Can someone please explain how foreign investments are taxed?

[Auckland2016]

I moved from Canada to NZ over 2 years ago and am still exempted from declaring foreign income because of the four years transitional tax status. I have mutual funds, shares and RRSP investments in Canada. At the moment, I have declared as Canadian non-resident so all the income from my Canadian investments are subject to 15% withholding tax from Canada. When my temporary tax exemption is over, I know I need to declare income from my Canadian investments. I read the IRD website about FIF and is very confused about how to calculate the income using fair dividend rate FDR or comparative value CV methods. As far as I understand, it seems like the FIF means that my foreign investment can get taxed on unrealized gain. That sounds bad news to me. Shares go up and down all the time, taxing on unrealized gain is brutal! Also since I already paid 15% non-resident withholding tax from Canada and NZ/Canada has tax treaty to prevent double taxation, how do I report what I have already paid when filing tax in NZ? Especially Canada tax year is from Jan 1 to Dec 31 and NZ tax year is from Apr 1 to Mar 31. Just wonder if anyone can shed some light in this area? I know talking to an accountant maybe the best option for financial advice but won't mind to hear from others regarding their foreign investments. I am considering selling all my foreign investments to save me some headache in the future. If you know of any good accountants in Auckland area which can advice me on taxation on foreign investments, please let me know too. Death and taxes, no one can avoid them! Thank you very much!

[Super_BQ]

Greetings fellow ex-pat Cdn. I left BC, Canada about 20 years ago but I try to keep up with the latest tax gossip on both sides of the water.

Be prepared to pay some serious $ for a tax accountant to file your returns once your 4 year IRD tax exemption expires, and the reason is clearly due to the differences in tax approach on retirement savings. In NZ, we have this silly Kiwi Saver which is suppose to promote investing for retirement but i've strongly advocated that it's not really effective and individuals would be far better owning real estate (for the benefit of tax free capital gain). You see, investments in NZ go in the form of using AFTER TAXED income to pay for investments. So the person that buys their rental home or 2nd house does so in after tax $ which later upon selling, the gains are tax free. In Canada, it's done the opposite; in RRSPs that are in the form of TAX DEFERRED investments. The difference in the 2 is remarkable and probably incomparable because when you take the Cdn approach for investing in mutual funds etc. you get the benefit of COMPOUNDING returns that are TAX FREE year after year. In NZ, while the individual contributes a portion of their income (ranges between 2 - 8%) (with min employer matching 3%, and arguably the benefit is lost from unethical mgt/admin fees by managed funds), the various NZ funds invested have to pay income tax on the actual gains year after year (there is a lower PIE rate which pegs the max taxable rate at 30% regardless if the person is on the high 38% bracket). In Canada, these manged (or mutual) funds pay no tax year after year on the paper gains. So you can understand that the net compound effect for Kiwi Saver will be a lot less than the Cdn approach to investing in mutual funds.

To sum it up in a 1 line. On an after tax basis, the Cdn person living in Canada with an RRSP would have a much bigger portfolio at retirement than the NZ individual with their Kiwi Saver. Also despite that proceeds taken out of a Kiwi Saver is tax free, it has really little relevancy to the person that would only draw down a portion of their portfolio at retirement. So in the Cdn example, your RRSP by age 71 must be converted to a RRIF and you get the exra benefit of drawing down the gains at the lower tax bracket. ie it's sensible that people at senior age do not have high income and so drawing from the RRIF means they're taxed at the lower bracket. While in NZ, there is really no relative tax benefit if a person chooses to contribute 2% of their income or the maximum 8% of their income because at the end, they get no tax savings treatment upon withdrawal of the Kiwi Saver fund. As you may know in Canada the maximum contribution is 18% of a person's annual income can be invested in RRSP which many high income earners choose. Note that this is a DIRECT deduction of their taxable income thus can lower the tax bracket. You just don't get this kind of scheme in NZ because regardless where you contribute 2% or 8%, you're still taxed on the whole income (not a deduction / credit to lower your taxable income that we see in Canada).

Now we have a bit of introduction, how do we solve your situation? Well it's not simple so we need to break each asset class separately:

1) Mutual Funds / RRSPs: As far as I know, IRD treats these 'managed funds' as a foreign investment and it will come under the FIF rules. As you know the worse thing about FIF is no recognition of years when you experience paper losses like in a stock market crash (very likely in the next 10 years). But since selling up your RRSPs trigger tax clawbacks if you do early withdrawals, unfortunately there may be no way to escape the FIF rules. So for many, they've bit the bullet, paid the early tax termination in Canada and converted their funds into Kiwi Saver.

2) Directly held shares ie in a TFSA: Again, IRD blankets all foreign shares as part of the FIF. There are some exempt shares listed in the ASX but they have to be on IRD's list of exempt shares where FIF does not apply. So while your TFSA is tax free in Canada, they WILL NOT be the case in NZ (and likewise for many ex-pats that moved to the US). The general advice for those with a TFSA is to sell up and move the funds to NZ to be invested elsewhere.

3) Interest & Dividend Income: This is more straight forward. Since a NZ resident is taxed on a worldwide basis. You simply declare the foreign interest and dividends on your NZ tax return ; then deduct the tax withholding you paid as a Foreign Credit. Of course, your tax accountant in NZ will charge you kindly because there's all sorts of dividend tax treatments that differ between Canada and NZ. It will be different because corporate tax is a lot less in Canada than in NZ so the gross-up dividend tax calculation will differ.

You did not mentioned about your CPP & OAS: I may be wrong in the eyes of IRD, but CPP is a paid into gov't pension plan that is sorta half way like Kiwi Saver and RRSP because CPP deductions are made like you do in Kiwi Saver but the whole mgt of CPP is by the Cdn gov't and not privately like in mutual funds. Nevertheless, I do believe IRD does not make that distinction and would treat disbursements in CPP as straight taxable income (and not under the FIF rules). Likewise with your Old Age Security pension (which is like NZ's superannuation gov't pension); it would be taxed at income rates.

