Use of fair dividend rate method for a type of attributing interest in a foreign investment fund

Reference

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 Investigations Manager, Investigations and Advice, under section 7 of the Tax Administration Act 1994.

Discussion (which does not form part of the determination)

Shares in the H2O Global Alpha Feeder Fund (Cayman) Limited (the "H2O Feeder Fund" ), to which this determination applies, are attributing interests in a foreign investment fund (FIF). 

The investments held by the H2O Feeder Fund, a sub-fund of the H2O Global Alpha Master Fund (the "H2O Fund" ), are predominantly financial arrangements and interests in it may be hedged back to New Zealand Dollars.

Therefore, section EX 46(10)(cb) of the Income Tax Act 2007 could apply to prevent the investors in the H2O Feeder Fund from using the fair dividend rate method in the absence of a determination under section 91AAO of the Tax Administration Act 1994.

Despite the H2O Feeder Fund having assets predominantly comprising financial arrangements and the presence of the hedging arrangement, the overall arrangement contains sufficient risk so that it is not akin to a New Zealand dollar-denominated debt instrument. Accordingly, I consider it is appropriate for the investors in the H2O Feeder Fund to use the fair dividend rate method to calculate FIF income from its attributing interest in the H2O Feeder Fund.

Scope of determination

This determination applies to shares held in the H2O Feeder Fund, a sub-fund of the H2O Fund.

The H2O Fund:

• is organised under the laws of the Cayman Islands as a limited liability company
• is an umbrella, open-ended investment company
• has variable capital
• Invests in and trades in equity, fixed income, precious metals, commodities, credit, volatility, international currency and other markets, primarily using derivatives, over-the-counter instruments and foreign exchange forwards.

The H2O Feeder Fund is a sub-fund of the H2O Fund and indirectly invests in the above mentioned markets that H2O Fund invests in.

Interests in the H2O Feeder Fund may be hedged back to New Zealand Dollars.

This determination is made subject to the following conditions:

1. The investment in the H2O Feeder Fund is not part of an overall arrangement that seeks to provide the investor with a return that is equivalent to an effective New Zealand dollar denominated interest exposure.
2. The notional derivative position (being the economic value of derivatives) will be more than 20% of the total asset value of the H2O Fund. If an event occurs that the 20% test is not met, and it is not corrected in 45 days, then this determination ceases to apply from the first day of the following Quarter.
3. The H2O Fund continuously trades in equity, fixed income, precious metals, commodities, credit, volatility, international currency and other markets. If the H2O Fund ceases to do so for a continuous period of 45 days, then this determination ceases to apply from the first day of the following Quarter.

Interpretation

In this determination unless the context otherwise requires:

"H2O Feeder Fund" means the H2O Global Alpha Feeder Fund (Cayman) Limited, which is a sub-fund of the issuer the H2O Global Alpha Master Fund;

"Fair dividend rate method" means the fair dividend method under section YA 1 of the Income Tax Act 2007.

"Financial arrangement" means financial arrangement under section EW 3 of the Income Tax Act 2007;

"Foreign Investment fund" means foreign investment fund under section YA 1 of the Income Tax Act 2007;

"Quarter" has the meaning in section YA 1 of the Income Tax Act 2007;

"The investor" means a person who has a share in the H2O Feeder Fund;

Determination

This determination applies to an attributing interest in a FIF, being a direct income interest in the H2O Feeder Fund. This is a type of attributing interest for which an investor may use the fair dividend rate method to calculate FIF income from that interest.

Application Date

This determination applies for the 2017 and subsequent income years.

However, under section 91AAO(3B) of the Tax Administration Act 1994, this determination does not apply for the 2016 income year for an investor in the H2O Feeder Fund unless that investor chooses for this determination to apply for that year.

Dated at Christchurch on 9th day of February 2016.

John Trezise
Investigations Manager, Investigations and Advice
Inland Revenue