Tighter eligibility rules around Approved Issuer Levy
The taxation of interest payments made to non-residents has changed. Changes see the non-resident withholding tax (“NRWT”) net expanding while access to the Approved Issuer Levy (“AIL”) alternative is curbed.
Changes have been in the pipeline since 2013. They have undergone significant revision following their introduction.
Taxpayers with debt funded by non-residents need to take a fresh look at what the NRWT and AIL changes mean for them.
New concept of non-resident financial arrangement income
The new concept of non-resident financial arrangement income (“NRFAI”) is treated as a new category of non-resident passive income under certain financial arrangements between associated parties.
The NRFAI rules essentially require NRWT to be withheld more frequently, on an accrual basis, in certain cases.
The introduction of NRFAI aims to address timing mismatches in lending between associated persons where the borrower is able to claim a deduction for interest expenditure before the lender must satisfy the NRWT liability on the interest.
Inland Revenue to provide assistance with complex accrual rules
The new rules are complex. Inland Revenue has published initial information and examples in a Special Report. It has committed to publishing further detailed examples of how the rules are intended to operate in the June edition of its Tax Information Bulletin:
- Deferral calculations: Taxpayers must complete a deferral calculation for each related party debt, at the end of the second and subsequent years following creation of the loan, to determine whether NRFAI arises. The deferral calculation compares the accumulated payments on the loan with the accumulated accruals. In other words, it compares the total interest paid since the financial arrangement became “related party debt” until the due date for filing the NRWT return for the second month following the end of the income year, with the total expenditure the borrower incurs while the arrangement is “related party debt” until the end of the preceding income year.
- NRWT on accrual basis: If the outcome of the deferral calculation is less than 90%, NRFAI arises and NRWT applies on an accrual basis. If the result of the calculation is 90% or more, NRFAI does not arise and the debt continues to be taxed under the NRWT rules as they applied before the current amendments.
- De minimis threshold: Generally, no NRFAI arises where expenditure of the borrower, and companies in the borrower’s group of companies, on “related party debt” in the previous year is less than $40,000.
- Election to apply deferral calculation: The deferral calculation means that NRFAI cannot arise for an arrangement before the end of the second year of the arrangement. In cases where it is obvious that NRFAI will arise (for example, in the case of a zero coupon bond), borrowers have the option of electing to apply NRFAI from the first year the arrangement becomes a “related party debt”.
- Initial calculations: The first year that a non-resident derives NRFAI, the borrower must calculate the non-resident’s income from the debt for that year under the financial arrangement rules. The non-resident is also treated as deriving an additional amount of income which removes the income deferral from that debt for all prior years.
The changes will apply to new financial arrangements from 30 March 2017 (the date on which the new legislation was enacted). For existing arrangements, most changes will not apply until the start of the borrower’s income year following the 30 March 2017 enactment date.
Restricted AIL availability
The AIL regime allows lenders to pay a 2% levy rather than deducting NRWT at 10-15% on funds lent by an unrelated party.
The final law has abandoned original proposals to drastically restrict the ability for borrowers to access the AIL regime.
Originally the Government sought to narrow the class of persons that could be approved issuers and the range of transactions that could be registered as securities. Following submissions, the Government backed down from these proposals, which would have imposed significant compliance costs on many already compliant borrowers.
Despite this Government climb down, the accessibility of AIL for many taxpayers has been reduced.
More “related party” situations excluded from AIL regime
The “related party” definition has been expanded to include indirect associated funding, such as certain back-to-back loans and multi-party arrangements. These will be excluded from the AIL regime if they are entered into with the purpose or effect that the borrower incurs expenditure but the associate does not derive non-resident passive income from the borrower. The new rules are designed to “look through” to the ultimate lender to a New Zealand borrower and prevent a New Zealand borrower from being able to interpose one or more third parties into what would otherwise be a loan from an associated person.
In addition, “related party debt” now captures funding provided by a member of a “non-resident owning body”. A “non-resident owning body” is a group of non-residents that have one or more characteristics indicating they are acting together to debt-fund a New Zealand company. Under the previous rules, while AIL was unavailable where the New Zealand borrower was controlled by the non-resident lender, it was possible AIL might apply when a group of lenders were acting together and controlled the New Zealand borrower (such as joint venture or private equity situations).
Branch lending changes
Amendments ensure that interest payments from a New Zealand resident (or a New Zealand branch of a non-resident) to a non-resident are subject to NRWT or AIL regardless of whether the funding is channeled through a branch.
The main changes affect both offshore branches and onshore branches:
- Offshore branches: NRWT (or AIL) now applies to an interest payment from the offshore branch of a New Zealand resident to a non-resident to the extent that the offshore branch lends money to New Zealand residents.
- Onshore branches: NRWT (or AIL) now generally applies to an interest payment from a New Zealand resident to a non-resident if that non-resident has a New Zealand branch, unless the interest is derived by the New Zealand branch.
For new arrangements, the branch lending changes will apply to interest payments on or after 30 March 2017. The application date for existing arrangements varies depending on the particular scenario.
Get in touch to discuss
Changes to NRWT and AIL will see NRWT being payable on an accruals basis more frequently and will mean many arrangements are no longer eligible for AIL. Call us to discuss how your business may be affected.