Away win? - How much would offshore shareholders benefit from a drop in the NZ company tax rate?

Cutting the company tax rate might lead to more capital flowing out of Aotearoa

The coalition government has begun floating the possibility of cuts to the corporate tax rate as part of a broader package to attract new business investment.

A new Horizon poll out yesterday on possible tax reforms shows just how unpopular that idea is. Only 9 percent supporting lower corporate tax, while more than twice as many - 25 percent - actually support increasing the rate. More than two-thirds of Act voters oppose cutting the corporate tax rate.

Other elements of that package include reforms to the Overseas Investment Act that speed up non-sensitive investment decisions, and giving LINZ more power to grant consent without involving Ministers.

Ministers are very keen to give the idea that ‘New Zealand is open for business’. It’s not clear we were ever closed for business in the modern era, but perhaps we are missing the point. Since the early 1980s, New Zealand has consistently been an open economy that trades with the world. The recent Investment Summit gained many headlines, but no private sector investment – only PPPs.

A particular focus of the current government's approach has been on Foreign Direct Investment (FDI). It has even established a new agency, imaginatively called ‘Invest New Zealand’, to encourage new FDI.

The Minister of Finance has also suggested that changes to New Zealand’s taxation system might be necessary, saying “We need to ensure the New Zealand tax system does not discourage businesspeople from investing in their businesses and does not deter foreign investment”.

No sooner had that been said than a report from Deloitte turned up saying that the economy could benefit from a cut in corporate taxation as well, from 28% to 20%. The question is – would it deliver the goal the government is aiming for? And what would be the cost of that?

The Evidence

Total annual FDI reached $171.1 billion in the year to 31 March 2024,^[1] equal to 41.2 percent of GDP.^[2] FDI in absolute numbers has grown consistently in recent decades, but FDI as a percentage of GDP peaked in 1999 at 74.9 percent (under a different methodology) and has been in decline ever since.

Previous cuts to the corporate tax rate in 2007 (from 33 percent to 30 percent) and 2010 (from 30 percent to 28 percent) did not reverse the downward trend of FDI as a proportion of GDP, but did reward existing investors (see Figure 1).

Figure 1: Extent of Foreign Direct Investment in New Zealand

What has not been part of any analysis in New Zealand is the likely outcome on tax revenue should corporate tax be reduced. Given that corporate taxes generate around $17bn annually, significant changes in taxation could lead to windfall gains for some groups. They could also lead to losses for others if reductions in taxation are covered by increases in taxation elsewhere, or through reductions in the quality of services delivered.

We should also note that company taxation is only one aspect of a decision by a company or fund to invest in New Zealand. In addition to the company tax rate, there is the R&D tax incentive, the lack of a capital gains tax, and the lack of substantial payroll taxes. These taxes affect the actual tax paid by corporates in comparison with other countries when considering investing in New Zealand.

We have modelled how much overseas shareholders would likely benefit from a corporate tax cut. Overseas shareholders would be less likely to be investing their windfall gains in New Zealand, and instead, this new ‘revenue’ stream could be seen as a flow of new money overseas. Given our double tax arrangements with other jurisdictions, other countries’ exchequers would not benefit from this increase.

In the year to 31 March 2024, we estimate that cutting the corporate tax rate from 28 percent to 20 percent would have increased annual income to offshore shareholders by up to $1.3 billion.[3]

Figure 2: Taxing foreign income at 20% - Equity and investment funds

Source: Authors Analysis of Stats NZ data

Our estimates[4] are generated by using Balance of Payments data,^[5] which includes information on the outflow of income on offshore-owned equity and investment fund shares (the dark green line at the bottom of Figure 2).

This income has already been taxed at the corporate rate. The orange line at the top of the graph represents an estimated pre-tax income, calculated according to the corporate tax rate at the time. In 2024, this is calculated to be $16.4bn. This represents a fall from the previous year, when pre-tax profits were calculated at $18.2bn.

The sections between the orange and dark green lines represent the corporate tax take on these profits. The light blue shaded section shows a 20 percent wedge while the darker crosshatched section below represents the difference between the actual corporate tax take (at 28 percent) and the Deloitte proposed 20 percent wedge.

