What the FIF? Foreign Tax and How to Pay It

Aug 29

Aug 29 What the FIF? Foreign Tax and How to Pay It

ETFs, Hatch, Index Funds, Investment, Kernel, KiwiSaver, Money Education, Shares, Sharesies, Sharesight, Simplicity, SmartShares, Tax

29 Aug, 2021

Because I like to make life difficult for myself, I thought I would write a blog post* on the tax implications of using a FIF. A Foreign Investment Fund. Due to the proliferation of online investment providers like Hatch, Sharesies, InvestNow, Smartshares, Kernel, Betashares, Stake etc. (I’m sure I’ve missed some), I’m getting more and more emails from people who are concerned about the national and international tax implications of using these platforms.

* To write this blog post, I’ve ended up in the bowels of many websites, and I’ve read a lot of additional content that is not covered here. I’ve linked to them below, so if a deep dive into foreign tax is right up your alley, then knock yourself out! I found them informative and interesting.

I don’t want this blog post to put you off investing, though, so please know that with just a little bit of knowledge, you can work this out, OK? In saying that, I’m no expert and if I’ve got something wrong, let me (politely) know in the comments below, please.

Wish me luck; I promise I’ll try not to make this boring.

I get emails like this:

Q. I have some shares in an index fund - Vanguard International Shares through InvestNow. My question is how do I know if I need to disclose or file for income tax on that investment? I have read the IRD (Guide to foreign investment funds and the fair dividend rate) guide but it is so confusing. I hope you can shed a light. C

Q. I invested in Vanguard funds with InvestNow and wondered if they are considered as FIF? I now know that yes, they are. This means that I have gone over the threshold of $50,000 NZD for FIF already. So I've already made things complicated for myself. H

Q. I’m finally joining the US 500. Thought I’d do this via Hatch. I went to do this and then came across another stumbling block, the Foreign Investment Fund tax rules for investments over $50,000 NZD (edited for clarity). A

Q. I wanted to ask, do you know if the Smarthsares US 500 fund is exempt from FIF rules once the fund is above $50,000?

What is FIF?

FIF stands for Foreign Investment Fund, and there are rules. I’ve seen it referred to as a “regime”, and we all know you don’t want to mess with one of those. Specifically, the rules are about tax. These FIF rules apply to New Zealand residents when investing their money internationally in foreign shares and Managed, Index and ETF funds. These days there are many investment platforms that let you invest internationally really easily, which is fine, but just because you can do something with a two minute sign up process and the click of a mouse doesn’t excuse you from educating yourself about the realities of what is, actually, a serious investment.

Every country has different rules in regards to taxes and just because we are in New Zealand and not in the country where we are purchasing our shares, it doesn’t make us exempt. Meaning that our government has created some legislation and found some common ground where New Zealanders abide by our own tax legislation, whilst also complying with the tax laws of other countries as well.

Why invest offshore?

Kiwis investing offshore is not a new thing by any means. We’ve always done it, what has changed I think is the accessibility of doing so for the individual. Some common reasons why investors do choose to invest offshore are because of the wide variety of investment choices on offer (thousands more than you can access in NZ), the often far lower fees funds charge and you get to decide the tax calculation (FDR or CV) used when you file your tax return.

But these benefits do not always take into account foreign exchange rates and fees when converting your NZD into another currency, nor the tax disadvantages of investing this way. The Moneyhub website noted that “New Zealand investors in New Zealand companies are not subject to the same taxes that overseas investments are. This means that a foreign investment typically needs to earn over 1% extra each year just to cover the additional tax owing”.

Which providers do the FIF rules apply to?

Here is a list of the companies that I commonly get asked about in regards to FIF. If they have “yes” beside them, then YOU need to sort out the FIF tax obligations. If they have “no” beside them, then the provider will calculate and pay any FIF taxes on your behalf:

Betashares - YES
Hatch - Yes
InvestNow - YES (on international investments)
Kernel - NO
Sharesies - YES (on international investments)
Smartshares - NO
Stake - YES
KiwiSaver providers - NO

How come some do and some don’t?

