The tax exemption for foreign employment income – SARS releases FAQ and Draft Interpretation Note

It has been widely publicised that on 1 March 2020, changes to the exemption for foreign employment income in s10(1)(o)(ii) of the Income Tax Act No 58 of 1962 (Act), will come into effect.

17 Oct 2019 4 min read Tax & Exchange Control Alert Article

Until 29 February 2020, foreign employment income earned by a South African tax resident will be exempt in the resident’s hands to the extent that the person meets the requirements of s10(1)(o)(ii). From 1 March 2020 onwards, only the first R1 million of such foreign employment income earned will be exempt in terms of s10(1)(o)(ii).

Draft Interpretation Note and FAQ Document

On 7 October 2016, SARS released a Frequently Asked Questions document dealing with amendments to s10(1)(o)(ii) (FAQ Document) and at about the same time, it released draft Interpretation Note 16 (Issue 3) (Draft IN), which deals with, amongst other things, the application of s10(1)(o)(ii) after the amendment referred to above comes into effect.

The Draft IN states that the key requirements to qualify for the exemption in s10(1)(o)(ii) are the following:

  • The taxpayer in question must be a South African tax resident;
  • The taxpayer must earn one of the forms of remuneration listed in the section;
  • There must be an employment relationship between the taxpayer and the person for whom or on whose behalf the services are rendered;
  • The remuneration must be received for services rendered; and
  • The services must be rendered outside the Republic of South Africa, for at least 183 full days during any 12-month period and for a continuous period exceeding 60 full days during the same 12-month period.

Regarding the calculation of the exempt portion of the remuneration, example 2 of the Draft IN explains that from 1 March 2020, where a person earns R1.5 million for services rendered outside South Africa, only R1 million of the remuneration can be exempt under s10(1)(o)(ii) and the remaining R500,000 will be taxable in South Africa.

The FAQ Document contains similar information to that contained in the Draft IN, but states that it is aimed at giving the public at large clarity and to ensure consistency on certain practical and technical aspects related to the amendment to s10(1)(o)(ii). The FAQ Document is available on the SARS website.

One of the important issues the FAQ Document touches on is how to avoid double taxation, where the portion of the foreign employment income above R1 million income is taxable in both South Africa and the foreign country. In that case, the taxpayer concerned can claim a tax credit in terms of s6quat of the Act, on the portion of the income that is taxable in both countries. If one were to use Example 2 referred to in the Draft IN above, the taxpayer can therefore make use of s6quat so that he does not pay tax on the amount of R500,000 in both South Africa and the foreign country.

Another interesting issue dealt with by the FAQ Document is the issue of tax residence. Regarding the issue of financial emigration and its impact on a person’s tax residence, the FAQ Document states the following: “Acquiring approval from the South African Reserve Bank to emigrate from a financial perspective is not connected to an individual’s tax residence. Financial emigration is merely one factor that may be taken into account to determine whether or not an individual broke his or her tax residence. An individual’s tax residence is not automatically broken when he or she financially emigrates. The deciding factor remains whether or not an individual ceased to be ordinarily resident in the Republic.”

Comment and practical issues to consider

Many South African residents working abroad have been concerned about the potential impact of the amendment to s10(1)(o)(ii), especially those residents who are not liable for income tax in the countries where they are working. To avoid being affected by the amendment, many South African expatriates have considered financially emigrating and ceasing to be tax residents in South Africa. In practice, this is done by means of an application to SARS to confirm one’s tax compliance status for purposes of emigration, followed by the submission of an application to the South African Reserve Bank to emigrate from an exchange control perspective. Upon emigration, taxpayers will be subject to an exit tax in terms of s9H of the Act.

According to the FAQ Document, completing the aforementioned financial emigration process is merely one factor that will be taken into account to determine whether a person ceased to be a South African tax resident. While neither the FAQ Document nor the Draft IN (pursuant to the publication of the final version) are binding, if an individual employed abroad foresees that he will earn more than R1 million per year and that he will be affected by the amendment, he should carefully consider whether financial emigration is the best option to follow in his particular situation, to avoid being affected by the amendment. To determine whether a person is a South African tax resident, one must consider the definition of “resident” in s1 of the Act and whether the person will be a resident under the “ordinarily resident” or “physical presence” tests in s1.

Even if a person has financially emigrated to avoid being affected by the amendment to s10(1)(o)(ii), the statement in the FAQ Document seems to suggest that SARS could still dispute whether the person is a South African tax resident. To avoid such a dispute from arising, which may take time and resources to resolve, any person considering financial emigration to avoid being affected by the amendment, should obtain professional tax advice before deciding to financially emigrate. This will also help to prevent adverse tax consequences from arising if the person’s residence is disputed by SARS and at worst, the dispute is resolved in SARS’ favour.

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