That means that in 2024 overseas shareholders paid up to $4.6bn in tax on their income. The estimate of that falls to $3.3bn if the corporate tax rate is reduced. Tax decisions then compound each into future years. Assuming a 3.5% annual growth rate (which is the growth rate over the past 10 years) then this would generate a tax reduction for overseas-owned companies across the forecast period of $5.7bn.

Who would benefit?

The largest beneficiaries from a corporate tax cut would undoubtedly be the Big Four Australian-owned banks, ANZ, ASB, BNZ, and Westpac.

In the 2024 financial year, the cumulative pre-tax profits of these four banks reached a record $8.9 billion.[6] They incurred an income tax expense of $2.5 billion, a flat 28 percent. Levying a 20 percent corporate tax rate on those banks would have reduced their cumulative tax burden by $717 million in 2024.

Figure 3: Big Four bank profits

Source: S&P Capital IQ database.

We would expect that the vast majority of this additional profit would go offshore, rather than be invested in NZ. Over the past decade, after-tax profits of the Big Four banks have totalled $58 billion. 68.4 percent of this – a staggering $39.7 billion – were sent to the Big Four’s Australian parent banks. These are stupidly large numbers, but a corporate tax cut would help make them bigger.

They say the best way to rob a bank is to own one, and it’s worth noting that the largest shareholders of the Big Four Australian banks are multi-trillion dollar asset managers Blackrock, Vanguard and State Street. It’s no exaggeration to say that a corporate tax cut in NZ is a giveaway to the biggest fund managers on the planet.

It’s also hard to see how a free money giveaway to big offshore banks and their even-more-offshore shareholders would square off alongside the ongoing inquiry into banking competition taking place in the Finance and Expenditure Committee. Excessive profitability is one of the core focus areas, and banks executives have been repeatedly raked over the coals for NZ’s high net interest margins compared to competitor countries (like Australia, for example, where the Big Four banks offer consumers substantially lower net interest margins while enduring a higher corporate tax rate, and still somehow seem to do alright).

The trend would likely be the same in the insurance sector, where the two largest players in the NZ market – IAG and Suncorp – are both Australian-owned, both generate substantial profits from NZ, and both remit substantial dividends to their Aussie parents.

What could a tax cut of this size purchase instead?

The government does not have $5.7bn in spare monies at this point, given that its OBEGAL deficit is forecast to be $17bn in 2025. That money would either need to be sourced from other taxes or from additional cuts to public services.

To provide an illustration of the size of this spending, $5.7bn would represent the combined spending on:

· Dunedin Hospital - $1.88bn

· Full Nelson Hospital Rebuild - $1.1bn

· Interislander Ferry Replacement contract - $551m

· Reversing cuts to free school meals (4-year cost) - $428m

· Cancer Drugs Fund (4-year cost) - $604m

· Reversing the Apprenticeship Boost programme (4-year cost) - $420m

· Reversing $435m cut from the Kāinga Ora house build programme

And still have $282m spare in case of cost overruns.

This of course is only the increase in after-tax profit that accrues to overseas firms. The number would be higher if it included domestic profits. It would also be much higher if all firms paid their corporation taxes in full, and didn’t use any devices to manage their taxation requirements.

To Conclude:

Tax cuts are always a very difficult subject. Tax cuts in the middle of a really difficult time for the government's books are even more challenging. Tax cuts that potentially send large amounts of money overseas, and are of little benefit to New Zealand’s growth, would be an extremely difficult sell. In our view, they are not what is needed right now.

The government faces a choice in the next Budget. It can choose to tackle the problems that face Aotearoa today. A health service that is under incredible pressure financially. Rising child poverty. Or it can choose – as it did at the last Budget – to provide tax cuts that are of dubious (and likely negative) economic and fiscal value. Its choices will demonstrate its values; and what kind of New Zealand it wants to see in the future.

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[1] Infoshare IIP088AA

[2] Infoshare SNE038AA

[3] Some of this income may have already been taxed already at a lower rate, however the data does not allow us to explore this in any greater detail.

[4] We are indebted to Dr. Bill Rosenberg for his assistance in this publication

[5] Infoshare BOP058AA

[6] ANZ, BNZ and Westpac all report on September financial year. ASB reports on a June financial year, and therefore the 2024 data used here is for year to 31 December 2024.