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MAY 2014 – ISSUE 176

CONTENTS

COMPANIES 2303. Subordination of loans and section 8F

TAX ADMINISTRATION 2309. Grounds on which an

assessment can be withdrawn

EXEMPTIONS 2304. Listed shares and the foreign

dividend exemption

VALUE-ADDED TAX 2310. Non supplies and charges 2311. Foreign online suppliers

FRINGE BENEFITS 2305. Income tax and VAT on e-tolls

SARS NEWS . 2312. Interpretation notes, media

releases and other documents

GENERAL 2306. Interpreting court judgments 2307. Tax clearance certificates

INTERNATIONAL TAX 2308. FATCA

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COMPANIES

2303. Subordination of loans and section 8F Section 8F of the Income Tax Act No. 58 of 1962 (the Act), dealing with hybrid debt instruments was substituted by the Taxation Laws Amendment Act No. 31 of 2013 (the TLAA). In its substituted form the provision is considerably broader in scope than its predecessor. In particular it appears that certain subordination agreements may render the subordinated debt subject to reclassification as hybrid debt with potentially costly consequences. The new treatment applies to amounts of interest incurred on or after 1 April 2014. In terms of section 8F if a debt instrument is classified as a hybrid then the effect is that interest incurred in respect of the hybrid debt instrument: • Is deemed to be a dividend in specie declared and paid by the debtor

company on the last day of the company's year of assessment and that accrues as a dividend in specie to the creditor on the same day; and

• Is not deductible for income tax purposes.

In essence a hybrid debt instrument is defined as an instrument in respect of which a company owes an amount during a year of assessment if one of the following three conditions is met: • If the debtor company is in that year of assessment entitled or obliged to

convert or exchange the instrument for shares unless the market value of the shares is equal to the amount owed at the time of the conversion or exchange;

• The company owes the amount to a connected person and the company is not obliged to redeem the instrument within 30 years from the earlier of

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the date of issue of the instrument or the end of the year of assessment. Demand instruments have been excluded from this category; or

• The obligation to pay an amount in respect of the instrument is conditional upon the market value of the assets of the company not being less than the market value of the liabilities of the company.

There are a number of exclusions from the reclassification treatment. Most notably the provision does not apply to debts which: • Are owed by a small business corporation as defined (in section 12E(4)). • Are tier 1 or 2 capital instruments issued by banks or controlling

companies in relation to banks. • Are owed by long or short term insurers. • Constitute linked units in a company held by a long or short term insurer,

a REIT, a pension or a provident fund.

Often subordination agreements contain a clause to the effect that until such time as the assets of the debtor, fairly valued, exceed its liabilities, the creditor shall not be entitled to demand or sue for or accept repayment of the whole or any part of the amount subordinated. Under these circumstances it would appear that section 8F will be triggered. If on the other hand the subordination agreement merely contains a back-ranking clause then it may escape the application of section 8F. The effect of such reclassification is that the company that incurs the interest may not deduct it for normal tax purposes. On the other hand, the creditor will usually enjoy an exemption from income tax in respect of the deemed dividend received or accrued. As the interest is deemed to be a dividend in specie for the purposes of the Act, dividends tax should be considered. The liability for dividends tax in respect of dividends in specie declared by South African resident companies falls on the debtor rather than the creditor. It

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should also be borne in mind that the trigger for the section 8F reclassification treatment is not the payment of a dividend: a mere incurral is sufficient. Therefore if interest is incurred in respect of such subordinated debt, dividends tax may arise. On the other hand, if the debt is interest free, section 8F cannot apply. Where the beneficial owner of the deemed dividend is a person that is exempt from the dividends tax, for example a South African resident company, the dividend may not be subject to the dividends tax if the necessary declaration and undertaking forms are held by the debtor by the date of payment of the dividend i.e. by the last day of the debtor company's year of assessment. Alternatively, if the creditor is a member of the same section 41 (South African) resident group of companies as the debtor, the declaration and undertaking forms are not required. Where the creditor is a non-resident company, the standard 15 % dividends tax rate may be reduced due to the application of a double taxation agreement. Any reduction in the rate is also subject to the holding of the necessary declaration and undertaking forms by the debtor by the last day of the debtor company's year of assessment. Since the effect of section 8F is to deem the interest to be a dividend for the purposes of the Act, it would fall outside of the scope of the withholding tax on interest when the withholding tax comes into effect on 1 January 2015. Where the creditor is a non-resident, the dividends tax paid by the debtor may well represent an irrecoverable economic loss as the amount may well be subject to income tax as interest in its home jurisdiction but the dividends tax will technically have been imposed on another party, namely the debtor, and may therefore not be eligible for credit relief in the home jurisdiction. At a minimum, even if no dividends tax is payable, the impact of the reclassification will need to be taken into account in the tax computations of

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companies that are issuers or holders of subordinated debt on which interest is incurred or accrues. A new section 8FA dealing with hybrid interest, with a focus on the nature of the yield rather than on the corpus comprising the debt instrument, contemplates similar reclassification treatment of interest to dividends and is also effective in respect of amounts incurred on or after 1 April 2014. However, unlike section 8F, section 8FA does not have a trigger relating specifically to the nature of the underlying debt instrument rather than that of the interest. This provision defines ‘hybrid interest' in relation to a debt owed by a company in terms of an instrument in circumstances where: • The interest is not determined with reference to a specified rate or the

time value of money; or • The rate of interest has been raised by reason of an increase in the profits

of the company (in terms of the instrument).

