8 February 2018 Clerk of the Committee Finance and Expenditure Select Committee Parliament Buildings WELLINGTON Dear Sir / Madam TAXATION (NEUTRALISING BASE EROSION AND PROFIT SHIFTING) BILL ASB Bank Limited ( ASB ) is writing to submit on the Taxation (Neutralising Base Erosion and Profit Shifting) Bill ( the Bill ). While ASB believes New Zealand should play its part in supporting global moves in this area, it is important that the specific legislative measures proposed are proportionate, appropriately targeted and consistent with overseas measures to avoid the risk of double taxation. We comment on various specific proposals in the Appendix. We would also like to emphasise the importance of allowing taxpayers sufficient time to work through the final legislation, understand the potential impact on their business and implement any changes required to structures in order to comply. All legislative references in this submission are to the Income Tax Act 2007 ( the Act ), unless otherwise stated. We would be happy to speak with officials in more detail on any of the specific submissions. My contact details are 09 414 8953 or adrian.michael@asb.co.nz. Yours faithfully Adrian Michael General Manager, ASB Taxation
APPENDIX Detailed Submission Points Our key submissions on the various parts of the Bill are noted in bold below within each section, followed by further explanation of those submissions. 1. Application Date The proposed application date of the legislation should be deferred given the complex subject matter and uncertainty around the final form of the detailed legislation. 0B1.1 The proposed application date of many complex measures in the Bill, being from 1 July 2018 for 30 June balance date taxpayers, is likely to be very shortly after enactment of the Bill. This affords minimal opportunity to make any changes to existing arrangements if these are required in order to become compliant. Given the complexity of many changes, the likelihood that the legislation may only be enacted shortly before 30 June, and the uncertainty that taxpayers still face on many details while the proposed legislation works through the Parliamentary process, we believe the application date should be deferred by 12 months. 2. Interest Limitation Rules The proposed restricted transfer pricing rules will oblige taxpayers to adopt pricing that may not meet the internationally accepted arm s length principle and therefore significantly increase the likelihood that taxpayers will face double taxation, and should therefore not proceed. 1B2.1 The proposed restricted transfer pricing rules, contained in clauses 35, 37 and 43 of the Bill, will require taxpayers to alter the terms and conditions of certain related party lending, or the circumstances of the borrower itself, in determining an arm s length price. In the case of banks, the rules will require the NZ taxpayer borrower to determine the pricing of its related party debt by assuming that it has the highest credit rating of any company within its group (for the purposes of the discussion below, this is likely to be the parent but it is unclear why the NZ taxpayer should need to look beyond its parent and consider other group companies credit ratings, which may reflect specific circumstances e.g. a securitisation). 2B2.2 We believe that the restricted transfer pricing rules, requiring taxpayers to step away from the actual terms and circumstances of a loan in determining the interest rate, raise a significant risk that the resulting pricing may not meet the internationally accepted arm s length principle, which the overseas revenue authorities will generally be applying. This may result in the respective tax authorities being unable to agree on the appropriate pricing of the transaction, and therefore significantly increase the likelihood that taxpayers will face double
taxation. This is an untenable position for the New Zealand taxpayer to find itself in and we submit that accordingly, the proposals should not proceed. At a minimum, if the proposals proceed, we believe that where their own externally assessed credit rating supports it, banks should be able to apply the one notch credit rating differential that is afforded to other taxpayers under the proposed changes. 2.3 The larger banks in New Zealand have credit ratings that are close to, but not necessarily identical, to their ultimate parent. There is market observable evidence that where NZ banks issue debt into the same market that their ultimate parent is issuing similar debt into, that the NZ bank must pay a higher rate of return to attract investment. This suggests that the market itself does not assume that the NZ bank has the same creditworthiness as its parent. This would appear to contradict the approach taken in the Bill to require the NZ bank to adopt the parent rating. It is notable that in a number of cases the NZ banks have their own credit ratings that are one notch below their parent ratings. 2.4 If the banks are unable to price related party transactions on a basis consistent with their credit rating, there is a very real risk that this will result in the respective revenue authorities requiring different pricing and hence double taxation arising. The intent of the BEPS measures is to reduce double nontaxation outcomes; where the changes result in double taxation, the pendulum has swung too far in the opposite direction. If the proposals proceed, in considering the terms of the related party loan, banks should also be able to apply the third party tests contained in the proposed section GC 18(8) as well as the regulatory capital test contained in proposed section GC 18(9). 2.5 The proposed restricted transfer pricing rules require certain contractual terms or features to be ignored in determining the arm s length price. There are exceptions to this that are noted in proposed sections GC 18(8) and (9). Paragraph 8 applies to general taxpayers while paragraph 9 applies to banks and insurance companies and similar. While we agree with the direction of the paragraph 9 exceptions, which acknowledge the fact that often the contractual terms may be driven by regulatory capital requirements, it is conceptually unclear why banks cannot also use the paragraph 8 exceptions where the terms of the related party debt reflect third party terms. Related party debt may be used to provide general funding, not just regulatory capital funding, and where the terms of non-regulatory capital funding provided by related parties nevertheless reflect third party funding terms, the paragraph 8 exceptions should be available to banks also. 2.6 The paragraph 9 exceptions applying to banks are, in our view, too narrow. 2.7 The requirements for instruments to qualify as regulatory capital are set not by Reserve Bank of New Zealand Act conditions of registration but by regulation. The proposed section GC 18(9)(a) should be amended to reflect this.
