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Chapter 2 - The Rewrite Project |
Introduction Principles of statutory interpretation Aspects of the rewritten statute Aspects of the rewrite project Additional recommendations |
| Archive - these pages are part of the continuing record of Executive Government - for the current Administration, see www.beehive.govt.nz |
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Chapter 2 - The Rewrite Project |
Introduction Principles of statutory interpretation Aspects of the rewritten statute Aspects of the rewrite project Additional recommendations |
Codification of judicially-formulated rules
2.160 It is a common practice in the codification of laws for Parliament to adopt judicial formulations of rules and to arrange them into a systematic matrix. This approach has carried over into income tax legislation. For example, for many years New Zealand’s test for corporate residence followed passages in The American Thread Co v Joyce52 and De Beers Consolidated Mines Ltd v Howe.53 Even now, as section OE 2 of the Income Tax Act 1994, the test continues to exhibit traces of that early influence. Another example is what is now section CD 4 third limb (the taxation of profit-making schemes), which follows Ruhamah Property Co Ltd v FCT54.
2.161 When lawyers’ law on topics like the sale of goods or the law of partnership is codified, it often makes sense to adopt judicial statements from the cases. The reason is that judges have heard arguments on the relevant issues, and are in a good position to formulate legal principles that take account both of other relevant rules and of competing economic interests.
2.162 These considerations carry over only imperfectly, if at all, to the tax area. Judges are ill-equipped to make fiscal policy, and disavow trying to do so. As a result, judicial statements of tax law will typically be either interpretations of existing statutory rules, or an effort to make sense of what judges believe the law to be. Either way, judicial statements may or may not reflect the law that tax policy makers would formulate if they started from a basis of trying to put into effect the most appropriate fiscal policy for the transaction in question.
2.163 It follows that tax policy makers should not uncritically adopt judicial statements of law as embodying appropriate fiscal policy55. In the opinion of the committee, government tax policy makers and tax law drafters should first determine what the law should be from the point of view of economic policy. If drafters then want help in constructing an elegant formulation it makes sense to turn to judgments to see whether they help. But judgments should not be looked on as a source of economic policy.
2.164 There are sometimes suggestions that New Zealand should continue its former practice of moving judicial pronouncements straight into the Income Tax Act with little or no editing. Something of that nature may have happened with section CD 5, discussed in the preceding sections of this report. The committee cautions against that practice.56
Aspects of the Rewrite Project
Ambulatory process
2.165 The process of rewriting the Income Tax Act is expected to last some years. The Act in force today is a mixture of rewritten provisions (the core provisions) and provisions yet to be rewritten. Current plans are for the future results of the exercise to be enacted in two bills that are likely to be a year or more apart. During this time it is inevitable that some provisions will be rewritten or moved several times, as the implications and consequences of later decisions and of changes made to later rewritten provisions are worked through the core provisions and on other provisions enacted earlier. This situation involves an obvious cost to users. If the committee’s recommendation elsewhere in this report, that schedule 23 should be continually updated in the manner described in para 2.185 is implemented, that would go some way towards addressing that cost.
2.166 The benefit of adopting this staged implementation of the rewrite is the earlier availability of portions of the Act showing the benefits of the rewriting. An alternative was for rewrite to proceed in parallel with the ordinary annual amendment process, but be enacted only when it was substantially finished.
2.167 The choice between enactment in stages and enactment only on completion of the whole Act involves a difficult judgment, but the committee believes that the government was probably correct to opt for an ambulatory process.
The tandem simplification/substantive improvement programme
2.168 A distinctive feature of the New Zealand rewrite project, in contrast with approaches taken by concurrent rewrite projects in Australia and the UK, is the decision to include within the scope of the project the making of substantive changes in policy and to the the law, as opposed to limiting the project’s mandate to re-expressing the status quo. Relatively minor changes, and the resolution of less contentious ambiguities, are able to be undertaken by an accelerated path, under the overview of an independent advisory panel which reports separately to government. Major changes for which a rewrite bill is expected to be the enactment vehicle are fed through the generic tax policy process in the same manner as other policy initiatives. The broader scope of the New Zealand project, which includes the opportunity to address matters of substance, enhances the chances of the project succeeding in clarifying the legislation. The committee believes this approach is advantageous.