Similar exclusions to those contained in section 8F apply. (Refer to article 2276) BDO ITA: Sections 8F, 8FA and 41

EXEMPTIONS 2304. Listed shares and the foreign dividend exemption

(Editorial note: Published SARS rulings are necessarily redacted summaries of the facts and circumstances. Consequently, they (and articles discussing them) should be treated with care and not simply relied on as they appear.)

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The South African Revenue Service (SARS) released Binding Class Ruling No. 42 (BCR 42) on 7 February 2014. The factual circumstances in respect of which the ruling was made are as follows:

Company Y is a company incorporated and resident in foreign country Y. Company X is a company incorporated and resident in country X. Company X is also a wholly-owned subsidiary of Company Y. Company X is to be listed on the JSE Limited. Its business is investment in foreign debt instruments, on which it will receive interest returns. Company X intends to raise funds for its business by issuing certain preferred securities. The preferred securities will be issued through its branch in country Y. The preferred securities would:

• be redeemable after five years or more at the same amount paid for them;

• confer preferred rights to dividends;

• generally not carry any voting rights;

• rank pari passu with all other preferred securities; and

• rank in preference to ordinary shares.

The dividends payable in respect of the preferred securities would be:

• calculated with reference to a rate derived from the underlying foreign debt instruments;

• limited to the net revenue derived from the underlying debt instruments; and

• paid in cash.

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Certain South African investors (the class of persons concerned) would be beneficial owners of dividends paid by Company X in respect of the preferred securities. Section 10B(2) of the Income Tax Act No. 58 of 1962 (the Act) provides that foreign dividends are exempt from normal tax in certain circumstances. Specifically, in terms of section 10B(2)(d) of the Act, a foreign dividend will be exempt to the extent that the dividend is paid in respect of a 'listed share' and does not constitute a distribution of an asset in specie. The issue that arises in these circumstances is whether the preferred securities constitute 'listed shares' and whether the South African investors would be able to rely on the foreign dividend exemption in respect of dividends paid on these securities.A 'listed share' is simply defined in section 1(1) of the Act as any share that is listed on a licensed exchange in terms of the Financial Markets Act No. 19 of 2012. The JSE Limited constitutes such a licensed exchange. SARS ruled that:

• the preferred securities in question would constitute 'listed shares' for purposes of section10B(2)(d) of the Act;

• the dividends paid in respect of the securities would constitute 'foreign dividends'; and

• the dividends would not constitute a distribution of an asset in specie.

By implication, SARS ruled that the South African investors would in principle be able to rely on the foreign dividend exemption in section 10B(2) of the Act. Interestingly, SARS did not make any ruling in respect of whether the dividend income in the hands of the South African investors would be re-characterised as ordinary income in terms of section 8E and 8EA of the Act.

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Cliffe Dekker Hofmeyr Binding Class Ruling No. 42 ITA: Sections 1, 8E, 8EA and 10B(2) FRINGE BENEFITS 2305. Income Tax and VAT on e-tolls

Introduction

The levying of tolls for the use of certain highways in Gauteng, the so called e-tolls, took effect on 3 December 2013. It is appropriate to consider the income tax consequences arising from the payment of e-tolls in those cases where an employee is reimbursed for business travelling or is provided with a vehicle owned by their employer or where an employee receives a travelling allowance to finance the expenditure incurred whilst travelling on the employer’s business. In addition, brief reference will be made to the income tax consequences facing fleet owners and cartage contractors.

Reimbursement at prescribed rate

An employer may decide not to provide an allowance for travelling to their employees nor a company owned vehicle and instead reimburse staff for the actual distance travelled on the business of the employer. Where an employee travels on the employer’s business and does not exceed 8 000 kilometres during a year of assessment and the employee does not receive any other compensation from the employer in the form of a further allowance or reimbursement, other than for parking or toll fees, the prescribed rate per kilometre, which may be paid without attracting income tax, is R3.30.

Currently (in respect of years of assessment commencing on or after 1 March 2014), this rate per kilometre which is fixed for purposes of section 8(1)(b)(iii) of the Income Tax Act, No. 58 of 1962 (the Act) provides that the amount of R3.30 may only be paid without any adverse tax consequence arising when no other compensation in the form of a further allowance or reimbursement is

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payable by the employer to the recipient of the reimbursement at the specified rate. The payment of the allowance is also not subject to VAT as a fringe benefit in terms of section 18(3) of the Value-Added Tax Act No. 89 of 1991 (VAT Act).

Company Owned Vehicle

Where the employer owns or leases a motor vehicle and makes that available to an employee for private or domestic purposes, the employee will be subject to fringe benefits tax on the value and usage of that vehicle in the manner set out in paragraph 7 of the Seventh Schedule to the Act.

In principle, the employee is subject to fringe benefits tax at a rate of 3.5% of the determined value of the motor vehicle for each month for which the employee is provided with the use of the vehicle by their employer. The determined value of the vehicle for fringe benefits tax purposes is normally the cash cost thereof, including VAT. In the event that the motor vehicle, at the time of acquisition, is the subject of a maintenance plan, the rate of fringe benefits is reduced to 3.25% of the determined value of the motor vehicle on a monthly basis.

In the case of an employer owned vehicle, the vehicle will be owned by the employer and thus the employer will be liable to pay the e-tolls to the extent that the motor vehicle in question travels on tolled highways.