2.8 The paragraph 9 exceptions seem to essentially require that where there is back to back funding into the NZ bank, via a NZ holding company, that the terms of the loan into the NZ holding company need to mirror the terms of the regulatory capital issuance of the NZ bank (proposed section GC 18(9)(b)). It is unclear whether the loan to the holding company in this situation needs to have completely identical terms to the regulatory capital issuance, in order to qualify for the paragraph 9 exception; or whether it is sufficient that only certain features such as the term of the loan, subordination etc should be similar, in order to allow those features to be taken into account in determining the pricing of the NZ holding company loan. This should be clarified in drafting and in our view the features of the loan should not need to be completely identical, it should be sufficient that the relevant terms are similar to the regulatory capital terms. 3. Hybrid and Branch Mismatch Rules The apportionment formula to be applied under the Hybrid Financial Instrument rule needs to be clarified to deal with a franking credit scenario outlined below. 3.1 The hybrid financial instrument rule contained in proposed section FH 3 (clause 30) will apply in a situation where a payment is deductible in New Zealand as interest but is treated by Australian tax rules as equity, and therefore has Australian franking credits attached (up to a maximum of 30%). The recipients of the payments, however, may be on a higher tax rate than 30% and hence still have further income tax payable on these receipts. 3.2 The application of the proposed formula in section FH 3(5), which determines the amount of the deduction to be disallowed, to this franking scenario is unclear. The formula is intended to disallow the deduction unless it is taxed as income in the recipient s country. Example 3 of the commentary to the Bill (refer p67) suggests that a partial deduction is available where the recipient s country taxes part of the income. In the franking credit scenario above, Australia will generally impose income tax on all of the receipt, and even after the franking credits are taken into account, in many cases further income tax will be payable by Australian recipients, who may have a marginal tax rate of up to 45%. It is unclear, in applying the definition of payee tax in that formula, whether the rate of tax imposed by Australia on that income is 45%, 15% (i.e. 45% less 30% franking credits), or some other figure. This figure will drive the level of any disallowance of interest deduction. 3.3 Given that significant tax will be paid in Australia by many recipients on this income, it would seem reasonable that some part of the deduction should be preserved, as is suggested by Example 3. This should be clarified in the Bill. The thin capitalisation amendment to ensure that there is not a double denial of interest should be extended to the banking thin capitalisation rules.
