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Cross-border financings form a substantial part of total associated party dealings by New Zealand members of multinational groups. Key issues include the pricing of interest and guarantee fees at market rates, taking into account the special considerations addressed by New Zealand's interest limitation rules, and capital structuring within New Zealand’s thin capitalisation rules. New Zealand-owned multinationals also need to account for the very same issues in their outbound financing activities.

New Zealand's transfer pricing rules are to be applied consistently with the OECD's Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations - July 2022. Guidance on financial transactions is contained in Chapter X of the guidelines.

Transfer Pricing Guidances for Multinational Enterprises and Tax Administrations (OECD)

Interest limitation rules 

Interest limitation rules have been introduced requiring related-party loans between a non-resident lender and a New Zealand-resident borrower to be priced using a restricted transfer pricing approach. Under these rules, specific rules and parameters are applied to certain inbound related-party loans to do the following. 

  • Determine the credit rating of New Zealand borrowers at a high risk of BEPS.
  • Remove any features not typically found in third party debt in order to calculate (in combination with the credit rating rule) the appropriate amount of interest that is deductible on the debt. (Refer to 'Exotic features' on this page.)

For the purposes of these rules, a New Zealand-resident borrower will be considered a high BEPS risk when at least one of two factors are present.

  1. It has a high New Zealand group debt percentage. Generally, this is where its debt percentage, as measured for thin capitalisation purposes, is greater than 40%, unless its ratio is within 110% of its world-wide group where relevant.
  2. The borrowing is from a low tax rate jurisdiction that is different from the ultimate parent. That is, a borrowing from a lender resident in a country where the interest is subject to a lower than 15% tax rate.

Separate rules apply to financial institutions such as banks and insurance companies. 

These rules apply to income years starting on or after 1 July 2018. The rules do not apply to an arrangement that complies with an advance pricing agreement issued by the Commissioner before 1 July 2018.

Detailed guidance on the interest limitation rules is provided in Tax Information Bulletin Vol 31 No 3 April 2019. 

Tax Information Bulletin - Vol 31 No 3 - April 2019

Exotic features 

The restricted approach in the interest limitation rules applies to remove features not typically found in third party debt in order to calculate (in combination with the credit rating rule) the appropriate amount of interest that is deductible on the debt. Such features include: 

  • the term of the loan being greater than 5 years 
  • subordination 
  • payment other than in money (for example, repaying a loan by issuing shares) 
  • interest payment deferral beyond 12 months 
  • options which give rise to premiums on interest rates (for example, on early repayment by the borrower) 
  • promissory notes or other instruments which do not provide rights to foreclose/accelerate repayment in the event of borrower default 
  • contingencies (for example, where interest is repaid only under certain conditions).

An exemption may apply where such features are present in third party debt. Refer to Flowchart 3 on page 115 in Tax Information Bulletin Vol 31 No 3 April 2019 for guidance on these rules and a summary of the treatment of such features. 

Separate rules apply to financial institutions such as banks and insurance companies.

Tax Information Bulletin - Vol 31 No 3 - April 2019

Application of New Zealand's interest limitation rules to outbound loans

New Zealand's interest limitation rules restrict deductions on cross-boarder related-party loans borrowings by requiring certain related-party loans between a non-resident lender and a New Zealand-resident borrower to be priced using a restricted approach.  

Where New Zealand-resident lenders correctly apply the restricted approach to set the interest rate on their loans to related non-resident borrowers, Inland Revenue will consider the result to be arm's length. This is on the basis that the amount deducted by the non-resident borrower in the foreign jurisdiction does not exceed the amount returned as income by the New Zealand-resident lender. 

Some basic principles

Most interest rate analyses begin with an appropriate reference rate or base indicator. For variable rate loans, this is typically the bank bill rate; for fixed rate loans, usually swap rates are applicable. 

Financing is mostly about margins. The key factor in determining interest rate margins is credit risk or the probability of default (which includes term to maturity). Factors such as liquidity, ranking (senior or subordinated) and early repayment have only limited impact compared with credit risk. Thus, the margin added to the base indicator in order to arrive at an interest rate is almost entirely compensation for credit risk.

The margin over the base indicator is best determined by reference to credit ratings. 

In certain circumstances, the credit rating applicable to a taxpayer's inbound related-party loans must be determined in under a restricted approach in accordance with New Zealand's interest limitation rules. Refer to Flowchart 1 on page 101 in Tax Information Bulletin Vol 31 No 3 April 2019.

Tax Information Bulletin - Vol 31 No 3 - April 2019

Where these rules are not applicable, the credit rating is determined by reference to the arm's length principle, giving due regard to explicit and implicit support. In certain circumstances, this may involve the use of the multinational group's credit rating. Guidance on factors to consider in determining a credit rating in accordance with the arm's length principle is provided at 'Part C' of Chapter X of the OECD guidance.

