Chapter 12 - Companies
12.1 - Overview
Companies are a popular structure for doing business because they allow a degree of protection and flexibility. Companies offer business people the advantages of limited liability and may provide a beneficial structure for tax purposes.
If you operate or trade through a company, it is your company (not you personally) who is a party to the rights and obligations under contracts with customers etc. As a result, by trading through a company you can obtain some protection for your personal and investment assets. However you need to be aware that a company structure will not protect you from personal liability as directors in certain circumstances, for example, reckless trading or criminal acts or when you have guaranteed the debts of the company.
The Law treats a company as a separate and distinct entity from its owners and directors. It can own property and enter into contractual arrangements, sue and be sued in its own name and has the potential for perpetual existence. All companies are registered under the Companies Act 1993.
12.2.1 - Filing
12.2.2 - Forming a Company
12.2.3 - Limited Liability
12.2.4 - Payment of Salaries to Shareholder/ Employees
12.2.4.1 - Reduction of Company Profits
12.2.4.2 - Shareholder employee salary - No PAYE for close company
12.2.5 - Beware Benefits Provided to Shareholders! (ITA GB 25)
12.2.6 - Dividends
12.2.7 - Imputation Credits (ITA Subpart LE)
12.2.8 - Company Losses (ITA Subparts IA, IC)
12.2.9 - Look-Through Companies (LTCs) (ITA Subparts HA, HB)
12.3 - Practical Issues Relating To Companies
12.3.1 - Company Tax Return Filing Obligations
12.3.2 - Non-Active Companies Excused From Filing Returns
12.3.3 - Prescribed Forms
12.3.4 - Books and Registers
12.3.5 - Share Register
12.3.6 - Share Repurchases
12.3.7 - New Record Keeping Law
12.3.8 - Company Records
12.3.9 - Accounting Records
12.3.10 - Charges
12.3.11 - Registered Office
12.3.12 - Address for Service
12.3.13 - Particulars of Directors
12.3.14 - Directors’ Duties
12.3.15 - Annual Meeting
12.3.16 - Appointment of Auditors
12.3.17 - Issue of Shares
12.3.18 - Distributions and Solvency Certificates
12.2 - Application
12.2.1 - Filing
The Companies Office only accepts online filing of most documents including approval of name, new incorporations, annual returns and changes to company details on the register. Go to www.business.govt.nz/companies.
The following fees apply including GST:
Name Reservation: $ 11.50
Company Registration: $120.75
Filing Annual Return: $41.40
12.2.2 - Forming a Company
Forming a company is quick, easy and relatively cheap. There are three steps: Reserving a name, Application to incorporate the company and completion of the director and shareholder consent forms. Just go to the above website to reserve a name. Log in or create a new Realme account and you will be informed what else needs to be done. For the incorporation of a Company there must be at least:
• A name
• One share and one shareholder
• One director who lives in New Zealand (not necessarily a citizen), or who lives in Australia and is also a director of a company incorporated in Australia
• A physical address for service and for the company’s registered office in New Zealand.
12.2.3 - Limited Liability
Companies offer the advantage of limited liability. As a shareholder in a company, your total potential liability is equal to (but does not exceed) the amount of share capital you have contributed to the business.
EXAMPLE
Let’s say that you are a boat builder and set up “Boat-ox Ltd” to be your trading company. As a major shareholder, you provide $30,000 to the company in exchange for shares, so your share capital in the company is $30,000.
Disaster strikes. In its maiden test launch, a client’s boat sinks. While your insurance covers most of the damage, an amount of $50,000 remains outstanding. Because the company is a separate legal person at law, the $50,000 debt is the company’s and not yours personally. In addition, due to limited liability, the maximum you stand to lose is your $30,000 subscribed capital.
While you may choose to satisfy the $50,000 claim from your own assets in order to protect your business reputation, you would not be forced to do this unless you had guaranteed the amount.
