Tax Benefits To Housing Your Headquarters In SA?
27 August 2010
Posted by: Author: Kazi Goba
Tax Benefits To Housing Your Headquarters In SA?
Will the new headquarter tax regime make South Africa more attractive than Mauritius?
In terms of the Taxation Laws Amendment Bill, 2010, a proposal is made to introduce a headquarter company (HQC) regime.As per the explanatory memorandum to the Bill, South Africa's location, sizable economy,relative political stability, and overall strength in financial services makes South Africa an ideal location for the establishment of regional holding companies by foreign multinationals.
Furthermore, South Africa's network of tax treaties and investment protection agreements provides ready access to other countries in the region.South Africa is therefore a natural holding company gateway into the region.
What the HQC regime offers
The proposed HQC regime offers the following:
• No secondary tax on companies or dividends tax (once the dividends tax system comes into force). The exemption from dividends tax will definitely benefit, inter alia, South African individual shareholders as well as their vesting trusts, nonresident shareholders, and South African discretionary trusts.
• On the basis that the HQC is treated as a non-resident,participation exemption in terms of Paragraph 64B of the Eighth Schedule to the Income Tax Act 58 of 1962 in respect of capital gains on disposal of the HQC shares or capital distributions from HQC;
• Participation exemption in respect of dividends received from a·HQC;
• No South African controlled foreign company (CFC) rules,on condition that the HQC is less than 50% held by South African residents (i.e. HQC is majority held outside South Africa);
• Potential relaxation of exchange controls, provided that certain requirements are met; and
• Relaxation of thin capitalization rules in respect of offshore loans on-loaned to foreign companies in which the HQC holds at least 20% of the equity shares and voting rights ("qualifying foreign companies").
A South African company must satisfy the following criteria in order to qualify as a HQC:
1. Minimum participation by shareholders: Each shareholder must hold at least 20% of the equity shares and voting rights at any time.This requirement must be satisfied for each day of the company's existence (day-to day test in respect of each year of assessment).
2. 80-20 tax value of total assets:80% of the tax value (base cost)of the total assets must represent shares and/or debt [of any type]of the qualifying foreign companies. As this test looks at the tax values as opposed to the market value, there should be no negative impact as a result of an increase in the market value of South African assets which represent the remaining 20%.
3. 80-20 receipts and accruals:80% of the total receipts and accruals (in the form of dividends, interest, royalties or management fees and sale proceeds upon disposal) must be derived from the qualifying foreign companies.
Requirements 2 and 3 must be satisfied as at the close of each tax year of the company's existence (i.e. measured at the end of each year of assessment).The underlying key factor governing the above three requirements is that the company must have always complied with these requirements in respect of each year of assessment since the company's inception. As this is an"all or nothing” test, many existing companies may be disqualified as a result of the failure to comply with this uninterrupted compliance requirement.
It is proposed that the HQC regime will come into effect on 1 January 2011 in respect of any year of assessment commencing on or after that date. It is thus still possible for existing groups to restructure using the group relief provisions contained in Sections 41 through to 47 of the Act in order that by the time the HQC regime comes into effect, the group is fully compliant.
For example, a new company could be created which company would be the HQC which fully complies with all the requirements.As per the explanatory memorandum to the Bill, to discourage artificial entry into HQC regime so as to artificially avoid the uninterrupted compliance requirement, a qualifying HQC will be deemed to be a non-resident for purposes of the group relief provisions, i.e. non-qualifying company cannot enter into a re-organisation with a qualifying HQC. The definition of "resident” contained in Section 41 will exclude any HQC. Therefore, once the HQC regime comes into effect,it may be difficult to restructure into the HQC regime using the group relief provisions contained in Sections 41 through to 47 of the Act. However, the participation exemption afforded by Paragraph 64B of the Eighth Schedule to the Act may apply to exempt realised capital gains.What the HQC regime seems not to offer
• An exemption from tax of foreign exchange gains in respect of loans from offshore shareholders as well as loans loaned to the qualifying foreign companies;
• No removal of the 12% withholding tax on royalty income;
• No indication that the proposed narrowing of interest exemption for non-residents does not apply to HQC, therefore, potential tax at 33%; and
• No benefit in terms of the South African CFC rules if the nonresident investor holds aminority stake in the HQC.
More attractive than Mauritius?
Because of, inter alia, its favourable tax regime, Mauritius is currently the mostly used holding company jurisdiction to invest into Africa by foreign multinationals. The proposed HQC regime is therefore being introduced to attract nonresidents wanting to establish as pringboard into the rest of Africa, and to reduce the attractiveness of Mauritius as an alternative to South Africa. However, the pertinent question is whether South Africa is offering a better regime than Mauritius.
The comparison with Mauritius indicates that South Africa has more tax treaties and investment protection agreements compared to Mauritius, which is a favourable position to be in.However, the following must be considered if the desired result is to be achieved:
•Potential taxation of interest income in the hands of foreign investors;
•Taxation of items such as interest, royalties, rentals,exchange gains and other forms of income accruing to the HQ Cat 28%, given that Mauritius offers an effective rate of 3%;
•Certain requirements need to be met before the Paragraph 64B exemption is available. Mauritius does not levy capital gains tax at all;
•The "all or nothing” approach in respect of the requirements to qualify as a HQC renders these requirements extremely onerous;and
•If exchange control regulations are to apply to these companies or the requirements to comply for relation are extremely onerous, this regime is unlikely to attract much interest.
Source: By Kazi Goba (Tax Breaks)