This concept was especially aimed at alleviating some of the exchange control complexities and burdens in relation to investing into Africa (and overseas in general) and was formulated to keep South Africa competitive. For example, where a multinational is faced with establishing its foreign investment holding company in South Africa versus another foreign jurisdiction, that company may prefer a foreign jurisdiction with less burdensome exchange control regimes. This is what the concept of a DTMC was specifically trying to curb.

Due to the rand’s extreme volatility (which at least recently has led to appreciation) there are also specific tax rules regarding the taxation of unrealised and realised foreign currency gains and losses. Moreover, unique rules apply where South African taxpayers conduct business in foreign currency. In addition, South African resident shareholders holding investments offshore may have some of their foreign operations’ income taxed in their hands in South Africa under the CFC rules. However, these two somewhat conflicting concepts can have unintended consequences.

Section 9D(6) of the ITA (which sets out the CFC rules) requires that the net income of a CFC (for purposes of attribution to South African resident shareholders) be determined in its “functional currency”, being essentially the currency of the primary economic environment within which business is conducted (e.g. the US dollar or Euro). The rules then dictate that when including the relevant amount in the income of a South African shareholder, this amount must be translated into rand by applying the average exchange rate for the CFC’s foreign tax year.

On the other hand, section 25D(5) of the ITA governs how to determine taxable income in a foreign currency. It provides that where the South African shareholder is a DTMC (for example, with a US dollar or Euro functional currency), any amount received in a currency other than its functional currency (such as the rand attribution of an amount of net income under the CFC rules) must first be determined in the DTMC’s functional currency (US dollar/Euro) and thereafter translated back into rand using the average exchange rate applicable to the DTMC’s year of assessment.

On the face of it, this seems counter-intuitive, potentially double counting and administratively cumbersome. National Treasury agrees as it has identified that the current interaction between section 9D(6) and section 25D(5) of the ITA may inadvertently create onerous translation requirements, resulting in distortions in the taxable income ultimately reflected in South Africa.

To resolve this anomaly, it is proposed that legislation be amended to ensure that where a DTMC is the resident shareholder of a CFC, section 9D(6) of the ITA does not require the translation of an amount of net income to rand first. This would hopefully avoid some of the unintended and unnecessary consequences identified and is a welcome proposal.