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Technical tax area Ngā tūmomo whakataunga me ngā aratohu

Special Determination S49: Application of the financial arrangements rules to a Public–Private Partnership

This determination may be cited as Special Determination S49: Application of the Financial Arrangements Rules to a Public–Private Partnership.

1. Explanation (which does not form part of the determination)

  1. This determination relates to an arrangement (the Project) involving the finance, design, construction and provision of ongoing asset management and maintenance services in respect of the Facility by a limited partnership (the Partnership) under a public–private partnership agreement (the Project Agreement) with the Crown.
  2. Another limited partnership (Holdings) will hold a 100% interest in the Partnership. Holdings has four limited partners. Limited Partner A is exempt from income tax. Limited Partner B is a limited partnership with multiple limited partners, some of whom are exempt from income tax. Limited Partner C and Limited Partner D are both limited liability companies. Limited Partner C, Limited Partner D, and each limited partner of Limited Partner B that is not exempt from income tax are together referred to as the Taxable Limited Partners. This determination only applies to the Taxable Limited Partners and does not apply to those limited partners that are exempt from income tax.
  3. The Project Agreement comprises three basic components:
    • a design and construction phase (the D&C Phase) under which the Partnership agrees to design and construct the Facility for the Crown in consideration for a fixed lump-sum payment (the D&C Payment), payable on completion of the D&C Phase;
    • a Facility Lease to be entered into by the Partnership and the Crown under which the Partnership prepays an amount representing the rental the Partnership will pay to the Crown (the Rental Prepayment); and
    • an asset management and maintenance phase (the AM&M Phase) under which the Partnership will provide asset management and maintenance services to the Crown over a 25-year term in consideration for monthly payments (the Unitary Payment).
  4. Partnership will enter into:
    • a Construction Agreement with a contractor (the Contractor), under which the Contractor will design and construct the Facility in consideration for payments; and
    • an Asset Management and Maintenance Contract with a service provider (the Service Provider), under which the Service Provider will provide the asset management and maintenance (and other) services in consideration for payments.
  5. The Partnership will raise debt (the Senior Debt) from Limited Partner A and various third-party financiers. The Partnership will enter into interest rate swaps in respect of the Senior Debt (the Swaps).
  6. Holdings will also receive funding during the D&C Phase from:
    • Limited Partner A and Limited Partner B in the form of convertible debt instruments (the Convertible Notes); and
    • Limited Partner C and Limited Partner D in the form of deferred equity contributions backed by letters of credit (the Letters of Credit).
  7. The Facility Lease, AM&M Phase, Construction Agreement, and Asset Management and Maintenance Contract are all excepted financial arrangements as defined in s EW 5. The D&C Phase, Senior Debt, Swaps, and Letters of Credit are financial arrangements as defined in s EW 3.
  8. The Project is the subject of two private rulings (BR Prv 16/64 and BR Prv 16/65, issued on 31 October 2016) and is described more fully in those rulings. The D&C Phase is the subject of Special Determination S50: Application of the Financial Arrangements Rules to the D&C Phase of a Public–Private Partnership, and the Convertible Notes are the subject of Special Determination S51: Subordinated Convertible Note in Respect of a Limited Partnership Interest in a Public–Private Partnership.
  9. This determination prescribes:
    • the amount of consideration that is solely attributable to the Facility Lease;
    • how the financial arrangements rules apply to the AM&M Phase, Construction Agreement, and Asset Management and Maintenance Contract; and
    • the method for spreading the payments made in respect of the Senior Debt, Swaps, and Letters of Credit.

2. Reference

This determination is made under ss 90AC(1)(bb), 90AC(1)(d) and 90AC(1)(h) of the Tax Administration Act 1994.

