Taxation (Neutralising Base Erosion and Profit Shifting) Bill

Thank you very much, and thank you for the opportunity to say a few words on this Taxation (Neutralising Base Erosion and Profit Shifting) Bill. I think this is the stage where we try and delve into the nitty-gritty of the legislation. I think, just for the benefit of the viewers around the countryside trying to get their heads around what we’re trying to achieve with this legislation, it is trying to navigate that fine line between ensuring that the tax laws in place are fit for purpose when it comes to overseas investors and multinational companies operating in New Zealand, so that they pay their fair share of tax.

When you’re operating across different boundaries and jurisdictions, then there are ways in which the companies and their subsidiaries in New Zealand and the relationship with the companies that own them overseas are structured can have big influences on the taxes that are paid. One of the simplest ways to reduce tax paid in New Zealand is to price related party debt, which is to say that if you load up the New Zealand business with a large amount of debt, then that business has the debt servicing costs in New Zealand that can be offset against their income. Depending how expensive that debt is and how high the interest rate is, it lowers the effectual taxable income in New Zealand for that subsidiary.

So there’s all sorts of rules that have been developed over the years to ensure that overseas companies don’t charge excessive levels of interest and don’t have excessive levels of debt in their New Zealand company in order to avoid paying tax in New Zealand and to shift the profit offshore, perhaps to another country where there is a lower tax rate. So that’s what certain parts of this bill—and we’re dealing with Part 1 here at the moment, and I’m looking specifically at sections GC 15 to GC 19 in clause 37, which deal with these cross-party related debt issues.

So the fine line that we’ve got to navigate our way through is a desire for these rules to be effective in ensuring that excessive interest rates are not charged and excessive debt is not loaded into the New Zealand company, against wanting to ensure that by making those rules too tight we could have the consequence of actually increasing the overall effective tax rate that the overseas investor—or would-be overseas investor or multinational company—is actually paying. If the net outcome of it was that we had less foreign investment in New Zealand because we had, effectively, increased the effective tax rates, then that would not be a good outcome.

So the primary question that I have for the Minister—and I’d be very keen to have his view on this some time over the course of the evening—is to reassure us that he thinks we’ve got that balance right as to having the rules around related party debt sufficiently tight as to ensure that a sufficient amount of tax is paid in New Zealand, but not too tight that they are artificially increasing the effective tax rate that would-be foreign investors in New Zealand are looking at paying, and making us a relatively unattractive place in which to invest. That, I think, is the critical thing that I’d be very keen to hear from the Minister on.

But as we drill into the details, one of the matters that was discussed at great length during the select committee process was when a New Zealand borrower with an identifiable parent failed one of the three tests that we are introducing—and another one of my speeches will talk about doing away with one of those tests, because it was too high—it would have its credit rating restricted to one notch below its worldwide group credit rating. Now, what we’re getting at there is how you determine what is an appropriate—[Bell rung] Madam Chair, I might just keep going, if that’s all right.

CHAIRPERSON (Hon Anne Tolley): The Hon Paul Goldsmith—yes.

So what we’re trying to determine in the course of this legislation is what an appropriate rate of interest is for a New Zealand subsidiary to be paying back to its global parent. If it’s too high, that interest rate, then the New Zealand subsidiary won’t be paying much tax because all their profits will be eaten up with interest payments. If it’s too low, then the parent will feel like it’s an unfair transaction, and so a lot of the discussion and argumentation through the course of the select committee stage was about how we get that right.

I mean, for example, we had a submission from KPMG where they talked about the group credit rating approach not being a particularly fair one. Their concern, and the concern of a lot of people involved in this, was that the traditional global practice has been to have what’s called arms’-length interest rate payments. So it’s what you’d get on the global market for this particular business—its size, its risk, its security—and at a market rate then you can justify that. Now, we’re shifting away from that to this idea that the New Zealand subsidiary should actually pay the highest credit rating for the worldwide group, and then take one notch off that. So if the New Zealand company, however big it was, was operating and if it was owned by a multinational company, the highest credit rating that multinational company had—whether it was AA or A- or whatever it was—you’d take one notch off that and that would be the guide to the interest rate that would be appropriate for the purposes of this tax.

💬 Rt Hon David Carter: So why one notch?

Well, see, that was what was suggested by officials, and the concern is that that was too tight. So our suggestion throughout the select committee process was to drop that to two notches, to make it a more reasonable approach. Many of the submitters were concerned that even that was too tight because the New Zealand subsidiary, you know, was obviously considerably smaller than the global entity. It may have a completely different risk profile. It may have a whole lot of particular circumstances that mean that it is a fundamentally riskier proposition, which would justify having a higher interest rate charged to it.

So that really is the second question that I have for the Minister, and I’d be very keen to get his view on that. Is he absolutely confident that we have got it right in terms of dropping two notches from that highest group credit rating as a guide for the interest rates that we’d apply?

I think we should still be worrying, I suppose, as to why New Zealand isn’t adopting what is pretty much the global practice around having an arm’s-length interest rate rather than this concoction that we’ve come up with here. So, you know, I’d be very keen just to get a sense of how comfortable the Minister is, and, secondly, whether he thinks two notches below the global highest group credit rating is sufficiently broad and capacious so as not to achieve what is—my main concern about all this is that what we don’t want to do is reduce the attractiveness of New Zealand as a place for international investors to invest. And that’s where the effective tax rate that they’ll be paying is so important, because, if I was to sort of make a broader point in conclusion, it is that this is a country that throughout its history has relied on foreign investment. Ultimately, if we want jobs and growth and opportunities for the next generation of New Zealanders, that depends on investment, and if we are to rely purely and simply on our domestic savings, that’s fine, but we will only grow relatively slowly.

Thank you, Madam Chair. I appreciate the call this evening. A great contribution there by the member “Mr Goldstein” and I have to also say that the one thing that he forgot to say in his contribution was that he did support the bill, and for all the right reasons.

CHAIRPERSON (Hon Anne Tolley): I think we use proper names—proper names, thank you.

Sorry—Mr Goldsmith. That was a Freudian slip—my apologies. It wasn’t deliberate. I want to just add to the fact that I don’t think that there’s a person in this House—or even when we go around the country speaking about this base erosion and profit shifting legislation—not in support of it, because it makes sense for us. For two reasons, this bill is the right bill, because, one, it actually increases revenue for New Zealand, and therefore takes the tax burden away from New Zealanders, and, two, and equally as importantly, it actually brings multinational organisations on to a level playing field for New Zealand organisations, “New Zealand Inc.”, to actually work on.

Mr Goldsmith did actually get to a point of talking about how important it is to encourage foreign investment into New Zealand, and we certainly do not want to be discouraging that, but we also don’t want New Zealand to be the gold rush trading post that it has become over many years of these multinational organisations coming here and being able to get out of their moral and legal obligation by using base erosion and profit shifting methods to not pay their fair share of tax. In fact, just recently, we saw that the Google giant had a loss and paid no tax last year, which we, of course, know is not true. How could that possibly be true? So building an economy from the bottom up starts with making sure that everybody pays their fair share of tax, and this legislation starts that process off.

I think, conservatively, the numbers are around $275 million of extra revenue that this should generate, but on the far end of that we’ve actually seen and heard some people having estimates as high as $900 million to $1.2 billion of extra revenue, depending on how far this goes. My question to the Minister is: does he think this is going far enough, or is it a stepped approach to something that we should be looking at in the future for getting more out of these multinationals? This is a very lucrative country to operate in. Certainly, in enabling them to trade here, they should have their legal and moral obligation to ensure that they do pay their fair share of tax.

We understand the situation. It’s quite a simple process for multinationals: borrow money from their head office in another foreign country, loaned at exorbitant rates to their New Zealand counterpart to justify and write off their profits against the exorbitant rates that they’re doing. This legislation simply tightens that ability to loan at exorbitant rates from the mother ship to the subordinate company, which is a New Zealand - based company, to avoid their tax objectives, making sure they pay their fair share of that tax.

The other part is actually ensuring that the head office overseas doesn’t charge an exorbitant rate for the administration of their burden—on their obligations—to ensure that the trading of that organisation down under in New Zealand isn’t actually over the top. In Part 1 of this bill, that’s exactly what we’re looking at doing. In Part 1, the interest limitations rules around that clearly outline what those steps should be and what a reasonable and fair rate of interest should be for those mother ship lenders, and also it puts restrictions on the transfer pricing for those organisations. The bill, I think, as we’ve heard it go through the House, is supported by all members of the House. It is great to see that sort of collegial approach to this sort of legislation.

Part 2 gives the powers to the Inland Revenue Department—administrative powers to investigate—

CHAIRPERSON (Hon Anne Tolley): We’re actually on Part 1.

I thought we were doing it as a whole?

CHAIRPERSON (Hon Anne Tolley): No, we’re on Part 1.

My mistake. I was jumping ahead of myself. Oh, you guys didn’t want to do that—didn’t want to go there.

We certainly do support this. Our usual speaker on this bill is away and unable to attend to speak today. But it gives me great pleasure to support this through the committee process, and we certainly look forward to hearing the contributions from our coalition partner’s side as we progress through the evening. Thank you very much.