Those with NO beside them are New Zealand entities using tax-efficient PIE funds (portfolio investment entities) which hold foreign investments (like Vanguard) and it is worth noting that all KiwiSaver and Managed Funds are classified as PIE funds meaning that earnings are taxed at a max of 28% (even if your PIR is higher), so they are advantageous for that reason.

FIF applies to investments over $50,000

You will repeatedly hear that these rules apply to foreign investments over $50,000 NZD (even if it’s just for a single day in a 12 month period).

The $50,000 threshold is not based on the market value of your investments, it’s the cost value (what you paid for them). Hatch

Investments may also be spread across multiple investments, so you are looking for the total amount to be over $50,000. In the early days of new investors, that figure often seems a million miles away, but regular investments into your fund provider of choice, get people over that magic number sooner than they realise. And then the tax questions start.

If you are under that, you just pay tax on the actual dividends/distributions you have received (this is known as the ‘de minimis exception’), as you would for any other investment. But, because tax is confusing, there are nuances to this as well. This InvestNow (Going global - Tax tips and traps for local investors) article is particularly good at explaining those.

Before you panic, I’ll stop you right there. If you have already set yourself up with an investment provider and you have received less than $200 NZD in dividends and other untaxed income, then you don’t need to file an IR3 tax return. I think that there are a lot of investors who have signed up to some of the platforms above, particularly Hatch, yet have never invested that much, so chances are this will apply to you! I am one such person. And that is the thing about these FIF rules, they sound big and scary but in many instances, they don’t apply to your situation anyway, so while you still need to be aware of them, you don’t need to be worried by them.

The Inland Revenue Department (IRD) wants to know your total income from all sources and this includes any overseas investments you may have when you are filling out your individual tax return (IR3). Plus they want to know what tax you may have already paid via these investments, or that you should be paying, and if you are claiming for any expenses incurred throughout the year. Ultimately they are helping you find out if they owe you a refund, or you owe them.

* If you are a trader then different tax rules apply! So seek more wisdom about your tax obligations, but for the purpose of this blog post, I figured that day traders are not really my audience!

Holy heck, how can I work that out?

At the end of the financial year (31 March), the provider you use will provide you with a Tax Summary Report which will include ALL the information you need to work out your tax liability for the year you are filing for. These tax reports will tell you the total amount of overseas tax paid and the total income you have made from your investments and you can use this to fill out your own tax return, or just pass it onto your accountant as I do.

I know that the likes of Hatch integrate with the share tracking website Sharesight now so there are great tools out there to calculate tax obligations for the DIY investor.

Using that information you have two ways to calculate what you must pay:

Fair Dividend Rate (FDR)
Cumulative Value (CV)

The purpose of this post was not to go into this kind of detail, but rest assured that all the links below will give you more information on this. From what I understand ETFs (such as Smartshares) that utilise PIE funds use the FDR method and they are able to utilise foreign withholding tax credits if/when they are available and then pay tax to the IRD.

Death and Taxes - two of the certainties of life

For the majority of us, we’ve never had to think too deeply about tax. Our income is taxed before we get it based on the personal tax rate we have provided to our employer, our bank and our KiwiSaver provider etc. If you look at your interest-earning bank account at the end of the month you will see an interest payment and then a tax payment. It’s all taken care of for you. Same with your KiwiSaver Investments, all sorted for you. We get to keep whats is left over.

Our Emergency Fund showing Interest Received and Resident Withholding Tax paid.

But as share market investment options grow in New Zealand and people begin to invest in things other than KiwiSaver, whether you are paying the right amount of tax is going to come up.

An easy way to think about this is if you went out and did a ‘cash job’ today, you need to pay tax on these earnings, that is the law. It’s the same with income that you have received from investments that you hold outside of New Zealand, you need to notify the IRD of this income and work out how much tax you need to pay here in Aotearoa.

