Let's make sure we have the scenario and question clear first.  The scenario is that you've paid a deposit to a company on some land, and they'll build you a house as part of that deal.  The company goes bust and you won't get your deposit back.  (Yes, it happens. All investment has a certain amount of risk.)

The question is, can you write off this deposit as a bad debt? The short answer is no. 

Why is this? When you buy in such a scenario, you have bought on what is called "capital account".  That means that you are not buying and selling houses and making money on the profits, which is called buying on "revenue account." Rather, you have spent money to acquire or improve a long-term asset such as equipment or buildings.  When you sell the asset, at present there will be no tax on the capital gain.  Likewise, if you make a loss when you sell, you can't claim that loss.  And in a similar way, if your calculated risk ends up in losing your deposit, that too is not claimable.

Q: Is the deposit really a deposit? 
In other words, could you argue that the deposit is not a deposit?  Rather, that it is payment for a set of services including designs, council fees, etc, meaning that this is not an asset?
A: No.  This doesn't really change things.  However it may depend on what your contract states. If your contract indicates that the monies given to the builder are a loan to be repaid (irrespective of their nature) then it would possibly fall under the definition of a bad debt.  It would be best to check the wording of your contract with your lawyer. If it reveals that this is the case, then the possibility of claiming this can be examined. However, we stress that this is very very low.

Q: The house is not an asset at this stage, so shouldn't the deposit be able to be recorded in the Profit & Loss as an expense?
A: No. Again one comes back to the purpose. The house was, in this scenario, part of a capital account purchase, not a revenue account purchase.  Therefore, the lost deposit is not deductible.

Q: Any company that I have worked for where the supplier has gone under has been able to capture the loss associated in the Profit & Loss. What's the difference here?
A: No.  The sort of situation where a supplier has gone under is a revenue situation.  That is, supplies are bought to on-sell. A supplier is paid for goods that it doesn't deliver. Therefore, the undelivered goods for on-sale can be treated as a bad debt, provided that matters are handled correctly.

Q: I thought that a debt can be written off as "bad" when a reasonably prudent commercial person would conclude that there is no reasonable likelihood that the debt will be paid.  Isn't that what the law says?
A: Yes (see here), but again that is not the situation here. That only applies in a "revenue" scenario, and only where the other requirements are met.

Q: What about legal expenses? Are they deductible?
A: Yes and No. If the legal action is taken to recover items such as interest reimbursements not paid (which would have been declared as income, i.e. as revenue) then the legal expenses are fully deductible if they come to less than $10,000 in one financial year.  If more than $10,000 they are capitalised and depreciated. 

However, where legal action is taken to recover deposits not paid on land/buildings ie items of a capital nature and this cost exceeds $10,000 in the financial year, then the portion of legal costs related to this would not be deductible.

The converse is also true: even if your legal costs are a mix of costs related to capital items and revenue items, the entire amount can be claimed so long as it doesn't exceed $10,000 in one financial year.

Q: So does that mean that nothing is deductible then?
A: No.  The usual expenses (see here for a sample list) are still deductible.

• Some contracts with developers include a provision whereby the developer must reimburse interest costs incurred on the building during the build costs. At times these are paid by way of a credit from the developer to the client’s bank account, and other times they are deducted from a progress payment to the developer. Could these be viewed as a loan of sorts to the developer (seeing as they are legally obliged to reimburse the client) and therefore qualify as bad debts?
  
• Some contracts also specify that the developer will pay a rental top-up of $50/week or similar for the first 12 months. Could this be viewed in the same way and therefore be written off as a bad debt?
  
• Some contracts specify that the deposit paid to the developer is for designs, engineering and council consent. As being able to build a house is by no means guaranteed due to the fact  that consent may not be obtainable, does this change the deductibility of the costs in the above-mentioned scenario?
  
• In view of significant rises in the Auckland property market, could the client decide by way of company resolution (most have purchased the investment property using an LTC) that the project shall now be sold at some stage, with the intention of making a profit which will be subject to capital gains tax, ie, that it shall be viewed as a “revenue” investment and not a “capital” investment?  As an incidental effect of this decision, then in the above scenario would this mean that deposits and progress payments could therefore be written off as bad debts?  Or could this run the risk of being viewed as tax avoidance?
  

Please click the file below to see the answers to these questions:

We trust this is useful. If you have further questions, please consult your lawyer or tax professional.

What is FATCA? 
The IRD explains it nicely here.  As they put it:

The Foreign Account Tax Compliance Act (FATCA) is United States of America (USA) legislation that aims to reduce tax evasion by USA citizens, tax residents, and entities. 

Essentially, it's a reporting regime to make sure that USA persons (and New Zealanders with accounts in the USA) meet their tax obligations.

As part of FATCA, USA citizens/tax residents who have certain foreign financial assets that exceed certain thresholds must report those assets to the United States Internal Revenue Service (IRS), whether they live in the USA or not.

Who does FATCA apply to?
FATCA requires foreign financial institutions (namely, financial institutions outside the USA) that are not exempted, to register and report to the IRS on details of financial accounts held by USA citizens, tax residents and others.

If you are a US citizen or your parents are:
Please note that if you fall into one or both of these categories, then you will now be required to file yearly tax returns with the USA, even if you have never lived or worked there.  There are firms that specialise in this; please also see this article.

