The transaction was structured to take advantage of the Approved Issuer Levy, which resulted in a fee of 2 per cent being charged on interest paid. Inland Revenue contends the transaction was an avoidance arrangement and that it should have instead attracted 15 per cent non-resident withholding tax.
Hagen said details involving the Cayman Islands companies, and the loans assigned to them, were unusual and did not represent arms-length commercial activity.
"It is circular in the sense it starts with Mr Watson owning assets, and ends with him owning the same assets," he said.
"The use of such structures is not unusual when you are trying to establish an appearance of separation ... and disguise the commercial reality of such an arrangement."
He noted that key loans in the transaction - effectively vendor finance by Watson to sell his shares - had curious terms. "The loan to value ratio is extraordinarily high at 100 per cent. In my experience, 100 per cent financing is only found where related-party or controlled entities are involved," Hagen said.
He said the interest rate charged on these loans - 16 per cent - appeared to have been set to give the appearance of an arms-length transactions. "They looked for a market rate to improve the optics," Hagen said.
The court had earlier heard that bank accounts of the two Cayman entities - which were formally directed by a Cayman Islands corporate services provider - were managed from New Zealand computers operated by executives in Watson's Cullen organisation.
"The ceding of bank account authority from a lender to a borrower is unusual," Hagen said.
These loans were largely capitalised, with the amount owed ballooning to more than $500m before the two Cayman entities were liquidated in 2009 and 2010.
Hagen said following liquidation, Watson assumed ownership of the loans. "No cash changed hands. As I understand it, it was simply a series of book entries."
Under cross-examination, David Cooper, acting for Cullen, queried whether capitalising loans was really so unusual.
Hagen said capitalising was common in the financing of property developments, where the profits were only realised on completion and sale of the project, but were otherwise uncommon.
"Where there's no property developments, in loans of this scale, it's unusual to be capitalising interest," he said.
Earlier, Gillian Coumbe QC, acting for Inland Revenue, said the use of Cayman companies was not by chance.
"As tax haven made-to-order entities - which is effectively what they were - with no mind of their own, they were compliant third parties who would do the bidding of Mr Watson and Cullen Group. That was essential to their role," she said.
The hearing has concluded its first week and is scheduled to run for another fortnight.