The registered company name must end with the words “Limited” or “Tapui (Limited)” for the shareholder liability to be limited (CA 1993 s 21). The full registered name must appear on company stationery and every document that creates a legal liability (letterheads, business cards etc.) so that others are aware of the limited liability.
Note that the advantages of limited liability can be signed away. For example, if your company borrows funds or enters into a major transaction, the other party (probably your banker) is likely to require a personal guarantee from the company’s shareholders. That is, if the company is unable to repay the debt or complete the major transaction, the shareholders will be personally liable. Your guarantee applies only to your dealings with that person. Before you sign a guarantee contract you should consult your lawyer.
12.2.4 - Payment of Salaries to Shareholder/ Employees
12.2.4.1 - Reduction of Company Profits
The profits of the company can be reduced by paying salaries to working shareholder employees. For individuals with marginal tax rates below the company rate, it pays, if possible, to have income taxed in the hands of each individual shareholder employee up to about $48,000 and the remainder taxed in the company. Salaries must however be within a normal market range.
In practice, the IRD will generally accept salary payments if the shareholder employee provides genuine full time employment services to the company and the remuneration is set at a market value. In contrast, if the salary payments to relatives, spouses or associated persons of the shareholder/ employee, are excessive the Department will disallow the deduction to the company. If the salary to a shareholder employee is too low in order to cap the tax rate at 28%, that may also be challenged by the IRD. Any salary payment must represent value for genuine services provided to the company.
12.2.4.2 - Shareholder employee salary - No PAYE for close company
A close company is one where 5 or fewer people together hold over 50% of the voting interest. Associated persons like close family members are counted as one.
PAYE (See 26.4.3) need not be deducted from salary payments to a shareholder-employee of a close company if:
the salary is not paid or credited to the shareholders account on a regular basis; or
the regular payments with no PAYE deducted do not exceed two thirds of the total salary and wages received as an employee from the company; or
the shareholder employee takes drawings from the company during the year in anticipation of year-end profit
PAYE need not be deducted if any one of the above criteria is met. Instead the income is brought within the provisional tax regime. Note however that where the shareholder employee wishes to join KiwiSaver as an employee of the company, the IRD may require all income taken from the company to have PAYE deducted.
12.2.5 - Beware Benefits Provided to Shareholders! (ITA GB 25)
Benefits provided to shareholders or persons associated with shareholders will often give rise to tax consequences. In particular, excessive remuneration, or benefits at less than market valued provided to shareholders or, those associated with a shareholder, may give rise to taxable dividends, deemed dividends or fringe benefits.
Example
The shareholder employee of “Flush with Doe Ltd” has had a good year and takes $150,000 out of the company for the purposes of buying a bigger family home. Effectively, this amounts to a loan by “Flush with Doe Ltd” to the shareholders. If “Flush with Doe Ltd” provides this loan to the shareholder without interest, (a loan at less than market value) tax consequences (FBT) will arise (See 19.3.5).
12.2.6 - Dividends
The definition of the term “dividends” is comprehensive and set out in Sections CD 4-21 of the ITA 2007. In general, dividends include the following transactions between a company and its shareholders:
Cash distributions in any manner
Advances at below market interest rate and forgiveness of advances
Distribution or making available of property for less than market value
Acquisition by the company of property above market value
Taxable bonus issue of shares
Excessive remuneration paid to shareholders
All directors must provide their date and place of birth and residential address.
The term also includes any of the above transactions between a company and persons associated with the shareholders of the company.
Dividends can give rise to income tax, resident withholding tax, non-resident withholding tax or foreign dividend withholding payment liabilities.
Often imputation credits are attached to the dividends, which reduce the tax liability of the recipient.
12.2.7 - Imputation Credits (ITA Subpart LE)
The imputation credits regime allows tax paid by companies to flow through to shareholders in the form of credits attached to dividends paid.