3. Scope of determination

  1. This determination applies to the Partnership in respect of the Project, including the following arrangements:
    1. The D&C Phase of the Project Agreement, under which the Partnership agrees to design and construct the Facility for the Crown and will receive a fixed lump-sum payment (the D&C Payment) once the Facility is ready for operation. The D&C Phase is the subject of Special Determination S50: Application of the Financial Arrangements Rules to the D&C Phase of a Public–Private Partnership, so is not covered by this determination.
    2. The AM&M Phase of the Project Agreement, under which the Partnership will provide ongoing asset management and maintenance services for 25 years to the Crown in consideration for monthly payments.
    3. The Facility Lease, under which the Partnership will lease the Facility from the Crown for 25 years and prepay the rental to the Crown (the Rental Prepayment). This payment will be equal to and will offset the payment receivable in relation to the D&C Phase.
    4. Construction Agreement with the Contractor, under which the Contractor will design and construct the Facility in consideration for payments. The Construction Agreement will:
      1. provide for periodic invoices to be rendered by the subcontractor; and
      2. require that payment be made within 93 days of an invoice being rendered.
    5. An Asset Management and Maintenance Contract with the Service Provider, under which the Service Provider will provide the ongoing asset management and maintenance (and other) services in consideration for payments. The Asset Management and Maintenance Contract will:
      1. provide for periodic invoices to be rendered by the subcontractor; and
      2. require that payment be made within 93 days of an invoice being rendered.
    6. Senior Debt, under which the Partnership will borrow an agreed sum from external lenders and Limited Partner A for a term of approximately seven years from financial close of the Project (Financial Close). The Senior Debt will be:
      1. a capitalising, interest-only senior debt facility that converts to an amortising senior tranche on the Conversion Date and a Debt Service Reserve Facility; and
      2. refinanced within approximately seven years of Financial Close and every five years thereafter over the term of the Project.
      In this determination, references to the Senior Debt include any refinancing of that debt on materially the same terms.

      Under IFRS (as the standards apply at the date of this determination), the Senior Debt initially will be recognised at fair value plus integral fees, and will be subsequently measured at amortised cost using the effective interest method (regardless of whether or not hedge accounting is applied), and will not be treated as a hedge of another financial arrangement.
    7. Swaps, under which the Partnership will manage the floating interest rate risk on the Senior Debt tranche during the first seven years of the Project.
    8. Convertible Notes, under which Limited Partner A and Limited Partner B provide funding during the D&C Phase. The Convertible Notes are the subject of Special Determination S51: Subordinated Convertible Note in Respect of a Limited Partnership Interest in a Public–Private Partnership, so are not covered by this determination.
    9. Letters of Credit, under which Limited Partner C and Limited Partner D provide and maintain investment support.
  2. Limited Partner B, Limited Partner C and Limited Partner D use IFRSs to prepare financial statements and to report for financial arrangements. Any Taxable Limited Partner that does not use IFRSs to prepare financial statements and to report for financial arrangements will use the same spreading method as Limited Partner B.
  3. The Taxable Limited Partners will recognise income derived from the Crown and will deduct expenditure incurred, under the relevant provisions of the Act to the extent that the financial arrangement rules do not apply to those amounts.
  4. This determination is made subject to the following conditions:
    1. This determination shall only apply to a Taxable Limited Partner if such Taxable Limited Partner recognises income and expenditure in respect of the Convertible Note in the manner prescribed by Special Determination S51: Subordinated Convertible Note in Respect of a Limited Partnership Interest in a Public–Private Partnership.
    2. This determination shall only apply to a Taxable Limited Partner if such Taxable Limited Partner recognises income in respect of the D&C Payment in the manner prescribed by Special Determination S50: Application of the Financial Arrangements Rules to the D&C Phase of a Public–Private Partnership.
    3. Private rulings BR Prv 16/64 and BR Prv 16/65 issued on 31 October 2016 continue to apply (under s 91EB of the Tax Administration Act 1994).

4. Principle

  1. The Facility Lease is an excepted financial arrangement under s EW 5(9).
  2. The AM&M Phase, Construction Agreement, and Asset Management and Maintenance Contract are “short-term agreements for sale and purchase” (as defined in s YA 1). Therefore, they are excepted financial arrangements under s EW 5(22).
  3. The Senior Debt, Swaps and Letters of Credit are “financial arrangements” under s EW 3.
  4. Together, all of these financial arrangements and excepted financial arrangements (as well as the D&C Phase and Convertible Notes) are a wider “financial arrangement” under s EW 3.
  5. Any amount that is solely attributable to an excepted financial arrangement described in s EW 5(2) to (16) is not an amount that is taken into account under the financial arrangements rules (s EW 6(2)). Any amount that is solely attributable to an excepted financial arrangement described in s EW 5(17) to (25) is an amount that is taken into account under the financial arrangements rules (s EW 6(3)).
  6. This determination specifies:
    1. the amounts that are solely attributable to the Facility Lease and not taken into account under the financial arrangements rules;
    2. whether any amounts payable in respect of the AM&M Phase, Construction Agreement, and Asset Management and Maintenance Contract are required to be spread under the financial arrangements rules; and
    3. how payments made under the Senior Debt, Swaps and Letters of Credit must be spread under the financial arrangements rules.