So you're probably wondering why you came to NZ in the 1st place? Particularly those who are pensioners from Canada as the tax treatment of investments differs so greatly in NZ. Some time last year I presented a scenario case to some financial advisers in NZ on estate planning and wealth management. I asked these financial advisers (over the phone) what incentive would I have if I was to inherit $10 million in assets from a parent that lived in Canada (assuming held in stocks and mutual funds) to stay living in NZ or simply move back to Canada? To my demise, none of the NZ financial advisers could give me a straight answer and wanted to refer me to a tax accountant. You know it's interesting in NZ, the area of Financial Advice does not cover taxation where as CFA/CPA financial advisers in Canada MUST know taxation and give advice BASED ON a TAX efficiency basis. Another question I asked was what incentive would I have to buy into a Kiwi managed fund vs buying 7 or 8 houses in Auckland with that $? The 1 person said there's no comparison that owning the houses in NZ would be a better bet than buying any Kiwi Saver fund on the basis that those houses CAN be sold TAX FREE over 20 or so years, and upon death, inheritances of those houses are tax free.

On the positive front for NZ, taxation in NZ is simple and a lot less complicated than in Canada. We sacrifice simplicity to benefit the majority than to complicate things such as Canada's tax code. In recently news I would say the key reason why Capital Gains Tax was not pushed by our gov't is probably due to the amount of complexity required to track assets. Does a country of 4.5m need a complex tax code of the likes of Canada and the US?

[Auckland2016]

Thanks Super_BQ for your detailed explanation! So FIF rules will tax on paper gain, not actual gain? That is very harsh! I can be taxed on just currency fluctuation! I most likely will sell all my registered and non-registered mutual funds in Canada then. Too bad, I do like my Canadian investments, they seem to perform well over the years but can't afford to pay tax on unrealized gain at all. Personally I would prefer the NZ government has Capital Gains Tax instead of FIF but I guess it is not popular. No wonder the houses in Auckland keep going up if the government and people support owning houses without paying capital gain tax. That flavours owning more properties as investments then investing in shares, mutual funds etc. Anyway, every country has its own taxation pros and cons. When I left Canada, I ended up paying lots of tax $$$ for deemed disposition for mutual funds, also taxation on unrealized gain! No pain no gain, the weather is warm in Auckland so not missing the Canadian winter ;-)

[Super_BQ]

To clarify FIF does address taxing of paper gains. Currency fluctuations are also an added risk. Keep in mind under the FIF, there are different ways to assess the taxing of paper gains (ie FDR or Comparative Rate) - you can easily Google IRD's website for the details). I'll elaborate briefly:

Some financial advisers say the FDR method is not so harsh because the rate of 5% seems relatively small. So in years when you had MORE than 5% gain on your entire portfolio, they're saying you don't have to pay any more tax (basically the 5% is a max threshold you would end up declaring as taxable income). HOWEVER, what advisers tend to miss is any portion of paper gains above the 5% in one year, will end up being captured in the following year as the 5% applies on the entire value of the portfolio balance. The only benefit of this comes when you plan for an exit when selling up the portfolio. For eg. say you had a spectacular 20% gain this year and you intend to sell up your portfolio, well that 15% extra is in your pocket. So when the reporting of March 30th, you could have 20% for that year, pay the 5% FDR, then in April or later on, sell up the portfolio pocketing that 15% extra gain.

The Comparative Rate from what I recall is just a fancy term for Capital Gain and that full amount of the paper gain is your taxable income. Yes it's pretty harsh when in Canada, only HALF of the capital gain becomes taxable income (ie. just like in Australia).

The FIF has always been a sore issue for international investors resident in NZ. While there's a tax free threshold of $50K NZD, no one can retire on that kind of sum for a portfolio. I assume the FIF was brought in to give preferential treatment to NZ based equities. But any person with a clue in finance knows you're taking on high risk by restricting your investments to only NZ shares so what the NZ Gov't at the time did was to try prop up the NZX listings with FIF. Even with Kiwi Saver, choosing funds with international exposure like buying a Vanguard ETF in the US would attract all sorts of taxation that erodes the returns vs the fund managers sticking with choosing NZ companies. It's a real mess and an insane bias towards keeping NZ investors blind by saying you should only buy NZ stocks. Furthermore, just within investing in NZ has uneven tax treatments between the individual that invest directly via FIF vs the individual that chooses a managed fund like Kiwi Saver that invests aboard. I highly recommend reading this:

https://iisolutions.co.nz/wp-content...bal-shares.pdf

Very clear, the tax complexities of FIF have pretty much discouraged a lot of people from investing in managed funds or holding shares directly and instead, have chosen the tried and true method by investing into NZ real estate. The reason why CGT wasn't passed (and the Tax Working Group mentioned) is it would be political suicide. When you have the majority of people in the country that depend on their retirement by owning multiple houses, it's a for sure way to lose an election when you tell them that CGT will be applied to their homes.

So where does this leave you? If you're fully committed to living in NZ for the long term (like 10+ years), it seems best to swallow the pain, pay the tax penalties in Canada and move the funds to NZ. I also would suggest using the funds in buying your 1st home. I don't advise Kiwi Saver to those having a bit of knowledge in finance, you would be better off paying off the house or buy into another home for investment. After all Kiwi Saver is only for those that don't know how to save for retirement.

[Auckland2016]

Hi Super_BQ, excellent explanation again! Time to sell my Canadian assets :-( Not ideal but less headache in dealing with accountants and IRD in the long term.