SA tax law stepped boldly into 2021, firmly in line with the government’s stated intention to modernise the country’s existing exchange control system.

In 2020, finance minister Tito Mboweni announced the Treasury’s intention to transform the current exchange control environment into a capital flow management framework. This was first announced during the 2020 national Budget Review, and essentially proposed an overhaul of exchange controls to take place over 12 months.

To this end, three tax laws were promulgated on January 20: the Rates and Monetary Amounts and Amendments of Revenue Laws Act; the Taxation Laws Amendment Act, which deals with pension/retirement funds; and the Tax Administration Laws Amendment Act.

The latter holds particular interest from a wealth management perspective, not least because it relaxes the country’s policy regarding “loop structures”.

SA residents were prohibited from holding any SA asset directly or indirectly through a non-resident entity, and inward loans were also prohibited. There was a gradual relaxation to the loop structure restriction commencing February 2018, in which the SA Reserve Bank’s financial surveillance (finsurv) department permitted a loop structure of up to a 40% investment by a corporate entity into a non-resident entity that would invest directly back into SA.

A further relaxation announced on October 30 2019 permitted SA resident individuals to invest up to 40% in a non-resident entity that would invest directly back into SA.

To promote and encourage inward investment to SA, on January 4, the entire loop structure restriction was lifted, permitting SA individuals and SA entities to invest in an offshore structure that would invest back into SA. Any loop structure created prior to these dates and in excess of the permissible percentage must be regularised with finsurv via an authorised dealer.

It is important to note that the SA Revenue Service (Sars) is simultaneously issuing legislation on the tax treatment of these structures. Therefore, from a cross-border planning perspective, it is key that both the exchange control and tax implications are considered carefully before making use of this latest Reserve Bank dispensation.

While the abovementioned tax amendments were anticipated, it is notable that they have applied from January 1. Therefore, effective immediately, it is important to consider these amendments when making use of the loop relaxations or to effect any change to an estate planning structure. For those who implement the now-permitted loop structures, the tax amendments are, in essence, aimed at closing possibilities to avoid tax.

To understand the changes it is important to understand what is meant by a controlled foreign company. In simple terms, this is generally an offshore company of which more than 50% of its shares are held by an SA resident. This resident can be an individual or an SA company.

Before the relaxation of the loop rules, a controlled foreign company would not have been allowed to invest in SA as this would have been considered a loop structure, which was prohibited in terms of exchange controls. The tax amendments focus specifically on the rules dealing with the taxation of such companies, which will now be allowed to invest into SA.

When a controlled foreign company receives dividends from an SA company in which it owns shares, the foreign company might benefit from a reduced dividend-withholding tax rate, depending on the jurisdiction where it is based and the terms of the double tax agreement between SA and the jurisdiction in question. Furthermore, when that company pays a dividend to the SA resident shareholder, this could be exempt from tax. This would have created an obvious tax loophole when SA residents implement such a loop structure.

The tax amendments provide that a controlled foreign company must now include a portion of a dividend received from an SA company in its net income (based on a formula). A reduction is received for dividend tax already paid. The amendment ensures that any dividends tax suffered on the distribution of such a dividend by the SA company is considered. The SA shareholder will also not be able to benefit from the dividend exemption when receiving a dividend from the foreign company.

Previously, when the SA shareholder sold the foreign share in the controlled foreign company to a non-resident third party, the capital gain was disregarded for taxation purposes. The amendments now provide that an SA resident shall not enjoy a capital gains tax exemption when selling such shares when their value is directly or indirectly attributable to assets in SA.

The 2020 Budget Review outlined far-reaching changes to SA’s exchange control system. Essentially, the Treasury and the Reserve Bank are planning to replace the current system with a more user friendly and transparent capital-flow management framework. The main features of this new framework would look something like this:

• A shift from the negative-bias framework to a positive one in which all cross-border transactions will be allowed, except for those subject to capital-flow management measures.
• A move from exchange controls to capital-flow management measures to regulate cross-border capital flows. This is an important shift as capital-flow measures are recognised across the world as a necessary measure, while exchange controls remain a foreign concept used by only a few countries in the world.
• A more modern, transparent and risk-based approvals framework.
• Stronger measures to fight illegitimate, financial cross-border flows and tax evasion.

These changes are squarely in line with global thinking. They also aim, with respect to changes on emigration, to align the treatment of SA residents and emigrants — thereby supporting the mobility of global citizens. Under the new proposals, natural persons (emigrants and SA private individuals) will be treated identically, subject to capital-flow management measures. The aim is to level the playing field between SA private individuals and emigrants, subject to tax obligations being met.

As Mboweni stated in 2020, it is also hoped that the changes will “open up new markets, promote regional integration [in light of SA signing the African Continental Free Trade Area agreement] and contribute to economic growth”.

Broadly speaking, the new exchange control framework has implications for all South Africans, particularly those we refer to as “global citizens” — those with interests abroad and investments offshore. For those making use of the R1m and up to R10m offshore allowances, there will be little change to the current process. Individuals using the annual single discretionary allowance of R1m for foreign investment purposes must provide a tax reference number.

In addition, any use of the annual foreign investment allowance of R10m requires tax clearance in terms of the Sars FIA001 process.

Any foreign investment transfers in excess of R10m would require a special tax-clearance process and would be subjected to a more stringent verification process, much like the current process. However, the verification process is also going to include assurance that the individual complies with anti-money laundering and counter-financing of terror requirements prescribed in the Financial Intelligence Centre Act.

It is important to consider whether these tax changes would have an effect, and to what extent, on any proposed estate planning structure. A fiduciary and structuring discussion should not be held in isolation and can further benefit from investment advice capabilities.