Treasury’s new tax proposals: here’s the low-down
Tax avoidance and the exploitation of tax loopholes have come under scrutiny by governments worldwide. Some aspects of what used to be seen as legitimate tax planning are now being viewed as ‘immoral’ tax behaviour and authorities are clamping down on the resulting ‘tax leakages’. In South Africa, Treasury’s latest tax proposals issued in July also address certain planning tools designed to reduce taxpayers’ tax bill. In this article, we get to grips with the most relevant of these considerations for our clients.
Treasury has clearly aimed its proposed amendments to South Africa’s tax laws at addressing perceived tax avoidance – the legal use of tax laws to minimise tax liability – across the board. In our view, however, there’s a fine line between legislation just stringent enough to keep taxpayers toeing the line, and laws that are so draconian they drive the wrong behaviour. Whether Treasury has managed to hit the proverbial sweet spot remains to be seen.
It’s important to note that the amendments aren’t final, and may yet change after Treasury receives comments from the public and industry leaders over the coming weeks. Here’s what you need to know about the tax proposals relevant to you:
Section 7C – Tax avoidance through the use of trusts
Background: In 2016, an anti-avoidance measure aimed at curbing the tax-free transfer of wealth to trusts through the use of low-interest or interest-free loans to trusts was introduced in the Income Tax Act (1962) (the Act). This anti-avoidance measure regards any interest foregone in respect of low-interest or interest-free loans to a trust as a donation subject to donations tax at a rate of 20%.
Reasons for change: Treasury believes certain taxpayers have restructured their affairs to circumvent the new legislation by effectively converting the loan to the trust into a loan to a company held by the trust. For this reason, Treasury is proposing that the new legislation be extended to also address loans to companies in certain instances.
Proposal: It’s now been proposed that low-interest or interest-free loans made to a company that is a connected person in relation to a trust should also fall under the anti-avoidance measure. Although to a large degree expected, this has caused some controversy, especially as it also affects certain bona fide shareholder loans made to companies. Many businesses in South Africa rely on shareholder loans because they’re either unable to obtain, or simply cannot afford, external financing. Subjecting shareholder loans to punitive tax consequences is likely to hinder economic growth. This proposal is therefore widely expected to undergo significant change before it’s implemented.
Effective date: Should the proposal be accepted in its current form, it will be effective from 19 July 2017 and apply to all existing and new loans, advances or credit on that date.
Action required: Even though the proposals aren’t yet finalised, it’s advisable to assess the current loans in your financial structures to determine whether they might be affected, and to obtain advice on possible solutions.
South Africans working abroad – end of glory days?
Background: SA residents working abroad for more than 183 days during any 12-month period, which includes a continuous period of at least 60 days, are currently not taxed in SA on their foreign employment income. This is because Section 10(1)(o)(ii) of the Act provides a specific exemption for this income.
Reasons for change: Treasury believes the current exemption creates opportunities for double non-taxation in cases where the foreign host country doesn’t impose income tax on employment income or taxes such income at a significantly lower rate. For example, South Africans currently working in Dubai pay no tax on their foreign earnings in Dubai. If they also qualify for the Section 10(1)(o)(ii) exemption in SA, they effectively pay no tax on their foreign earnings.
Proposal: It is proposed that the current Section 10(1)(o)(ii) exemption be repealed. As a result, all SA tax residents will be subject to tax on foreign employment income earned in respect of services rendered outside the country. If foreign tax has been paid on their earnings, they’ll be able to claim this as a credit in SA, limited to the amount of local tax payable on the foreign earnings.
Effective date: The proposed amendment will come into effect on 1 March 2019 and will apply in respect of years of assessment commencing on or after that date.
Action required: Given the consequences of this proposal and the expectation that it will be enacted in its current form, South African residents working abroad should consider whether they want to retain their SA tax residency, especially if they’re contemplating remaining overseas indefinitely. We recommend they contact us immediately to discuss their options.
Postponement of annuitisation requirement
for provident funds to 1 March 2019
Background: In 2015, amendments were made to the Act regarding the tax treatment of provident funds to enhance preservation of retirement fund interests during retirement. Legislators proposed that provident funds should be treated like pension and retirement annuity funds and be required to annuitise benefits. This implies that on retirement, members of a provident fund will be permitted to take up to a third of the retirement benefit as a lump sum and annuitise at least two thirds. However, this will be applicable only to contributions made to a provident fund after the implementation date. All contributions made before this date, and growth on these contributions, may still be taken as a lump sum on retirement.
These amendments were due to come into effect on 1 March 2016. However, in February 2016, Government postponed them for two years, until 1 March 2018. It did this to provide enough time for the Minister of Finance to consult with interested parties, including the National Economic Development and Labour Council (NEDLAC), and to report back to Parliament no later than 31 August 2017.
Reasons for change: Several changes have taken place since the postponement of these amendments and the discussions are still under way within NEDLAC.
Proposal: In view of the above, it’s been proposed that the provisions relating to the annuitisation requirements for provident funds be postponed for a year, from 1 March 2018 to 1 March 2019.
Effective date: The proposed amendments will come into effect on 1 March 2019 and apply in respect of years of assessment commencing on or after that date.
Action required: None at this stage.
Offshore trust company structures – taxation of distributions
Background: SA residents are subject to tax on their worldwide income. To curb avoidance, the Act contains controlled foreign company (CFC) rules aimed at preventing local residents from shifting tainted forms of taxable income offshore by investing in CFCs. A CFC is defined as a foreign company where more than 50% of the participation or voting rights are directly or indirectly held by one or more SA residents. These rules make provision for the net income of a CFC to be attributed and included in the income of a local resident shareholder in proportion to the resident’s participation rights in the CFC.
Reasons for change: There are many SA taxpayers who make use of foreign discretionary trusts or foundations to circumvent the CFC rules by having the foreign discretionary trust or foundation hold the shares in the foreign company.
Proposal: Treasury now proposes to expand the CFC definition to include:
- foreign companies, where one or more South African tax residents hold an interest in an offshore trust or foundation, and that offshore trust or foundation holds more than 50% of the participation or voting rights in that foreign company
- any foreign company where the financial results of that foreign company are reflected in the consolidated financial statements, in terms of IFRS 10, of any company that is an SA tax resident.
Treasury is also proposing that distributions to SA tax resident beneficiaries, made by a foreign trust or foundation that holds shares in a foreign company that would have been regarded as a CFC if no foreign trust or foreign foundation was interposed, be seen as income in their hands and subject to tax at their personal tax rate. This has the effect that the conduit principle will be ignored for purposes of trust distributions received by SA trust beneficiaries from most offshore trust-company structures, and will have a significant impact on the tax to be paid by trust beneficiaries.
Effective date: The proposed amendments will come into effect on 1 January 2018 and apply in respect of amounts paid or payable on or after that date.
Action required: Clients with offshore trust-company structures need to assess whether these structures are still well motivated should this proposal become law in its current form.
For further information or if you need assistance with regard to the new tax proposals, contact Carien Strauss at email@example.com or any member of our Fiduciary and Tax team.