Eric Watson’s Cullen group use of tax provisions intended for genuine overseas third party lenders amounted to tax avoidance the High Court ruled, imposing increased taxes of $112 million on Cullen with tax penalties yet to be assessed.
Mr Watson claims Cullen Group restructuring in 2002 was no more than a legitimate reorganisation of his business affairs when relocating to London.
The High Court was told of an avalanche of tightly-drafted contracts having the effect of replacing Mr Watson’s equity interest in Cullen with debt. This was debt with a twist. Mr Watson retained a very high level of control over Cullen group through a Cayman Islands trust structure. The level of control retained by Mr Watson was that usually seen with equity ownership, rather than debt, Justice Palmer said. Mr Watson was on both sides of the restructuring.
Evidence was given of Cullen owing Mr Watson $291 million after the 2002 restructuring. Interest set at sixteen per cent was nominally payable to Cayman Island trusts over which Mr Watson had no legal control. He retained the right to control ultimate destination of these cashflows.
Cullen group deducted withholding tax at the ‘approved issuer levy’ rate of two per cent. Inland Revenue said withholding tax should have been deducted at fifteen per cent: the non-resident withholding tax rate. Justice Palmer ordered payment of $51.5 million (the difference between the two rates as uncollected withholding tax) together with $60.5 million (‘use of money’ interest calculated to August 2018). Inland Revenue argues the New Zealand tax base was eroded by not deducting the higher rate.
Cullen group said it complied with every full stop and comma required by tax law for use of the lower two per cent rate. Justice Palmer ruled tax law requires that taxpayers must comply not only with the black-letter law, but that exemptions claimed must come within purposes ‘contemplated’ by parliament.
A two per cent ‘approved issuer levy’ was introduced following a 1991 tax policy paper published by National government ministers: Ruth Richardson and Wyatt Creech. This reduced rate was aimed at off-shore lenders who would commonly only lend to New Zealand businesses if they were compensated for withholding taxes deducted. There is a painful opportunity cost for off-shore lenders having to file New Zealand tax returns and to work around double tax treaties. They made New Zealand businesses pay, loading the full withholding tax into the cost of the loan. With the approved issuer levy, a lower two per cent rate added to interest rates had the effect of reduced loan costs for New Zealand businesses borrowing off-shore.
Cullen group restructuring introduced no new investment funds into New Zealand. It merely converted existing equity into debt. Such an arrangement was not within parliament’s intended purpose of the reduced withholding rate regime, Justice Palmer ruled.
Cullen Group Ltd v. Inland Revenue – High Court (12.03.19)
19.054