The employer will be entitled to deduct the cost of e-tolls as an expense incurred in the production of income in that it relates directly to the provision of the motor vehicle by an employer to an employee for purposes of its business.

The employer will, so long as the travelling was for the purpose of making taxable supplies and they receive a valid tax invoice which complies with the provisions of section 20 of the VAT Act, be entitled to recover the VAT paid on the e-tolls as an input credit when submitting its VAT returns to SARS.

Where the employee retains accurate records of business distance travelled it will be possible to reduce the taxability of the fringe benefit by taking account of the ratio of business kilometres to total kilometres travelled by the employee. Furthermore, where the employee pays for certain expenses relating to the motor vehicle, the value of the taxable fringe benefit may be reduced by taking account of the business kilometres travelled as a proportion of the total kilometres travelled during the tax year.

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In accordance with the provisions of the Fourth Schedule to the Act the employer is required to deduct PAYE on 80% of the value of the fringe benefit arising from the use of the employer owned vehicle unless the employer is satisfied that at least 80% of the employee’s travel is related to the business of the employer. In these cases the PAYE deduction is based on 20% of the value of the fringe benefit in question.

Employee Owned Motor Vehicle

In this case the employee will receive an allowance as part and parcel of their remuneration package with the result that the travelling allowance received will be subject to PAYE such that 80% of the allowance paid per month will attract PAYE. Where the employer can be satisfied that 80% or more of the travelling undertaken by the employee is for business purposes only 20% of the allowance paid will attract PAYE.

It is essential for the employee to retain a log book recording distance travelled on the business of the employer and the nature thereof so that they may determine the total business kilometres travelled during the tax year and that portion of travelling that constitutes private travel for which no deduction is available.

When the employee completes their annual tax return they will be entitled to claim expenditure regarding the motor vehicle against the allowance received by taking account of actual business kilometres travelled during the tax year. The taxpayer is entitled to use either actual costs incurred in respect of operating the motor vehicle during the tax year or alternatively may rely on the table of costs prescribed by the Minister of Finance.

Where the employee chooses to claim expenditure based on actual expenditure incurred they will be entitled to take account of the cost of insurance, maintenance and other direct costs relating to the operation of the motor vehicle including fuel, depreciation on the motor vehicle and the cost of e-tolls. The table of costs prescribed by the Minister takes account of the fixed cost attributable to the motor vehicle which is an attempt to recognise the depreciation in the value of the motor vehicle depending on the cost thereof as well as the fuel cost and maintenance cost. The table of costs currently in existence does not take account of the cost of e-tolls. The table of costs is unlikely to be amended because e-tolls are only applicable on certain highways in Gauteng and not in South Africa generally.

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The alternative for the employee is to seek the reimbursement of the actual e-toll costs incurred from the employer in respect of business travelling. This will be neutral for tax purposes from the employee’s point of view. The employer should be entitled to claim the reimbursement of e-toll costs as a deduction for income tax purposes under section 11(a) of the Act.

Where an employer reimburses an employee who travelled for taxable business purposes for e-toll costs that employer will be entitled to recover the VAT relating thereto even though the tax invoice will be issued in the name of the employee and not in the name of the employer. This is based on the provisions of sections 16(2)(a) and 54 of the VAT Act which regulates the position of input tax borne by an agent on behalf of their principal. Also, section 20(5) of the VAT Act does not require that the name, address and VAT registration number of the employer be reflected on a tax invoice where the consideration for the supply does not exceed R5 000.

Fleet owners and cartage contractors

Those businesses which own a large number of vehicles, such as the car rental companies will face an increase in their operating costs as a result of the introduction of e-tolls. Similarly, the transport contractors will experience an increase in their costs of moving goods around the country as a result of the imposition of e-tolls. The cost of e-tolls are directly related to the business conducted by such taxpayers and will be deductible under section 11(a) of the Act.

Where the affected businesses are registered for VAT, they will be entitled to recover the VAT incurred on the e-tolls if the vehicles were used in the course of making taxable supplies and so long as they are in possession of a valid tax invoice which meets the requirements of section 20 of the VAT Act.

The introduction of e-tolls will no doubt result in an increase in the cost of goods transported by road which will ultimately be carried by the consumer in South Africa.

Conclusion

Where an employee receives a reimbursement of travelling at a rate not exceeding the amount specified by the Minister of Finance it is possible to seek the reimbursement of e-toll costs without adverse tax consequences.

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In the case of a company or employer owned vehicle, the employer will be liable to pay the e-tolls and should be entitled to deduct that cost as a deduction for tax purposes. No adverse tax consequences should arise in so far as the employee is concerned who is subject to fringe benefits tax on the usage of the motor vehicle in any event.

In those cases where an employee receives a travelling allowance to finance the cost of travelling on the employer’s business a decision will need to be made whether to claim the actual expenditure incurred regarding the motor vehicle, including the cost of e-tolls or to rely on the table of prescribed costs as set out by the Minister of Finance from time to time.

Those businesses which own a fleet of vehicles for renting out to clients or which own trucks to transport goods around the country will face an increase in costs which will, no doubt, be recovered from their clients. The cost of e-tolls will be deductible for tax purposes in terms of section 11(a) and the VAT element should be recoverable where the business is registered for VAT purposes and the vehicle is used for taxable business purposes.

