The South African Revenue Service (SARS) released Interpretation Note No. 75 on 24 October 2013 (IN 75) to provide guidance on the interaction of the definitions of ‘group of companies’ as found in sections 1(1) and 41(1). To obtain a better understanding of SARS’s interpretation of the proviso to the ‘group of companies’ definition in section 41and the ‘group of companies’ definition in section 1, it is helpful to consider the following basic example of a foreign tax resident holding company (USCo) that holds directly 100% of the equity shares in two South Africa tax resident companies (SACo 1 and SACo 2):
In determining whether USCo, SACo 1 and SACo 2 form part of the same ‘group of companies’ for purposes of section 41(1), IN 75 submits that:
- The first requirement of section 41(1) would be satisfied in that there is a ‘group of companies’ as defined in section 1(1). USCo holds at least 70% of the equity shares in SACo 1 and SACo 2. SACo 1 and SACo 2 are therefore the ‘controlled group companies’ of USCo.
- Paragraph (i)(ee) of the proviso to the ‘group of companies’ definition in section 41excludes a company incorporated under the law of any other country other than the Republic of South Africa (unless that company has its place of effective management in South Africa). USCo, being a non-resident, should be excluded from being considered as being part of the ‘group of companies’.
- The definition contained in section 1(1) should be re-applied to assess whether the remaining companies fall within the ‘group of companies’ definition in section 1. If one applies this approach, USCo would be excluded from the consideration of the ‘group of companies’ definition in section 1 and there would be no ‘controlling group company’ in relation to SACo 1 and SACo 2. As result, SACo 1 and SACo 2 would not form part of the same ‘group of companies’ for purposes of section 41.
IN 75 concludes that it is not permissible to interpret the proviso as an independent enacting clause and its provisions must be read as if they form part of the opening words of the definition in section 41(1) (that is the ‘group of companies’ definition in section1). The exclusion by the proviso of, for example, a controlling company from a group of companies will accordingly impact whether its controlled companies remain part of a group of companies under rules.
We are aware that the South African Institute of Chartered Accountants (SAICA) submitted comments on the draft IN 75. In particular, SAICA submitted that “[w]hat section 41 definition requires is that a group of companies must be determined in accordance with the section 1 definition. Paragraph (i) of the proviso then requires that the specified companies are excluded from that group of companies for purposes of section 41. Nowhere does it suggest that the section 1 definition must be reapplied without having regard to the specified companies.”
If one were to adopt the above interpretation and apply it to the aforementioned example, for purposes of section 41:
- US Co would not form part of the same ‘group of companies’ as SACo 1 or SACo 2 (excluded by the provision in paragraph (i)(ee) of the ‘group of companies’ definition in section 41); and
- SACo 1 and SACo 2 would still form part of the same ‘group of companies’ on the basis that they fall within the ‘group of companies’ as defined in section 1 and do not fall within any of the provisos to the ‘group of companies’ in section 41.
However, with the release of IN 75 it is clear that SARS does not accept the above interpretation. It is critical that taxpayers carefully analyse whether their transactions fall within the relevant ‘group of companies’ definitions, otherwise the anticipated tax implications of the transaction may be queried by SARS.
Cliffe Dekker Hofmeyr
ITA: Sections1 and 41and Interpretation Note No. 75