BASIC INTERNATIONAL CHANGES

1. BASIC INTERNATIONAL CHANGES National Treasury

2. Individuals Transit/Commuter Rules • Under current law, foreign persons can automatically be treated as residents if they spend too many days in South Africa. • The Bill clarifies that time spent in transit (i.e., at the airport) between two foreign locations can be ignored. • The Bill also clarifies that time spent inside South Africa for short trips can be ignored if the person lives and works outside the border.

3. Individuals South Africans Employed Abroad • Under current law, South African taxpayers who work abroad for more than 183 days (i.e., more than ½ a year) generally receive a tax-exemption for their foreign salary. • As an anti-avoidance measure, the Bill clarifies that the exempt amount must be received and earned abroad (thus options or bonuses received after returning to South Africa are fully taxable, even if earned for work offshore).

4. Individuals South African Diplomats • South African diplomats and other government personnel stationed abroad will no longer be subject to tax for receipt of foreign related allowances. • Receipt of similar fringe benefits are also exempt. • This exemption is consistent with prior practice before the introduction of worldwide tax. • Issues relating to foreign diplomats are often treated as “sui generis” for tax purposes. • Failure to tax diplomats and other government personnel will be revenue neutral because imposition of tax would simply result in higher salaries for Government.

5. Foreign Tax Credits South African Mineral Rights and Coastal Waters • Current law allows taxpayers to receive foreign tax credits (i.e., 6quat rebates) for foreign taxes paid on foreign earned income. • Current law erroneously provided credits for foreign taxes paid on income from South African mineral contracts and South African coastal activities. • Credits should only exist to the extent any foreign country has the primary right to tax.

6. Foreign Tax Credits Foreign Provincial and Local Taxes • The Bill clarifies that taxpayers can receive credits for income taxes paid to all spheres of foreign government, including provincial or local government. • This allowance of credits is consistent with international practice.

7. Foreign Tax Credits Foreign Royalties • The Bill clarifies that taxpayers cannot receive credits for Government imposed mineral/petroleum royalties even if those royalties are drafted in the form of an income tax. • This result is consistent with tax treaty practice – tax treaties apply only to income taxes, not to royalties even if packaged as an income tax.

8. Foreign Tax Credits Sourcing Capital Gains • Source rules for determining the source of capital gains/losses is inadvertently missing from current law. • The new source rules for capital gains/losses follow OECD practice. • Under OECD practice, 1. Capital gains/losses on immovable (e.g., land) property are sourced where that property is located; 2. Capital gains/losses on movable (e.g., equipment) property-- a. attributable to a permanent establishment are sourced where the permanent establishment is located; and b. that cannot be so attributed are sourced based on the residence of the seller.

9. Controlled Foreign Companies New CFC Definition • All South African controlled foreign subsidiaries (currently known as CFEs or “Controlled Foreign Entities”) are subject to immediate tax on their passive and diversionary income, even if that income is earned offshore. • This definition caused some confusion because this definition allegedly included entities other than companies; and yet, all other entities (partnerships and trusts) were taxed in a wholly different way. • In order to eliminate this confusion and to be consistent with international practice, the term CFE has been changed to CFC (”Controlled Foreign Company”).

10. Controlled Foreign Companies Change in the Control Definition • In order to be taxed as a CFE (now a CFC), a foreign company must be more than 50 per cent South African controlled. • The voting rights test was removed, leaving only the participation rights test. The participation test was viewed as more critical since that test governs economic rights (the change is also consistent with the corporate reorganisation rules) • The participation rights test was clarified. One looks to the aggregate current and accumulated participation rights to determine control.

11. Controlled Foreign Companies Dealing with Mid-Year Ownership Changes • Under current law, it is unclear who must report the income of a CFC if ownership of that CFC changes hands during the year. • For the sake of administrative ease, only the party holding shares in the CFC at the CFC’s year-end will be subject to immediate tax under section 9D. • This rule is consistent with international practice. Countries such as Australia and Canada follow this rule.

12. Controlled Foreign Companies Business Establishment Exemption – Current Law • All CFC income attributable to a business establishment is exempt from immediate section 9D taxation under current law. • In addition, all business establishments must have an office/fixed building that is suitably equipped with personnel and equipment. The purpose of these tests is to prevent the offshore creation of synthetic fungible businesses, such as electronic internet businesses that can be located anywhere.

13. Controlled Foreign Companies Business Establishment Exemption – Proposed Change • Mining, farming, and construction businesses are no longer subject to the fixed business/suitably equipped tests because these businesses must be located at a specific site by virtue of their nature. • Fishing vessels, vessels used for oil and mineral extraction, and vessels used solely within a single country are now exempt per se without regard to the fixed building/suitably equipped tests. • Transportation/cargo vessels still fall outside the system because they are fungible.

14. Controlled Foreign Companies Transfer Pricing • The proposed bill clarifies that the transfer pricing anti-avoidance rules fully apply to CFCs. • The tax base of CFCs must be protected because these companies are in effect partially taxable within South Africa.

15. Controlled Foreign Companies Banks, Insurance and Other Financial CFCs • Similar to the company reorganisation rules, CFC banks, CFC insurance companies, and CFC financial service institutions can now be sold tax-free under the pre-existing participation exemption. • Under current law, CFC banks, CFC insurance companies, and CFC financial service institutions are fully taxable as if they generated wholly passive income unless more than 50 per cent of their income stems from unconnected persons— • This initial rule was designed to prevent taxpayers from disguising Treasury operations as active businesses; • The rule was modified-- • CFCs can now ignore the more than 50 per cent test if that CFC regularly maintains accounts for the general public • However, CFCs must additionally have the same rights as any local foreign institution (i.e., not be ring-fenced) to qualify as an active business.

16. Controlled Foreign Companies Electivity of Exemptions? • Under current law, the exemptions from section 9D are wholly mandatory— • Exempt CFC income remains untaxed as the income arises, BUT • Is subject to a 30 per cent tax if repatriated (section 9E). • Many taxpayers would prefer to be taxed immediately (because they have capital gains that are taxable at 15 per cent) rather than be subject to the 30 per cent rate upon repatriation. • Under consideration is whether the section 9D exemptions can be elective. At issue is the administrative viability of these elections.

17. Foreign Dividend Repatriations Stacking Rules • Dividends from foreign companies are subject to tax depending on the profits from which those dividends are generated – Certain profits give rise to tax-free dividends, others generate tax-free dividends. • The current stacking rule for allocating profits are inconsistent. Under the new regime— • Dividends come from profits arising in the most recent years first; • Dividends from profits within the same year are pro rated; and • Taxpayers can freely choose to re-order the stacking of years differently if they receive shareholder meeting approval.

18. Foreign Dividend Repatriations Designated Country Exception • The Designated Country list still remains under review. However, the current list stands and any possible changes will occur prospectively with sufficient advanced warning to provide advanced notice for taxpayers. • The law was modified to allow for a middle option. Under current law, countries must either be “on or off” the list. The law now allows for countries to be partially on the list.