The most common scenario where a company might issue shares and declare the issue to be a taxable bonus issue, is before a sale and purchase of shares of that company. Usually this will be undertaken at the behest of the continuing shareholders.
Pre-sale, advisers will have identified that the sale and purchase of shares will result in the forfeiture of tax losses or imputation credits.
This insight focuses on imputation credits, and readers will be aware that 66% shareholder continuity must be maintained to ensure imputation credits are not lost.
There is a real cost to the new and continuing shareholders if imputation credits are forfeited on sale, as this will result in unimputed retained earnings. The tax cost of simply losing imputation credits is not borne immediately, but a future purchaser will invariably take into account the 33% tax cost of unimputed retained earnings in the purchase price. Or, if the business is wound up, the shareholders will effectively have to fund RWT at 33% on the unimputed accumulated earnings.
There are two options to utilise imputation credits before the sale and purchase of the shares.
The first option is to pay a fully imputed dividend pre-sale. There is an extra 5% tax cost for NZ shareholders. Depending on the percentage of any shares held by a non-resident shareholder, there may be nil non-resident withholding tax under the domestic tax legislation, or if a DTA applies potentially at reduced rate from the standard 15%.
The downside with this option is the cash requirement to fund the taxable dividend.
The second option is for the company to issue bonus shares and declare the issue as a taxable bonus issue, which is fully imputed. Whilst there will similarly be the RWT 5% cost, there is no requirement to fully fund the bonus issue by cash reserves.
A further benefit is that the retained earnings which are the subject of the taxable bonus issue convert to available subscribed capital. There is no future tax cost at 28% on the retained earnings that would otherwise arise if a TBI had not been undertaken, and the company can consider a share repurchase to reduce the capital in future.
The IRD have previously approved such actions in the context of a change of shareholders, and as tax is fully paid on the TBI, there is no alteration of the incidence of tax that could give rise to tax avoidance concerns.
The TBI is undertaken by appropriate director and shareholder resolutions, and notification should be given to the Companies office of the issue of shares.
Also, notification must be given to the IRD of the TBI by the time the company’s tax return is required to be filed, otherwise the TBI becomes non-taxable.
