FDR 2008/03
Issued
06 Mar 2008

Use of fair dividend rate method for a type of attributing interest in a foreign investment fund (Macquarie Escalator)

FDR 2008/03 covers use of fair dividend rate method for a type of attributing interest in a foreign investment fund (Macquarie Escalator).

This determination is made under section 91AAO(1)(a) of the Tax Administration Act 1994.

This power has been delegated by the Commissioner of Inland Revenue to the position of Policy Manager under section 7 of the Tax Administration Act 1994.

Discussion (which does not form part of the determination)

Shares in a non-resident company to which this determination applies are an attributing interest in a FIF for New Zealand resident investors.

New Zealand resident investors are required to apply the foreign investment fund rules to determine their tax liability in respect of their shares in the non-resident company each year.

Due to the presence of hedging arrangements involving instruments that may be highly effective in terms of hedging the underlying foreign currency financial arrangement, section EX 40(9)(d) of the Act could apply for the 2008-09 and subsequent income years to shares in the non-resident company and prevent the use of the fair dividend rate method in the absence of a determination under section 91AAO of the Tax Administration Act 1994.

Despite the presence of a financial arrangement which is potentially effectively hedged, I consider that it is appropriate for New Zealand resident investors in this arrangement to use the fair dividend rate method.

The overall arrangement (as described to me by the applicant) is in substance an equity investment that contains sufficient risk so that it is not akin to a New Zealand dollar-denominated debt instrument that effectively provides guaranteed returns.

Scope of determination

The investments to which this determination applies are interests in an Australian Limited Partnership (either the Macquarie Escalator NZ 2007 (Nikkei 225 Index) Limited Partnership or the Macquarie Escalator NZ 2007 (DJ EuroStoxx 50 Index) Limited Partnership) which holds shares in a non-resident company. The General Partner of the Partnership is Escalator NZ GP Co Pty Limited. The Australian Limited Partnership is treated as a partnership for New Zealand tax purposes such that the shares in the non-resident company are treated as held directly by the New Zealand investors. The non-resident company:

  1. is an Australian incorporated company;
  2. issues Australian dollar denominated ordinary shares (not being fixed rate shares, non-participating redeemable shares or guaranteed return shares) to the New Zealand investors through the Australian Limited Partnership;
  3. invests proceeds from the issue of shares in a foreign currency denominated note, which is a financial arrangement that is linked to an underlying index such as:
    1. an equity index;
    2. a commodities index;
    3. a property index;

      and provides returns calculated by reference to a percentage participation in the performance of the underlying index over each investment term (of approximately three years);
  1. provides a return to investors at the end of the investment term based on the returns received from the investment in the index linked note, which is not a fixed return;
  2. enters into foreign currency forward contract hedging arrangements for the purpose of providing New Zealand investors with the economic equivalent of an overall New Zealand dollar exposure in respect of their investment.

Interpretation

In this determination, unless the context otherwise requires:

'Australian Limited Partnership' means a partnership registered under the Partnership Act 1892 (NSW);

'Financial arrangement' means financial arrangement under section EW 3 of the Act;

'Fixed rate share' means a fixed rate share under section LF 2(3) of the Act;

'Non-participating redeemable share'means a non-participating redeemable share under section CD 14(9) of the Act;

'Guaranteed return share' means a share involving an obligation under section EX 40(9)(e) of the Act;

'Non-resident' means a person that is not resident in New Zealand for the purposes of the Act;

'The Act' means the Income Tax Act 2004, or any equivalent provision in the Income Tax Act 2007, as applicable.

Determination

An attributing interest in a FIF to which this determination applies is a type of attributing interest for which a person may use the fair dividend rate method to calculate FIF income from the interest.

Application Date

This determination applies for the 2008-09 and subsequent income years.

Dated at Wellington this 6th day of March 2008

David Carrigan
Policy Manager
Inland Revenue