Transfer Pricing Guidances for Multinational Enterprises and Tax Administrations (OECD)

Stand-alone entity approach usually applied

In determining an appropriate interest rate, we generally evaluate the credit risk of the company in question on the basis that it is a stand-alone entity, rather than an inseparable part of a single unified business. In applying this approach, the stand-alone entity is hypothesised to be part of a multinational group with the same attributes, including governance and financial policies, as its actual group. Well-performing subsidiaries may be more robust financially than their wider multinational groups, therefore notching down subsidiary credit ratings should be done with some care.

Where the interest limitation rules apply, the applicable credit rating must be determined in accordance with those rules – see 'interest limitation rules' on this page.

When the entity is too important to be allowed to fail

Some subsidiaries in a multinational are so central (or core) that, even absent any formal financial guarantees, if the subsidiary should be unable to repay its debt, the parent will intervene with the necessary financial support. This parental intervention will occur either due to reputational concerns or in order for the parent to ensure that its own credit rating is not jeopardised by the rumour mill. Where this situation occurs, the subsidiary's credit rating would be more closely linked to that of the multinational group.

The following factors need to be weighed up:

  • the relative size and profitability of the New Zealand operation compared with the global group
  • whether the New Zealand operation is strategic to the global group
  • whether the New Zealand operation is part of a wider integrated supply chain
  • whether a valuable name and/or brand flows through the group
  • the level of visibility and awareness that the New Zealand operation is likely to attract internationally.

The arm’s length principle which underpins international transfer pricing practice does not operate in a vacuum. Would bank credit approvals of a subsidiary in the local New Zealand market take into account the wider multinational group’s creditworthiness? If so, then this market condition must be factored into the transfer pricing analysis, in just the same way as third-party banks and rating agencies do currently in their decision-making.

Where the interest limitation rules apply, the applicable credit rating must be determined in accordance with those rules – see 'interest limitation rules' on this page. 

Simplification measure

From their inception, in enforcing New Zealand’s transfer pricing rules, we have endeavoured to strike a balance between protecting the tax base and containing compliance costs. Our approach to financing costs is no different.

For small value term loans (that is, for cross-border associated party loans by groups of companies for up to $10 million principal in total), we currently consider 175 basis points (1.75%) over the relevant base indicator 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.

Our next review of interest rates for small value term loans is scheduled for 30 June 2024.

You can find previous years' indicative rates for small value term loans at our in-depth page on simplification measures.

Simplification measures for transfer pricing

Bank quotes

In general, we do not accept bank quotes for transfer pricing purposes. Bank quotes are typically indicative only and are often not derived from an actual credit analysis or do not reflect the actual terms and conditions under which a bank would be willing to lend.

Accordingly, there is a potential to bias quotes away from an arm's length interest rate. More fundamentally, bank quotes are not necessarily reflective of market trades or prices on which banks stand willing to trade and thus are not transactions for comparability purposes.

Consequently, we do not consider indicative bank quotes are able to satisfy the requirement that the method used to price an associated party transaction falls under one of the five methods set out in section GC 13 of the Income Tax Act 2007. 

Major current tax risks

In our current programme of work, we are paying close attention to the following.

  • All inbound loans over $10 million.
  • Outbound loans of all sizes - we still see such oversights as low or no interest loans from New Zealand corporates to their foreign associates and no fees charged for guarantees.
  • Appropriateness of non-investment grade credit ratings (in other words, Standard & Poor’s 'BB' or lower) - interest rates move exponentially higher once the 'investment grade divide' is crossed, so companies must be prepared to substantiate these ratings.
  • Cash pooling arrangements.
  • Guarantees and cross-guarantees.
  • Derivatives.

Emerging tax risks

The great majority of multinational financings in New Zealand are plain vanilla loans. In general, they are current account recallable at 2 days’ notice or term loans with provisions to alter rates during the course of the loan (for example, annual interest rate reviews). Consequently, we pay special attention to more exotic financings, such as hybrid instruments and long-term subordinated debt facilities.

The interest limitation rules apply in certain circumstances to remove features that are not typically found in third party debt prior to pricing such loans – see 'Exotic features' on this page.

Financings are priced after the transaction, including all relevant features, has been accurately delineated in accordance with the principles contained in Chapter 1 of the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations - July 2022. In some circumstances, this may result in the economic substance and actual conduct of the transaction having priority over the legal contract.

Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations (OECD)

We will certainly examine closely any capital restructurings which result in major reductions in New Zealand tax paid. Depending on the facts and circumstances of the case, it may be appropriate to consider an upward movement in operating margins to account for the increased risk brought about by greater gearing.

Some errors to avoid

The following errors have been identified in the course of our examinations of associated party financings.

  1. Internal comparables readily available but ignored.
  2. Wrong geographic market data applied.
  3. Selection of base indicators and/or credit spreads that do not match the terms and conditions or the timing of the loans in question.
  4. Inappropriate use of the Reserve Bank 'base lending rate' (that is, weighted average of rates for banks lending to small-sized businesses without too much credit standing) in preference to the bank bill rate as a base indicator.
  5. Failure to use the credit rating of a lesser developed country for outbound loans where the country credit rating is lower than that of the stand-alone borrower entity.

