A resident is defined in section 1 of the Income Tax Act No. 58 of 1962 ("the Act"). The definition includes a place of effective management test as one of the tests to determine the residence of a company.
In terms of the definition a company that has its place of effective management in South Africa will be a resident in South Africa. The effect thereof would be that the company would be subject to tax in South Africa on its worldwide income as opposed to being subject to tax in South Africa on its South African sourced income.
In an effort to eliminate the potential for double taxation, the definition of "resident" was amended to include a further exclusion from the definition, providing a relief from the effective management test in the case of high taxed controlled foreign companies ("CFC"). The Tax Laws Amendment Act No. 22 of 2012 ("TLA Act 2012") introducing the amendment was published on the 1 February 2013 and the amendment became effective retrospectively for years of assessment commencing on or after 1 January 2013. According to this exclusion a company would not be treated as a resident in South Africa, even if it had its place of effective management in South Africa, if the company complied with the requirements listed below:
- The company was incorporated, established or formed in a country other than the Republic;
- The company had its place of effective management in the Republic;
- The company would constitute a controlled foreign company even if it was not effectively managed in South Africa; and
- The company was subject to a high level of tax during the relevant year of assessment i.e. at least 75% of the normal tax that would have been payable in respect of its taxable income, should that company had been a resident for that foreign tax year.
In a situation where a company shifted its tax residency status as of 1 January 2013 by virtue of the place of effective management exemption, that company could potentially trigger an exit charge if it technically ceased to be a resident. Since this was not the intended tax policy, the exit charge was accordingly switched off in terms of section 9H(6)(b), for companies that ceased to be resident by reason of the introduction of this concession in the "resident" definition. It is however important to note that this concession has been deleted from the Act, by the Taxation Laws Amendment Act No.31 of 2013 (12 December 2013) with retrospective effect from the 1 January 2013.
The above situation is likely to cause confusion for companies that relied on the dated definition when determining the residency status of their CFCs. In this regard we strongly urge taxpayers who determined their residency status based on the effective management exemption from 1 February 2013 (introduction of the exemption by the TLA Act 2012) until 12 December 2013 (deletion of the exemption by the TLA Act 2013) to seek advice in order to obtain more clarity on their tax treatment.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.