I'm not a US citizen or tax resident. Why is my bank writing to me about it?
You'd have to ask them that. Probably covering themselves to make sure they are compliant with FATCA.

Hmmm, it's a worry! Please read this excellent article from Fortune Manning Lawyers: 

All directors need to be aware of the statutory duty they owe to the company not to trade recklessly and of their potential personal liability for the debts of the company if they do so. There are now several recent cases where the Courts have taken a hard line against directors. The Court of Appeal has recently upheld a High Court decision which found a director liable for reckless trading and personally responsible for the debts and liabilities of the company to the tune of $8,400,000 plus interest from the date of liquidation of the company, not including his liability to related party creditors. 

The relevant provision is section 135 of the Companies Act 1993: 

A director of a company must not -

1. Agree to the business of the company being carried on in a manner likely to create a substantial risk of serious loss to the company's creditors; or 
   
2. Cause or allow the business of the company to be carried on in a manner likely to create a substantial risk of serious loss to the company's creditors.
   

Exactly what types of actions on the part of a director constitute the taking of "a substantial risk of serious loss to the company's creditors" depends on the particular facts of each case. However, the recent cases draw a distinction between legitimate and illegitimate risks in business, and confirm that only the taking of illegitimate business risks warrants a finding of reckless trading. 

There are some peripheral points to note:

• The company does not need to be in liquidation for a director to be liable for reckless trading. 
  
• Reckless trading can relate to any business of the company - even an isolated transaction unrelated to the usual business of the company. 
  
• A "sleeping director" (one who has abdicated responsibilities to the other directors and who has no actual knowledge of the business in question) may be held liable for reckless trading.
  

The Court of Appeal case referred to is Löwer v Traveller & Another (2005) 9NZCLC 263,889. In that case, the Court of Appeal dismissed the director's appeal against the factual finding by the High Court that the director had taken illegitimate business risks in conducting the business of South Pacific Shipping Limited. The Court of Appeal concluded that the company's circumstances, considered objectively, warranted the shutting down of business, and not the taking of further extensive risks. It was reckless of the director to exercise his controlling position to ensure the company carried on business in the way it did, and he was therefore personally liable for the company's debts. 

The best guidelines for determining whether or not the actions taken by the director were legitimate or illegitimate business risks were set down by the High Court (in South Pacific Shipping Limited (in Liquidation), Re; Traveller & Anor v Löwer (2004) 9 NZCLC 263,570). 

The Court said the following factors were relevant:

• Whether there were collateral personal benefits to the director of continuing to trade an insolvent company and whether the director was motivated by these collateral benefits. 
  
• Whether the company continued to trade while insolvent. While there is no obligation on directors to immediately cease trading as soon as the company becomes insolvent (on the balance sheet), there are limits to the extent directors can allow a company to trade while insolvent in the hope that the situation will improve - usually a matter of months. Directors of a company facing insolvency are expected to address the reasons for the insolvency and put strategies in place to salvage the position should they elect to continue trading. Directors who allow an insolvent company to trade for an extended period take the risk of being found personally liable for reckless trading. 
  
• Whether the creditors had notice of and fully understood the risks being taken with their funds. 
  
• Whether the director's conduct was in accordance with orthodox commercial practice? As part of this, whether the company had in place an orthodox governance structure? Liability for reckless trading is likely where directors have acted otherwise than in accordance with orthodox commercial practice. 
  
• How serious were the risks in the context of the particular business environment (i.e. was there a hostile business environment?).
  

These factors were considered by the High Court in Cellar House Limited (in Liquidation), Re; Walker v Allen (Nelson CP13-00, 18 March 2004) in finding the director liable for reckless trading (among other breaches of duty) and therefore personally responsible for the debts of the company. Judgment was entered against the director for $1,750,000. 

The "legitimacy" test, used to determine director's culpability, was also supported by the High Court in Mountford v Tasman Pacific Airlines of NZ Limited (2005) 9 NZCLC 263,864. 

These decisions have no doubt given liquidators and creditors confidence that where directors are reckless the courts will hold them personally liable for the company's debts. 

However, directors can take some comfort in the finding that the taking of legitimate business risks is not reckless. Although, it is a fine distinction. In the two cases decided after South Pacific Shipping and Walker v Allen the Courts have found in favour of the director. 

In Global Print Strategies (in Liquidation); Re Mason & Anor v Lewis & Anor (High Court Auckland) the Court found that recklessness requires more than mere negligence. The director must make a conscious decision to allow the business to be conducted in such a way as to pose a substantial risk of serious loss to the company's creditors, or must be wilfully or grossly negligent in turning a blind eye. This introduces a degree of subjectivity to the otherwise objective test of whether a director's conduct was reckless. 

In Petros Developments Limited (in Liquidation); Re Advanced Plastics Limited v Harnett & Anor (High Court Auckland) the Court found that the director's conduct was not reckless as the director had the full support of the creditors and the creditors were fully aware of the risks which incidentally were substantial. There was a common strategy between the director and the creditors. The Court made the observation that all business is inherently risky. 

The question will always be whether the director's conduct can fairly be regarded as reckless but it is important for directors to bear in mind the principles or guidelines in the South Pacific Shipping case. It is still open for directors to authorise their companies to take risks in business (this is often necessary to promote the company's best interests) but all care should be given to those decisions to ensure the risk taking is legitimate.

Read the full article here here. Note that this article is under review due to some recent courtroom developments. We'll update it as more information comes to hand.