When a company pays tax it obtains a tax credit for the amount of tax paid. This credit is known as an imputation credit. When the company distributes dividends to its shareholders (dividends being an after tax distribution of company income) the company is able to attach these imputation credits to dividends paid. The shareholders can use the imputation credit to offset their own tax liabilities on the dividend receipt.
Where these are greater than the shareholder’s total tax payable for the year, the excess imputation credits cannot be refunded. Instead they are carried forward to offset against future years’ net income. For individuals they are carried forward as credits and for other taxpayers, they are converted into losses brought forward.
Companies must maintain an imputation credit account (ICA) on a 31 March year no matter what the company’s balance date is. Credit entries recorded in the ICA include (for example) tax paid, withholding tax and dividend withholding credit/imputation credit attached to interest anddividendsreceived. Thedebitentries(negativeentries) may include tax refunded, credits attached to dividends paid and reversals that arise through breach of shareholder continuity.
A company can carry forward imputation credits, as long there is 66% continuity of ownership. If you are considering shareholding changes, consult your tax advisor. Prior planning can prevent your company from forfeiting any imputation credits!
Note: Imputation credits are passed on at 28%.
12.2.8 - Company Losses (ITA Subparts IA, IC)
Trading losses incurred by a company cannot normally be passed on to the shareholders of the company. This is because the company is a separate legal person. Company losses must be carried forward by the company until such time as the company earns profits. At that time, the loss carried forward by the company can be offset against the profits of the company.
A company can only carry forward a tax loss if, at all times during the period from the beginning of the year of loss to the end of the year of carry forward, there remains a shareholder continuity of at least 49% of the minimum voting interest in the company (IA 5). Again, consult your tax advisor if you are considering shareholding changes.
Specific provisions also exist to enable a company to offset its loss against the income of another company in the same group. The ability of grouping net losses is discussed in 2.3.4. This is restricted to those circumstances where at all times during the income year in which the loss arises, and all succeeding income years up to and including the year the loss was offset, the loss company and the other company formed a group of companies (s IC 6). To be part of the same group, both companies must have at least 66% common ownership (s IC 3). The loss can be offset by way of an election or a subvention payment (ss IC 5, IC 9).
12.2.9 - Look-Through Companies (LTCs) (ITA Subparts HA, HB)
A company with a small number of owners may elect to become an LTC, to benefit from individual tax rates and offset company losses against personal income.
An LTC is treated as though it were a partnership for tax purposes. The IRD effectively ignores the company and treats all LTC income, expenses, tax credits, capital losses and gains as though they arose in the hands of the shareholders in proportion to their ownership.
Note: This differs from the old LAQC (See 11.6.3) that only passed on its tax losses.
An LTC must:
be a New Zealand resident company;
have five or fewer look-through counted owners, where associated owners are treated as one;
have valid elections filed with the IRD;
meet incorporation requirements (See 12.2.2); and
meet the requirements of an LTC throughout the income year.
It must not be a flat-owning company.
From the 2017-18 income year, an LTC may have shares of different classes, provided all shares have the same right to distributions.
If an LTC fails to meet the eligibility criteria at any stage during the income year, it loses its LTC status, from the beginning of that income year. If an owner revokes the LTC election or it loses its status through eligibility, it cannot re-elect to become an LTC in that year or in either of the two following income years.
Look-through counted owners: Every owner must be a natural person, trustee or another LTC. Related shareholders are counted as one. Related means:
a blood relation (to the second degree)
a marriage, civil union or de facto relationship,
being in a marriage, civil union or de facto relationship to the second degree of another shareholder
an adopted child and their adoptee
a step-parent and a step-child.
Death, or dissolution of marriage or similar relationship does not break the two-degree test, if the company was an LTC and the shareholders were counted as one before the death or dissolution.
Foreign ownership is limited to 50% and foreign sourced income may not exceed $10,000 or 20% of the company’s gross income for the year.