The choice is a double-edged sword

There is a mixed opinion from providers about how you should view FIF rules, which is based on what they are selling. It ranges from:

“Hey, don’t worry about it, it’s not that hard!”
to
“Are you really sure you want to go down that investment pathway?”

It’s really no more complicated for your accountant than working out your tax for your business or rental property, it’s just another component of your tax return. I think it’s just thrown people because there are so many new investors around these days who have never had to do anything more complicated than a PAYE tax return.

But it’s ideal to work out your potential future tax obligations BEFORE you start to invest so you can go into it well prepared. If you go down the foreign investment route you will need to file a tax return at some point, which will require a bit of effort, but lower fees and a wider range of choice might outweigh the effort required. You get to decide.

For some, sticking to investing in a New Zealand based entity eliminates all the complexities of FIF and dependent on your situation may be more tax advantageous anyway.

One thing is for sure, all providers will have a disclaimer somewhere on their site urging you to “seek financial advice” as none of them claims to be tax advisors. Meaning, go and have a meeting with your accountant and ask them about it. Putting in a few hours of exploration and education will allow you to choose the right path ONCE, instead of heading into the weeds and having to backtrack later.

What do I do?

As you know, I always like to share what I do and give you some insights as to what a fellow Kiwi is doing with their putea (money). I do this not so you can copy me, but so you can compare it with your own unique situation and find the right pathway yourself.

I’m all about keeping things simple.

And I’ve inadvertently managed to do this by picking the investment route I have but I can’t claim to be a genius by any means, it was simply because when I began to invest I knew I didn’t want to invest in actively managed funds, pick single stocks, nor use a fund manager to actively manage my investments.

So, Smartshares was the option I chose. They were pretty much my only option at that time! These ETFs are PIE funds, so have a top tax rate of 28% and are not subject to the FIF regime making them super easy to use. I knew I was overpaying tax at 28% when my PIR is actually just 17.5%. But at tax time my accountant simply offsets any tax I’ve overpaid with my Smartshares with any tax I’m due to pay for my self-employed income, plus they apply “imputation credit’s” meaning that I’m not overpaying tax that the company in the fund has already paid either.

Sounds confusing? I hope not, it’s actually pretty straightforward. And that’s the key for me. I’ve never had to worry about FIF.

Since I began to invest in ETFs (or index funds) many providers have popped up, and I do have smaller investments with Kernel, Hatch and Sharesies that are low-fee and extremely easy to use that has given access to investments that were previously only accessible by using a big financial services company. The only investment I hold that FIF applies to is the Hatch one. As it stands today my returns are under $200 a year so I’m all good!

You get to decide

You get to decide if the added layer and complexity of satisfying foreign tax laws by investing internationally outweigh the returns you are receiving after all expenses have been taken into consideration. So, if you feel that using foreign investments, which often have lower management fees due to their sheer size and the competitive environment they operate in, plus a lot more choice of countries and companies will give you returns higher than using an NZ domiciled investment, then go for it.

Alternately, if you are wanting the easier path (which may give lower, similar or higher returns) and understand what it means for your financial future, then just find yourself a New Zealand domiciled investment that takes care of all the calculations, payments of tax and claiming of tax credits for you.

RESOURCES:

Knowledge is power. What I took from reading all of the content below was to pick and choose what applies to my own personal situation and that is the view you should take as well. As you can see, there is a tonne of resources to help you file your own tax return OR ensure that you provide your accountant with the information they need to file it for you.

For those of you who are particularly keen, here are a bunch of resources that I’ve used to help me write this blog post today. Also, I have at various times phoned up or emailed all of the fund providers that I mentioned above for their knowledge, so that I can answer the specific questions I have been emailed. I really encourage you to do the same.

There are nuances to every type of investment and I can say categorically that the people working at each of these companies really want to help the New Zealand public not just start investing, but understand what they are doing at the same time because they want you to become long term investors because that is best for your overall financial health. So, just reach out to them is my advice to you.