ENSafrica

ITA:Sections 8(1)(b)(iii) and 11(a), Fourth Schedule and Seventh Schedule VAT Act: Sections 16(2)(a), 18(3) , 20 and 54 GENERAL

2306. Interpreting court judgments The South Gauteng Tax Court has had to make a determination of the effect of a direction given in a judgment handed down by the Supreme Court of Appeal in referring an assessment back to the Commissioner for the South African Revenue Service (SARS) for correction. The matter that was heard by the SCA (C:SARS v South African Custodial Services (Pty) Ltd [2012] 74 SATC 61) had principally been concerned with

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whether improvements made to State property in terms of a public-private partnership constituted trading stock of the taxpayer. The costs incurred by the taxpayer had been claimed as a deduction on the basis that they were part of the cost of construction. Included in these costs were costs in respect of certain financial arrangements. In particular, the following were disputed by SARS: introduction fee, guarantee fees, consultation fees, financial advisory fee, margin fee and bid guarantee fee. The various fees that were contested were listed in paragraphs [14] to [17] of the judgment, and comprised guarantee fees (paragraph [14]), introduction fee (paragraph [15]), financial advisory fee (paragraph [16]) and margin fee (paragraph [16]) – all of which were specifically quantified. Certain unquantified amounts were also referred to in paragraph [17] as follows: “In addition, [the taxpayer] was obliged to pay a commitment fee and an initial fee to BoE Merchant Bank and First Rand Bank, administration fees to First Rand Bank and legal fees to its attorneys, Deneys Reitz. It also incurred interest on the loan facilities.” In paragraph [47] of the judgment, the Court pointed out: “In order to bid for the tender and to raise the loans that it required to finance the construction of the prison, SACS incurred a number of fees payable to various parties. The individual fees, their purpose and the parties to whom they were paid have been set out above. [The taxpayer] also incurred interest on its loans. It claims to be entitled to a deduction in respect of the various fees and the interest in terms of section 11(bA) of the Act.” Thereafter, at paragraphs [49] to [50], the Court concluded:

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“[49] The interest that [the taxpayer] has incurred is, in my view, deductible in terms of section 11 (bA): it has been ‘actually incurred’ by [the taxpayer] on its loans from BoE Merchant Bank and First Rand Bank to pay CGM for the construction of the prison. I am also of the view that the various fees are deductible in terms of section 11(bA): because of their close connection to the obtaining of the loans and the furtherance of [the taxpayer’s] project, they qualify as ‘related finance charges’ for purposes of the section. [50] Consequently, [the taxpayer] succeeds on this aspect. I consider it necessary, however, to refer the matter back to the Commissioner for a decision to be taken as to the precise quantum of the deduction in the light of the principle set out in Caltex Oil (SA) Ltd v Secretary for Inland Revenue [1975] (1) SA 665 that the interest and fees had to have been actually incurred during the year of assessment in which the deduction was sought.” Taken at face value, the Court held that the various fees are deductible. It referred the matter back to the Commissioner to determine the amount of the interest and fees actually incurred in the year of assessment. The Commissioner was therefore limited to determining the amount of a deductible expense and not the principle whether the expense was deductible – deductibility had been determined by the Court. SARS assessed the taxpayer on the basis that they should treat as deductible only those amounts that the SCA had specifically noted in the judgment. On this basis they determined that an amount of R64 346 528, representing various amounts that had not been specifically referred to in the SCA judgment, was disallowable, apparently on the basis that the amounts were not incurred in the production of the income or were of a capital nature. These were labelled “other costs” and included bid expenses, developers' costs, legal fees, insurance, specialist advice fees and lenders’ specialist advice fees.

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The taxpayer contested this finding. The matter came before the Tax Court (Case No. 13356, judgment given 2 December 2013). The taxpayer’s position was the following: the total costs it had incurred amounted to R464 376 824. The SCA had disallowed the deduction of R324 379 692 in relation to the construction and provisioning of the project. In its grounds of appeal, it had contended that, to the extent that the costs were not related to trading stock, all the costs incurred were deductible under either section 11(a) or 11(bA) of the Income Tax Act, No. 58 of 1962 (the Act). SARS had taken issue with the deductibility of the costs referred to specifically in the judgment, but the SCA had found these to be deductible, subject only to verification of the quantum. The SCA had not denied the appeal in relation to the remainder of the costs, and in any event they fell within the ambit of section 11(bA) of the Act, being closely related to the loan financing. The Tax Court agreed with the taxpayer’s contention. In so doing it stated the basis upon which a judgment should be interpreted. Judgments must be interpreted in the same manner as any document (such as a contract or a statute) should be interpreted. The Court cited the statement of Wallis JA in Natal Joint Municipal Pension Fund v Endumeni Municipality [2012] (4) SA 593 (SCA) at paragraph [18], that: “…consideration must be given to the language used in the light of the ordinary rules of grammar and syntax; the context in which the provision appears; the apparent purpose to which it is directed and the material known to those responsible for its production. Where more than one meaning is possible each possibility must be weighed in the light of all these factors. The process is objective not subjective. A sensible meaning is to be preferred to one that leads to insensible or un-business like results or undermines the apparent purpose of the document. Judges must be alert to, and guard against, the temptation to substitute what they regard as reasonable, sensible or business like for the