All trustees of a trust are counted as one owner unless the trust distributes all LTC income to beneficiaries in the current year and in all of the past three income years. A beneficiary is counted as an owner if they have had any income from the LTC treated as beneficiary income in the current income year, or in any of the past three income years.
Income: With company profits being taxed in the shareholders’ hands, investors on the top marginal tax rate do not benefit from the lower company tax rate. Shareholders who have a marginal tax rate below 28% will benefit. LTCs that are very profitable may consider becoming ordinary companies for tax purposes.
Losses: From the 2017-18 income year, LTC losses are available to be offset against other income. For LTCs that are in a joint venture or partnership, however, the Owners Basis rule limits the losses available for offset, to the amount of shareholder interest in the LTC.
Owners Basis: The owner’s level of investment is calculated using the “owners basis” formula as follows:
Investments – distributions + income – deductions – disallowed amounts
Where
Investments include amounts such as the market value (MV) of shares at time of purchase, current accounts, loan accounts, advances and “secured amounts”;
Distributions include MV of amounts distributed by the LTC, including loans from LTC, to the owner.
Income and deductions include amounts attributed to shareholder(s) and realised capital gains/losses; and
Disallowed Amounts: If a shareholder makes an investment within 60 days of year end and then reduces the investment within 60 days after year end, it will be disregarded for the purposes of calculating the shareholders investment level.
Losses affected by the rule are limited to the amount that the shareholder has invested in the company, but can be carried forward by the shareholder until there is sufficient investment to allow the loss to be utilised.
Transition: Obtain advice before transitioning to an LTC, as there are tax consequences for doing so.
Fringe Benefit Tax: FBT is also affected. When a vehicle is used by a shareholder there will be an apportionment of costs between business and private use, with no FBT payable.
Disposal of LTC Shares: The sale of the shares in an LTC is treated as the sale of the underlying assets. This may have tax implications such as depreciation recovery for the owner. Thresholds apply. For example, an owner must account for tax on the sale of shares if the price exceeds the total net book value of the owner’s share of the LTC’s property by more than $50,000. The excess over $50,000 is treated as taxable income in the seller’s hands. If the annual turnover of the LTC is $3 million dollars or less for the year of disposal, no adjustment needs to be made for trading stock.
12.3 - Practical Issues Relating To Companies
The remainder of this chapter is intended as an overview for companies and their directors regarding the principal filing and administrative requirements of companies. It is not a complete statement of the obligations of companies or their directors. It is recommended that company directors take the time to study the requirements of the Act, as the penalties of non-compliance can be costly. The Institute of Directors, based in Wellington provides a number of courses for directors. In addition your accountant or solicitor will be able to give you advice.
12.3.1 - Company Tax Return Filing Obligations
LTCs file an IR7 income tax return like partnerships. Other companies must file an IR4 tax return. Additionally, a company is required to produce an annual balance sheet and profit and loss account. However, the balance sheet and profit and loss account need not be filed with the Department if the company’s IR4 is “electronically filed” by a tax agent. Refer to Appendix, which details return filing and tax payment dates for companies.
12.3.2 - Non-Active Companies Excused From Filing Returns
A special concession has been introduced to excuse non-active companies from filing income tax returns. This concession is intended to save the compliance costs otherwise incurred by these companies.
If a company has not traded throughout an income year (that is, it has not derived income and has not disposed of assets) and the taxpayer has notified the Commissioner that the company is inactive, the company will be excused from filing an income tax return. Application is made on form IR433.
A non-active company is obligated to inform the Commissioner when it becomes active again by completing and filing non-active company reactivation form IR434.
12.3.3 - Prescribed Forms
IRD forms are available on their website, www.ird.govt.nz. Many compliance requirements can now be fulfilled online.
Company details must be maintained online using the forms available on the Companies Office website (www.business.govt.nz/companies). This includes filing of annual returns, change of directors, shareholders, addresses and so on.