Thank you very much, Madam Chair. There are a couple of questions that have been brought up that I’ll address straight away. The Hon Paul Goldsmith asked if we had the balance right. I think we do have the balance about right, keeping in mind that the genesis of this bill actually came from OECD rules. I will commend the officials here. We’re very lucky. We box way above our weight when it comes to this complex sort of legislation. Carmel Peters is often at the OECD. She’s acknowledged as one of the world’s experts in this area, and as a consequence—

💬 Hon Ruth Dyson: You’re such a name-dropper.

Absolutely, and proudly so. We played quite a major role in developing the set of OECD rules that would prevent large, multinational organisations from literally not paying their fair share. So when we’re talking about base erosion and profit shifting, what this actually is is companies who earn money in one jurisdiction aggressively tax planning—I’m not saying “evasion” but “aggressive tax planning”—so they don’t end up paying tax in one jurisdiction. They transfer their payments to, perhaps, a tax haven and end up paying tax at a very low rate. Or, worse, what can happen is they end up paying no tax because of the complex arrangements that these very smart lawyers have determined. So this isn’t just New Zealand saying we need to do something about this; this is the whole of the OECD.

So what we have got here is a piece of legislation—and I’ll give credit where credit’s due; it was initially brought in by Judith Collins when she was a Minister of Revenue—supported across the House. I understand the Finance and Expenditure Committee worked very closely together to come up with solutions when there were a couple of issues, but this is a piece of legislation that we have to bring in under our obligations with the OECD that puts in a number of measures to ensure that multinationals do pay their fair share.

Answering the honourable Clayton Cosgrove’s question—“Is this all we’re going to do? Are we just going to pass this bill and then nothing more?”—no; no. I would say this is the first step, and there are already a number of measures that we are looking at, Mr Mitchell, that will take this to the next step. The thing we do know is that as smart as we are and as engaged and as proficient as the members on the select committee will be, as well as our drafters and our officials, multinational companies have lawyers that are just as smart. Well, they’re not quite as smart as Carmel, but they’re up there. So whenever you put a bit of legislation in, there are always people that are looking at doing things slightly differently.

Mr Mitchell talked about transfer pricing. We know this is a big problem—we really do—and when companies like Apple and Google don’t pay any tax in New Zealand, we know there is something going on here that’s not quite right. I mean, I don’t know how many iPhones are sold in New Zealand, or how many iPads or Apple Watches are sold in New Zealand, but it is a substantial number. These companies are making a profit in New Zealand, but the way that they have managed to structure their affairs means they avoid paying their fair share, and the people that miss out are actually us.

We don’t know how much money this will bring in. IRD has estimated it’s about $200 million. IRD tends to be quite conservative—I hope they’ve been too conservative here—but it’s around about $200 million. The reason I say it’s about $200 million and perhaps not the $500 million that’s been reported in the press is because IRD actually have a small compliance group that continually audit the largest companies in this country, so we know what the big companies are doing. But what we can’t do is go after these large multinationals that are using the law—I mean, I’m not saying they’re doing anything illegal, but they are very aggressive in their tax planning. Hence the reason for the legislation, hence the reason for the need to do this, and the only way this is going to work is if it is implemented across the OECD.

That is why we are just one small cog in a very big machine that is implementing this type of legislation that is going to ensure that multinationals pay their fair share and that we hold them to account. What we are seeing around the world is people like Mark Zuckerberg from Facebook and other large multinationals like Apple and Google actually saying, “Game’s up. We’re prepared to pay our fair share now.” And they are understanding that we don’t want to rip them off—just their fair share.

So to Mr Goldsmith, I would say that the measures we are putting in place we are not doing in isolation. I don’t think these are going to be seen by large multinationals or big companies as “New Zealand is doing something that will prevent us or disincentivise us from investing in this country.”

Thank you, Madam Chair. It’s a pleasure to be talking in this Taxation (Neutralising Base Erosion and Profit Shifting) Bill committee stage. I’ve got to start off by saying that I want to acknowledge the Minister of Revenue, Stuart Nash, for standing up and giving us some elucidation of some of those points already raised in this important debate, because, as you’d know, this is a very complicated bill—one of the most complicated bills, apparently, to come before the Finance and Expenditure Committee—and, of course, it will have significant taxation ramifications for New Zealand, for New Zealand companies, and particularly for those companies owned by foreign entities.

Of course we’ve got a big trade-off. The trade-off is we do want foreign investment here in New Zealand, contrary to a point I heard earlier from Mr Clayton Mitchell, but we want to make sure that they pay their fair share of tax. I just want to start off by saying one of the key parts of this bill is around restricted transfer pricing rules, which I know the Minister’s been following very carefully. Of course, what the transfer pricing rules are all about is making sure that when a foreign entity lends money to its New Zealand entity, whatever that might be—it might be a branch, it might be a subsidiary, it might be an agency, or it may even be sort of an office; a sales office, in effect—we have to work out the process for determining the interest rate that will be charged on any debt provided by the foreign parent.

We had a number of submissions—in fact, we had a stack of them—from a range of accounting firms, legal firms, chartered accountants, and even electricity firms saying that the proposed restricted transfer pricing rules mean that what we end up with is, basically, an arbitrary process for determining the interest rates on debt provided by foreign owners. Of course, the more you move away from the actual rate used or charged by the foreign parent to the New Zealand subsidiary or whatever, the more artificial, more academic it becomes. So what this bill is trying to do is to standardise that process and to make it one where it’s to some extent consistent but also defensible and also fair to New Zealand taxpayers.

But a large number of those people said as soon as you start putting those arbitrary academic approaches on assessing the interest cost, you then start to enter the realm of creating maybe a higher tax rate in New Zealand, that the foreign entity can’t claim back all the tax as a deduction in its own area—so you get a mismatch of interest rates and interest costs, and some are deductible and some are not. Normally, they would offset each other as they work their way through the process.

I know there’s a lot of discussion around this with the officials, but the officials’ view was that one of the things about the rules was we should be looking at the foreign parent and assuming that there is an implicit parental support. What that means is that for any loan there is an obligation or an expectation that the foreign parent will always stand behind that New Zealand entity, and therefore, on that basis, the interest rate that is charged on any loan should reflect, basically, that fact.

Now, with a New Zealand subsidiary, the issue is sometimes that the activities that the New Zealand subsidiary undertakes are totally different from the foreign parent’s activities. What this means is the assumption that you can take a certain debt and make it consistent doesn’t actually take into account both of those aspects. So my first question to the Minister tonight, which I’m hoping he might have an opportunity to address, is what happens if, in the documentation or the arrangement between the foreign parent and the New Zealand subsidiary, there is no documentation to underline, to underpin, and to evidence the issue of the implicit parental support or otherwise financial guarantee?

Now, one of the other issues I really wanted to talk about tonight is that in the group credit rating approach, a number of submitters also made a submission that it shouldn’t proceed in its current form. One of the most notable submitters, of course, was KPMG. I did work for them a long, long, long, long time ago.

💬 Simon O’Connor: But you’re so young.

Thank you, thank you.

💬 Rt Hon David Carter: It was a secondary school project.

Thank you. One of the issues that they raised is that if the restricted transfer pricing rule proceeds, the group credit rating approach should not be used instead. They talked about new section GC 16(7), in clause 37, and whether, in fact, the approach proposed in that section or the restricted credit rating approach in new section GC 16(8) is the most appropriate.

Using the parent’s ultimate credit rating to derive a starting point for the New Zealand one—as my good colleague the Hon Paul Goldsmith very well discussed in his speech—raises the issue: is this the right start point for assessing debt and credit ratings and, in a sense, the interest rate on that debt? Typically, New Zealand operations of foreign multinationals often have smaller ratings. So you can imagine, if you’ve got a large, multinational parent, heavily diversified, operating in 100 countries, and you’ve got a small New Zealand operation, which may only have three people doing sales functions, the attributes of that New Zealand subsidiary or operation are totally incompatible and inconsistent with the parent company, and therefore that’s why KPMG were actually raising this as a particular issue. I think this is a really important point. And I know the Minister sort of traversed some of this earlier in his response, but I think it is a fundamental aspect we need to sort of look further on.

The other thing is we actually had submissions, and one of them was: is it too premature for New Zealand to be diving into this form of calculating interest rates? In fact, it was noted the OECD research is under way on this very issue. Of course, New Zealand—as the Minister quite rightly pointed out—has been at the forefront of the development of these base erosion and profit shifting policies that encompass all the OECD countries around the world. It’s important that we play our part, but also what we don’t want to be seen as is actually ahead of the game.

I think the strength of the BEPS—if I can call it that; base erosion and profit shifting—system around the world is that there is a collegial grouping of countries that all start to apply the same policies with regard to foreign companies investing in domestic countries. I think if New Zealand steps outside the boundaries and is seen to be leading it—and I think it’s a very legitimate question that, particularly, the Corporate Taxpayers Group raised, which is whether, in fact, under action four of the OECD recommendation, we should be actually jumping ahead of the game.

The last bit I just want to turn my attention to in this segment is the Minister said it’s very important that we act very consistently with those other international jurisdictions, and I would say to you that probably the most important jurisdiction that we have compatibility with, of course, is Australia—Australia being our main trading partner. Again, I think it’s very important that we note that PricewaterhouseCoopers, the accounting firm, made this very, very point. It said the Government had noted the importance that New Zealand transfer pricing rules are aligned with Australia.

