Tax plan ‘death sentence’ for startups

A thoroughly Kiwi start-up with US investors may attract crippling capital gains tax

Proposed tax reforms on overseas investments amount to a “death sentence” for Kiwi high-tech startups, says Xsol chief executive John Blackham.

He has approached government ministers in an effort to get the proposals more tightly defined, so they will catch the “other kinds of fish” they are intended to trap, he says.

The proposed regime taxes capital gains by investors in overseas companies. However, Blackham says, “there is a huge difference between investing in secure companies like Exxon or IBM and investing in a high-technology startup”.

With the latter “you have perhaps a 10% chance of making a real gain” and to have such high-risk investment taxed would create a massive disincentive. This, he says, would lead to a flight of investment into safe local vehicles like property.

Many thoroughly Kiwi startups are likely to be classed as “overseas companies”, having attracted investment from US venture capitalists, who are likely to insist that the company is listed in the US, Blackham says.

“Kiwis will then be expected to pay tax on the unrealised capital gain. They could pay a lot of money in tax and still have the company go belly-up in the end.”

Investment by US companies is very useful to local startups not only for the money but for its networking power. “These [US investors] can introduce you to people like Bill Gates,” says Blackham.

At present, in seven “grey list” countries — Australia, Britain, the US, Japan, Canada, Norway and Germany — New Zealanders pay tax only on the dividends from their overseas shares and not on the capital gains.

In other countries, Kiwi investors pay tax on the capital gains, realised and unrealised, on the shares in the overseas company and on any dividends.

Finance Minister Michael Cullen proposes to scrap the grey list and apply the same taxation of capital gains, to all overseas investments.

Blackham says his approach has met with a very quick response from the “powers that be” and he is hopeful that the legislation will be more appropriately tuned by the time it is drafted.

One possibility would be to start taxing capital gains in a company once it begins issuing dividends, an indication that it has stopped investing in its own growth, Blackham says.

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