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AM I AN EMPLOYEE OR AN INDEPENDENT CONTRACTOR?

The Inland Revenue Department (IRD) has released an Exposure Draft (ED) for comment on determining a person’s employment status for tax purposes. The ED considers whether a person is an employee or an independent contractor. The ED intends to update previous guidelines published in 1999 where legislative change has occurred and the Courts interpretation has changed on what makes a person an employee or an independent contractor.

From a common law perspective, a distinction is made between “contracts of service” and “contracts for service”. A contract of service means that there is an employer/employee relationship, whereas a contract for services means that there is a principal / independent contractor relationship.

A variety of tests have been developed to determine whether a person is an employee or an independent contractor. These tests are intention, control, independence, fundamental, and integration.

The intention test looks at the intention of each party to the agreement.

More recent case law has found that industry practice is a factor that may be considered in the context of the intention test, because it may assist in determining the parties’ intention as to the nature of their relationship.

The control test examines the degree of control that the person exerts over the manner in which the work is undertaken. The independence test considers the level of independence that the person engaged to perform the services exerts over their own work. The fundamental test considers whether the person is in the business on his or her own account, and finally, the integration test considers how integrated the person is into the business that hired him or her to perform the services.

Significant tax consequences arise out of a person’s employment status. Payments made to employees must have PAYE deducted at source by the employer, whereas independent contractors are required to account for their own income tax obligations. An employee cannot register for GST, whereas an independent contractor is liable to register if they meet the registration requirements.

How it affects you

In a tight employment market, there can be a temptation by employers to take people on as “independent contractors” when in reality an employment arrangement exists. Employers and employees / independent contractors should be careful to ensure that they have been correctly categorised so that the appropriate tax obligations are met.

CAN I RETROSPECTIVELY IDENTIFY FIT OUT IN MY BUILDING?

In an earlier newsletter we discussed the concession that exists whereby a person who had not previously split out commercial fit-out from their building could elect to create a pool of commercial fit-out. The person can then continue to depreciate that pool at a rate of 2% even though the building depreciation rate has been reduced to zero.

An obvious question coming out of this is, “can I simply re-characterise part of my existing commercial building into fit-out on a retrospective basis so that fit-out that had previously been depreciated as part of the building can be separately depreciated at the appropriate (higher) rate?”.

The IRD has released an ED on whether it is possible to re-characterise part of the commercial building into components of commercial fit-out when they had not been identified as separate depreciable property at the time of acquisition. The IRD considers that once an item of depreciable property has been identified and a deduction for depreciation on that item has been claimed, a taxpayer cannot later change their mind and split that item into multiple depreciable items.

Effectively, the IRD says that a retrospective re-characterisation of the asset will not be allowed. In reaching this view, the IRD notes that assessments in prior years cannot be amended where the taxpayer has made a “regretted choice”, namely where a taxpayer takes a particular tax position under a tax law, where legitimate alternatives were available, but later changes their mind. In this case, the taxpayer had the choice of separately depreciating the fit-out when it was purchased, or simply depreciating the building and the fit-out together as one asset at the building depreciation rate.

Further, the IRD argues that once a person has adopted a depreciation rate and depreciates the property over the item’s useful life until it is disposed of, it is implicit in the depreciation rules that it is a once and for all decision.

How it affects you

If you have not separately identified fit-out in the past, your only remedy is s DB 65 (discussed in our newsletter for the week ended 28 October 2011).

The depreciation situation mentioned above highlights why it is important for taxpayers to carefully consider splitting out assets upon purchase so that they can be depreciated separately as you only have one opportunity to do so.

For anyone who has re-characterised assets in the past, where they have been depreciated as one asset initially, we suggest you contact your tax advisor to discuss whether a voluntary disclosure is required.

POINTS OF INTEREST…

Employers’ KiwiSaver costs are set to rise regardless of which political party has power after the Election on 26 November. Both major parties are proposing increased KiwiSaver membership and/or increased contribution rates for employers. These additional costs will need to be factored in to future employment remuneration packages by employers.
The IRD is targeting cash businesses and picking up large discrepancies during the audit process. Voluntary disclosure can reduce those penalties.

TO THE POINT…

“The trouble with quotes on the internet is that you can never know if they are genuine”.
-Abraham Lincoln

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