However, we do have some differences already in this bill. For instance, if I can just highlight a couple of those, the first one is we have a maximum debt loading, if I could use that term—the normal term is leverage. We allow businesses with up to a maximum of 40 percent debt loading to be deemed to be low-risk companies and therefore outside of the BEPS regime. In Australia, for instance, they allow a higher leverage ratio of 60 percent, so already we’ve got a mismatch.

The other thing is in Australia they don’t allow for credit ratings to be prescribed. So they have a more flexible approach to the way they do. I just ask the Minister to turn his mind to some of those issues—particularly Australia.

Thank you very much for the opportunity to speak on this particularly challenging piece of legislation. If I could make some general comments first before I raise some direct questions with the Minister. First of all, I came into the select committee process later in the piece. I’ve been on the Finance and Expenditure Committee many years ago, so I’ve done a lot of tax legislation. This would be the toughest one that I’ve ever been involved with, and, listening to my senior colleague the Hon Paul Goldsmith—if it was confusing before his contribution, I think I was more confused by the time he’d finished.

But, having said that, we then had the excellent contribution from whom the Minister referred to as “the honourable Clayton Mitchell”—well, he actually referred to him as “the Hon Clayton Cosgrove”. No, Clayton Cosgrove has left the Parliament. I saw him in the street today. He’s fantastically busy—very grateful, in fact, that there’s a Labour-led Government giving him many, many opportunities. And if Clayton Mitchell’s not yet “the honourable”, then he’s an endangered species within the New Zealand First caucus, because most of them are. But, of course, his opportunity could come within the next six weeks—his opportunity could come within the next six weeks.

Can I take the opportunity in making my general comments to thank the quality of the submissions that we received. So we had the Chartered Accountants of Australia and New Zealand, we had Deloitte, we had Chapman Tripp, we had PricewaterhouseCoopers (PWC), and KPMG all giving some very valuable ideas and causing the select committee, and, I know, the officials themselves to reflect on the quality of those submissions, to the extent I think we’ve got better legislation now before the committee with the amendments coming through from the select committee.

I want to also acknowledge the very useful contributions from businesses. Businesses, collectively, said, “There is an issue. We want to work with you. We’re not here to dodge our tax or to make suggestions to make it easier to dodge tax. We recognise, as indeed the OECD work has demonstrated, that there is a responsibility on any company—international or not—upon being here in New Zealand and doing business, to make a fair contribution in their taxation.”

Finally, I want to take this opportunity of thanking the officials, because this isn’t easy work. They were at all stages very diligent to our requests.

If I can now move to the specific questions that I’ve got, Minister, because it’s our duty over the next couple of hours to test that the new Minister of Revenue really does understand and has his head around the complexity of this legislation. So the first one I’m worried about comes from a submission from PWC arguing around the effective implementation of the legislation. So, as the Minister will know—I certainly hope he knows—it’s 1 July 2018. But, of course, PWC point out to us that most of these companies who will be now affected by the legislation have a tax law that runs from 1 April to the end of March each year. Their suggestion, therefore, was wouldn’t we be better to implement this legislation from 1 April 2019 rather than 1 July 2018. So I’d like the Minister—and I know he’s busy there, beavering away thinking of an answer to that—to just give it some thought, because we want it to be enacted at a date when it’s, effectively, easy for companies to comply.

The second issue I want to touch on—and the Minister will be aware of the commentary in the report—is the grandparenting of advance pricing agreements (APAs). Now, as I understand—and we’ve made a number of changes that affect clauses 35(7), 36(6), 37(2), 42B(3), 44(3), 46(2), and 47(2). Advance pricing agreements, as I’m sure the Minister knows, are where those agreements have been entered into so that a corporate can go to the IRD and get an understanding or an agreement around rules, transfer pricing, etc., so they know their commitment to taxation from the very start. The last time I was involved in the select committee, we had a similar issue around binding rulings, whereby any taxpayer could go to the IRD and get a binding ruling, which seemed to me to be pretty much the same thing. So I’m interested in the Minister explaining in some detail, for the benefit of the committee, the difference between an APA—an advance pricing arrangement—and, of course, a binding ruling.

The second thing that I think’s relevant here is how frequently have these APAs—the advance pricing agreements—been established? How many are there? The other one that concerns me is: has the IRD investigated the content of some of these advance pricing agreements to make sure they don’t have rollover clauses that, in fact, could allow the arrangement to then persist long after the initiation of the Taxation (Neutralising Base Erosion and Profit Shifting) Bill?

The very final point that I’d be really grateful for the Minister to explain to the committee and expand on his earlier comments is around the expected revenue from the enactment of this legislation. He used the figure, when he stood to his feet earlier, around it being $200 million. Now is that $200 million a year or is it $200 million over the next four years, and how has that figure been arrived at? It seems to me it’s relatively difficult, despite our acknowledged expertise within IRD and the work done by the OECD, to actually get a handle on the amount of revenue that will be received by Government once this legislation is enacted. It is a relatively challenging piece of work for IRD.

So I won’t take any further point because I think I’ve raised there three very valuable points for the Minister to cogitate on. I’m looking forward to his answers, which I think he’s about to give to me now.

Some very important questions have been raised, and I feel as if I should stand and answer them because, you know, it’s important that we all understand this. It’s a bit of a shame that after being on the select committee, Mr Carter, you maybe haven’t got the knowledge of the answers, but let me help you out. But, first of all, Mr Andrew Bayly. There’s a reasonably—

💬 Andrew Bayly: I’m over here.

—oh, Andrew Bayly—famous case of those who were involved in this sort of business, and it’s Chevron Australia and the Australian Tax Office. What happened there was Chevron’s parent company borrowed money at 2 percent and it lent it to Chevron Australia—its subsidiary—at 9 percent. So this went to court, obviously, and the court found that, in fact, there was a level of transfer of pricing and this was not fair. Now Australia provides a little bit of a different test than ours—theirs isn’t as arbitrary as ours—but what we do know is the transfer pricing of this scale is the classic way to avoid paying your fair share, so we do want to cut down on this. As you know, the officials’ initial recommendation was one notch below the global interest rate, and after consultation and submissions and hearings, they moved it down to two notches because they thought that was fairer.

Now, like any piece of tax legislation, if it’s not working at two notches—if we find that, in fact, there is a fairer way to address this, or a more objective way to ensure that companies are allowed to borrow at whatever rate they can but, however, are not ripping off the system—then I’m sure that we will look to change this. You know, with any tax legislation, it’s always quite fluid, but we think we’ve got it right at this point in time. After consultation with the OECD and after submissions from the big end of town, we think we’ve pretty much got it right, but let’s wait and see.

The former speaker, Mr Carter, actually raised some very interesting points. Income year—now it was a good point. It does apply to income years after 1 July 2018, but a business with a 31 March balance date won’t apply these rules until 1 April 2019. So we think that we actually have made it very easy to comply with, and that’s what it’s about. What we don’t want to do is put in place undue compliance for business, but we also want to ensure—obviously, what this bill’s about is that they do pay their fair share of tax, and we want to make it easy for them to pay their fair share of tax.

The figure of $200 million per year—it is very hard to model what we will end up getting. I mean, in terms of any tax it is very hard to model, and let me give you an example. Last year, when we put in the GST on online services, inland revenue (IR) believed they were going to pull in about $40 million a year. In the first year, it brought in $113 million a year. As mentioned, IR are inherently conservative in their estimations and they probably should be, and we don’t mind that. So it may be $200 million. That is their best estimate, using a whole lot of different models—well, modelling this legislation. It could be more. But, as mentioned, the reason we came up with this, and not the $500 million that you might’ve seen in the media, is because IR undertakes a very high level of compliance already with large companies. In fact, companies over a certain figure—and I think it might be $100 million in revenue—have their own individual agent who looks after their organisation. So IR understands and knows what is going on at the big end of town already.

Mr Carter, the other point you brought up about binding rulings from the commissioner—that isn’t going to change at all. A company can, no matter what their size—and we’ve made it easier for small to medium sized companies, actually, to seek a binding ruling. But a large company can still seek a binding ruling from the commissioner if they present to the commissioner any sorts of questions they may have around their tax obligations. So that isn’t going to change in any way, shape, or form. In fact, as the Minister of Revenue, I would encourage companies that are unclear about their tax obligations to go to the commissioner and seek a binding ruling so that at least they know—

💬 Andrew Bayly: What’s the difference?

OK, a binding ruling means it binds the IR. Now a large company doesn’t have to follow that binding ruling, but if they don’t follow that binding ruling, then they do so at their own peril. But it does bind the Commissioner of Inland Revenue.

Also, Mr Bayly, you did talk about the taxpayer and whether there was any documentation around, you know, the global group. Well, it is actually up to the taxpayer to prove that they are doing the right thing.

💬 Andrew Bayly: No, but it’s not the point.

No, it is the point. It is the point. The onus is always on the taxpayer to prove that they are complying with the rules, and that won’t change.

💬 Andrew Bayly: So if they don’t have that in documentation, what happens to the parentals?

