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Technical tax area Ngā tūmomo whakataunga me ngā aratohu

Special Determination S60: Spreading of income and expenditure under deferred payment arrangement

This Determination may be cited as Special Determination S60: Spreading of income and expenditure under Deferred Payment Arrangement.

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

  1. In 2017, a company (the Company) and related entities entered into an agreement (the Agreement) to sell certain of its operations to a third party purchaser (the Purchaser). The Agreement provided for part of the consideration to be paid on a contingent and deferred basis (the Deferred Payments).
  2. For the Company to be liquidated in a solvent liquidation, the Company assigned its entitlement to receive the Deferred Payments to a Creditors’ Trust, as bare trustee for all of the creditors of the Company, including the Applicants. The assignment was made in partial satisfaction of existing debts owed by the Company to its creditors.
  3. The contingent future Deferred Payments was valued at the time of the sale at $18.76 million (the Valuation). The Valuation used an expected value methodology that had been agreed with the Commissioner.
  4. The right of the Applicants to receive the Deferred Payments is a “financial arrangement” as defined in s EW 3 (the Deferred Payment Arrangement). This Determination prescribes the method to be used by the Applicants to spread any income under that financial arrangement.

2. Reference

This Determination is made under s 90AC(1)(bb) of the Tax Administration Act 1994.

3. Scope of determination

  1. This Determination applies to the Applicants in relation to the Deferred Payment Arrangement. Under the Deferred Payment Arrangement, the Company assigned its rights to future cashflows to the Applicants, in partial satisfaction of existing debts owed by the Company to the Applicants.
  2. The Deferred Payment Arrangement is part of a wider arrangement between the parties, which is the subject of Private Ruling BR Prv 18/65 (issued on 17 August 2018). This Determination is made subject to the continued application of that Private Ruling.
  3. For the purposes of this Determination, it is assumed that the Valuation is the market value of the Deferred Payments on the date of assignment.

4. Principle

  1. The Deferred Payment Arrangement is a “financial arrangement” as defined in s EW 3, and is not an “excepted financial arrangement” under s EW 5.
  2. Under s EW 12, the Applicants are required to use a spreading method to calculate an amount of income or expenditure for each income year over the term of the Deferred Payment Arrangement, other than the income year in which a base price adjustment (BPA) is required (s EW 13(1)). The Applicants must use the method set out in this Determination to spread any income in relation to the Deferred Payment Arrangement.
  3. Under s EW 29, a BPA will be required in the income year when the final payment is due under the Deferred Payment Arrangement (currently expected to be 2021). The Applicants will not have any expenditure under the Deferred Payment Arrangement in any income year prior to the income year in which a BPA is required.

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.
  • Applicants means the creditors that applied for Private Ruling BR Prv 18/65 and this Determination.
  • Proportionate Share means the percentage proportionate share for each Applicant as set out in the final beneficiary schedule provided by the Company’s liquidators.

6. Method

  1. In each income year prior to the year in which a BPA is required, each Applicant is only required to recognise income under the Deferred Payment Arrangement to the extent that:
    • the Applicant receives a payment from the Purchaser in that income year; and
    • the cumulative amounts of all of the Deferred Payments received by the Applicant in that income year and all preceding income years exceeds the Applicant’s Proportionate Share of the Valuation.
  2. In the income year in which the final payment is due under the Deferred Payment Arrangement, each Applicant will be required to undertake a BPA calculation. Private Ruling BR Prv 18/65 confirms the treatment of the outcome of the BPA calculation.

7. Example

These examples illustrate the application of the method set out in this Determination and are based on an Applicant having a 25% Proportionate Share of the $18.76 million Valuation (that is, $4.69 million).

Example A

This example is based on the Applicant receiving:

  • $4 million in year 1 of the Deferred Payment Arrangement;
  • $1 million in year 2 of the Deferred Payment Arrangement;
  • $0 in year 3 of the Deferred Payment Arrangement (which is also the year in which a BPA is required).

The Applicant will recognise income from the Deferred Payment Arrangement as follows:

  Year 1 Year 2 Year 3
Cumulative cash received
$4 million
$5 million
$5 million
Income recognised in income year
$0
$0.31 million
$0 (under the BPA calculation)

Example B

This example is based on the Applicant receiving:

  • $2 million in year 1 of the Deferred Payment Arrangement;
  • $1 million in year 2 of the Deferred Payment Arrangement;
  • $0 in year 3 of the Deferred Payment Arrangement (which is also the year in which a BPA is required).

The Applicant will recognise income from the Deferred Payment Arrangement as follows:

  Year 1 Year 2 Year 3
Cumulative cash received
$2 million
$3 million
$3 million
Income recognised in income year
$0
$0
-$1.69 million (expenditure under the BPA calculation)

This Determination is signed by me on the 17th day of August 2018.

Fiona Heiford
Manager, Taxpayer Rulings