21 February 2019 by Special Edition Budget Speech Alert 2019

Controlled foreign company comparable tax threshold to be decreased

The Budget noted a global downward trend in corporate taxation rates. This downward trend may lead to an unintended increase in the imputation of the net income of controlled foreign companies (CFCs) in South African shareholders’ taxable income. This is despite the fact that at the inception, the CFC may have operated in a jurisdiction with rates of tax which would have met the present threshold contained in paragraph (i) of the proviso to s9D(2A)(l) of the IT Act.

Currently the proviso deems the net income of a CFC to be nil where the tax payable in the foreign jurisdiction amounts to 75% of the normal tax the company would have paid in South Africa. In the event that the so-called “high-tax” exemption applies, no income of the CFC is imputed in the hands of the South African shareholder.

The Budget proposes a reduction in the threshold to less than 75%. This would avoid the situation where a taxpayer who had set up a CFC under the assumption that the “high-tax” exemption applied, is now subject South African income tax on the basis of the change in tax policy of the foreign jurisdiction.

The Budget also notes that this reduction must be done by taking into account the risks to the tax base. This risk lies in a broader range of jurisdictions falling within the new lower threshold thereby reducing the tax base. South African taxpayers may even seek out these jurisdictions and interpose a company in a jurisdiction with favourable tax rates and trap income there, to the detriment of the South African fiscus.

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