Well, if IR assume or if IR believe that there is a level of avoidance going on, then they will go to the New Zealand subsidiary and they will undertake an investigation. Within the bill, it outlines how an investigation could take place, who is liable, for example—and there were some changes made at the select committee about this, and I understand that. But if IR believes there is a level of avoidance going on, then they will approach the taxpayer, and it will be up to the taxpayer to prove that, in fact, they are complying with the law, and that hasn’t changed in any way, shape, or form.

I think those are the main points that were brought up by Mr Bayly and Mr Carter. But one thing I will say around the compliance date is the implementation date was actually—and I’ve given credit to Judith Collins because she did bring this forward and it was passed by the previous Cabinet, and we back it as well of course. The implementation date was actually prepared by the previous Government, but we have no problem with that. Thank you very much.

Thank you, Mr Chairman. I am looking forward to taking a call this evening on Part 1 of this taxation bill working on the neutralising of base erosion and profit shifting piece of work, which, as other speakers have acknowledged and the Minister in the chair has acknowledged, has been a piece of work that has spanned two Governments. But, more importantly than that, actually, it’s a piece of work that has international impetus. It is really New Zealand’s response to the OECD piece of work looking at how New Zealand’s rules need to be amended and adopted in concert with the rest of the world, so that we stop the actions of a number of multinationals who look to gain relative tax jurisdictions for tax advantage. What we see most commonly, of course, is using inter-party - related transactions offshore to move money, effectively, to a tax jurisdiction that’s more efficient for them, to artificially play with where they would otherwise have a place of operation.

The work of the Finance and Expenditure Committee on this piece of work has been very good, has been very constructive—as you would expect from a bill like this that has cross-party support in its broad parameters. I came into the consideration of the bill part-way through, and so it’s certainly been very interesting to hear the contributions from my colleagues Paul Goldsmith and Andrew Bayly and David Carter, and others who are still to speak.

I want to thank the Minister for making genuine attempts to address the questions that are raised—[Interruption]—no, no, I mean that very genuinely. I wasn’t trying to have a dig, Mr Nash. It is very helpful when we see a Minister in the chair who is clearly keeping track of the questions that are asked and is trying to address them, and I think Mr Nash will take some comfort in the fact that, similarly, on this side of the House, we want to see this legislation simply in as good a shape as it can be. It started as our legislation, it’s now yours—not yours, Mr Chairman, of course—but there is a genuine interest in making sure we have it right.

The part of the bill that I wanted to focus on in this first call is around another aspect of the transfer pricing rules, and Mr Carter, obviously, has made some comments around the grandparenting arrangements that are part of that and also the operation of the advance pricing arrangements. The piece that I particularly wanted to talk about is the change that the select committee was quite interested in, and I personally had quite a lot of interest in, which was around the time bar for bringing actions under the transfer pricing mechanisms. For the hundreds of thousands of people who I’m sure are listening away at home, what we’re talking about here is exactly the situation I described earlier where related parties are using the ability to set the cost of arrangements between them in a way that, effectively, allows them to move profits offshore. So that might be—obviously, it could be a debt instrument, which is the most obvious one, where interest rates are set. But, equally, it can be things like management fees between related parties, it can be royalties arrangements—there can be any number of ways in which this is done.

The IRD, of course, have a very genuine interest in making sure that there is adequate time for them to understand and drill into what are very complex arrangements between very highly lawyered up—to use a technical term!—firms who have access to a wide range of accountancy advice and legal advice to help them make these transactions look as legitimate as possible. We all acknowledge that there’s quite a piece of work in that. No one is, by any stretch of the imagination, suggesting that that is an easy or a non-complex piece of work and that they are not dealing with some very, very able and adept and well-resourced combatants. So there’s no question, I think, between us on the nature of the mischief to be solved.

So where we start: transfer pricing arrangements have been in place in New Zealand, obviously, before this legislation. In this legislation, we’re making some tweaks around the way they apply to when a number of foreign investors work together as a controlling bloc to control a New Zealand company—all of which is very sensible, subject to the comments my colleagues have made. But, previously, the time bar for the IRD to bring and complete an investigation and issue a notice of a changed tax liability was four years—four years from the end of the tax year in which the alleged behaviour occurred. Under this piece of legislation, the IRD wanted, of course, to extend that out to seven years.

Now, there was quite a wave of submission opposed to this change from the major taxpayer groups—you know, there was Chapman Tripp, the Corporate Taxpayers Group, EY, Russell McVeagh, PricewaterhouseCoopers, KPMG, ASB, Powerco. There was quite a long list, and so it was an issue that really concerned taxpayers in New Zealand. I don’t think any of them, certainly, disputed the fact that the IRD needed to look into these and have a complex and effective way of going about it, and, as I say, neither did the committee. But we really drilled quite hard with the officials, saying, “Look, do you really need seven years? Is there not something in what the submitters said where they’re right?”—that, actually, these are complex, detailed transactions. They’re not one-off; they’re year-on-year transactions and, actually, taxpayers do need the certainty of knowing what their tax position is.

The position that the committee got to was a bit of hybrid. We took the officials at their word that four years wasn’t going to be long enough for those taxpayers who are playing a bit of cat and mouse and not being as forthcoming as they could, and we certainly don’t want people to be able to avoid IRD scrutiny through being non-compliant. In the same way, though, we also took from the submitters that, actually, to leave every taxpayer exposed for up to seven years where there could be a review is an extraordinary imposition. It doesn’t provide the sort of certainty that taxpayers want, and it puts a huge amount of more cost and complexity into both the prosecution of the behaviour but also the defence of it.

So where the select committee got to was to say that the IRD should be able to extend to seven years only if they have commenced an investigation during the four years and have notified the taxpayer that it would be seven. You know, we can argue whether that was the right balance, but that’s where the committee got, and I’m comfortable with that.

Where I’m concerned, though, Mr Nash, is that the way the bill has actually landed in front of the House—and I’ll refer you to where clause 36(4), inserting new section GC 13(6) in the Income Tax Act, provides the assessment—it doesn’t actually do what the select committee thought it was doing, and it certainly doesn’t do what the select committee commentary says it is doing. The select committee commentary makes it quite clear that the select committee wanted the change to say that the time period could only be extended if an investigation had been commenced and the taxpayers were notified. The change in the bill in clause 36(4) simply requires the IRD to notify that they’re extending the time. That’s not what the select committee agreed at all.

The select committee did not sign up for a situation in which the IRD could potentially, under this legislation, serve as a matter of course on every taxpayer a notice that they’re extending the time period and it would automatically become seven years. We went through this in quite some detail, and in a very collegial and bipartisan way, to try and get that right balance between fairness to the officials and fairness to the taxpayers. And where we landed—you can check for yourself; the select committee commentary is very clear on this—is that the IRD would be required to have commenced an investigation and to have advised the taxpayer of that.

💬 Hon Stuart Nash: That’s still the case.

The legislation, the way it’s written—and I can read it out for the Minister, who’s saying that’s still the case. The legislation, as it’s written, makes it very clear that the only thing required for the IRD to extend the time is if, at any time during four years, “the Commissioner notifies the taxpayer that this subsection applies.” That means, Mr Nash, that in every case, potentially, the IRD could issue a form letter to every taxpayer saying they were extending it.

Now that is not what the select committee said, so I really want to hear from the Minister in the chair. He’s just indicated verbally that that’s still the case. I can utterly assure you, on the reading of that legislation, it is not the case, and if the Minister is not able to point me to the provision in the bill that says the IRD may only extend it where an investigation has been commenced and is under way, then we’re going to have to come up with a tabled amendment to make sure that the bill, as in front of this committee, reflects what the select committee instructed to be in the bill and what the select committee said in their report was the intention of the amendments. I can assure you right now that is not what was said, and it is very, very far from what the committee intended.

Look, it might seem like a small point. But, actually, this is a change that is—not only does it speak to whether the bill in front of us reflects the direction that the select committee gave it and the select committee report, but it’s also a very important point in getting that balance right between the reach and power of the State and the right of taxpayers to have certainty and have some conclusion to their legitimate affairs, to know when they can put these issues to bed, and, when they do come up, to have the resources and ability to look into them and defend them and for the IRD simply to address them.

So these are important points, Mr Nash, and I make them very genuinely. I really do think this committee now needs not simply a statement that it’s all fine; I think this committee needs quite specific reference to the line item in the bill that makes it clear that there is something required of the IRD beyond simply saying “Well, we’re extending the time period.”, because that is not enough.

Thank you very much. There are two points that I would like to address, and very briefly. First of all, it was a question asked by Andrew Bayly, and I didn’t address this, and I do apologise. Mr Bayly asked if we were ahead of the pack, and if, in fact, we are ahead of the pack, does this create a disincentive for large multinationals to invest or do business in New Zealand? But I would argue—no I wouldn’t argue; the point is, we’re not ahead of the pack. We’re actually doing what is our fair share in meeting our global obligations. As mentioned, we have worked very closely with the OECD. We’re rolling out legislation that meets our obligations, and I believe it would actually do more harm to our global reputation if, in fact, we were seen as a laggard as opposed to just meeting our obligations in a good, judicious way.

