The US Shares and the PIE Fund
Ravi, 47, is a NZ resident on a 33% marginal tax rate. He owns US-listed shares bought for NZ$120,000; they are now worth NZ$150,000 and pay about NZ$2,500 of gross dividends a year, with 15% US withholding tax. He has no other offshore investments and no intention to trade. He asks whether to keep the shares or sell and invest in a global PIE fund with a 0.45% management fee. His broker charges 0.15% to sell; the shares have no capital gains tax in New Zealand if sold. The PIE fund invests in similar companies, is diversified, and has a 0.30% higher annual fee than his direct share costs. Ravi says he ‘doesn’t want the hassle of FIF tax’ and has heard that ‘PIEs are taxed at 28%, so it must be better’. He also plans to leave the shares to his children in 20 years. He wants a recommendation this week and has not provided his full financial position.
1. Calculate and explain Ravi’s FIF tax position if he keeps the shares.
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The shares are foreign investment fund interests. The de minimis threshold is NZ$50,000 of cost, not market value. Ravi’s cost is NZ$120,000, so the de minimis does not apply and he must use a FIF method.
Using the fair dividend rate (FDR) method, FIF income is broadly 5% of the average value of the shares during the income year. On a value of about NZ$150,000, that is approximately NZ$7,500 of FIF income. At a 33% marginal rate, the NZ tax is about NZ$2,475. He can claim a foreign tax credit for the US withholding tax on the dividends, subject to the usual limits. The withholding is 15% of NZ$2,500, or NZ$375, so the net NZ tax is about NZ$2,100. Under FDR, the dividends are not added again as a separate item of income; the 5% return is the taxable FIF income, with withholding tax credited.
If Ravi sells, the sale itself should not be taxable because he is not a trader, but FIF income still applies for the part of the year he held the shares. Selling down below NZ$50,000 of cost could allow the de minimis in a later year, but only if his total FIF cost is at or below the threshold at year end.
2. Compare the PIE fund alternative and decide whether the tax difference alone justifies switching.
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A PIE fund investing in the same offshore shares would also apply the FIF rules at the fund level and pay tax at the fund’s PIE rate. For Ravi, the maximum PIE rate is 28%. On the same 5% return of NZ$7,500, the PIE tax would be about NZ$2,100. Direct ownership at 33% also produced about NZ$2,100 after the foreign tax credit. So the tax difference is roughly neutral on these facts.
The PIE fund costs 0.30% more a year, or about NZ$450 on NZ$150,000. On a pure cost comparison, direct ownership is cheaper before brokerage and administration. The PIE may still be better for diversification, record-keeping, estate simplicity and reduced single-company risk. The direct shares also carry concentration risk and currency risk, and Ravi would need to manage FIF calculations each year.
The tax difference alone does not justify switching. If Ravi’s marginal rate later rises to 39%, the PIE tax advantage becomes larger, but fees and diversification still need to be weighed. A partial switch or a diversified direct portfolio may be a better answer than an all-or-nothing decision.
3. What non-tax factors and advice-process steps should the adviser cover before recommending a switch?
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The adviser should not recommend a switch on tax alone, especially without Ravi’s full financial position. They need to establish his emergency fund, debt, income, other investments, risk profile, time horizon, estate plans and need for liquidity. The concentration in a small number of US shares is a key risk; the adviser should quantify it and explain how it interacts with his salary and other assets. Currency risk and the possibility of a falling NZ dollar should also be explained.
The advice should compare the existing shares, a diversified direct portfolio and the PIE fund on after-tax return, fees, diversification, administration, estate treatment and flexibility. If a switch is recommended, the adviser should show the one-off brokerage cost (about NZ$225 on NZ$150,000) and the ongoing fee difference. The file should record the client’s objectives, the alternatives considered, the tax calculations and the reasons for the recommendation. A review trigger should be set for a change in tax rate, a large share price movement or a change in Ravi’s plans.