Investors are being warned not to take too much comfort from the Inland Revenue Department's latest ruling on the tax status of index funds.
The department, last week, issued a statement (full copy in features) that outlined its position on what an index fund has to do to avoid paying tax on capital gains.
Fund managers and tax experts say the statement is useful as it clarifies some issues that have previously been considered a bit murky. Also, they consider the department has tightened the rules somewhat by laying down a number of likely criteria a fund will have to meet to gain the necessary binding ruling.
The statement has been interpreted by some as saying that the tax status of index funds is no longer an issue until the IRD reviews it again in three years time.
However, IRD assistant general manager adjudication and rulings John Mora, says it is not a given that all the funds which currently hold binding rulings will have those rulings reissued this time around.
"It's entirely possible that a fund which had a binding ruling in the past may not get it again."
He says the funds will have to meet the criteria laid down. This specifies acceptable tracking errors, and says that sector, or industry specific index funds are unlikely to get rulings.
This is likely to be an issue for a number of retail funds which currently track sectorial indices in Australia and New Zealand, and some other funds which based on modified indicies.
Another point that has been missed is that this is only a statement and it is open to interpretation. A manager who is turned down by IRD could challenge that decision in court.
Also, these rulings only deal with the funds. They have nothing to do with an individual investor's tax position.
It is quite possible that an investor may have to pay tax on any gains made through index funds at the personal tax level.
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