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words actually used. To do so in regard to a statute or statutory instrument is to cross the divide between interpretation and legislation. In a contractual context it is to make a contract for the parties other than the one they in fact made. The inevitable point of departure is the language of the provision itself read in context and having regard to the purpose of the provision and the background to the preparation and production of the document.” It was also clear that the Court could consider extrinsic evidence, such as the evidence before the court that made the judgment and the arguments made in the court. The dispute centred around whether costs had been adjudicated generally in the course of the judgment given, or whether the deductibility of costs was confined to those specifically mentioned in paragraphs [14] to [17] of the SCA judgment. The Tax Court came to the conclusion that the narrow interpretation urged by SARS was not tenable. In paragraphs [37] to [38] of his judgment, Victor J found: “[37] To sum up, the Commissioner only emphasised the guarantee fee, introduction fee and other finance charges as a section 11(bA) issue. Ultimately the SCA provided for a wider range of fees as being deductible in terms of section 11(bA). [38] It is correct that nowhere in the judgment is reference made to “further costs”. The judgment goes much wider than guarantee fee, introduction fee and other finance charges. It refers to a range of other fees which were not highlighted in the disallowance document and the grounds of appeal document. The SCA, with respect, must have had in mind a broader approach to the proper application of section 11(bA).”

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The guiding principle is crystallised in the following conclusion (at paragraphs [41] to [42]): “[41] Principles emanating from judgments are meant to be applied to different facts; otherwise the law would be a static process. A sensible objective observer looking at the judgment in its entire context would note the import of the principles of allowing the deduction of a wide variety of fees and the like. The category ‘further costs’ is but a descriptive outline or a convenient label … on the whole the items listed in ‘further costs’ are a ‘close connection’ to the furtherance of the project. [42] Once that is so, in the absence of an express reference to disallowing ‘further costs’, I conclude that the judgment must be interpreted to include further costs.” One suspects that we have not heard the end of the dispute between this taxpayer and SARS, and we are faced with the mouth-watering prospect that the matter will again come before the SCA which will then have to interpret its own judgment. (Refer to articles 2155 and 2269) PwC ITA: Sections 11(a) and 11(bA) (Editorial comment: Section 11(bA) was deleted from the Income Tax Act with effect 1 January 2012. Refer to items 2155 and 2269). 2307. Tax clearance certificates The South African Revenue Service (SARS) has introduced an enhanced Tax Clearance Certificate (TCC) application process for both South African resident companies and branches. The policy governing the issue of TCC’s, as well as the laws governing this process, will not change.

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The new TCC process will require that all companies within a group of companies are tax compliant. This means that the tax compliance of sub-entities, divisions or branches of a corporate will have an impact on the holding company’s tax compliance status, meaning if any one of the sub-entities is non-compliant, the holding company will also be regarded as non-compliant and a TCC will not be issued. SARS will add all sub-entities belonging to the holding company and provide a consolidated group compliance certificate. When filing for a TCC, the company needs to use the holding company’s (legal entity’s) income tax reference number. Ideally it should also use the requesting entity’s Value Added Tax (VAT) and Employee’s Tax (PAYE) reference numbers. For Branches, the VAT, PAYE, UIF & SDL reference numbers of the branch must be used when applying for a TCC. One of the anticipated improvements of the new system is that of “real-time” processing, with the application outcome reflecting immediately in the form of a “pin.” The pin will attach to one of three indicators as follows:

• Green indicator – implies that the taxpayer has complied with all necessary requirements and the TCC request has been approved;

• Red indicator – implies non-compliance and that the TCC request has been rejected;

• Blue indicator – implies that there is no history available for the taxpayer (this would typically occur for newly registered taxpayers who do not have any known default according to SARS’ system and will receive both a “green” status indicator and a “blue” status indicator).

Another significant difference with the new TCC system is that it will do away with “blanket” TCCs that are valid for a fixed period of time (usually one year). Taxpayers will now be required to specify the purpose of the TCC application, detailing for instance the tender number, tender value (the values that the

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taxpayer is proposing and not the advertised value) and the duration of the tender. The pin provided on application will thus only be valid for that particular project being tendered for and for the period that has been specified. In the event that the taxpayer requires an amendment to the period to which the TCC applies, the taxpayer will have to apply to SARS to extend the period. Ernst & Young TAA: Section 256

INTERNATIONAL TAX 2308. FATCA This article discusses how the US Foreign Account Tax Compliance Act (FATCA) is likely to affect all of us and contends that FATCA is not only of concern for United States (US) taxpayers; it is already affecting United Kingdom (UK) residents and its reach will soon extend to other taxpayers. Non-compliant taxpayers are watching a short fuse burning and that the records of the world’s financial industry will be opened to unprecedented data mining. FATCA has made waves in the upper reaches of the funds industry and caused concern to banks, custodians, insurance companies and trustees, but little news regarding its impact has yet spread to the wider world. Few ultimate clients of the international finance industry have yet heard of it. This situation will change dramatically over the coming months and years. The aim of FATCA

