinforced by comprehensive penalties. They define exactly how far you as a taxpayer are expected to go, to meet your tax obligations.
Your tax obligations can be summarised as follows:
* correctly determine your tax payable under the tax laws
* deduct or withhold the correct amount of tax from your payments or receipts
* pay your tax on time
* keep all necessary information (including books and records) and maintain all necessary accounts or balances
* disclose to the IRD in a timely and useful way all information required under the tax laws
* co-operate with the IRD to the extent required under the tax laws
* comply with all other obligations imposed on you by the tax laws
It is important to realise that these obligations fall on you as the taxpayer. They cannot be transferred to your accountant or tax adviser, regardless of whether you are paying them to take care of your obligations. You are the one who is ultimately responsible for meeting your tax obligations.
From which date do the compliance rules apply?
These tax obligations have been effective from varying dates depending on the type of tax involved.
Penalties on tax shortfalls
Penalties are based around the concept of taxpayers using reasonable care to meet their obligations and interpreting the tax law in a reasonable way.
If a shortfall in tax arises between the amount of tax you have reported and the correct tax position, there are varying penalties which you can be subject to. These penalties are described below.
20% penalty for lack of reasonable care
If you have an underpayment of tax because of a lack of reasonable care, you will be subject to a 20% penalty. The test of reasonable care means that you must have taken the care that a reasonable person would have taken in your circumstances.
The IRD has said that you will be able to prove reasonable care if you use an accountant or other tax professional to prepare your tax return and provide you with tax advice. However, you will not reach that standard if your tax adviser has relied on information from you which is not correct, or if you have failed to provide all the necessary information. If you rely on the advice of a tax professional knowing that the advice is probably wrong, you will also fall short of the standard.
When it comes to tax return time, most tax professionals will provide you with a questionnaire regarding your financial affairs so that they have all the necessary information. Take care when you fill this out to ensure that all matters which might affect your tax position are disclosed. Always keep a copy of your completed questionnaire in the event of a subsequent investigation by the IRD.
20% penalty for unacceptable interpretation
Any underpayment of tax which results from your unreasonable interpretation of the tax law will be subject to a 20% penalty. This standard applies only in circumstances where the shortfall exceeds both $10,000 and the smaller of 1% of your total tax figure for the period or $200,000. The test which is applied for this penalty to be imposed is whether your tax treatment is about as likely as not to be correct. The test focuses on the merits of the argument you use to support your tax treatment.
Even on issues where you have obtained legal or tax advice to support your interpretation on a particular tax issue, you may still be open to the penalty for unacceptable interpretation. Merely having an opinion from an adviser does not necessarily mean that it is a reasonable interpretation.
40% penalty for gross carelessness
This penalty will apply if you are found to have been grossly careless in your actions, with a significant level of disregard for the consequences. The test is whether the consequences would have been foreseen by a reasonable person in the circumstances. It falls beyond lack of reasonable care but is less than evasion or criminal intent.
100% penalty for abusive tax position
You will be liable to a 100% penalty on a shortfall of tax if it is caused by an abusive tax position. This applies where the shortfall exceeds a flat $10,000 amount, where you have applied an unacceptable interpretation to a tax law and where you have a dominant purpose of tax avoidance in adopting the tax position.
150% penalty for tax evasion
A tax shortfall which results from tax evasion will attract a penalty of 150%. This is the most serious form of non-compliance, involving a deliberate attempt to cheat the IRD. In addition to the penalty, evasion can result in prosecution for knowingly making false tax returns.
How you can reduce shortfall penalties
The amount of the penalties imposed on tax shortfalls can be reduced in certain circumstances. Such reductions have been introduced to encourage taxpayers to voluntarily disclose details of any underpayment in their tax.
Essentially, all forms of the penalties can be reduced by 75% if you voluntarily disclose a tax shortfall before being notified by the IRD of a pending tax audit. If, however, you receive an audit notice and then voluntarily disclose details of a tax shortfall, the penalties can still be reduced but only by 40%. Such disclosure must be made before the audit or investigation begins. In addition, all of the penalties can be reduced by 75% if the tax shortfall is merely temporary. In other words, if you can satisfy the IRD that the shortfall is reversed or corrected in an earlier or later tax return the penalty can be reduced, as long as the reversal or correction occurs before you receive an audit notice.
All shortfall penalties can also be increased by 25% if you deliberately obstruct the IRD from determining your correct tax position. However, this does not mean that you are prevented from contesting an IRD assessment or having an opinion different from that of the IRD.
Late filing penalties
Taxpayers who do not file a tax return by the due date are liable to pay a late filing penalty. The standard penalty is $50, which increases to $250 if your net income is greater than $100,000 and increases again to $500 if your net income exceeds $1,000,000. In addition, there is a $250 penalty if PAYE and ACC reconciliations are filed late.
The IRD must warn a taxpayer that a tax return is overdue before imposing a late filing penalty. This can be done either specifically through a notice or generally through advertising.
Late payment penalties
Standardised penalties apply to late payments of all types of tax. The initial penalty is 5% of the unpaid tax, and it is imposed by the IRD on the day after the due date for payment. Further penalties of 2% will be added each month to the total amount outstanding, including earlier penalties.
The Government plans to reduce the incremental monthly late payment penalties from 2% to 1% for tax debts that arise in the 2002 and future income years. This change is expected to be passed into law later this year.
Interest on underpayments and overpayments
A two-way interest system apples for all underpayments and overpayments of tax. It was introduced as an incentive to taxpayers to pay the right amount of tax at the right time and to remove any benefit from deferring payment.
For tax years from 1997/98 onwards, interest is calculated daily on the difference between the amount of tax you have paid and the amount of tax assessed, including any penalties which have been added. In line with commercial practices, any interim payments you make to reduce your tax liability will be applied first to any interest owing and then to the underlying tax liability itself.
Interest paid by the IRD on overpayments must be reported in your income in the year of receipt and will have withholding tax deducted at source, while interest charged on underpayments will be deductible under the normal income tax rules. The interest rates are based on market interest rates and are reviewed from time to time.
Use of money interest rates for the quarter starting 8 November 2000 were 12.62% for underpayments and 5.74% for overpayments.
Relief from penalties and interest
If you are in financial difficulty, ask the IRD if you can set up an instalment plan. If you stick to the arrangement, your late payment penalties and interest may be either reduced or cancelled.
Aside from entering into an instalment plan, there are other instances where the IRD may let you off some of your penalties. This could be where they are satisfied that you failed to meet your tax obligations because there was:
* an event or circumstance that provides reasonable justification for the omission
* genuine oversight and confusion, or a one-off situation
* incorrect advice given by the IRD
A situation where the IRD might agree to let someone off use-of-money interest is when an IRD officer has given incorrect advice which has directly caused a return or payment to be made late.
* near enough is no longer good enough, you now cannot afford to take a punt on your tax position
* make sure you understand your new tax obligations, because the penalties for not complying are severe, costly and can result in prosecution
* realise that your tax obligations fall solely on you and cannot be transferred to any third party, even your tax adviser s you are the one who is ultimately responsible for getting it right
* be aware that even on issues where you have obtained professional advice you can still be subject to penalties
* if you realise you have under-reported your tax, you can reduce your penalties by advising the IRD before an audit is underway.