12.3.4 - Books and Registers
A company must maintain the following books and registers:
A share register
Company records
Accounting records
A register of charges created by the company under the previous Companies Act 1955 (if applicable) and the Companies (Registration of Charges) Act 1993.
12.3.5 - Share Register
A company must maintain a share register that records the shares issued by the company and states:
whether under the company’s constitution or the terms of issue of the shares, there are any restrictions or limitations on their transfer;
where any document that contains the restrictions or limitations may be inspected.
The share register must also state the following with respect to each class of shares:
An alphabetical list of the names and last known address of each person who is or has within the last 10 years been a shareholder.
The number of shares of that class held by each shareholder within the last 10 years.
The date of any:
issue of shares to each shareholder within the last 10 years and the name of the person to whom the shares were issued;
repurchase or redemption of shares from each shareholder within the last 10 years and the name of the person from whom the shares were repurchased/ redeemed;
transfer of shares by or to each shareholder within the last 10 years and the name of the person to or from whom the shares were transferred.
12.3.6 - Share Repurchases
The Companies Act 1993 allows a company to purchase, cancel or otherwise redeem its own shares. In certain circumstances distributions to shareholders on repurchase will not be taxable to them, for example a return of share capital is tax free.
12.3.7 - New Recordkeeping Law
IRD has approved certain providers (MYOB, Reckon, Xero...) to store taxpayer records off shore on “the cloud” (Internet). Search Google for “ird approved offshore electronic records providers” for updates.
12.3.8 - Company Records
A company must keep the following documents at its registered office (or any other location in New Zealand provided their location is notified to the Registrar within 10 working days of the change):
The constitution of the company (if applicable – if no constitution exists, the Company will be governed by the standard provisions of the Act)
Minutes of all meetings and shareholders’ resolutions within the last seven years
An interests register (of directors’ interests)
Minutes of all meetings and directors’ resolutions and directors’ committees within the last seven years
Certificates issued to directors under the Act within the last seven years
The full names and addresses of current directors
Copies of all written communications to all shareholders or holders of the same class of shares during the last seven years, including annual reports under section 208 of the Act
Copies of all financial statements and group financial statements required to be completed by the Act or the Financial Reporting Act 1993 for the last seven completed accounting periods of the company
The accounting records required by section 194 of the Act for the current accounting period and for the last seven completed accounting periods of the company
The share register
12.3.9 - Accounting Records
The board of a company must ensure that the company keeps accounting records. These records must:
correctly record and explain the company’s transactions
at any time enable the financial position of the company to be determined with reasonable accuracy
enable the directors to ensure that the company’s financial statements comply with section 10 of the Financial Reporting Act 1993 and that any group financial statements comply with section 13 of that Act
enable the company’s financial statements to be readily and properly audited
12.3.10 - Charges
Not every charge created by a company over its assets is required to be registered, only those listed in section 102(2) of the previous Companies Act 1955. The most common of these are debentures, mortgages, and instruments by way of security. It is common for a shareholder with an interest in the company, who lends money to the company, to take out a debenture over the company for this loan. This in turn may secure that person for the loaned funds in preference to creditors in the event of liquidation.
A copy of every document that creates a charge over a company’s assets must be filed with the Registrar for those charges that are required to be registered. These are regulated by the Personal Property Securities Act 1999 (See 25.7).
12.3.11 - Registered Office
Every company must have a registered office in New Zealand. This must be a physical address where records are kept and may not be a postal centre or document exchange. The registered office address must be notified to the Registrar on the application form for incorporation. If a company wishes to change its registered office, the change and the date on which it is to take effect must be notified to the Registrar.
12.3.12 - Address for Service
Every company must have an address for service in New Zealand. This must be a physical location where legal documents can be served on the company and may not be a postal centre or document exchange.