The reason I say that is, as we all know, New Zealand is ranked No. 1 in the world in terms of transparency by Transparency International. I think if we were seen as a soft touch or if we were seen as not complying with our global obligations around profit shifting and base erosion, then it could do more harm than good. So I am very comfortable, and, in fact, I think everyone—the select committee and the previous Minister of Revenue, Judith Collins—is very comfortable, with the way that this is progressing. My understanding is this will not provide a disincentive in any way, shape, or form for any multinational to do business in New Zealand. In fact, the only ones that may have a concern—and it certainly hasn’t been signalled to me at all or, I understand, the select committee at all—are those who would look to use the old rules to avoid paying tax. Of course, this is what this whole bill is about, to ensure that we close down the loopholes that stop multinationals from paying tax.

To the Hon Amy Adams, there is actually no legal concept of an investigation. What I would say—and what was agreed at select committee, what is in the bill—is that an investigation can start within a four-year time period but must be completed within that seven-year time period. This is what was agreed at the select committee, it is what is in the bill, and so nothing has changed in that respect. So what actually is the case is IRD can start an investigation within that four-year period.

In fact, if you look at—not you, Mr Assistant Chair. If members understand tax rules, four years tends to be a general rule of thumb for tax. If you want to claim tax back, you’ve got to do it within four years, for example, so it’s a standard sort of time frame. However, as has been alluded to by a number of members, this is a complex piece of legislation and the law in itself was complex, and by the very nature of the law and the mischief it’s seeking to address, often the investigation will take a length of time, but it has to be completed within seven years.

So, Hon Amy Adams, nothing has changed from what was agreed to or discussed at select committee. That is my understanding, it was my understanding when the bill was introduced, and that certainly hasn’t changed, and the officials have informed me that, in fact, that is still the case. Thank you very much.

I move, That the question be now put.

Thank you, Mr Chair. There’s plenty to talk about in this part of the bill, that’s for sure. I’d like to first acknowledge some of the comments that the Minister in the chair, Stuart Nash, has said, when he said that this is a complex piece of legislation. It’s a progressive and evolutionary tax legislation that will continue to be developed. I’m just reflecting on what the situation was 10 years ago when the global financial crisis hit the globe. Some of that was down to the fact that there were losses sitting in jurisdictions that people were not aware of, where derivatives played a major part in the bankruptcy, essentially, of banks and financial institutions across the globe, because one party could deal with another without the relevant IRDs knowing what was happening in those derivative and credit derivative markets.

So we have come a long way. We have come a long way legislatively to ensure that profit sharing and base erosion particularly is less than it was then. But I do acknowledge that this is not going to stop it. This is not going to eliminate it. I acknowledge the Minister’s comments when he said this is an evolutionary process, because you close one loophole and, essentially, you will end up creating another or a number of them—perhaps smaller—but you can’t eliminate these loopholes.

So I commend both sides of the House and the Finance and Expenditure Committee for doing a lot of work in what’s been produced here, but I do have a couple of questions. The first does relate to those exotics. I’m just unsure or uncomfortable that the select committee has dealt with the type of exotic derivative, credit derivative, and over-the-counter derivative product that may not be known to any inland revenue department of a particular country. So those exotics—I heard some comment in the select committee, but I wasn’t especially satisfied. As the Minister says, there are some smart people out there, a lot of smart people, and I just want to be comfortable that all the effort and time and energy has been put into that particular sector, that particular group of people, who are moving or, historically, have moved profits from country to country without any real underlying business—without any underlying business.

The second point I would like to clarify to the Minister is around the “beeps”, and this—

💬 Dr Deborah Russell: BEPS.

—the “beeps”; B-E-P-S—risk, and the high leverage ratio of 40 percent. I’m asking the Minister: what determined the 40 percent? What determined the 40 percent? What’s so important about the 40 percent?

A subsidiary in New Zealand will quite likely have a very different risk profile to its parent, whether the parent’s offshore or even onshore. So, for example, you might have—and it doesn’t have to be cross-border. You’ll have an owner of a portfolio, and that owner might put a—well, we know that, say, for example, the dairy industry is a very highly leveraged industry, so that might have a leverage appropriate and bankable of, say, 80 percent. Then we have another type of business that wouldn’t be quite so bankable at that rate, and maybe you wouldn’t want to put too much debt across it at all to make it a very high-risk investment. Perhaps, you know, goldmining, for example, or gas and oil exploration even. So you may not want to put a lot of debt across that—two quite different businesses.

So by putting the 40 percent blanket across both potential subsidiaries of a parent who will have its own risk for debt and risk rating, but to transfer and assume I think is a simple—very simple; it’s an easy manageable thing to do—but a potentially unfair measure and methodology, and the same can apply to the 15 percent tax rate that is determined to be a low tax rate. So how did the 15 percent tax rate be determined?

Thank you, Mr Chair. This is a fascinating and an interesting bill. It has been a very complex bill to get to grips with, I think, as we’ve seen from some of the speeches this evening.

I want to start by thinking about the nature of tax avoidance in general because this is an anti-avoidance bill. You might think we already had enough anti-avoidance measures in our legislation already. To start off with I want to go back to a very, very famous judgment in tax law, it’s the Commissioners of Inland Revenue v Duke of Westminster in the UK. It’s a 1936 judgment: “Every man is entitled if he can to order his affairs so as that the tax attaching under the appropriate Acts is less than it otherwise would be. If he succeeds in ordering them so as to secure this result, then, however unappreciative the Commissioners of Inland Revenue or his fellow taxpayers may be of his ingenuity, he cannot be compelled to pay an increased tax.” It’s a very, very famous judgment. What it is saying is that if anyone can order—in this case—his affairs so that they pay less tax and it’s all done perfectly within the letter of the law, then, actually, you’re entitled to do that because that’s what the law says you’ll do. So it’s very broad. It gives people a huge permission to structure their affairs in order to pay less tax.

Actually, if you look at tax legislation over the years, what you’ll see is that legislators have successively cut away at that principle. In fact, we’ve got a general anti-avoidance provision sitting in our own tax legislation already. It’s section BG 1 and what it says is—paraphrasing just a little—“A tax avoidance arrangement is void … for income tax purposes.” What that means is that the commissioner can set that arrangement aside and assess the tax as though the arrangement had not been in place. But, of course, in order to do that, you need to know what a tax avoidance arrangement is. What it is is an arrangement that directly or indirectly has tax avoidance as its purpose or effect, or as one of its purposes or effects. So then you get down to what tax avoidance is. Well, it’s directly or indirectly altering the incidence of the income tax. What’s fascinating about this particular bill that’s in front of us is that it’s all about companies—multinational companies—that are trying to directly or indirectly alter the incidence of any income tax.

So, in a sense, this is a belt and braces bill. All right, the belt is already there, with section BG 1, and by the time you follow it through the definitions it’s already there. But, as we know, corporate lawyers are very, very clever. Tax legislation is very complex, and clever, clever tax lawyers take every advantage of it they can. So what this legislation does is it bolsters section BG 1 with respect to multinationals. It says, yes, we’ve got this general anti-avoidance provision, but we’re bolstering it. We’re giving it more strength by having these very specific rules for multinationals. And they are indeed very specific—you know, they actually only apply to a small number of companies.

Just for the reassurance of Mr Alastair Scott, there is some reason for that 40 percent rule. Look, that 40 percent rule comes in where we’re trying to identify which companies in New Zealand we think are base erosion and profit shifting (BEPS) risks, which companies we think, or the Inland Revenue thinks, it ought to be investigating. There are a couple of tests that have to be fulfilled.

Now, the legislation as drafted had three tests in it. One of them was an EBITDA rule. Very roughly, if your interest was about a third, I think, of your EBITDA, then you were considered to be at risk. Now, for people who don’t know what EBITDA is—

💬 Hon Gerry Brownlee: Seek an extension of time.

—it’s an accounting measure called earnings before interest, taxation, depreciation, and amortisation. I do know my tax rules, Mr Brownlee. When it comes to EBITDA—so that particular rule was found to be too harsh. Submitters said, “No, that rule is too harsh.”, and they asked us if we could in fact take it out, so we’ve done that.

Then there are two other bits—and I just want to answer this, Mr Chair—[Bell rung]—to carry on to answer Mr Scott. I just do want to answer Mr Scott here. There are two tests left there, and you have to fulfil both of them. Now, so whatever our dairy companies do or our dairy farms do, it doesn’t really matter, Mr Scott. What matters is what multinationals do, OK? If a New Zealand company has a high debt-equity ratio, and that’s 40 percent—now, we think that’s pretty high in New Zealand—

💬 Alastair Scott: No, it’s not.

—and if it is also borrowing from a parent in a low tax—but it is for multinationals, and let’s just distinguish them from farming companies. So if it’s fulfilling both those, then IRD considers them a BEPS risk, but it’s still only a risk. It’s not saying they’re doing it; they are a BEPS risk, and they might consider doing an investigation. And there’s a de minimis there—all right—a level of protection there so that if there is $10 million or less of borrowing, then they’re not going to be investigated as a BEPS risk. So there’s quite a stringent set of criteria in there, and I hope that reassures you, Mr Scott, as to what might be going on with dairy companies.