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All US citizens and green card holders are US taxpayers, whether or not they reside in the US, and all US taxpayers have extensive reporting, filing and taxpaying obligations with significant penalties for failure to file. The aim of FATCA is to oblige the international finance industry to report to the US Revenue Service (the IRS) on the international financial accounts of US taxpayers, on trusts in which they have interests and on companies and partnerships controlled, or deemed controlled by US taxpayers. In 2009 the IRS decided it needed annual reports from the worldwide financial industry detailing, in respect of each and every account, the taxpayer’s name, tax identification number, and the associated account details including account numbers, balances and movements. The IRS justifies this demand on the basis that it will significantly enhance compliance by US taxpayers, both voluntarily and through informed enforcement. The big stick Following the IRS decision, the US hit on the happy idea of compelling the world’s financial industry to fall into line by using a big stick: the threat of withholding 30% on all payments derived from US investments. This is not the same as the withholding of 30% of interest and dividends which has been in place for years. The new withholding applies to all payments, including the payment of capital returned on disinvestment. The US is the largest recipient of inward investment in the world. It is very difficult for any international financial institution to operate without investing, directly or indirectly, in the US, or dealing with financial institutions that invest in the US. And so it became clear that the world finance industry would have to fall into line. Intergovernmental agreements The US soon found there were snags. Separate compliance by worldwide institutions with the US FATCA is cumbersome. Many countries have rules about data protection, in some jurisdictions elevated to “banking secrecy”,

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which prohibits compliance. The threat of withholding for non-compliance was perceived as threatening the continued operation of non-US financial centres, including the very largest centres, like London and Frankfurt. As a result, the governments of countries with international financial industries have intervened and have concluded, or are concluding, “Intergovernmental agreements” with the US, which makes FATCA compliance legally possible and indeed compulsory, in such countries. In exchange, the governments concerned required some concessions from the US. Each agreement achieves freedom from FATCA withholding requirements for the local finance industry. The agreements also purport to obtain reciprocal disclosure of information regarding accounts in the US of taxpayers in the relevant agreement jurisdiction, but delivering on this particular aspect seems to have run into constitutional difficulties in the USA. The immediate task To comply with FATCA, the banks, insurers and custodian trustees of the world will have to check all their accounts as at 30 June 2014 when FATCA is scheduled to go live, to see if they have US taxpayers. This is a substantial task, which will take years and financial institutions will require many customers to fill in extra forms to make sure that their categorisation is correct. Despite continuing pressure on the US to allow more time, so far there has been no indication of further delay. Customers with US connections, who are the target of the investigation, will be most affected, but others will also be involved, even if a particular customer has no US connections. The finance industry will need to seek additional declarations from new customers to ensure that they are categorised properly. On the basis of the categorisation of old customers and the additional information obtained on new customers, the finance industry will need to prepare reports, destined for the IRS. All this is an additional cost to the

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international finance industry. That cost will no doubt be passed on to some degree, and be absorbed by the finance industry to some degree. This task may not seem too serious. Information technology solutions will be developed to automate data collection and reporting. Perhaps there will be industry consolidation in the process of absorbing these costs and developing the solutions. The consequences for you All the consequences mentioned above are essentially administrative and will be regarded as relatively minor by the customers. But the real questions are: • FATCA is already extended to UK taxpayers; will it extend to other

taxpayers and if so, how quickly? • What will be the consequences for all taxpayers of the “mining” of the

data collected?

How far will it go? Tax authorities worldwide have seen that, once the machinery is in place, it is relatively easy for other jurisdictions to tag along. The UK and the US are conspiring with the rest of the world to extend the reach of this legislation worldwide. Already many European countries, including France, Germany, Spain and Italy, and a good number of other countries, such as Norway, Denmark and South Africa, have announced that they will sign up. Levels of non-compliance in different countries will vary, as will the level of sophistication of local tax authorities, but how long will it be before further countries join in? Will the programme not be attractive to the rest of Europe, South America, Africa, Canada, the Middle and Far East, and others? The G20 has asked the Organisation for Economic Co-operation and Development (OECD) to spearhead a program to ensure tax transparency between jurisdictions is the new norm. A conference of the OECD Global Forum on

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Transparency and Exchange of Information for Tax Purposes, which brings together 122 countries, was held in Jacarta, Indonesia, on 21-23 November 2013. The conference established a new group to monitor and review “automatic exchange of information” consistently with the G20 call. A rush to comply? Taxpayers with historical, aggressive or non-compliant structures will no longer be able to rely upon lack of scrutiny. Suppose you have an offshore trust with a legitimate history, your safety net, which you have never needed to touch or report? Your local tax authorities will have a new window on your international affairs and an opportunity to discuss with you whether your historical planning really did work as well as you think. Suppose you are an “accidental” US citizen who has never lived in the US and you forgot to file with the IRS your annual “Foreign Account Balance Report” on your UK bank account. The IRS will know. The penalty can be a percentage of the account balance. Perhaps you are a UK resident who still has a bank account in the Cayman; or a trust you established in the Turks and Caicos Islands and a company in the British Virgin Islands which you are reluctant to disclose. HMRC will have it on file. If you are a resident of one of the countries which have expressed an interest, but which have not yet rolled out their own “tax transparency” program, perhaps you have a little more time. But the automatic exchange of information initiative seems unlikely to falter. The world’s finance industry will reluctantly but unavoidably become a policeman for tax authorities, reporting automatically back to the authorities in a tax-collector friendly manner. It is likely that every institution will ask for your place of tax residence and tax number; and as

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countries join the program, so reports will start to be filed carrying your number which will be returned to your country of tax residence, and no doubt the report will be linked with your tax return. As a result a large amount of additional data about the international affairs of taxpayers will be available to fiscal authorities throughout the world. The opportunities for data mining are manifest. The end of “offshore”? Is privacy still a significant “unique selling point” of the offshore world? And if so, from whom? These jurisdictions claim to be properly regulated, flexible, tax neutral offshore platforms. But to what extent do they still shelter aggressive planning which has survived solely or partly because of lack of scrutiny? (Editorial comment: SARS MEDIA RELEASE: Specifications for the reporting of information under FATCA, AEOI and domestic law. (http://www.treasury.gov.za/comm_media/press/2014/2014040301%20-%20SARS%20Statement%20Specifications%20for%20reporting.pdf )) Maitland Group Company US Foreign Account Tax Compliance Act TAX ADMINISTRATION 2309. Grounds on which an assessment can be withdrawn If a taxpayer is unable to pay a tax debt, Chapter 14 of the Tax Administration Act No. 28 of 2011 (the TAA) makes provision for the taxpayer to apply to the South African Revenue Service (SARS) for the debt to be written off or compromised, that is to say, partially written off.

