The modernisation of South Africa’s tax and exchange control regime

South Africa (‘SA’) has a long-standing history of being an attractive market for foreign investors and serving as a gateway for investing into the rest of Africa. However, in recent years foreign investment into SA has declined mainly due to rising political and economic uncertainty and competition from other Sub-Saharan African regions. To attract foreign investment, the SA government has endeavoured to advance the process of systematically doing away with its exchange controls and amending taxa­tion laws in an effort to support economic growth, increase inward investment and reduce unemployment.

Exchange controls were recently relaxed with regard to the so-called ‘loop’ structures (i.e. where an SA resident holds an investment in SA through a foreign entity), which was accompanied by various income tax amendments specifically aimed at addressing tax avoidance opportunities arising from such relaxation. These amendments dealt with, inter alia, the taxation of controlled foreign companies (‘CFC’) (such as local dividends received by a CFC) and the disposal of shares held in a CFC. The SA National Treasury further confirmed its commitment to the modernisation of exchange controls by making several proposals during the 2022 National Budget Speech, including increasing the foreign direct investment limit for companies from ZAR 1 billion to ZAR 5 billion where certain requirements are met.

One of the tax-related measures implemented to stimulate economic growth is the reduction of the corporate income tax (‘CIT’) rate from 28% to 27% for tax years ending on or after 31 March 2023. This is expected to improve the business environment for both local and foreign entities, whilst remaining respectful of the OECD’s Pillar Two principles. Although this change in the CIT rate is generally welcomed by businesses operating in SA, measures are being implemented to increase the SA tax base to counter the loss of revenue arising from, inter alia, the rate reduction. These measures include:

1. Limiting the extent to which tax losses can be utilised in a tax year, to the greater of ZAR 1 million or 80% of taxable income. In the context of companies with a taxable income exceeding ZAR 1 million, at least 20% of their taxable income will therefore remain subject to CIT.
2. Reducing the limitation of the deduction of interest on certain cross-border loans where there is a controlling relationship between the debtor and the creditor, to 30% of a company’s ‘adjusted taxable income’ (i.e. tax EBITDA) (previously up to 60%) in alignment with international and OECD standards.

In the 2022 legislative amendment cycle, further measures have been proposed to increase the tax base, for example limiting tax exemptions applicable to CFCs with regard to SA-sourced royalty income and dividend income emanating from hybrid equity instruments.

It is anticipated that the SA parliament will ratify the OECD Multilateral Instrument (‘MLI’) in the near future, which will bring about certain changes to SA’s double taxation agreements with other co-signatories of the MLI.

Recent SA tax and exchange control trends align with international developments to make South Africa a more favoured investment destination, whilst maintaining a balance between base protection, the curbing of tax avoidance and adherence to international best practises.

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