So I think what you’ll find with this legislation—that was worked on very, very hard by many people in this House, both in the previous Government and this current Government; the people who’ve sat on this select committee right throughout and the people who have joined the select committee recently—is that we’ve worked really hard to get this right. It is complicated, it is difficult, it is hard to understand, it is highly technical, and we are very, very grateful to our excellent officials and to our excellent official adviser, Therese Turner, for the work they have done to help us to understand what’s going on and to help us to really think through the implications.

I think we’ll need to keep on working at this. I think we will find, perhaps, some things that could be done a little bit better. That’s the nature of ground-breaking legislation. But I think we’ve made a jolly good fist at getting this legislation right, and that is why I recommend this legislation to the committee.

Thank you, Mr Chair. I wanted to first of all acknowledge the contribution we’ve had from Dr Deborah Russell. She does understand tax, and she does acknowledge that it’s a very complex piece of legislation.

I also want to acknowledge Minister Stuart Nash. There have been a large number of questions raised, and I think on this occasion the committee of the whole House is working well, with the Minister making every effort to answer the questions that have been raised.

There’s one that I raised earlier which he hasn’t addressed, and I just wanted the opportunity to raise that again. I was raising questions about the advance pricing agreements, and I asked could he explain the difference between an APA—an advance pricing agreement—and a binding ruling. He certainly then gave us an explanation of a binding ruling, and I think in giving that explanation, he might want to just seek some advice from officials as well, because in giving that explanation, he said a taxpayer enters into a discussion with the Inland Revenue Department and they agree an arrangement as to how tax might lie that is binding on IRD, but then the Minister said it’s not binding on the taxpayer. I don’t think that’s right, and I think he just needs to check that through, because my understanding of a binding ruling is it binds both the IRD and the taxpayer. So I’d be grateful for clarification on that.

But the second issue I raised was with the advance pricing agreements—if he could explain the difference between those and a binding ruling—and then the question is how many APAs are there. How frequently does IRD enter into substantial discussions with, obviously, larger corporate taxpayers and determine these advance pricing arrangements? How frequent are they? How many are there in existence?

The second point I just wanted to pick up on was raised by the Hon Amy Adams with regards to the extending of the time bar and the work the Finance and Expenditure Committee did on that. IRD came to us and said it needed seven years because of the complexity of these issues. The select committee worked hard and said, “Listen, it’s currently four. You want to extend it to seven. We can understand why, but hang on. That’s a bit tough on any corporate that only finds out that it might be under investigation after, say, 6½ years.” So we’ve made a modification in the select committee—a recommendation to this committee of the whole House—that the initiation of discussion between IRD, or perhaps their difference of agreement with the taxpayer, must be started within the four-year period. But then the Minister, in addressing the Hon Amy Adams’ point, said, “But the investigation must conclude by seven years.”

I want the Minister give me some information as to how an investigation concludes. It seems to me that the IRD could indeed start a discussion with a taxpayer around that four-year period, then spend the next three years arguing with that taxpayer and not actually finalising things, and then, suddenly realising there’s a time constraint against them right on the eve of the seven years, it could just say, “Investigation finished. Here’s your tax liability.”, with no further discussion at all.

So I’d just be grateful if the Minister could give some answers to those two queries. The first one is about the APAs—the advance pricing agreements—and the second one is around just how an investigation that’s up against a time line of seven years has to be concluded by the IRD and in a reasonable way to the taxpayer, so that the corporate taxpayer then has the ability to know that it’s been finalised in a fair and consistent way.

Thank you very much. Just to very quickly answer the right honourable member, a binding ruling is actually binding only on the commissioner; it is not binding on the taxpayer. As mentioned, the taxpayer can ignore the binding ruling at their own peril, but it is not binding. An advance pricing agreement (APA) is actually a type of binding ruling. Again, it’s not binding, but an APA is factually based, and it’s undertaken with full taxpayer cooperation. So, again, like a binding ruling, a taxpayer will go to the commissioner. If they have concerns about their tax position or if they have a question about their tax liabilities or the tax position, the commissioner will issue a binding ruling. The taxpayer can then determine whether they take the commissioner’s advice or not. The commissioner, of course, can then not change their advice, but the taxpayer can seek other advice. So it’s binding only on the commissioner.

In terms of the four years versus seven years, I completely agree with you: it would be unfair for inland revenue (IR) to draw out investigations simply because it felt like it. I’m being a little bit glib here, but what I do mean is that I very much believe that IR undertakes investigations in a timely manner, and it does so because it is actually in the best interests of IR as well as the taxpayer itself. The reason for the four-year / seven-year split? I’m the first to admit that if they’ve started an investigation within four years and they’ve got another three years to complete it, that is a long time to complete an investigation. But the reason it is the seven-year deadline is because this is complex—this really is complex. Often you’re not only dealing with an organisation or a multinational subsidiary based in this country but also dealing with complex tax legislation and maybe a group head office in their home country, and that could be anywhere from the Bahamas to goodness knows where.

So I do not think that IR will use seven years as a target—i.e., let’s draw them all out for seven years—but that is there just to ensure that they can undertake these complex tax investigations and fulfil obligations and conclude them in a timely manner. But, like you, I would be very disappointed if IR drew them out just because they could, and I have absolutely never seen any evidence that that is the way IR actually undertakes investigations or that that is the IR’s attitude towards investigations.

I move, That the question be now put.

Thank you, Mr Chair. I want to come back to the point I was raising in my last contribution, because I invited Minister Stuart Nash to address it, and he certainly got to his feet and spoke to it, but I’m far from satisfied that his contribution resolves the issue. What I have done instead, and in light of that response—because the Minister was unable to point to the provision in the bill which requires that the investigation be commenced within the four years, which is what the Finance and Expenditure Committee required—is I have taken the liberty of putting a handwritten amendment on the Table to make exactly that provision in the bill.

Just before we start discussing it, I just want to quote for the committee the part from the select committee report that talks about this, because it’s very, very clear. Mr Nash, in his contribution, said, “This does exactly what the select committee said.”—which I don’t agree with—and he also talked about the fact that the IRD can start an investigation with employers. Well, we know they can; this is a question of whether we’re obliging them to, which is what was the select committee recommendation. So the select committee said, “We recommend amending this provision”—so this is clause 36(4), amending section GC 13—“to extend the time bar to seven years only”—and that’s the critical word—“in cases where Inland Revenue has begun a transfer pricing tax investigation within four years of the relevant tax return being filed, and has notified the taxpayer”. So not to labour the point, but, very clearly, it’s only to be extended when there has been a tax investigation commenced and notification.

Now, what clause 36(4) does is only provide for the notification requirement. Now, I certainly wouldn’t want to imply that there’s been any improper motivation here, but remember we started with a provision where IRD wanted a blanket seven years and the select committee said no. That’s our proper role. The select committee said no to the IRD having a blanket seven years, or seven years at their discretion, and the select committee very clearly, in that passage I’ve just quoted from, said, “We were only happy with IRD being able to extend it to seven years if they had commenced an investigation”—only if they’d done that, not “they could have”, “they might have”, “they’re entitled to”. They must have, and with notification. This actually really does matter, Minister, and it is very concerning to me to find that that obligation—or that they must have commenced an investigation—is not there.

Now, in select committee, I remember specifically asking the officials—some of whom are with us—whether commencing a tax investigation was a definitive thing that taxpayers and tax lawyers could understand and look to, because it sounded to me a little bit amorphous. How do you know whether an investigation has been commenced? And I was reassured that “No, no, commencing a tax investigation is quite a definitive process step that’s well-understood, and it’s clearly signalled, and there’s a framework they go through.” If records of the meeting are kept, I’m sure that would be recorded. I was concerned that if you’re going to put something in law, it has to be a definitive step that we can say, “Yes, that has happened, and so, therefore, the extension applies.” We were absolutely assured that commencing a tax investigation is a very defined thing. There are steps that have to happen, and it will be very clear whether or not that has happened in the time frame.

So I don’t accept the advice that I imagine was passed to the Minister, where he said, “Well, it’s just one of those things and it can happen at any time.” This is a very clear-cut line in the sand, and if the Minister takes the opportunity—if his officials pass it to him—to read that passage in the select committee report, which I’ve quoted faithfully, but if he wants to reassure himself. We were very clear there was a two-legged requirement to extending it. It had to have commenced a tax investigation of the transfer pricing within four years, and it had to have notified.

What we’ve got in the bill at the moment is only a notification requirement. That would give IRD what they started with, which is the ability to have a blanket extension to seven years in all cases. That is not what the select committee agreed to, that is not what we wanted to see back in front of the House, and if the Minister is going to be true to the select committee view—and it was a cross-party view; it wasn’t a split view—then I would encourage him to support the amendment. There’s nothing particularly positional in it. It’s not a point-scoring exercise; it is a genuine intent to see the wording of the select committee report, which is very clear, reflected in the legislation in the House.

Now, in my last contribution, I asked the Minister, if I had missed it, to point me to the requirement where they had to have commenced a transfer pricing investigation in order to extend the time bar. He wasn’t able to do so, and I don’t criticise him for it. He would have received advice, but the advice that he reflected back to us in no way addressed that. And I think, Mr Nash, to be absolutely clear about this, if we’re going to give effect to what the select committee said, there must be a two-legged requirement to extending it. It is not enough that the IRD simply chooses to advise the taxpayer that they want longer. That is not what we agreed to. That is not what the select committee report talks about.

