Spreading method to be applied by Landowners making Infrastructure Payments to fund bulk infrastructure under a Final Encumbrance

This determination may be cited as Special Determination S62: Spreading method to be applied by Landowners making Infrastructure Payments to fund bulk infrastructure under a Final Encumbrance.

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

1. This Determination relates to an arrangement involving an encumbrance (the Final Encumbrance) under which a landowner (the Landowner) is required to make payments to Milldale Infrastructure LP (the LP) over a fixed period. The arrangement is described in more detail in the Product Ruling.
2. The LP is a vehicle that was set up to provide funding to developers to assist the build of storm water, water supply, wastewater and roading infrastructure (collectively the Bulk Infrastructure) for housing development projects. As repayment of the funding received, the developers will issue a Final Encumbrance on certain subdivided sections in the relevant subdivision, requiring Landowners to make payments to the LP (the Infrastructure Payments) attributable to that section. Each time a subdivided section is sold the Final Encumbrance will be transferred for no consideration.
3. The Final Encumbrance:

• Creates an obligation of the Landowner at the relevant time to pay the Infrastructure Payments attributable to that section from the relevant Infrastructure Payments commencement date and over the Infrastructure Payments term;
• Sets out the payment dates on which Infrastructure Payments are to be made by the Landowner;
• Enables the Landowner to prepay the Infrastructure Payments (in full but not in part);
• Grants the LP security over the section;
• Requires the Landowner to transfer the Final Encumbrance for no consideration when the Landowner sells a section with a Final Encumbrance; and
• Enables the Final Encumbrance to be released on the date on which all Infrastructure Payments have been paid in full.

4. Where a section is sold, the sale and purchase agreement may apportion an accrued or prepaid portion of the Infrastructure payment for the period in which settlement falls.
5. Where an Infrastructure Payment has accrued for a period but is not yet due on the date that a section is sold, the Vendor may pay an amount as 'outgoings' to the purchaser on settlement for their share of the Infrastructure Payment. Similarly, if the Vendor has prepaid an amount of Infrastructure Payment for a period, the purchaser may pay an amount of 'outgoings' to the Vendor for their share of the Infrastructure Payment for the period.
6. This determination prescribes the method for determining the amount of expenditure a Landowner has under the financial arrangement in each income year.
7. A cash basis person or an IFRS taxpayer may elect to apply the method in this determination. Subject to 3.3 below, any other taxpayer is required to apply this determination.

2. Reference

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

3. Scope of determination

1. This determination is conditional upon the continued application of the Product Ruling.
2. This determination applies to the Landowner in respect of Infrastructure Payments made under the Final Encumbrance and transfers of the Final Encumbrance.
3. This determination does not apply to:

• The Developer;
• A Landowner who holds the property for private purposes and to whom the private limitation in s DA 2(2) applies;
• A Landowner who holds the property for the purposes of deriving exempt income, and to whom the exempt income limitation in s DA 2(3) applies;
• A non-resident, unless the Landowner carries on business through a “fixed establishment” (as defined in s YA 1) in New Zealand and the property is used as part of carrying on that business;
• A Landowner that is a cash basis person, unless they elect to apply it;
• A Landowner that is an IFRS taxpayer, unless they elect to apply it; or
• A Landowner that treats the Final Encumbrance as a hedge under IFRS.

4. Principle

1. The Final Encumbrance is a “financial arrangement” under s EW 3 and is not an “excepted financial arrangement” under s EW 5.
2. For the purposes of s EW 15 and EW 31(7), the only amounts of “consideration” under the Final Encumbrance are:
   • the Infrastructure Payments made by the Landowner; and
   • any adjustment made to the purchase price for the accrued or prepaid portion of the Infrastructure Payment when the section is purchased or sold.
3. Under s EW 12, the Landowners are required to use one of the spreading methods in s EW 14(2). Under s EW 15E(2)(d) and s EW 20, the Commissioner can determine the method to be applied. The amount allocated to an income year will be “expenditure incurred” by the Landowner, and will be deductible to them.
4. Under s EW 29, the Landowner is required to perform a base price adjustment (BPA) in the income year that the final Infrastructure Payment is made (including any lump sum prepayment of the amount owing) or the property is sold.
5. This determination specifies the method that must be applied by Landowners to allocate an amount of expenditure to an income year.

