KiwiSavers face double tax sting

Many KiwiSavers providers use offshore structures, particularly those based in Australia, vulnerable to this tax double sting. Photo / File

KiwiSavers could be missing out on higher returns because of the tax impact of their providers' offshore structures, a report says.

Jamie Young, the author of the report and a partner at Castlepoint Funds, said the issues were largely due to a lack of coverage by New Zealand's double-tax treaties.

Young said they did not provide for investments made by providers who used vehicles in countries different from both where they sourced their investment funds and where investments were ultimately made.

Many KiwiSavers providers use offshore structures, particularly those based in Australia, vulnerable to this tax double sting.

Young said issues were particularly acute for funds with a higher-risk tolerance, as international equities were more likely to run into the issue when dealing with dividend payments.

Double-tax agreements allow the granting of Foreign Tax Credits on withholding tax paid offshore on dividends, which can then be used to offset tax in New Zealand. The loss of these, effectively in transit, can be significant.

Young crunched the Vanguard Total World Stock fund for the 2016 calendar year and found giving up Foreign Trade Credits would cost individual investors 37 basis points, or deducting 0.37 per cent from annual returns.

"If you are invested into higher dividend-paying global funds, such as infrastructure, the FTCs could be materially higher. This is essentially an additional fee for investing in a fund with an inefficient tax structure," Young said in his report.

The results of a reduction of a fraction of a percent in returns aren't inconsequential. Over time, they dramatically reduce compound earnings and mean there's less available for KiwiSavers when they retire.

Young said the issue of fund taxation was a common conversation topic at higher-levels of fund management, but this had not yet filtered down to retail investors.

"It's got quite a lot of coverage in the institutional space. But it struck me that no one on the retail end seems to have any idea about the tax efficiency side of things," he said.

He called for clearer reporting of taxes paid by providers, which was similar in consequence for investors to fees charged - but only the latter had been the subject of an FMA-driven clean-up.

"There is a bit of push to show returns after tax, as well as before tax, but there's so many other things in there - fees and everything else - to easily compare what tax one fund is paying with another. It's not easy to find," Young said.

"All else being equal, it is worth paying up to 0.50 per cent more in fees to invest in a fund that holds foreign equities directly," he said.

Tax issues have attracted some consideration amongst New Zealand KiwiSaver providers, with KiwiWealth saying it was part of the reason it decided late last year to ditch extra providers entirely when providing international exposure and take their management in-house.