Minimising tax on transactions and the legislative framework

A basic tenet is that taxpayers are entitled to arrange their affairs to minimise their tax exposure – but this must be done within the scope of the applicable legislation. Although tax considerations are an important aspect in any commercial transaction, the tax implications should not be the overriding factor that informs the transaction structure. This is particularly so in a global economy where transactions solely driven by the tax consequences will be subject to increased scrutiny. With the introduction of the Base Erosion and Profit Shifting (BEPS) project by the Organisation for Economic Co-operation and Development (OECD), taxpayers should be aware of the potential pitfalls in structuring their transactions solely to derive tax benefits.

Although BEPS is an international initiative, this is still relevant for South Africa in that South Africa does follow international precedent. The Davis Tax Committee has considered the various BEPS action points and issued a report confirming that South Africa should take cognisance of these international developments. 

Significant foreign investment in South Africa comes from multinational entities, which are inherently engaged in cross-border transactions with related parties. While such cross-border transactions are in principle beneficial, they can result in abuse when used to shift profits to exploit differences in tax rates between the countries involved. 

Most recently in December 2017, the 2017 OECD Model Tax Convention on Income and on Capital: Condensed Version was released by the OECD, which incorporates significant changes developed under the OECD/G20 project to address BEPS. In particular, changes relate to circumstances where the benefits of a treaty can be limited where there is abuse of the applicable provisions. A new Article 29 (Entitlement to Benefits) is included, which seeks to limit the benefits of the applicable tax treaty in circumstances where the tax benefit was one of the principal purposes of any arrangement or transaction. In other words, the treaty benefits will not apply in circumstances where there is a lack of, for instance, commercial reasons for entering into the transaction. It is clear from the amendments to the Model Tax Convention that cross-border transactions will be scrutinised in future and that taxpayers should be aware that tax consequences will arise where transactions are concluded with the sole purpose of obtaining a treaty benefit. 

Changes to double taxation agreements do take time to come into force and effect and therefore, South Africa's existing treaty network will not immediately change. However, taxpayers can expect that the changes in terms of the Model Tax Convention will be taken into account in any new treaties that are negotiated.  

Even without any immediate changes in South Africa's treaty network, local legislative provisions can have an impact on cross-border transactions. For example, the anti-avoidance rules contained in the Income Tax Act, which are aimed at preventing the abuse of certain specific sections, are relevant in assessing whether the transaction contravenes any applicable provision. Should these anti-avoidance provisions not be carefully considered, and the transaction comes under scrutiny from SARS, the taxpayer will bear the onus of demonstrating the legitimacy of the transaction.

Should the taxpayer not be able to discharge this onus, SARS has wide-ranging powers at its disposal which includes:

  • disregarding, combining, or recharacterising any steps in or parts of the transaction;
  • deeming persons who are connected persons in relation to each other to be one and the same person for purposes of determining the tax treatment of any amount;
  • reallocating any gross income, receipt or accrual of a capital nature, expenditure or rebate among the parties;
  • recharacterising any gross income, receipt or accrual of a capital nature or expenditure; or
  • treating the transaction as if it had not been entered into or carried out, or in such other manner as in the circumstances of the case SARS deems appropriate for the prevention or diminution of the relevant tax benefit.

Therefore, in implementing any transaction it is important to ensure that:

  • all steps are undertaken with a commercial purpose such that the parties are able to demonstrate that the parties are entitled to any tax benefits without falling foul of BEPS or any local anti-avoidance provisions; and
  • the parties have obtained advice in relation to any applicable tax treaties and local legislative provisions before implementing the transaction.

It is not always possible to obtain any tax benefits – especially where there are no commercial reasons available to justify the proposed transaction. 

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