3.4 The Bill proposes certain changes to thin capitalisation rules to ensure that where deductions are permanently denied under the hybrid mismatch rules, they are not also treated as giving rise to assessable income for thin capitalisation purposes, as this would effectively be an additional denial of deduction. To support this outcome, the Bill also proposes that the underlying debt in relation to which the interest arose, is also not treated as debt for thin capitalisation purposes. 3.5 However these changes are only proposed in respect of the general thin capitalisation rules, and not in relation to the banking thin capitalisation rules. Therefore, banks would still face the possibility of having effectively a double denial of deduction. 3.6 We submit that the banking thin capitalisation rules should also be amended to ensure that banks are treated consistently with non-banks, and this outcome does not arise. Specifically, section FE 21 should be amended to allow the underlying debt to be treated as equity for thin capitalisation purposes. Section FE 7 should be amended to remove the disallowed interest deduction from the definition of interest expenditure. 4. Transfer Pricing Rules The extension of the time bar to 7 years for transfer pricing positions is unduly long and should not proceed 4.1 We believe that the proposed amendment to section GC 13 to extend the time bar to 7 years for transfer pricing positions is an excessive increase. In other forums, the Revenue is supporting greater certainty for taxpayers and encouraging the earlier resolution of disputes. Aside from leaving taxpayers with potential uncertainty for close to a decade from the time they enter into a transaction, the risk with extending the time bar in this way is that discourages a timely and efficient dispute resolution process. This is highly likely to increase taxpayer costs as a result. We do not believe an extension specifically for transfer pricing matters is warranted, when other complex issues such as anti-avoidance disputes can still be dealt with within the four year time bar. 4.2 If the Revenue is having difficulty with gathering information from a taxpayer, then any time bar extension should only arise where a taxpayer is being uncooperative and is put on notice of a possible extension, and still fails to provide information in a timely way. With the proposed reversal of the onus of proof on transfer pricing matters onto taxpayers, it should be sufficient for a taxpayer to discharge that onus of proof by demonstrating the prices adopted fell within an arm s length range of outcomes. 4.3 In most transfer pricing analysis, rather than a single price being identified as the arm s length price, there is a range of prices that could be considered to be arm s length. We submit that if the onus of proof is placed on the taxpayer going forward, on transfer pricing matters, the onus should be discharged if they have
priced their transactions within a reasonable arm s length range of prices/outcomes. Any disputes about where within that range a taxpayer should have priced a transaction will invariably be a matter of subjectivity. 5. Other Policy Matters Giving the Revenue the power to require a New Zealand entity to produce information held overseas and outside of its control, and place potential civil and criminal sanctions on officers of the New Zealand entity if they fail to produce the information, is inappropriate and should not proceed. 5.1 The Bill proposes to amend section 17 of the Tax Administration Act 1994 to enable the Revenue to request information, that may be held by overseas members of a multinational group, from a New Zealand member of that group (refer clause 50). A consequence of this proposal is that the New Zealand member (and its officers) may face civil or criminal liability under sections 143 and 143A of the Tax Administration Act, for the non-provision of that information in circumstances where the non-provision of that information may be completely outside of their control. 5.2 We submit that the section 17 amendment should not proceed. The Revenue has information gathering powers via its network of agreements with foreign revenue authorities and these provide an appropriate mechanism to gather information held by entities not controlled by the New Zealand entity. 5.3 If the amendment does proceed, we submit that the non-provision of information should not amount to a criminal offence given that the non-provision of the information may be for reasons outside of the control of the New Zealand entity or its officers. For similar reasons, officers of the entity should not be personally liable for fines. It is unreasonable to impose liability on the officers in these circumstances. Allowing the Revenue to deem a New Zealand entity to be an agent for an overseas group member s tax obligations is a significant override of the corporate veil and results in unintended consequences for a New Zealand taxpayer that is operating independently, and should not proceed. 5.4 Clause 38 of the Bill proposes to treat a wholly owned New Zealand subsidiary as agent for any other group entity in respect of its tax obligations, if that other group entity fails to meet its New Zealand tax obligations. 5.5 There is little evidence provided in the commentary or elsewhere that there is a significant problem with collecting unpaid New Zealand tax liabilities of large multinationals from New Zealand residents. 5.6 We submit that this proposal is an inappropriate lifting of the corporate veil. It places potentially substantial obligations on a New Zealand entity that could have a significant impact on the financial position of the entity. In a banking context, it could conceivably lead to unintended consequences such as a breach of regulatory
capital requirements for the New Zealand entity. New Zealand banks face significant responsibilities to act independently, and to effectively make the New Zealand entities a potential guarantor of overseas group entities is in our view an overreach and we do not believe there is any clear evidence that such a step is required. 5.7 We also submit that the reference to tax obligations is in any event too broad. While the commentary to the Bill suggests that the purpose of the proposed change is to collect unpaid tax liabilities, the use of the term tax obligations means that the deemed agency could apply in much broader situations, such as non-filing of returns. If the focus is on unpaid taxes, then we believe the legislation should at a minimum be redrafted to restrict the agency to this.