New Zealand has traditionally imported capital and relied on foreigners for critical services such as insurance and international shipping, while only exporting primary products in exchange. Given this economic background, after the introduction of a permanent income tax in 1891, New Zealand sought to rigorously assert source taxing rights in its domestic law, an approach that became increasingly incompatible with residence-oriented international tax norms as they developed during the 20th century.
Consequently, New Zealand’s position made it difficult to negotiate double taxation agreements (DTAs) as its recalcitrant pursuit of source taxing rights brought it into conflict with international tax practice, and, with many of its DTAs ultimate concessions in the face of more powerful negotiating counterparties. The narrow conception of national interest it pursued can also be characterised as naive.
Early DTAs and issues
New Zealand concluded its first comprehensive DTA in 1947 with the United Kingdom. A DTA with Canada followed in 1948 and a treaty with the United States came into effect in 1951. After conclusion of a 1956 DTA with Sweden, other negotiations came to a halt largely because of New Zealand’s pursuit of its conception of national interest – retaining taxing rights over source income.
In the early DTAs, New Zealand gained some victories, particularly in relation to passive income. However, a source preference in DTAs became increasingly abnormal and unsustainable.
For example, income derived by a non-resident shipper from the carriage of goods from New Zealand was deemed to have a New Zealand source. Because the country was dependent on foreign shipping companies for its international trade, these companies were expected to pay some local tax on the profits they earned. But under the 1928 League of Nations Model Tax Convention, shipping enterprises were taxable only in the place where their real centre of management was situated, namely on a residence basis.
The treatment of commission agents was another area where New Zealand’s tax treatment was abnormal. Overseas businesses could engage local agents without establishing a branch or subsidiary. In response, New Zealand deemed a local source to income derived by a non-resident trader from business obtained on their behalf. This practice was inconsistent with the increasingly normalised concept of a taxable permanent establishment.
As a net importer of intellectual property and know-how, New Zealand also sought to maintain taxing rights over various forms of passive income such as royalties with a local source. This conflicted with the expectations of potential DTA partners which wanted New Zealand to exempt royalties, but New Zealand managed to negotiate higher than normal withholding rates on royalties in its DTAs until the 2000s.
New Zealand has also been able to preserve some of its source taxing rights on construction projects, natural resource exploration and exploitation. The definition of ‘New Zealand’ for the purposes of DTAs tends to include the country’s extensive continental shelf, which is important in the context of mineral exploration.
DTAs with Australia
In hindsight, it seems remarkable that Australia and New Zealand did not conclude a DTA until 1960 but again it seems to be a matter of the stronger party being prepared to wait until the weaker party compromised. New Zealand’s system of company taxation presented a major hurdle to conclusion of a treaty.
Australia employed the classical method to company-shareholder taxation (both corporate profits and shareholder dividends are taxed) with a much lower company tax rate (35%) than New Zealand. New Zealand exempted dividends from tax until 1958 but taxed companies at a rate of 57.5%. This impasse was overcome when New Zealand adopted the classical approach to company taxation in 1958.
In both countries, a comprehensive dividend imputation regime was introduced in the 1980s to replace the classical system. Revised DTAs were concluded in 1972, 1995 and also 2009 when New Zealand agreed to substantial reductions in non-resident withholding tax on passive income after resisting for nearly 60 years.
The political economy of DTAs
New Zealand appears to have undertaken little economic analysis in preparation for its initial negotiations. Indeed, negotiations during the 1950s and 1960s typically involved a rudimentary assessment of inter-state trade and other payments and receipts. Only from the late 1950s was the possibility of increased foreign investment into New Zealand with associated technology considered.
Analyses generally predicted a net revenue cost to New Zealand through concessions on source taxing rights with little obvious gain in return. However little consideration was given to the possibility of dynamic benefits arising from double taxation relief in the longer term. For example, did taxes on non-resident shippers lead to higher freight rates being charged to New Zealand importers and exporters?
Since 2000, New Zealand negotiators have recognised that, while New Zealand is generally a net capital importer, after the abolition of exchange controls, it is also a capital exporter. Policymakers now understand that reduction in non-resident withholding tax rates is not necessarily against the national interest when this is done reciprocally under a DTA.
Formal national interest analyses (NIAs) only became mandatory in 2002. Even then, NIAs tend to be boilerplate analyses that focus on possible trade gains.
Australia also faced the problems of a debtor country seeking to negotiate DTAs with creditor countries. But, unlike New Zealand, Australia was willing to use DTAs as a political tool or, at least, to understand them in political context, rather than conceiving them as purely technical tax arrangements. The 1953 DTA between Australia and the US is illustrative.
The 1953 US DTA represents the post-World War II presumption that Australia’s security is dependent on the will of its most powerful ally. And so, while no obvious fiscal benefit arose from a US DTA, broader government strategists saw a tax treaty as a means of maintaining good relations with the US and increasing the possibility of inter-government loans. No obvious evidence exists to indicate that such considerations played a role in New Zealand’s negotiations with the US.
Naivety, recalcitrance, and compromise
When they proliferated after World War II, few countries are likely to have held a sophisticated understanding of DTAs. But for many decades, New Zealand negotiators persisted with a narrow, arguably naïve, perception of how DTAs could promote national interests. While Australia considered potential political and broader business gains, New Zealand focused on likely tax losses.
This focus led to a recalcitrant attempt to maximise source taxation – an approach that invariably ended in eventual backdowns and compromises.
This article is based on Andrew MC Smith and Jonathan Barrett, ‘A thematic history of New Zealand’s double taxation agreements’ (2024) 22(2) eJournal of Tax Research 280.
Recent Comments