Topics addressed in tandem with the rewrite
2.169 Officials advised the committee that the following substantive topics are being addressed in tandem with rewrite of parts C, D, and E, timing issues, property transactions, death and deceased estates, and self-assessment.
2.170 In addition to matters dealt with as part of the rewrite, the enactment of remedial legislation and government policy initiatives in non-rewrite ‘business as usual’ bills is expected to continue while the rewrite is underway. Two such bills57 were introduced and Acts passed in 1998, and a third bill58 was introduced. Among topics conspicuous by their absence are apportionment, movement of assets in and out of the tax base, accounting for long-term contracts, and tax avoidance provisions.
2.171 The committee recommends that the government should give a higher priority to these topics in the rewrite programme.
Review of compliance-intensive regimes
2.172 The tandem approach affords an opportunity to evaluate existing regimes to see whether the original reasons for the rules still obtain, and whether base-protecting elements can be removed, streamlined, or replaced with less compliance-intensive alternatives.
2.173 Officials have advised that the rewrite process does in fact focus on this kind of issue. The committee notes with approval that as part of the generic tax policy process, the rewrite exercise will include an element of cost/benefit analysis of the balance between compliance costs and the revenue expected to be raised, in respect of the portions of the rewrite exercise that must pass through the generic tax policy process.
2.174 The committee commends the focus on compliance cost reduction and looks forward to seeing the results when the rewritten legislation is progressively released.
2.175 In its Second Report, the Working Party in the Reorganisation of the Income Tax Act 197659 noted that it had tested the functional structure that it proposed for the Act. However, as reported by the working party, that testing established two things.
2.176 First, every existing provision of the 1976 Act could be fitted into one of the fifteen strategy parts that the working party proposed, leaving no existing provision without a home. Secondly, all possible additions to the Act would be found an appropriate place. Such possible additions included previous regimes that had been repealed, and regimes that are found in foreign systems but not in New Zealand. The fact that all such regimes that the committee knew about could be accommodated gave the working party confidence ‘that the parts are both robust and durable’60.
2.177 The committee does not agree with the working party’s conclusion as far as it goes. However, the committee has in mind deeper and more extensive testing than the working party reported. To pick up several of the committee’s points, the exercise should have tested whether:
It was likely that purpose provisions could usefully redrafted for parts and subparts.
It was feasible to consolidate any significant numbers of similarly worded rules into single omnibus rules.
Eliminating inconsistencies in the use of word ‘income’ by adopting a uniform gross approach is worth the cost of creating the awkward concepts and rules that are a consequence.
Adoption of drafting policies without testing
2.178 One of the initial approaches to the rewrite was to adopt firm policies and principles and to attempt to follow these principles rigorously. Two such policies in the rewrite of the income tax legislation were to begin each part of the Act with a purpose subpart, and to collect provisions that function in a similar manner (not necessarily that share a similar function) together, with a view to consolidation.
2.179 As mentioned in para 2.45, it has now become apparent that it is unlikely that part-based purpose provisions can be drafted in any useful manner, assuming the functional structure of the legislation is retained. The Inland Revenue Drafting Unit has advised the committee that it has reviewed the original proposals for the use of purpose provisions in the rewrite, in the light of more recent New Zealand and United Kingdom62 discussion of ‘purposive drafting’, and that it now intends to consider the merits of using such provisions on a case by case basis rather than assuming that a global or systematic application of them is appropriate. This development means that it is unlikely that the systematic function originally envisaged for subpart A of the various parts of the Act will be preserved. Secondly, it is far from clear that it will in the end prove possible to consolidate any significant numbers of provisions, even though the prospect of achieving that goal was the major driving force behind the Act’s functional organisation.
2.180 Each of the policies described in the paragraphs above (starting each part of the Act with a purpose provision and gathering functionally similar rules together with a view to consolidation) appears logical and sensible when stated simply as a policy. In most areas of law, it is probably true that these policies could be put into effect when drafting extensive codes. But these policies do not allow for the heterogeneous and often internally inconsistent nature of income tax law.