5. Interpretation

In this determination, unless the context otherwise requires:

  • All legislative references in this determination are to the Income Tax Act 2007, unless otherwise stated.
  • IFRS means a New Zealand Equivalent International Financial Reporting Standard in effect under the Financial Reporting Act 2013, and as amended from time to time or an equivalent standard issued in its place.

6. Method

  1. The amounts that are solely attributable to the Facility Lease and not taken into account under the financial arrangements rules are the:
    • Rental Prepayment; and
    • property interest granted to the Partnership.
  2. The Taxable Limited Partners do not have any amounts to spread under the financial arrangements rules in respect of the:
    • AM&M Phase;
    • Construction Agreement; and
    • Asset Management and Maintenance Contract.
  3. The IFRS financial reporting method in s EW 15D may be used by the Taxable Limited Partners to allocate income and expenditure (other than “non-integral fees” as defined in s YA 1) over the term of the Senior Debt (including any refinancing). None of the restrictions for the application of this reporting method in s EW 15D(2B) apply.
  4. None of the mandatory spreading methods in s EW 15H or s EWI 15I apply to the Swaps. Over the term of the Swaps, income or expenditure may be allocated using either:
    • the expected value method in s EW 15F (other than “non-contingent fees” as defined in s YA 1) provided that the Swaps are not treated as a hedge of other financial arrangements for which the “fair value method” is used and provided that the relevant Taxable Limited Partner has notified the Commissioner of its decision to use this method; or
    • the IFRS financial reporting method in s EW 15D (other than “non-integral fees” as defined in s YA 1) provided that the Swaps are not treated as a hedge of other financial arrangements for which a method other than the IFRS financial reporting method is used,
    provided that this paragraph 6.4 shall only apply to a Taxable Limited Partner is such Taxable Limited Partner uses the same method for the entire term of the relevant swap and that the method is consistent with s EW 24.
  5. This determination does not affect the Taxable Limited Partners’ obligation to perform base price adjustments under s EW 31 in respect of the Swaps and the Senior Debt at the time of any refinancing.
  6. The IFRS financial reporting method in s EW 15D may be used to allocated income and expenditure (other than “non-integral fees” as defined in s YA 1) over the term of the Letters of Credit, provided the Letters of Credit are not treated as a hedge of another financial arrangement. None of the restrictions for the application of this reporting method in s EW 15D(2B) apply.

7. Example

This example illustrates the application of the method set out in this determination.

This example is based on the following parameters:

Commencement of D&C Phase 1 December 2016
Completion of D&C Phase 1 December 2021
Completion of AM&M Phase 1 December 2046
D&C Payment from the Crown $1,000
Aggregrate payments to the Contractor ($850)
Facility Lease prepayment ($1,000)
Monthly payments from the Crown during the AM&M Phase $30
Monthly payments to the Service Provider ($15)
Annual interest on the Senior Debt ($85)
Annual interest on the Convertible Note ($15)
Annual net payments in respect of the Swaps ($7)
Annual Investment Commitment Fee for the Letter of Credit ($7)

The Taxable Limited Partners are not required to spread any amounts under the financial arrangements rules in respect of the:

  • Facility Lease;
  • AM&M Phase;
  • Construction Agreement; or
  • Asset Management and Maintenance Contract.

The amounts that must be spread by the Taxable Limited Partners under the financial arrangements rules in accordance with this determination are:

  • interest on the Senior Debt calculated in accordance with the IFRS financial reporting method in s EW 15D;
  • payments in respect of the Swaps calculated in accordance with the expected value method in s EW 15F or the IFRS reporting method in s EW 15D; and
  • payments in respect of the Letters of Credit calculated in accordance with the IFRS financial reporting method in s EW 15D.

The Taxable Limited Partners must also apply:

  • Special Determination S50: Application of the Financial Arrangements Rules to the D&C Phase of a Public–Private Partnership; and
  • Special Determination S51: Subordinated Convertible Note in Respect of a Limited Partnership Interest in a Public–Private Partnership.

This Determination is signed by me on the 31st day of October 2016.

Dinesh Gupta

Manager, Taxpayer Rulings