Gross up clauses

Borrowers seek to optimise their weighted average cost of capital and to have the right funding available to meet both short-term needs and long-term objectives. When considering the options realistically available to it, an independent business seeking funding and operating in its own financial interests will seek the most cost-effective solution with regard to the business strategy it has adopted.

The cost of a non-resident withholding tax (NRWT) gross up clause is also interest expenditure. Thus, if the agreed rate with an associated party plus any NRWT gross up is below an arm's length interest rate, then the whole amount is deductible to the borrower. If the agreed rate is above the arm's length rate, then any excess as well as the NRWT gross up is non-deductible to the borrower. If the agreed rate is below but with a gross up, then it is above the arm's length rate, any excess is non-deductible to the borrower.

Documentation of intragroup lending

Too often we see minimal or even non-existent documentation in respect of loans between associated parties. In particular, this can be problematic when reviewing the interest rates on cross-border loans if the terms and conditions of such loans are uncertain.

Our expectation is that the following fundamentals are documented clearly.

  1. Purpose or intention - should be unambiguous (for example, working capital, term finance).
  2. Parties - all lenders and borrowers named in full.
  3. Amount and currency - this includes the total amount available to be borrowed under a loan facility, not just the initial sum advanced.
  4. Interest rates - an absolute rate or an external benchmark rate plus a margin, whether the interest rate is fixed or floating and how it was determined as being reasonable.
  5. Interest payment dates - specific dates or periodic (for example, every 3 months).
  6. Term and repayment - start date and maturity or a specific period (for example, on demand, 5 years).
  7. Fees - specify any and all fees (for example, guarantee fee, facility commitment fee).
  8. Security - whether repayment obligations are secured or unsecured. If secured, the form of the security (for example, the borrower's assets).
  9. Guarantees - whether repayment obligations are guaranteed or indemnified. If so, the relevant names of the party or parties.
  10. Amendments - note any changes to the above that arise over the loan’s life.

Cash pooling arrangements

Under a cash pooling arrangement, entities within a multinational group regularly transfer their surplus cash to a single master account and may also draw on the funds in that account to satisfy their own short-term cash flow requirements from time to time. We are monitoring cash flow arrangements.

In general, all cash pool participants should benefit from enhanced interest rates applicable to debit and credit positions within a cash pooling arrangement compared with the rates they would expect to obtain from borrowing or depositing cash outside the pool. If a negative balance in a cash pool extends beyond a short-term liquidity arrangement, it may be more appropriate to treat that participation as a term loan.

Guarantees and cross-guarantees

In common with generally accepted international practice, we require an explicit written guarantee in the form of a letter of guarantee or irrevocable letter of credit before a guarantee fee will be recognised. We do not accept that any financial service has been received merely because the credit rating of a subsidiary is higher by reason of affiliation alone. Letters of comfort are also not sufficient to create legal obligations.

The interest limitation rules do not explicitly refer to guarantee fees. Inland Revenue considers no fee is generally appropriate for a financial guarantee of debt between parties that are commonly owned unless it can be clearly shown that the guarantee provides benefits to the borrower beyond those that are obtained as a consequence of being part of a multinational group. In most circumstances, the guaranteed borrower will not benefit beyond the level of credit enhancement attributable to the implicit support of other multinational group members.

Similar issues arise in respect of cross-guarantees, where two or more entities in a multinational group guarantee each other's obligations.

Payment of a guarantee fee to a non-resident associated party may be appropriate if it guarantees third party debt. However, this would have to be considered on a case-by-case basis and the total cost of the arrangement would not be expected to materially exceed the cost of a non-resident group member borrowing from a third party and on-lending to the New Zealand borrower with the New Zealand borrower's interest deduction calculated applying the approach in the interest limitation rules.


We are monitoring the use of cross-border derivatives between associated parties. Such derivatives should not only be priced in accordance with the arm's length principle but also must be commercially explicable.

Non-commercial borrowing

Where a loan transaction would not have taken place in the open market, then the commerciality of the financing arrangement between the associated parties may be called into question. The approach described in section D.2 of Chapter 1 of the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations - July 2022 may apply to disregard and, if appropriate, replace the transactions. In such extreme circumstances, serious consideration would be given to call upon the general anti-avoidance provision.

Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations (OECD)

Other related tax issues

Where applicable, the restricted transfer pricing rules are applied to the relevant inbound related-party loan prior to pricing the loan in accordance with the transfer pricing rules.

It pays to double check thin capitalisation calculations, especially if the group’s gearing ratio is nudging the 60% mark. Note that non-resident withholding tax still applies to interest paid, even if a deduction is not available under the thin capitalisation rules.

The non-resident withholding tax rules relating to interest payments from a New Zealand resident (or a New Zealand branch of a non-resident) to a non-resident were strengthened in 2017. Refer to 'Tax Information Bulletin Vol 29 No 5 - June 2017' at page 52 for guidance on how these changes may apply to you.

Tax Information Bulletin - Vol 29 No 5 - June 2017

The 2% approved issuer levy is not available to associated parties, and failure to deduct non-resident withholding tax instead can result in penalties.

Last updated: 05 Jul 2023
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