The Tax Residency of Companies in South Africa
When planning to transact cross border, it is important to bear in mind that setting up a company offshore is not always as easy as it seems, and sometimes it is done simply because the incorporator is of the (often mistaken) belief that doing so in a tax haven will provide opportunities to reduce tax. Whilst in prior years it may have been widespread practice, it is no longer the case. Tax laws have changed internationally in various companies, with the effect that setting up in another jurisdiction will not always result in less taxes. If you are thinking about setting up offshore, there is always the chance it could be regarded as a South African tax resident, or even a controlled foreign company (more about that in another article).
A resident for tax purposes in South Africa is taxable on its worldwide income. Where income is derived outside of South Africa, that income would still normally be taxable in South Africa, unless the income is derived from a country which has a tax treaty in place with South Africa and the tax treaty stipulates that South Africa won't have taxing rights over such income. A tax treaty between South Africa and another country will always have preference over South African domestic tax laws, but often a taxpayer needs to actually claim the benefits afforded by a tax treaty. In terms of the Income Tax Act 58 of 1962 (the “Act”), a company is a resident of South Africa for tax purposes if the said company is incorporated / established in South Africa (via the Companies and Intellectual Property Commission) or if the company’s place of effective management is in South Africa. We explain the meaning of “place of effective management” below.
Place of Effective Management
There is no definition of “place of effective management” (“POEM”) within the Income Tax Act, and we therefore have to look at how case law, the OECD principles and international law typically defines it. To understand the meaning of “effectively managed”, it is a subjective test, where all facts and circumstances are considered, and not simply an objective test (the “substance over form test). Case law also defines it as “being the place where the shots are called”.
In South Africa, SARS would typically have regard to the following in determining whether a company’s POEM is in South Africa (note the below is not an exhaustive list):
-The location of the head office of the company. This, according to SARS’ interpretation note on the POEM, is where the company’s senior management and the support staff of the company are most likely to be located and run the operations of the company, and make the most key strategic decisions.
- Where the authority has been delegated to, namely where the board has delegated part or all its authority to an executive committee, which exercises and makes the key management and commercial decisions of the company.
-The place with the board meets, provided that the board of the company exercises autonomy and discretion in making key management and commercial decisions.
- Modernisation and global travel and circumstances applicable to where decisions take place (for example, where Skype/ digital calls are held from typically).
- Shareholders and whether they exercise controlling influence over the company and whether they control or limit the authority of the board.
-Operational management versus broader top level management- where a distinction is made between operational management, which are the day-to-day business decisions of the company, in contrast to the key management and commercial decisions. Consideration would need to be given as to what are deemed to be operational decisions and what are key management and commercial decisions.
- Legal factors, for example the country of incorporation.
- Any links between the company and the relevant country.
To conclude, various factors need to be considered before setting up companies in various jurisdictions. Always seek legal and tax advice before doing so, as companies need to ensure that they are tax compliant at all times, and are informed of tax risks prior to engaging in activities.
The above article is for information purposes only and is based on the law at the time of writing, and should not be regarded as legal advice. Please note it may contain errors and/or omissions and under no circumstance should you act on any information herein without seeking legal advice. Spence Attorneys accepts no liability whatsoever and howsoever arising with the information contained herein.