12.3.13 - Particulars of Directors
Any changes in the director(s) of a company or particulars relating to the director(s) must be notified to the Registrar by completing the online forms. Such changes include:
Changes to a director’s name or residential address
Removal from office in accordance with the Act or a company’s constitution
Disqualification from holding office as a director
Appointments
Resignations
Deaths
A new director must consent to act as a director and certify that he or she is not disqualified from being appointed or holding office as a director.
A person cannot be a director of a company if he/she is:
under 18 years of age
an undischarged bankrupt
prohibited from directing/promoting/participating in the management of a company under any statutory provisions
subject to a property order made under sections 30 or 31 of the Protection of Personal and Property Rights Act 1988
not qualified pursuant to the constitution of a particular company
12.3.14 - Directors’ Duties
Duties of directors include:
Directors to act in good faith and in the best interests of the company
Directors’ powers to be exercised for a proper purpose
Directors to comply with the Companies Act 1993 and the company constitution
Directors are not to indulge in reckless trading which could result in creating a substantial risk of serious loss to the company’s creditors
Directors owe a duty of care to the company i.e., a director must exercise the care, diligence and skill that a reasonable director would exercise
A director of the company must not agree to the company incurring an obligation unless the director believes the company will be able to perform the obligation
Directors may use information and advice of an employee of the company, a professional advisor or any other director provided that the director acts in good faith, makes proper inquiry where the need for inquiry is indicated by the circumstances and has no knowledge that such reliance is unwarranted
12.3.15 - Annual Meeting
Every company must hold an annual meeting of shareholders once in each calendar year unless everything that is required to be done at the meeting is done by special resolution (see below). The meeting must be no later than six months after the company’s balance date (ten months for an exempt company as defined in the Financial Reporting Act 1993 if all shareholders agree) and no later than 15 months after the previous annual meeting.
A company does not have to hold its first annual meeting in the calendar year of its registration, but must hold that meeting within 18 months of the date of its registration.
A company need not hold an annual meeting if everything required to be done at that meeting (by resolution or otherwise) is done by written resolution signed by at least 75% of the shareholders entitled to vote (or such greater number as may be required by the company constitution for a special resolution). The resolution may be written or electronic, including by email. Within 5 working days of the resolution being passed, the company must send a copy to every shareholder who did sign or have the resolution signed on their behalf.
There is an exception relating to a decision not to appoint an auditor. This requires unanimous consent – see below.
12.3.16 - Appointment of Auditors
At each annual meeting, a company must appoint an auditor to hold office until the next annual meeting, unless a unanimous resolution is passed at or before the meeting that stipulates that an auditor is not necessary. A resolution not to appoint an auditor only holds until the next annual meeting.
Companies that must always have an auditor are:
A New Zealand subsidiary of a company that is incorporated outside New Zealand
A company in which 25% or more of the voting power is controlled by overseas interests
A company that is an issuer of securities within the meaning of section 4 of the Financial Reporting Act 1993
An auditor may resign at any time by giving written notice to the Board and the company must notify the shareholders of the resignation “as soon as practicable”.
12.3.17 - Issue of Shares
After registration, a company must issue to any person named in the application as a shareholder, the number of shares that the application says the shareholder will receive.
After the first issue of shares, the board of a company may issue shares at any time, to any person, and in any quantity it sees fit. This power is subject to the provisions of the Act and any provisions in a company’s constitution that may modify its right to issue shares.
12.3.18 - Distributions and Solvency Certificates
The board of a company may authorise a distribution by the company at any time, and of any amount, and to any shareholders it sees fit. But before doing so it must:
Be satisfied, on reasonable grounds, that the company will be able to satisfy the solvency test immediately after the distribution (See below)
Ensure that it does not breach section 53 of the Act, or any provision in its constitution relating to distributions
Directors who vote in favour of a distribution must sign a certificate stating that the company can satisfy the solvency test and give the grounds for that opinion. A company satisfies the solvency test if:
it is able to pay its debts as they become due in the normal course of business, and
the value of the company’s assets is greater than the value of its liabilities including contingent liabilities.