Inland Revenue (IRD) charges a high rate of interest on late tax payments (currently 8.22%), and in some circumstances the complexity of the provisional tax regime makes interest charges hard to avoid. Add on late payment penalties, and the cost of meeting your tax obligations starts to feel punitive. Tax pooling was introduced in 2003 to address these concerns.
Although it has been around a long time, the use of tax pooling services is not yet commonplace for all taxpayers, perhaps due to a lack of understanding regarding how the system works. To illustrate, imagine you have had an amazing year and your income has significantly increased compared to prior years. The problem you now have is that you have underpaid your provisional tax. You receive a statement from IRD and it shows your liability has gone up due to interest charged from your third provisional tax date of 7 May 2018.
Meanwhile, your neighbour has had a poor year and her income has dropped. She has received a statement from IRD showing that she is due a refund because she overpaid her 7 May 2018 provisional tax payment. In this situation, a tax pooling intermediary, such as Tax Pooling Solutions (TPS), Tax Management New Zealand (TMNZ), and several others, can connect people that have overpaid their tax with people that have underpaid their tax. Taxpayers deposit tax payments with a tax pooling intermediary to be held as part of the ‘pool’. Funds held in the pool can be used to meet a person’s own liability or ‘sold’ to another taxpayer.
Tax pooling basically allows you to purchase your neighbour’s “tax” and transfer it into your account with IRD, with an effective date of 7 May 2018. From IRD’s perspective, there is no shortfall at 7 May 2018 and therefore no use of money interest (UOMI) is charged.
As another example, if IRD reassess a past tax return resulting in an increased tax obligation for a prior year, historic funds held in the pool year can be ‘purchased’ and used to offset the increased obligation. This is advantageous to the taxpayer, as the intermediary charges less to purchase the historic tax credits than what IRD charges if paid directly. Conversely, for those taxpayers that have paid excess tax into the pool, the intermediary provides a higher interest return than IRD. Hence, tax pooling provides an advantage to taxpayers that have both underpaid and overpaid their tax.
Tax pooling provides taxpayers with a degree of flexibility regarding how they go about meeting their tax obligations. The days of being hit with excessive IRD interest and penalties if you get your provisional tax wrong are effectively over. Instead, there is a fallback mechanism available at commercially acceptable rates in the event that things go wrong.