The New Zealand ‘foreign trust’ regime was created in the late 1980s. It arose as a result of a domestic initiative to make it difficult for New Zealand residents to utilise offshore trusts for tax minimisation, by imposing a tax liability on the New Zealand resident settlor as agent for the offshore trustee. Thus the emphasis for tax purposes shifted from the concept of trust tax residency to one of taxing a trust based exclusively on the residency of the settlor.
The settlor based taxation approach threw open the opportunity for foreign residents to settle New Zealand trusts (ie, with a New Zealand trustee and usually New Zealand governing law) without incurring New Zealand tax. Such trusts are not liable for tax in New Zealand except in respect of New Zealand sourced income, as long as the trusts continue to have no New Zealand resident settlors.
The ‘settlor’ and ‘settlement’ definitions are cast very broadly so care has to be taken to ensure no inadvertent settlements occur. Broadly speaking, the settlement concept will take into account any conferring of value upon a trust on other than arm’s length terms. For example, an interest-free loan advance to a trust will trigger a deemed settlement.
The foreign trust regime was initially used for international wealth planning by a small number of trustees, advisors and institutions who saw the advantage in utilising a non-‘tax haven’ jurisdiction which has a good reputation and international standing, good laws, good infrastructure and high quality professional services. However, the real impetus for the development of the foreign trust regime was the introduction of tax haven blacklisting by the Mexican Government in the late 1990s as a result of pressure from the OECD. This then led to advisers for wealthy Mexican clients looking to onshore, non-blacklisted, alternatives – and New Zealand was one of the few available.
A number of other Latin American countries followed the blacklist approach after Mexico, and New Zealand trusts appealed to advisors representing clients from these jurisdictions as well. Eventually Mexico moved away from a simple blacklist approach, but New Zealand trusts continued to be attractive to Mexican clients and their advisors because of familiarity with the jurisdiction – and the quality of the jurisdiction.
The saying that “onshore is the new offshore” has substance, and it received a further impetus as a result of the post 9/11 initiatives undertaken by OECD and FATF, which made life very difficult for the traditional offshore financial centres. Onshore jurisdictions were generally left alone, including jurisdictions such as Delaware in the United States, New Zealand, and the Netherlands.
Because of these international initiatives, even if Latin American blacklisting was to be removed in its entirety, I expect that New Zealand would continue to be a popular jurisdiction to base trusts and other international wealth planning structures.
In the blacklisting context, it is often the case that a non-blacklisted trust will drop back into the blacklist if underlying entities within the structure are in blacklisted jurisdictions. In the early days this resulted in the use of a wide range of corporate vehicles and partnerships as underlying holding vehicles in tandem with New Zealand trusts. This included Delaware LLCs, Singapore companies, Scottish partnerships, Dutch CVs, and a variety of other limited partnerships.
New Zealand companies could not historically be used as underlying holding companies as these were taxed in their own right on worldwide income. However, as a result of initiatives over the last five years, we now have the opportunity to use New Zealand look-through companies (LTCs – very much like the US LLC) or New Zealand limited partnerships as corporate vehicles wholly owned by trusts, with the benefit of limited liability and fiscal transparency.
New Zealand also permits the use of private trust companies, as well as managed trust companies. Until recently it was correct to say that the provision of trust services was an unregulated business activity, but that has changed as a result of the enactment of the Financial Service Providers (Registration and Dispute Resolution) Act 2008, which may require trustees in some circumstances to register under that Act. However, once registration is completed the level of regulation is negligible as long as the trustee provides services exclusively to non-resident clients, and those clients can be regarded as ‘wholesale’ rather than ‘retail’ clients.
The other area where regulation has to be addressed is in the context of anti-money laundering and countering terrorist financing. New Zealand has an existing regime but it is soon to be superseded by a new one which is much more prescriptive and comprehensive in its nature. All trust and corporate service providers will have to comply with the terms of the new regime when it comes into effect in 2013, and in the meantime have to comply with the more ‘light-handed’ regime under the Financial Transactions Reporting Act 1996.
