Use of fair dividend rate method for a type of attributing interest in a foreign investment fund (Macquarie reFleXion Trust)
FDR 2008/04 covers the use of fair dividend rate method for a type of attributing interest in a FIF (Macquarie reFleXion Trust).
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 the New Zealand resident investor, which is a unit trust that has elected to be a portfolio investment entity ("PIE").
The New Zealand resident PIE investor is required to apply the foreign investment fund rules to determine its tax liability in respect of its 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 arrangements invested in by the non-resident company, 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 financial arrangements which are potentially effectively hedged, I consider that it is appropriate for the New Zealand resident investor in this arrangement to use the fair dividend rate method.
The overall arrangement (as described to me by the applicant) is in substance an investment that contains sufficient risk so that it is not akin to a New Zealand dollar-denominated debt investment that effectively provides fixed returns.
Scope of determination
The investments to which this determination applies are shares held by one or more New Zealand resident unit trusts, each a Macquarie reFleXion Trust that has elected to be a portfolio investment entity ("the Trust"), in a non-resident company that:
- is incorporated in the Cayman Islands;
- issues classes of ordinary shares (not being fixed rate shares or non-participating redeemable shares) which are denominated in New Zealand dollars directly to the New Zealand investor (the Trust);
- converts the New Zealand dollar proceeds from the issue of shares for foreign currency;
- invests the foreign currency in a series of foreign currency denominated total return swaps, which are financial arrangements, each of which is linked to or designed to replicate the returns on an underlying fund or index, such as:
- an equity fund or index;
- an index of hedge funds;
- a commodities fund or index;
and each of which provides returns calculated by reference to the performance of those underlying funds or indices over a 6 year 10 month investment term and each of which is not akin to a debt investment in that returns will vary dependent upon the performance of the fund or index over time;
- provides a return to the Trust at the end of the investment term based on the returns received from the investments in the index or fund-linked total return swaps, which is not a fixed return;
- enters into various foreign currency hedging arrangements for the purpose of providing the ultimate New Zealand investors (investors in the Trust) with the economic equivalent of an overall New Zealand dollar exposure in respect of the principal of their investment (any gains are subject to foreign currency fluctuation).
In this determination, unless the context otherwise requires:
'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;
'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.
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.
This determination applies for the 2008-09 and subsequent income years.
Dated at Wellington this 6th day of March 2008