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However, SARS is in the business of collecting tax, not of waiving the payment of tax. It will only write off a tax debt if it is in its own interests to do so, for example because it would be impossible or uneconomic to collect the debt. The fact that the taxpayer would suffer hardship if he had to pay the tax debt is irrelevant in this regard, and is not a factor that SARS takes into consideration. A taxpayer who applies to SARS for the writing off or compromise of a tax debt in terms of Chapter 14 of the TAA must submit a formidable amount of documentation. The process takes a long time, and such applications are often unsuccessful. A simpler process for clearing a tax debt – withdrawal of the assessment The TAA provides in section 98(1) for a simpler process, which entails not the writing off of a tax debt, but the withdrawal of an assessment. However, until the amendment discussed below, this process was available only in a very narrow range of circumstances, namely where an assessment – • was issued to the incorrect taxpayer; • was issued in respect of the incorrect tax period; or • was issued as a result of an incorrect payment allocation.

Where an assessment is withdrawn on these grounds, section 98(2) provides that it is deemed not to have been issued. This effectively extinguishes the tax debt. Expansion of the grounds on which an assessment can be withdrawn The Tax Administration Laws Amendment Act No. 39 of 2013(the TLAA), effective from 1 October 2012, amends section 98(1) of the principal Act and adds a further ground on which an assessment can be withdrawn (and deemed not to have been issued), namely, if it is an assessment –

“(d) in respect of which the Commissioner is satisfied that—

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(i) it was based on— (aa) an undisputed factual error by the taxpayer in a return; or (bb) a processing error by SARS; or (cc) a return fraudulently submitted by a person not authorised by

the taxpayer;

(ii) it imposes an unintended tax debt in respect of an amount that the taxpayer should not have been taxed on;

(iii) the recovery of the tax debt under the assessment would produce an anomalous or inequitable result;

(iv) there is no other remedy available to the taxpayer; and (v) it is in the interest of the good management of the tax system.’’

The first part of this amendment will buoy the hopes of taxpayers, but those hopes will be dashed when reading (iv) and (v), above. For it is difficult to conceive of a situation in which there is no other remedy available to the taxpayer – unless this expression can be read to mean, unless the taxpayer had a remedy which, through effluxion of time or otherwise, is no longer available to him. Such a reading would allow a taxpayer to invoke this provision where the time limit for lodging an objection or appeal has expired. But if paragraph (iv) is given a narrow interpretation, it renders the entire provision a dead letter, for there is no situation in which a taxpayer, who does not in fact owe tax, had no remedy. Furthermore, (v) is so vague and woolly that it would be difficult for a taxpayer to successfully invoke the Promotion of Administrative Justice Act, No. 3 of 2000 to challenge a decision by the Commissioner that it was not in the interests of good management of the tax system to withdraw the assessment in question. The taxpayer’s argument in terms of the amended section 98 of the TAA is that the assessment in respect of the income that he has never received –

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“imposes an unintended tax debt in respect of an amount that the taxpayer should not have been taxed on [and] the recovery of the tax debt under the assessment would produce an anomalous or inequitable result”. PwC Promotion of Administrative Justice Act, No. 3 of 2000 TAA: Section 98 and Chapter 14 VALUE-ADDED TAX 2310. Non supplies and charges For a transaction in South Africa to attract value-added tax (VAT), there should be a supply of goods or services by a vendor in the course or furtherance of an enterprise. Consider the following scenario: A and B, both vendors for VAT purposes, have a business arrangement whereby, for example, B provides consulting and management services to A. It transpires, in the course of their business arrangement, that A requires the use of a rented vehicle. B agrees to arrange for the vehicle. B enters into a rental agreement with C, also a VAT vendor, and the vehicle is made available for the benefit of A. C subsequently invoices B for R100 plus VAT of R14 and B pays C the R114. Naturally, B seeks to recover the cost from A. B does not wish to recover anything in excess of the cost from A because A is a good client. How should B deal with the recovery of the cost from a VAT perspective? B is faced with two possibilities:

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• Firstly, B could issue an invoice to A for R100 plus VAT of R14. B could claim the R14 input VAT in respect of the payment made to C, but would also have to account to the South African Revenue Service (SARS) for the R14 VAT charged to A. Since A would be in possession of a VAT invoice, it could claim the R14 VAT paid to B from SARS.

• Secondly, B could consider simply presenting the invoice from C to A for payment in order to recover his cost.

