Income tax “associated persons rules” in relation to land transactions

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In my Blog on trusts tainted by new associated persons rules I discussed one of the outcomes of the amendment to the “associated persons” rules in the Income Tax Act 2007. The main consequence of the amendment is that a person who is a dealer, developer or builder will “taint” persons he or she is associated with. That means you may be deemed to be a land developer if you are associated with some one who is a land developer. Generally, if you purchase (or somehow acquire) land after you become a dealer, developer or building, or after you become tainted as one, you may have to pay income tax on the proceeds from any sale of that land made within 10 years of the land being acquired by you. There are some variations and exceptions to that general rule and there are other circumstances which may require you to pay income tax on the sale of the land.

In respect of builders, the law provides that an amount received by a person from the sale of land is income of that person if he or she sold the land within 10 years of carrying out improvements to it and at the time the improvements began he or she was a builder (or associated with a builder).

There are eight tests of association that apply to land transactions. (Please note there are other tests of association that do not apply to land transactions and I do not deal with them in this blog).

Two Companies

Two companies will be associated with each other where there is a person or group of people who together own at least 50% of the voting interests (or market value interests) in each company or who control both companies by any other means.

When applying this test, a person will be treated as holding any interest in the company that is owned by an associated person, determined only under the non-company related associated persons tests that relate to land transactions.

Company & a person other than a company

A company and a person other than a company will be associated with each other if the person owns at least 25% of the voting interests (or market value interests) in the company.

When applying this test, a person will be treated as holding any interest in the company that is owned by an associated person, determined only under the non-company related associated persons tests that apply to land transaction.

In this test, a “person other than a company” includes a company acting in its capacity as the trustee of a trust.

Two relatives

Two people will be associated where one person is the spouse, civil union partner or de factor partner of the other. Or, one person is the infant child of the other.

But, you will not be associated if you could not reasonably be expected to know the other person exists.

Trustees with a common settlor

The trustees of two trusts will be associated if the same person is the settlor of both trusts. When applying this test, spouses and de facto or civil union partners are treated as the same person.

The term “settlor” has a wide definition. Determining who is the settlor of a trust is not simply a matter of looking at who is named as settlor in the trust deed. A settlor is someone who has given value to the trust or has provided financial assistance to the trust. This includes an interest free loan made “on-demand” or a loan where interest is payable at a market rate only if demanded, and demand is not made.

But, a person who provides services to a trust for less than market value is not a settlor.

Also, if a trust is settled by a nominee on behalf of a person, then the person will be treated as the settlor of the trust, not the nominee.

Trustee and settlor

A settlor of a trust is associated with the trustee of the trust.

Trustee and person with power of appointment or removal

A trustee of a trust is associated with the person who has the power to appoint and remove trustees of the trust.

Partnership & partner

A partnership and a partner in the partnership are associated.

A limited partnership & a limited partner

A limited partner and a limited partnership will only be associated if the limited partner holds a partnership share of 25% or more in the limited partnership. When applying this test, a person will be treated as holding any interest in the limited partnership that is owned by an associated person, determined under any other associated persons tests that apply to land transactions.

Tripartite relationship

The “tri-partite test of association” (also known as the third person in common test) provides that if person A is associated with person B, and person B is associated with person C, then person A will be associated with person C.

There are 3 exceptions to this test.

  1. The tri-partite test cannot be applied twice. So you cannot associate person A with person D.
  2. Two company tests cannot be applied. For example, the tripartite test does not apply where person A is associated with person B under the “two company test” and person B is associated with person C under the “company & person test”.
  3. The same test cannot be applied twice. So, the test does not apply where two persons are both associated with a third person under the same associated persons test.

Keep in mind that tax law in New Zealand changes regularly.

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