On 30 March 2017, the Government enacted the Taxation (Annual Rates for 2016-17, Closely Held Companies, and Remedial Matters) Bill which contains amendments to the non-resident withholding tax on related party debt and branch lending.
New Zealand imposes non-resident withholding tax (NRWT) on New Zealand sourced interest paid to foreign lenders. The rate is 15% but generally reduced to 10% upon application of a Double Tax Agreement. NRWT is further reduced to 0% when a New Zealand borrower elects to pay a 2% Approved Issuer Levy (AIL) on the interest paid. This is only available if the borrowing is from an unrelated lender.
Officials have been concerned that the NRWT rules have not been applied fairly. Historically NRWT is not payable to Inland Revenue until the interest income is “paid”. This occurs when interest is credited or dealt with on behalf of the non-resident lender. For New Zealand resident borrowers, the financial arrangement rules apply to determine the timing and amount of any interest deductions. Consequently, a mismatch in the application of the tax rules means a deduction is generally allowed for interest accrued while the NRWT liability on the interest income may be deferred.
In order to achieve symmetry or neutrality between taxation of income and the deduction of expenditure, the following changes were put in place:
- Alignment of the obligation to pay NRWT with the timing of interest deductions claim by the New Zealand borrower, if the lender and borrower are associated. This is achieved via introduction of a new deferral calculation which is required to be carried out at the end of the second and subsequent years for each related party debt.
- Introduction of rules and new defined terms to look through “back to back” lending arrangements, so that AIL is not available when a third party is inserted into what would otherwise would be a related party loan.
- Extending the concept of a non-resident owning body for withholding tax purposes to include a group of shareholders acting together as one to control and fund the New Zealand borrower.
- Limitation on the offshore branch exemption to treat interest payment by an offshore branch of a New Zealand resident to a foreign lender as having a New Zealand source, to the extent that the funds are on-lent to New Zealand residents.Accordingly, the interest payment will be subject to either NRWT or AIL.
- Limitation on the on-shore branch exemption so that NRWT or AIL is payable on interest payments, unless interest is paid by a New Zealand resident to a New Zealand branch of foreign lender.
- Extending the AIL regime to be all borrowings by New Zealand banking groups. This is to recognize that the offshore parent of the New Zealand banks would mainly raise this from unrelated parties, therefore it is appropriate for it to access the 2% AIL charge which is intended to apply to borrowings from unrelated foreign parties.
The new rules on both related party and branch lending came into effect for all new arrangements entered into after the date of enactment of 30 March 2017.
For existing arrangements, the new rules on related party lending apply on and after the first day of the borrower’s income year that starts after 30 March 2017 (i.e. 1 April 2017 for March balance date, 1 July 2017 for June balance date and etc.). On the other hand, existing arrangements for branch lending may be able to deferred application of the new rules under the grandfathering provisions.
These changes tighten the New Zealand withholding tax rules on lending between associated parties but provides symmetry between taxation of income and deduction of expenditure in a related party transaction. This is in line with the global focus to provide symmetry or clarity on taxes on the taxation of cross border transactions.
Should you or your client requires any assistance in the implications of the new rules, please do not hesitate to contact us.