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.
• Capitalised terms have the same meaning as set out in the Final Encumbrance.
• Cash basis person has the same meaning as in s EW 54.
• IFRS has the same meaning as in s YA 1.
• IFRS taxpayer means a person who uses IFRS to prepare financial statements and to report for financial arrangements.
• Product Ruling means product ruling BR Prd 19/01, issued on 7 March 2019 and includes any Ruling issued to replace that Ruling provided that any change to the Ruling does not affect the application of this determination.

6. Method

1. The method for determining the amount of expenditure that is to be allocated to each income year is on a paid basis. That is, the amount of the Infrastructure Payment made by a Landowner in an income year is allocated to that income year as expenditure
2. If a Landowner does not pay an Infrastructure Payment in an income year, no amount is allocated as expenditure in that income year.
3. If the property is purchased by a person in an income year:
   1. Where the Infrastructure Payment for the period is prepaid beyond the date of settlement of the transaction, the payment by the purchaser for their apportioned share of the prepaid Infrastructure Payments (covering the period from the time of settlement) will be allocated to the income year in which settlement occurred.
   2. Where the Infrastructure Payment for the period is accrued but unpaid on the settlement date, the amount owing and adjusted for on settlement by the vendor for their apportioned share of the accrued but unpaid Infrastructure Payments (covering the period up to settlement) will be allocated by the purchaser to the year that the purchaser makes a payment of its first Infrastructure Payment (i.e. the Infrastructure Payment income from settlement is netted against the next Infrastructure Payment paid by the purchaser).

7. Example

The examples below illustrate the application of the method set out in this determination.

Example 1

A Landowner purchases a subdivided section on 1 July 2019 with a Final Encumbrance attached. The Final Encumbrance requires annual Infrastructure Payments of $1,200 per year. The term of the Final Encumbrance is 30 years.

The Infrastructure Payments fall due for payment in four equal quarterly instalments on the same payment dates that apply for quarterly payments of Auckland Council general rates, being:

• 31 August, for the period 1 July - 30 September
• 30 November, for the period 1 October - 31 December
• 28 February, for the period 1 January - 31 March
• 31 May, for the period 1 April - 30 June

If the Landowner pays the Infrastructure Payments on the due dates the Landowner will have the following amounts allocated as expenditure in the income year ended 31 March 2020:

Example 2

Assume the same facts as Example 1, however the Landowner elects to prepay all Infrastructure Payments on 1 July 2019.

As the financial arrangement has matured, a BPA is required and no spreading method will be applied. The full prepaid amount will be expenditure under the BPA in the income year ended 31 March 2020.

Example 3

Assume the same facts as Example 1, however the Landowner sells the section on 31 July 2029. The Final Encumbrance is transferred to the New Landowner.

On settlement, there will be an apportionment of the accrued but unpaid Infrastructure Payment on settlement date, calculated on a number of days basis:

31 days / 92 days in the quarter * $300 = $101.10

If the Landowner pays the Infrastructure Payments on the due dates the Landowner will have the following amounts allocated as expenditure to the year of disposal (the income year ended 31 March 2030):

Example 4

Assume the same facts as Example 3, but from the purchaser's (New Landowner's) perspective.

On settlement, there will be an apportionment of the accrued but unpaid Infrastructure Payment on settlement date, calculated on a number of days basis:

31 days / 92 days in the quarter * $300 = $101.10

This apportionment of outgoings will be consideration paid to the New Landowner. If the New Landowner pays the Infrastructure Payments on the due dates the New Landowner will have the following amount of expenditure allocated to the year following acquisition (the income year ended 31 March 2030):

Example 5

Assume the same facts as Example 4, but the New Landowner has a 31 July non-standard balance date.

The apportionment of outgoings will be allocated to the year that the New Landowner makes a payment of its first Infrastructure Payment (i.e. the income from settlement is netted against the next Infrastructure Payment paid by the New Landowner).

For the year ended 31 July 2029, the New Landowner will have no income or expenditure under the financial arrangements rules in relation to the Final Encumbrance.

For the year ended 31 July 2030, the expenditure will be equal to the Infrastructure Payment[s] made by the New Landowner less the apportionment of outgoings.

If the New Landowner pays the Infrastructure Payments on the due dates the New Landowner will have the following amount of expenditure allocated to the year following acquisition (the income year ended 31 July 2030):

This Determination is signed by me on the 7^th day of March 2019.

Howard Davis
Director, Taxpayer Rulings