2.181 The committee believes that before policies such as those described are allowed to govern a major drafting exercise they should be tested empirically. Such testing would require first, the gathering together the component sections of two or three proposed statutory parts (redrafting would not be needed; the sections could be plucked straight from their former contexts). Secondly, drafters could attempt to compose meaningful purpose provisions and effective consolidated sections. Success at these exercises would not establish that they would be successful throughout the Act; nor would failure in respect of any one possible statutory part establish the opposite. The exercise would be more reliable if repeated for several proposed parts. The results would give an indication of whether the proposed policies could usefully be put into effect.
2.182 The committee notes that the drafting unit has advised that it sees the current drafting process as itself testing some of the detail of the drafting policies originally prescribed, and that it expects comments on the proposed exposure draft to provide it with independent views as to the success or otherwise of drafting policies that are adopted. However, at the same time officials advise that the kinds of relatively structural policies that the committee has discussed, such as the functional scheme of the Act, are unlikely to be subject to review. The committee notes that policies of the kind now under discussion did not originate within the Inland Revenue Department, but were approved by Ministers on the recommendation of consultants. If the Inland Revenue Department has a responsibility, it arises from embarking on the policies without testing them and advising Ministers of the results. Had tests been carried out, the difficulties which have been encountered in the rewrite process may have been avoided.
Two separate Acts
2.184 The committee considers that there might be some advantage in splitting the Income Tax Act 1994 into two separate Acts. If feasible, such a division could produce an Act of more manageable size for provisions of general application, and remove some relatively complex groups of provisions that concern only a limited number of taxpayers into a second Act. Such a second Act might be used to carry the provisions relating to cross-border transactions and certain industry specific regimes, such as petroleum mining and life assurance. The committee has not worked out the detailed implications of this proposal, and makes no firm determination as to its ultimate feasibility. The committee recommends that the government should direct officials to evaluate whether such an approach should be taken.
Schedule 23
2.185 Schedule 23 of the Income Tax Act 1994 contains a series of tables to convert section numbers between 1970s and 1990s legislation. The schedule is very useful, but its utility is progressively eroded as the rewrite process re-orders section numbers within the 1994 Act. The committee appreciates that as sections are moved from one place to another in the Act it becomes increasingly difficult to compose a table that tracks their history. Designing tables with increasing numbers of columns is only one problem. Nevertheless the committee recommends that schedule 23 should be kept under continuous review, and updated whenever there is renumbering, or, at least, whenever there is a reasonably significant renumbering exercise, such as the currently foreshadowed adoption of reorganised parts C, D, and E of the Income Tax Act 1994. The ambulatory nature of the rewrite process has some advantages from the point of view of drafters, but regular changes make the statute difficult for users to follow. Good, up to date, conversion tables can mitigate the problem to some extent.
2.186 The committee considers that it may also be useful if a schedule were to be added to the Act, that listed all the thresholds contained in various places in tax legislation. An example of the kinds of threshold that the committee has in mind is the threshold below which people qualify as cash basis holders under the qualified accruals rules. It would repeat information found in the tax Acts but its usefulness would lie in the collection of all thresholds in one place. If the information was out of step with the substantive provision for any reason, the latter would prevail.
Repairs and maintenance unit
2.187 The committee regards it as inevitable that despite the care taken by officials, and the close scrutiny by tax professionals and taxpayers, the rewritten parts C, D and E (and subsequently, other parts of the Act) will at some stage reveal textual uncertainties and produce unintended outcomes. The committee believes it would be appropriate for the Inland Revenue Department to establish a special ‘repairs and maintenance’ unit to address promptly any queries raised as to the effect on established principles of the rewritten Income Tax Act, and to deal with any unintended outcomes. Such a unit would provide an administrative mechanism to ensure both that the general body of taxpayers and tax advisers are informed of issues as they arise, and that remedial legislation is developed and introduced at first opportunity. The committee recommends the establishment of such a repairs and maintenance unit.
Valuation rules
2.188 The formalistic design structure proposed for the rewritten Act requires that virtually all functional categories have their own part or subpart. As is apparent from this report, the committee favours the organisation of the Act on substantive lines rather than on formal lines. However, if the government determines to adhere to a formalistic organisational structure, the committee recommends that it should consider allocating a specific part or subpart to rules about valuation, which at present are not gathered together in the manner that is standard for the rewritten Act.
