Update to Inland Revenue’s administrative guidance on small value loans

By Bart de Gouw and Amy O'Brien
 

New Zealand’s Inland Revenue has recently updated its administrative guidance for small value loans (that is, for cross-border associated party loans for up to NZD 10 million principal in total per year). With effect from 1 July 2020, Inland Revenue considers 375 basis points (3.75%) over the relevant base indicator rate is broadly indicative of an arm’s length rate, in the absence of a readily available market rate for a debt instrument with similar terms and risk characteristics. Inland Revenue considers that transactions priced in accordance with this simplification measure are likely to be a ‘low transfer pricing risk,’ and therefore no further benchmarking support is required. This is an increase from the previous guidance of 325 basis points (3.25%) over the relevant base indicator. The next review of interest rates for small value loans is scheduled for 30 June 2021.

It is important to note that while the arm’s length margin has increased to 375 basis points, the relevant base indicators have reduced significantly in the year to 30 June 2020.

As stated, this administrative guidance applies to cross-border associated party loans (both in-bound and out-bound) up to NZD 10 million. Out-bound loans of any size remain on the Inland Revenue’s list of major tax risks, especially where these are at no or low interest rates. A common risk trigger we encounter is the lending of surplus funds to the group at rates set by the group which are well below the administrative guidance of 375 basis points over a base rate. In such cases the entity will need to be prepared to provide detailed economic support for the interest rate applied in taking its tax position.

For any in-bound cross-border associated party loans that are greater than NZD 10 million, the restricted transfer pricing regime applies. This regime requires an analysis of an appropriate credit rating for the borrower and an analysis of any exotic features of the loan (such as a term greater than five years or subordination) to determine whether these should be modified or disregarded. Further information on the restricted transfer pricing regime can be found here. The regime may result in a reduction of deductible interest below an arm’s length level of interest determined using ordinary transfer pricing principles, and accordingly can lead to double taxation.

Following the implementation of a compulsory online BEPS disclosure form as part of income tax returns, Inland Revenue now has greater visibility over intercompany financial transactions and the application of the restricted transfer pricing regime. It therefore would be a prudent exercise for taxpayers to review all intercompany loans to determine whether these are subject to the restricted transfer pricing regime or to the small value loans practice.

If you would like to discuss any of the above in more detail, please contact your usual Deloitte advisor or Deloitte’s specialist transfer pricing team.