I would urge you to support the amendment in my name. There’s no press release around it, there’s no positioning; it’s just to get what the select committee said right, and, at the very least, to put it in the Hansard that that is absolutely the requirement in this bill. I can’t see it; I encourage you to point to it. But for the sake of getting the legislation clear, so the taxpayers can understand their obligations with utter clarity and to have the obligations that this Parliament—[Time expired]

I will take time to address the honourable member Amy Adam’s concerns, but first of all I must correct something I said to the Rt Hon David Carter. A binding ruling is binding on the commissioner but not binding on the taxpayer. However, I made a mistake when I said an advance pricing agreement (APA) is not binding on the taxpayer. An APA is actually binding on the taxpayer. So I do apologise to the member for that.

In terms of the Hon Amy Adams, officials do consider the current drafting in the bill achieves the policy that was recommended by the Finance and Expenditure Committee. Keeping in mind that this bill has been gone over with a fine-tooth comb, as has every tax bill, but simply because of the complexity of this, the thing is that there is actually no—and this is, again, we’re getting into the nitty-gritty of this—legal existing definition of a tax investigation, so adding a reference to a tax investigation could lead to uncertainty and disputes about what qualifies as a tax investigation.

So if a commissioner hadn’t notified the taxpayer within four years, then the tax position is final. So the company puts in a return—if the commissioner has not started an investigation within four years, then the tax position is final.

💬 Hon Amy Adams: But the bill doesn’t say that.

But that is just the law.

💬 Hon Amy Adams: But it’s not the law.

It is the law.

💬 Hon Amy Adams: Where? Where in the law does it say that?

The current provision is certain that the commissioner needs to explicitly notify the taxpayer that they are applying the provision.

💬 Hon Amy Adams: They could do that in every case.

And you’re dead right, and the thing is that we can clarify this position by using the inland revenue’s administrative guidance, but not every detail of every tax rule is included in the legislation, especially administrative rules.

But let me make one thing clear—let me make one thing clear. So a taxpayer puts in a return. If the inland revenue (IR) or the Commissioner of Inland Revenue has not queried that within a four-year period, then the tax position is final. Then the tax position is final—that is the law.

💬 Hon Amy Adams: No, it’s not the law.

No, what it says here—

💬 Hon Amy Adams: It doesn’t say that in the bill.

No, what it does say here is if, however, this is queried within that four-year period, then the commissioner has the ability to extend that for seven years. I quote new section GC 13(6), set out in clause 36(4), “Despite the time bar, the Commissioner may amend an assessment for a tax year (the assessed year)”—I’m not going to read it all—“in order to give effect to this section and to sections [blah, blah, blah] … in which a return of income is made for the assessed year if, at any time in the period of 4 tax years after the return year, the Commissioner notifies the taxpayer that this subsection applies.”

Now, I believe—having read and gone over these as our revenue spokesperson and now our revenue Minister for about seven of my nearly nine years in this place, I think this is clear. The officials believe this is clear, so in that case—[Interruption] No, no—read this section again and I think that you’ll find that it is clear. And just to clarify one last time, a company puts in a return. If the IR has not queried that return within four years, there is no problem—OK? There is no problem whatsoever—the tax position is final. If within that four-year period—and it states it here—IR queries the return, if “a return of income is made for … assessed [period] if, at any time in the period of 4 tax years after the return year, the Commissioner notifies the taxpayer that this subsection applies.”

What that actually means within that four-year period—[Interruption] Well, I’m just quoting it again. If the commissioner notifies it, then the commissioner may amend the assessment in order to give effect to the section. I believe this is clear, and I wrote—you know, I did a Master’s in law on this sort of stuff. To me, this is clear, and I’ll leave it at that.

Thank you, Mr Chair. It’s a pleasure to speak on the Taxation (Neutralising Base Erosion and Profit Shifting) Bill at this, the committee stage. I didn’t have the benefit of—

💬 Hon Ruth Dyson: Committee of the whole House. Select committees are in the morning.

Excuse me—committee of the whole House. I thank the Hon Ruth Dyson for her intervention, which is assisting my deliberation and, indeed, my timekeeping. Not having spent the time in the select committee, I feel I know enough to speak to the bill but not so much that I have no questions of the Minister, so perhaps he will allow me to pose some slight queries that I have. He might be able to gain some guidance from either the officials or perhaps Dr Deborah Russell, or indeed himself—an expert in his own right, of course.

My focus has been very much the banking groups’ role within the regime. It seems to me an important one, given that banking groups themselves might be entities that have parent bodies and, obviously, exist and operate within New Zealand. Of course, those are also gatekeepers to some extent in that they manage, in a certain meaning of that phrase, the tax or, indeed, the financial affairs of other entities, again, overseas and within New Zealand.

So within Part 1, therefore, I’ve been interested, in particular, in clauses 29B and 29C. Taking the first of those first, I note that the bill will amend section FE 21(3) in the parent Act the definition of “equity value”, so that whereas the Act currently states that “ ‘Equity value’ is the total financial value” of some five different criteria, a sixth is now being added, of course, at new paragraph (f). I won’t read the entire thing—

💬 Dr Deborah Russell: Oh, go on.

—much as I would be encouraged by members opposite to do so, but it seems that it’s a pretty clear invitation to add into that calculation of value, or indeed that definition of “value”, financial arrangements that are not included in paragraphs (a) to (e). In other words, to that which has not already been contemplated and captured in the first five criteria, a sixth is to be inserted by way of a catch-all type of provision.

So then, the proportion of the financial value of such an arrangement—again, as not already previously included—as the proportion of the total interest expenditure under the arrangement in the income year is denied in one of three ways. I won’t spell them out in detail, to the relief, no doubt, of all members of this committee, including myself. But suffice it to say that it’s a pretty comprehensive part of the section, I believe, and, certainly, that will have been the intent.

The overall flavour of the Act—and, indeed, this bill to amend the Act—essentially, is to be comprehensive. It is to capture those arrangements which have not already been contemplated and, indeed, caught by our existing tax regimes—of course, specifically in the context of overseas parent entities operating in New Zealand under some part. So my question then, Minister, is whether you are confident now with the insertion of that point that the definition of “equity value” is going to be sufficiently comprehensive, or if something even broader, even more generic, might be added to that section.

I won’t dwell on the fact that a third subsection relates to the timing of the commencement—1 July 2018, which feels like it might arrive before the end of my time speaking. That may or may not be just myself who feels that way, but that’s been noted by fellow members of the House as well as by submitters—the very short period of time that there will be for compliance and arrangement of affairs that would be appropriate so that entities can meet their obligations under this Act. So that’s one of the two sections that I’ve been focusing on in relation to the rights and responsibilities of banking groups, with the other being section 29C, which amends in section FE 23(2) the formula for the funding debt that is to be made by a reporting bank, which, as I understand it, is the broader entity which might have an overseas element.

I move, That the question be now put.

I call the Hon Paul Goldsmith.

Oh, so very kind of you, Mr Chair. Look, I am a little concerned that people listening into this debate might be a little bit flummoxed by some of the details that are being discussed, and I’m very keen to try and lay out, in the simplest terms possible, some of the issues that we’re trying to address with this legislation.

Fundamentally, it’s in relation to how non-residents can reduce their tax that they pay in New Zealand by capitalising their investment with debt instead of equity. So if we took one example of, say, an Australian investor putting $100 million of capital into a New Zealand company as equity, and that company earns $10 million a year from sales and pays $2.8 million in tax—so 28 percent of $10 million is $2.8 million in tax. Now, if the company pays the rest of the profits as a dividend—$7.2 million—it’s earning $10 million and paying $2.8 million as tax.

Now, another company could invest in the same business, and instead of putting $100 million in capital into the business, it puts it in as debt with an interest rate of 10 percent. If that’s the case, the same company would earn the $10 million, but it has to pay $10 million of tax-deductible interest back to its parent company, and so the taxable income, as a result, is zero. So no tax is paid by the company, and the only tax that is paid is a 10 percent interest withholding tax on the $10 million of interest it’s paid. So the net result of that is that only $1 million is paid in tax to New Zealand.

So the difference between the two ways of capitalising that investment in New Zealand, of $100 million, is the difference between $2.8 million in tax and $1 million in tax—or an effective tax rate of 28 percent and an effective tax rate of 10 percent. So, obviously, that’s a big difference and has a very big impact on investment decisions. So what we’re doing with this legislation is to say, “Well, actually, we’re not going to let you do it”—as that second investor had—“with putting in 100 percent debt and charging 10 percent interest in order to reduce your taxable income to zero.” So what we’re saying here is that the debt can’t be more than 60 percent of the assets. So it’s an arbitrary figure, and I’d be interested in getting a sense from the Minister whether we’ve got that arbitrary level right.

