When you first start to invest, you might be overwhelmed. There are a lot of things to learn, especially all the new jargon used. Then there are the tax implications of investing. To that end, let’s explain some of the tax implications of investing in the Vanguard Fund through InvestNow.
The Vanguard Fund is different from other index funds as it is classed as a foreign investment fund. The Vanguard fund is generally praised amongst the FIRE community, as it is the lowest-cost passive index fund available to us. But there are some extra tax issues with a foreign investment fund.
What is a FIF?
A Foreign Investment Fund is
• a foreign company
• a foreign unit trust
• a foreign superannuation scheme (prior to 1 April 2014)
• a FIF superannuation interest (from 1 April 2014)
• an insurer under a life insurance policy (and the policy is not offered or entered into in New Zealand).
A FIF does not include term deposits, bonds, debentures, money lent, foreign employment, pensions, qualifying foreign private annuity or rental investments.
Foreign Tax 101
Because you are a New Zealand tax resident, you are obliged to pay tax on the total income you receive throughout the year from your salary and all your investments, whether they’re in NZ, Australia, or elsewhere.
These includes
- Retirement schemes,
- Shares in foreign index funds or companies (like Vanguard)
- Overseas rental properties
- Overseas bank accounts
Many would like you to believe that the tax implications for investing overseas, like in the Vanguard index fund, is too complicated. It is a subject on the NZ personal finance subreddit all the time. In most cases, it is actually quite simple. Simple enough that you can work it out yourself.
That being said, if you are confused about the process, it’s better to find a professional to help you out. But don’t quit too easily. Take your time and try to understand the process. It is difficult to do anything for the first time.
Tax on Foreign Investment Funds
If you have any investments that are FIF’s, even though you may not have received any income or gain directly, you may still have FIF income on which you are taxed. For example, if you receive any direct income from a foreign company e.g., shares in a foreign company (except shares in certain Australian companies) or units in a foreign unit trust (except units in certain Australian unit trusts)- you will need to file for FIF tax.
Australian Unit Trusts: Vanguard Fund on InvesNow
The Vanguard fund offered by invest now is an Australian unit trust (AUT), and it comes under the foreign investment fund (FIF) rules. The rules change depending on whether or not you have more than $50,000 invested in the fund.
Under $50,000 Invested in FIF
If you haven’t got more than $50,000 NZD invested in a FIF just yet, it sort of simplifies things when it comes to NZ taxes.
FIF funds: If the price of the investment is under $50,000, then tax only applies to dividends, which are usually going to be under 5% – basically, it’s normal income tax on earnings.
All you need to do is to include the amount of income you received from dividends and the amount of tax paid onto your Income tax return. Then you will be taxed on the net according to your marginal tax rate.
These numbers are provided for you by InvestNow in your personal tax summary report. The numbers to include are the total income received from dividends from your FIF holdings. The report looks something like this.
Over $50,000 Invested in FIF
If you have less than $50,000 in foreign investment funds, you can choose to pay the tax on the distributions you received instead of using the FIF rules- assuming that you have not applied the FIF rules in any of the previous four tax filing periods.
If you have more than $50,000 NZD invested in a FIF, you have to make a decision on which tax method you are going to use. The two methods are;
Fair Dividend Rate (FDR) method– which is 5% of the opening market value at the beginning of the income year, plus a sale adjustment if you bought and sold units throughout the year.
Comparative Value (CV) method– which is the closing value plus the gains minus the opening value plus the costs. Gains include dividends and sale proceeds, and tax credits. Costs include costs associated with buying units and tax paid by you on the income.
Once you have selected a method and calculated your taxable income, you will need to pay tax on that income at your marginal tax rate. You also must apply the same calculation method across all your FIF investments for the year, E.g. you can’t use the FDR method on one fund and CV on another fund. And, whichever method you choose, you must use that method for the next four years.
InvestNow will provide you with a report which includes both methods side by side. This should help you out when deciding which method to use.
The New IRD Website
The new IRD website makes filing taxes easy. All you need to do if you have investments in Vanguard is to log on and submit an income return for the year that you held the Vanguard funds.
To fill it out, all you have to do is log into your IRD account (which you should set up regardless), and choose to file an income tax return. As you go through the form, it will ask you to select any income types that apply to you. You should select overseas income.
As you go through the form, you will see a box to input the total amount of overseas income and total overseas tax paid. Find these values on your InvestNow (or Hatch, Stake) tax summary report and input them here.
The value you should place there are;
- For under $50,000: total income received from dividends from your FIF holdings
- Over $50,000 using
- Fair Dividend Rate (FDR) method: The value of the fair dividend rate on your tax summary from your investment provider.
- Comparative Value (CV) method: The value of the Comparative value on your tax summary from your investment provider.
And then continue processing the form. That’s all you need to do.
Foreign Investment Fund Tax
The FIF rules appear scary compared to investing in PIE funds, but they can actually work out in your favour. For example:
- Using the Fair Dividend Rate method, your taxable income is capped to 5% of your investment’s value, even if you make a return of 10%; for example- you only pay tax on 5%.
- And, using the Fair Dividend Rate method, if you make additional contributions to your investment over the year, you are only taxed on the opening value of your investment as of April 1st.
- Using the Comparative Value method and you make a very low or negative return it could result in low or no tax to pay on your investment.
The Vanguard fund is beloved by many personal finance personalities both in New Zealand and overseas. And for good reason- it’s well-diversified, passive and has low fees. It’s a sensible choice.
And now that you have seen that filing tax for overseas income is simple, you can’t hide behind the excuse that investing in an overseas fund is too difficult.
The number of people filing for overseas investment has increased with the likes of Hatch and Stake entering the New Zealand Market. They offer direct access to US shares which come under the FIF rules.
How to Invest in Vanguard In New Zealand
Now that you have learned about the tax implications of investing in a FIF fund- check out all the ways in which you can invest in the Vanguard fund from New Zealand– there are more ways than just using InvestNow.
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