Apportionment rules
2.189 In Tax Accounting Issues and in its Final Report63, the Valabh committee addressed the issue of apportionment. Officials advise that they have not yet had the opportunity to address the Valabh committee’s recommendations in depth. That lack of opportunity is regrettable, because it is desirable that the intended policy approach to apportionment issues in general should be settled before or at the time of the release of the rewritten parts C, D, and E of the Act. The reason is that apportionment questions figure largely in the matters that are covered by those parts.
2.190 Even without the benefit of a policy review, the question of apportionment raises a number of important issues that will have an impact on the rewriting of parts C, D, and E. The committee has discussed several of these issues with members of the rewrite team. It is not necessary for the committee to form a view as to the most appropriate approach. Officials are aware of the issues in this area.
Determinations under the qualified accruals rules
2.191 ‘The qualified accruals rules’, as they are labelled in the Act, are more colloquially known as the ‘financial arrangements’ or ‘FA’ rules. They occupy subpart EH of the Act. Broadly speaking, their function is to prevent people accelerating expenses or deferring receipts in the context of loans and transactions that from an economic point of view may be partly or wholly equivalent to loans.
2.192 There is an infinite variety of transactions and business structures that have an economic similarity to loans. The qualified accruals rules do not attempt to address each of these possible forms of transactions individually. Instead, the rules adopt a single general principle: for tax purposes, income and deductions related to a financial arrangement must be spread across the duration of the arrangement according to the principle of yield to maturity, which is used in banking circles.
2.193 The yield to maturity principle applies readily enough to a simple loan that lasts for a defined period, but it is not immediately obvious how the principle should apply to more complex transactions. For example, how does a New Zealand borrower take account of exchange rate gains and losses in respect of a loan or of a credit sale where the transaction covers several tax years?
2.194 The solution adopted by the Act is for the Commissioner to issue rulings, in this context called ‘determinations’, that set out how the income and expenditure of identified kinds of financial arrangements may be calculated. For example, for transactions that involve foreign exchange, a determination may sanction one or more of a number of specified exchange rates as allowable for calculation purposes.
2.195 The idea of enacting a general principle in the statute (yield to maturity) and of concretising this general principle in a series of extra-statutory determinations was attractive when the system was established in 1986, and even now retains some attractions. However, it has never worked well. The committee notes that the drafting of determinations has proved a difficult task; the resulting products are often opaque and occasionally almost unintelligible. Most need to be rewritten. The committee’s view is that this redrafting should take place as part of the rewrite of the Act itself.
2.196 The committee recommends that in parallel with the rewrite of the Income Tax Act, the department should redraft the existing qualified accruals rules determinations, in an endeavour to publish fresh drafts at the same time as the proposed exposure draft of part E of the Act is published. The committee further recommends that the procedure for issuing determinations should take on the basic features of the generic tax policy process. In particular, proposed new determinations should be made available for public consultation as to both substance and clarity. Where possible, each determination should follow one of a limited number of standard templates.
The annual taxing Act
2.197 New Zealand inherited from the United Kingdom the constitutional rule, developed in the seventeenth century, that the Crown does not have the right of its own prerogative to levy taxes. Tax can be levied only by Parliament. Historically, this rule has been emphasised in two ways. First, Parliament confers taxing rights on the Crown only on a year-by-year basis. Secondly, until relatively recently the annual taxing Act has been a separate, readily identified statute, typically called ‘The Income Tax (Annual) Act’, which concisely confers power on the Crown to levy taxes pursuant to the continuing rules of the Income Tax Act.
2.198 Under the Income Tax Act 1994 section OB 1, ‘‘annual taxing Act’ means the provisions of any Act by which the rates of income tax are determined for any year’. This definition was carried forward from section 2 of the 1976 Act, having been inserted in 1987. Before this amendment a separate Act was required each year to determine income tax rates. It is a sensible definition, in that it goes to the substance of the concept that is defined, and does not turn on a particular name for a particular statute. The definition means that the Crown’s annual authority to tax can be conferred simply by including a provision about tax rates for the next twelve months to any tax amendment bill that is before the House, and that there does not need to be a separate bill for this purpose. The committee understands that this amendment was made to save on the additional House time that is required for a separate bill.