Then we have this strong view on what the appropriate interest rate should be. As we’ve been discussing, the rule that’s been set out is that rather than just letting them dream up whatever interest rate they want, the pattern through most of the world is to have an arm’s-length interest rate, which is, effectively, what the market would sustain, but we’re not happy with that either. We’re going to now suggest that it should be the interest rate that’s determined by the credit rating of the parent company. If it’s a multinational company based in Germany, for example, with a high credit rating, then that would lead to a low interest rate. So what we’re saying in that example is that rather than borrowing it at a 10 percent interest rate, they might have to borrow it at a 4 percent interest rate, which is much lower and might not relate to the risk profile of the company involved. So the net outcome of that—the combination of not allowing them to put as much debt in and not allowing them to charge as high an interest rate—is that they will pay more tax in New Zealand, and that effective tax rate will go up from, say, 10 percent, in the example that I used at the start, to maybe something closer to 28 percent.

Now, the concern, of course—and I’m holding the disclosure statement and regulatory impact statement—is that if you over-egg it, you could have the impact of reducing the amount of investment coming into New Zealand. So getting that balance right is the critical thing, and I go back to raising the question with the Minister: how confident is he that the decision that we’ve landed on, with two notches below the credit rating—[Time expired]

Thank you, Mr Chair. It’s always a risk for a former Minister of Revenue to be speaking on a bill like this—particularly one where he wasn’t on the select committee—but I’m going to give it a go nevertheless and try not to sound like the grumpy uncle at the family reunion.

I do want to acknowledge the Minister in the chair, Stuart Nash, and his efforts to address the technical questions that the committee has put to him, because I think it is a credit to him and to the process of the committee of the whole House that we don’t always see in this Chamber, which is a preface for a relitigation of an answer that he gave. I do so because I think it is fundamental to the powers that we are trying to give—and the curbs on the powers that we’re trying to give—inland revenue in respect of the seven-year limitation on the transfer pricing arrangements.

Now, there was a very good exchange, I think, between the Hon Amy Adams and the Hon Stuart Nash in respect of that point, and I want to come back to it because I believe there is a risk in not carefully wording the intention that the Finance and Expenditure Committee and the Government have in respect of this clause—I think it’s clause 36(4), amending section GC 13. I know some very good tax accountants and lawyers in the market, and we now have on record the Government’s intent, but I don’t believe that we have it in the words that will end up in the Act if the bill is passed as it is now. Essentially, we can break down clause 36(4) this way: there is a time bar; there is an exception to it. An amendment can be made for up to seven years, if, in the first four years—and these are the key words—“the Commissioner notifies the taxpayer that this subsection applies.”

💬 Hon Ruth Dyson: We’ve heard all this.

That’s right, but here is the point. What we risk if this amendment is not approved is that every single decision inland revenue make to extend the time bar will have challenges brought to it, probably into the courts, by very, very good lawyers and accountants who are working for large companies that will want to reduce the time bar to the shortest period possible. Now, it may well be that there is a legitimate investigation under way, but the law doesn’t require that to be the case, except we now have the select committee report and the Hansard of this debate where the Minister himself, as well as the shadow Minister of Finance, have accepted that the intention of this was for an investigation to have started. And if the law doesn’t say that, then my concern is that the decision will be challenged in the court and set aside, and the taxpayers will be the worse for the fact that if the transfer pricing arrangements were found to be unlawful or incorrect in law, then that cannot be properly challenged.

It’s no surprise that the IRD would like to take a longer time. I think that’s understandable. Indeed, these arrangements can be notoriously complex, and if they are not subject to advance pricing arrangements, as the law allows, and they are not well-known to inland revenue, then it is possible that they don’t come to the department’s attention until quite late in that four-year period. But the expectation that the committee had was that an investigation should have commenced.

Now, I was fascinated at the Minister’s comment that the term “investigation” is not defined. I’m not a lawyer, but I would have thought that in policing, in commissions of inquiry, and in tax law, “investigation” has a nomenclature and is an understood term that is more than just kicking the tyres on a tax return—that something has to have happened. I go back to what I believe is a very well-worded, handwritten amendment by the Hon Amy Adams, and I would implore the Minister to rethink whether or not, for the avoidance of any doubt—he has given us his assurance that he thinks the words in clause 36(4) are OK, and I don’t want to challenge that. But, for the avoidance of doubt, there is no harm in considering this amendment.

After listening to the Hon Amy Adams, I was not convinced in any way, shape, or form there needs to be an amendment, but after listening to the former revenue Minister Michael Woodhouse, he does make a good point. My personal view is that it is clear. However, in order to avoid any doubt whatsoever—because if doubt exists in the mind of the former revenue Minister, then I’ll take that on board—what I will propose is an amendment to clause 36(4), new section GC 13(6). So after, and I quote—you may want to follow this—“notifies the taxpayer that”—so this is in new section GC 13(6)—I will insert “a tax audit or investigation has commenced, and”—

💬 Andrew Bayly: “And applies”?

💬 Hon Michael Woodhouse: That would be perfectly appropriate.

—no—and then “this subsection applies”. Will that satisfy the former Minister of Revenue?

💬 Hon Michael Woodhouse: Absolutely.

So I do thank the former Minister of Revenue, because he makes the point much clearer than his colleague, and as a consequence of that I will table that amendment. Thank you very much.

Thank you, Mr Chair. First of all, I just want to acknowledge Minister Nash. This is how good laws are made—when we have an interactive situation in committee of the whole House where we have a Minister who’s engaged, knows his topic, and actually wants to respond. So I do want to commend him.

One of the issues we haven’t discussed tonight—we’ve been talking a lot about interest rates, a lot about interest rates, and, of course, by lowering interest rates or making them high, that’s how you can reduce tax that a New Zealand subsidiary, branch, associate, or whatever will pay to its foreign parent. The other side of the coin is around thin capitalisation rules. I’m sure that Mr Chair is an expert in this topic. But I just thought I would just highlight some of the issues around that.

Before I do that, I think it’s useful just to explain to some of us—perhaps for people listening—what we mean about “thin capitalisation”. In essence, if you have a company, you might have a very low ownership share—or what’s called equity—and shove in a whole lot of debt. So your debt to equity ratio is very high. That’s obviously a way to reduce the tax burden, because if you’ve got a high amount of debt and charge interest on it, then, as my colleague the Hon Paul Goldsmith said, you can reduce the profits of the company, and that’s what we’re trying to stop with this base erosion and profit shifting (BEPS) bill tonight. Normally, it’s expressed as debt to equity or debt to assets.

So, just to put it another way, if we have a debt to equity ratio of 1.5 to 1, that means we’ve got debt of 1.5 to 1 of equity, or, basically, for every $3 of debt, we’ve got $2 of equity. Or, turning it around another way, that’s 67 percent gearing. Of course, in this bill the maximum permitted debt is set at least than 40 percent, as my good colleagues over here know very clearly. In Australia, as I said before, it’s set at 60 percent, and we’ve already got that inconsistency.

So there are five things I want to say about thin capitalisation. The first one is something that was raised by Chapman Tripp and Chartered Accountants Australia and New Zealand, and that is the issue around the subtraction of value of non-debt liabilities from a firm’s asset base for the purposes of determining thin capitalisation rules. Of course, their view was that this actually shouldn’t occur under the BEPS rule, as it does not currently result in taxpayers exceeding commercial levels of debt. The officials’ response to this, actually, was that the submitters are correct and that this proposition is not part of the OECD’s BEPS recommendation. However, the officials added that ever since the inception of Australia’s thin capitalisation rules, those rules have subtracted non-debt liabilities in the same way that is being proposed in this bill.

I just think we’ve talked earlier about principles about making sure that we have the same sort of approach as all the other countries that are going to adopt the BEPS arrangement around the world, because that is the strongest way of making it happen. The most important trading partner, of course, is Australia, and already we’ve got a little bit of difference showing up in that. So I would appreciate some views from the Minister around the issue of non-debt liabilities being subtracted.

The second issue is how they’re treated, and PricewaterhouseCoopers submitted that the treatment of non-debt liability proposals should better reflect how the company uses them. So for some companies, they will have a different approach than others. If you’re a trading company, the way you approach your assets will be different from a mining company. I’ll tell you what, it’s very interesting looking at the mining arrangements, which is that the lenders may want to take into account the deferred tax liabilities—or DTLs as they’re referred to—or perhaps remediation provisions. So if you’re doing mining activities—let’s say oil—

💬 Alastair Scott: Oil and gas.

—oh!—in those extractive industries there is always a requirement that at the end of the working period of that mine, you actually pick up the liability for what goes on—[Time expired]

I move, That the question be now put.

My apologies, Mr Bayly. Thank you, Mr Chair.

💬 Rt Hon David Carter: You’ve waited all night for this

Yes, I have waited all night, in the depths of winter. I want to acknowledge the Hon Stuart Nash for the way in which he’s answered the questions on this Part 1 of the bill. I imagine this might be the last speech of the evening, so in this I’m going talk about, actually, the fact that this is a bill that had a genesis with the Hon Judith Collins. It’s been through a process, it’s been through a select committee process, and—as a new person to Parliament and as a new person to this—it’s actually a pretty complicated bill.

It is projected to produce $270 million of extra revenue, and there are lots of rorts that have been going on around interest rates, valuations, costs, and all the rest of it.

House resumed.

Progress reported.

Report adopted.

The House adjourned at 9.56 p.m.