Overseas firms offer to settle retrospective tax avoidance dispute with IRD

Overseas firms offer to settle retrospective tax avoidance dispute with IRD

Major overseas owned companies - including a bank  - who have been fighting IRD over hundreds of millions of dollars of alleged tax avoidance have made a settlement offer, interest.co.nz understands.

The companies, include TV3's parent MediaWorks, former Tranz Rail owner Toll New Zealand, Telstra and Qantas, plus the bank whose identity is unclear.

Their disputes with IRD relate to billions of dollars worth of funding received by New Zealand subsidiaries of overseas parents via financial instruments known as optional convertible notes (OCNs).

A hybrid equity and debt instrument, OCNs were a popular method foreign companies - especially Australian ones - used to fund New Zealand subsidiaries in the late 1990s and early 2000s. Their zero coupon, or nil interest funding nature allowed a group's New Zealand operations to retain cashflow, thereby bolstering its financial position.

However, IRD is now fighting 15 court cases against 10 taxpayer groups after issuing a determination in 2006 saying it wanted to stop companies obtaining interest deductions through OCNs when they had in fact incurred no business expense. The companies, however, maintain OCNs were a legitimate form of funding their businesses.

The first of the 15 cases scheduled for a court trial is Telstra's, which the IRD views as a test case. It’s due in the High Court at Auckland in October and involves the biggest sum in dispute. Telstra New Zealand, the holding company for TelstraClear, issued NZ$$1.46 billion worth of OCNs to its Australian parent in 2003 to retire intra-group debt. The interest deduction sought over the term of Telstra's OCNs amounts to NZ$581 million.

But ahead of the scheduled October trial, interest.co.nz understands Telstra has banded together with the majority of the companies involved in OCN disputes, including Toll, MediaWorks and Qantas, to put a settlement offer to IRD and Crown Law. They are, however, yet to receive any indication from the Crown bodies that they're willing to accept the offer.

IRD last year secured NZ$2.2 billion through settling alleged tax avoidance cases with the four big banks - BNZ, Westpac, ASB, and ANZ - over their use of so-called structured finance transactions. In that deal the four banks agreed to cough up 80% of what IRD was claiming from them. Interest.co.nz understands the OCN settlement offer floated would see IRD receive less than 80% of the total sum it claims.

Spokeswomen for both IRD and Crown Law declined to comment.

Although somewhere in the range of NZ$2.5 billion worth of OCNs was issued by the parties in dispute with IRD and their combined potential retrospective tax bill runs into the hundreds of millions of dollars, the total amount at stake could be less than NZ$100 million given several of the companies - including Telstra - have tax losses to potentially carry forward to offset the claims. One notable exception that doesn’t is Toll, which has been the most aggressive in fighting IRD, seeking to prevent its case being frozen until after the Telstra and MediaWorks "test" cases are heard.

Toll New Zealand issued NZ$435 million worth of OCNs to Toll Holdings between 2002 and 2005. It used the money raised for acquisitions and investments including NZ$182.3 million spent on lifting its stake in Tranz Rail to 84.2% from 20% in 2003. Toll said last year tens of millions of dollars were at stake for it given NZ$17.6 million in potential tax, plus a possible penalty equivalent to 100% of that, and interest accruing at a rate of NZ$1,747 a day.

The bank involved in the dispute is understood to not be one of the big four and nor is it HSBC or Rabobank.

Meanwhile, Deloitte tax partner Thomas Pippos, who isn’t involved in any of the cases, said IRD and Crown Law were probably feeling quite bullish about enforcing tax avoidance boundaries given the successful outcome they achieved in the structured finance cases. However, Pippos said  the OCN cases were a “totally different kettle of fish” and there was no certainty for either side in terms of which way a court might rule in the dispute.

IRD had effectively put a rule in place allowing interest free OCN loans, but once companies made use of them it decided to move against them. For a country in need of foreign fuding, this wasn't a great look.

“From a practitioner point of view, that’s not a very good way of doing things,” Pippos said.

“Because the reality is that it doesn’t bode well for New Zealand’s international credibility that it (IRD) looks to create opportunities, or there were arbitrage opportunities that existed. You can change them prospectively that’s fine, but then to go and challenge the past from an avoidance point of view, it’s something of our times, but it doesn’t bode well in terms of the rule of law and certainty.”

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