Abstract:
This paper examines two episodes of tax reform in New Zealand to evaluate the extent of tax sheltering in New Zealand. Tax sheltering refers to activities undertaken by taxpayers to earn income in forms that allow this income to be ‘sheltered’ (legally or illegally) from the tax that would normally apply in the absence of such activities. Identifying the nature and extent of tax sheltering behaviour is, however, not straightforward given incentives to hide it and the high resource cost of comprehensive taxpayer auditing. As a result, researchers are often reduced to identifying ‘traces’ (indirect and imprecise indicators) of sheltering activity.
This paper examines a variety of variables that can be expected to reveal such traces of sheltering activity related to the ‘legal form’ (corporate, personal, trust, etc.) by which income is earned and taxed. Two substantive reforms to income taxation in New Zealand, in 2000 and 2010, generated two pre- and post-reform tax regimes that allow examination of the issue. The tax regime changes gave rise to different hypothesised effects on ‘legal-form’ tax sheltering that the analysis seeks to exploit.
The results provide strong support for those hypotheses. Firstly, tax changes in 2000 created an incentive for individual taxpayers to reduce their personal taxable income (when they paid the top personal rate), and to shift income towards corporate and trust entities. The evidence is consistent with these predictions. Secondly, reforms in 2010, removed the trust route to tax sheltering and reduced incentives and opportunities to earn income via some, but not all, types of corporate ‘arrangement’. Pre- and post-2010 evidence confirms both that the use of trusts declined, and that the most tax-favoured corporate arrangements increased in use after 2010.