2.199 In substance, it is true that so long as Parliament annually passes an Act to empower the Crown to levy tax the name of the statute does not matter, nor does it matter whether the statute deals also with other things. However, the committee regrets that this change has occurred because a separate annual taxing Act reflects the important constitutional principle of parliamentary sovereignty in tax matters.
2.200 The relationship between the Crown and Parliament in respect of taxing powers goes to the heart of New Zealand’s constitution. The committee, therefore, recommends that New Zealand should return to separate annual taxing Acts to symbolise this relationship. If there are concerns about the additional pressures on House time that a separate bill may entail, consideration should be given to including the annual taxing Act in a current part of the parliamentary timetable such as the Budget debate. This proposal may require an amendment to Standing Orders.
Relationship between Income Tax Act and rules of criminal law
2.201 There is a belief in some quarters that when taxpayers strictly comply with the requirements of the Income Tax Act, including anti-avoidance provisions, or believe that they have done so, they cannot be described as dishonest, and therefore cannot be guilty of fraud. This belief is mistaken. Strictly speaking, there is no need for a provision in the Income Tax Act to make the point. However, because the belief is so common, and because it leads people astray, the committee recommends that the rewrite should include a provision to state the law as to the relationship between the Income Tax Act and fraud, so that there can be no doubt.
2.202 The statement should include specific reference to the relationship between anti-avoidance provisions and criminal fraud. That is, whether a transaction is void by virtue of an anti-avoidance provision does not necessarily shed light on the question of whether the transaction is fraudulent.
Relationship between Income Tax Act and other legislation
2.203 A number of other statutes affect the operation of the Income Tax Act in one way or another. The Diplomatic Privileges and Immunities Act 1968 is an example. The committee considers that such legislation should be listed in a schedule. The objective is that the proposed schedule should not change the law, but that it should act as a useful tool for users of the Act, along similar lines to schedule 23, which contains conversion tables that compare the numbering of the 1994 Act with the numbering of the 1976 Act. The schedule should begin with a statement to the effect that the omission of any legislation does not mean that the omitted Act does not affect the operation of either that Act or the Income Tax Act.
2.204 An additional schedule could list sections of the Crimes Act 1961 that are potentially relevant to income tax fraud. Again, this schedule would not purport to alter the law. Rather, it would bring home to users of the Income Tax Act that the Act is not an isolated edifice that has no relationship to the rest of New Zealand law. The schedule would help people to realise that the criminal law can be as relevant to the income tax area as it can to other areas of economic life. The schedule should begin with a statement to the effect that the rules that it contains are not an exhaustive list of the forms of civil and criminal liability that may arise in connection with tax matters.
2.205 The committee recommends that schedules that list legislation which affects the operation of the Act, and relevant sections of the Crimes Act 1961 be added to the Income Tax Act 1994.
Footnotes
52 (1913) 6 TC 163 at 165 HL Back
53 [1906] AC 455 at 458 HL Back
54(1928) 41 CLR 148 at 151 Back
55Contrast, again, judicial statements on lawyers' law, which should be respected as likely to be of intrinsic merit. Back
56Note the discussion earlier in this report at para 2.160 Back
57 The Taxation (Simplification and other Remedial Matters) Bill; the Taxation (Tax Credits, Trading Stock, and other Remedial Matters) Bill Back
58The Taxation (Accrual Rules and other Remedial Matters) Bill Back
59Working Party on the Reorganisation of the Income Tax Act 1976, Second Report, Discussion Paper, September 1993, page 10 Back
60 See footnote 59 Back
61 See paras 2.111 to 2.114 of this report. Back
62 Tax Law Rewrite (UK) Responses to the Second Technical Discussion Document - A Purposive Approach to Rewriting Tax Legislation, August 1998, http://www.open.gov.uk/inrev/rewrite.htm Back
63 Consultative Committee on the Taxation of Income from Capital, Final Report, October 1992, page16 Back
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