In terms of practical examples of the use of New Zealand structures, the most common structure is typical of what may be found in a multitude of jurisdictions around the world: in other words a trust settled by an individual member for the benefit of the settlor and his/her spouse, children and other issue; and/or remoter relatives. Assets would typically be held via an underlying wholly owned company. Management of investments in the underlying company may be delegated to professional investment managers or associated parties of the trustee (if it is an institutional trust company), or in some cases to the clients themselves.
We see trusts structured in a wide variety of other ways as well: merely by way of example – a commercial escrow trust; or an employee benefits trust. In other words, any typical trust vehicle which one might see in another jurisdiction can generally be replicated in New Zealand, with one possible exception under current rules being a fully ‘unitised’ trust.
Unit trusts in New Zealand are treated as companies for tax purposes and therefore they may not get the benefit of the New Zealand foreign trust tax treatment. There are some mechanisms for planning around this difficulty by structuring such a trust as a master trust with a number of sub-trusts beneath it. It may also be feasible to achieve a tax exemption by bringing the trusts within the New Zealand Portfolio Investment Entity regime (the PIE regime). The bottom line is that care needs to be taken in respect of trusts which involve pooling of investments and unitisation.
New Zealand provides a high degree of confidentiality from a client perspective. Whilst there is a foreign trust disclosure regime, all this involves is the furnishing to the Inland Revenue Department of a form confirming the identity and address of the trustee; the name or another identifying feature of the trust (eg, the date of the trust instrument); and confirmation that none of the settlors of the trust are Australian resident. A New Zealand foreign trust earning offshore sourced income does not have to file a tax return in New Zealand or obtain a tax file number.
Whilst New Zealand does have an extensive range of double tax agreements and tax information exchange agreements, those agreements do not permit ‘fishing expeditions’ by foreign Revenue Authorities.
There is often debate as to whether New Zealand trusts might serve a purpose in the context of international tax treaty planning, given that the trust may be resident within New Zealand and beneficially entitled to income received (in the case of a discretionary or an accumulations trust). There is also the argument that the trust is prima facie liable to tax on all its income, with a ‘carve-out’ by way of exemption on an annual basis for so long as the trust continues to have exclusively non-New Zealand resident settlors.
This is a complex technical area and it is impossible to make any general statements without considering specific treaties and specific categories of income. However, I would note that in the early 2000s New Zealand trusts were successfully utilised to obtain a step up in value for UK capital gains tax purposes, most commonly in relation to real estate assets. These so-called ‘round the world’ schemes were closed down by modification to the UK/NZ double tax agreement. The fact that the UK Revenue felt the need to negotiate an amendment to the DTA tends to indicate that in some circumstances there can be valid tax planning using New Zealand foreign trusts. The irony in that particular case is that New Zealand does not have a capital gains tax so it was surprising that some concessions on UK CGT were included within the old DTA.
There is a very substantial use of discretionary trusts in New Zealand for domestic estate planning and asset protection. These tend to be fully discretionary trusts with limited powers reserved for the settlor other than perhaps a power to appoint and remove the trustee and/or to appoint and remove beneficiaries. This lack of control at settlor level is, however, watered down by the fact that most domestic New Zealand trusts involve the settlors acting as trustees, or as directors of a private trust company.
What we have seen in recent years, particularly with the growth of the use of trusts by Latin American clients, is a demand for revocable trusts and trusts with substantial powers reserved to the settlor or other parties. Whilst revocable trusts are very unusual by New Zealand domestic standards they are permitted at law in New Zealand.
Reserved powers trusts are somewhat more of a novelty and have yet to be examined by our courts. However, if properly crafted there is no reason why a reserved powers trust will not be considered valid and effective according to its terms, as long as clients and their advisers do not go overboard in reserving so many powers that the trustee is simply functioning as a nominee or custodian, in which case the efficacy of the trust for the client’s domestic tax planning or other purposes is likely to be compromised.
John Hart Barrister