The first possibility is an administratively intense process but appears to carefully follow the so-called 'VAT chain'. However, a fundamental question that needs to be asked is whether B actually made a supply to A (and if so, what the nature and value of that supply is), or whether it was C who made a supply to A. The matter is complicated by the fact that one is probably dealing with a contract (between B and C) for the benefit of a third party (A). In the case of CSARS v British Airways PLC [2005] 67 SATC 167, it was held that VAT will only be levied on actual supplies made and that the receipt of money is not a supply subject to VAT. In this case, the issue that needed to be determined was whether British Airways was required to charge VAT on that part of its ticket price constituting a 'passenger service charge'. The passenger service charge is levied by Airports Company Limited on aircraft operators such as British Airways. However, British Airways would recover this 'passenger service charge' from its passengers as a direct on-charge on its tickets (account for separately). SARS sought to recover output VAT from British Airways; however the court held that the charge was in respect of a service supplied by the Airports Company Limited and not by British Airways. Accordingly, British Airways was not required to charge VAT on the recovery of the passenger service charge. British Airways was simply recovering it directly from its passengers. Effectively, the court held that Airports Company Limited was liable to account for the output VAT as it was making the supply.

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In light of this judgment, the first possibility might not necessarily be the correct approach. C made a supply to B for the benefit of A, but did B make a supply to A? B certainly did not on-rent the vehicle to A. If anything, B supplied a procurement service to A. In this regard B could, for example, charge a R1 fee to A (plus VAT of R0.14) in respect of the procurement service. The second possibility is administratively very simple. B would raise a tax invoice to A in respect of the usual consulting and management services supplied to A, but would simply present the invoice from C to A for payment. B could, of course, consider charging a procurement fee to A, on which B would have to account for output VAT. Should B decide to handle the transaction in terms of the second possibility, A could potentially find itself in a position where it would not be able to claim any input VAT in respect of the supply of the rental vehicle. This is so because A will not be in possession of a tax invoice reflecting its details, the invoice from C having been made out to B. Cliffe Dekker Hofmeyr VAT Act: Section 7(1)(a), 11 and Practice Note No.11

2311. Foreign online suppliers The VAT legislation has been amended with effect from 1 April 2014 to give effect to government’s proposal that all foreign suppliers of electronic services in South Africa are required to register for VAT in South Africa. The legislation amendment places an obligation on foreign suppliers to register for VAT in South Africa if they make supplies of electronic services in excess of R50 000 in a 12 month period to South African customers who are either tax

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resident in South Africa, or where payment for the services by such customers originates from South African banking accounts. The final regulations specifying what constitutes ‘electronic services’ for purposes of the VAT Act were published on 28 March 2014, but they will only come into force on 1 June 2014. Therefore, although the legislative amendment in this regard is effective from 1 April 2014, foreign suppliers of electronic services only need to register and comply with the VAT Act requirements from 1 June 2014. The scope of the final regulations has been significantly reduced from that of the draft regulations first published, following a consultation process undertaken by National Treasury. The electronic services which are included in the regulations, and for which supply foreign suppliers must register for VAT in South Africa, are the following: educational services, excluding educational services provided by a supplier that is regulated by an educational authority in the foreign country; games and games of chance; internet-based auction services; the supply of e-books, audio visual content, still images or music; and subscription services to any journal, magazine, newspaper, game, publication, web application etc. The reduced scope of the regulations is welcomed. The electronic services which were included in the draft regulations such as the transmission or routing of data messages, data processing and storage of data, maintenance and technical support of a web site and the supply of software (which are all now excluded) are generally supplied to businesses who are in any event entitled to claim any VAT payable as input tax. The inclusion of these services would only have resulted in increased administration for the SARS and the foreign supplier, with very little (if any) additional revenue for the State. It should be noted that where any electronic services which are not listed in the regulations and which are supplied to a consumer who would not be entitled to

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claim the VAT as input tax if VAT would have been charged, the consumer remains liable to account for VAT on such services as imported services. SARS has simplified the VAT registration process for foreign suppliers of electronic services who are obliged to register for VAT in South Africa. The foreign supplier must complete a VAT registration application form VAT 101, which must be submitted together with certain required documentation. The application form and documents can be submitted via electronic mail to SARS for processing. The foreign supplier is also not required to open a South African bank account, and the appointment of a South African resident representative vendor is also not required. Foreign suppliers of electronic services are entitled to apply for VAT registration from 7 April 2014, but the registration will only be made effective from 1 June 2014. SARS has also published a VAT Registration Guide for Foreign Suppliers of Electronic Services to provide guidance with the registration process, the submission of VAT returns and the payment of VAT. The Guide is available on the SARS website. ENS Africa Electronic Communications and Transactions Act No. 25 of 2002 Financial Intelligence Centre Act No 3 of 2001. Taxation Laws Amendment Act No. 31 of 2013 SARS NEWS 2312. Interpretation notes, media releases and other documents

Readers are reminded that the latest developments at SARS can be accessed on their website http://www.sars.gov.za.

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Editor: Mr P Nel Editorial Panel: Mr KG Karro (Chairman), Dr BJ Croome, Mr MA Khan, Prof KI Mitchell, Prof JJ Roeleveld, Prof PG Surtees, Mr Z Mabhoza, Ms MC Foster The Integritax Newsletter is published as a service to members and associates of The South African Institute of Chartered Accountants (SAICA) and includes items selected from the newsletters of firms in public practice and commerce and industry, as well as other contributors. The information contained herein is for general guidance only and should not be used as a basis for action without further research or specialist advice. The views of the authors are not necessarily the views of SAICA. All rights reserved. No part of this Newsletter covered by copyright may be reproduced or copied in any form or by any means (including graphic, electronic or mechanical, photocopying, recording, recorded, taping or retrieval information systems) without written permission of the copyright holders.

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