n Business Tax and Company Law Quarterly - Transfer pricing and thin capitalisation anew : the old order changeth

Volume 1, Issue 4
  • ISSN : 2219-1585


The South African Revenue Service (SARS) uses the provisions of section 31 of the Income Tax Act 58 of 1962 to counter manipulative transfer pricing and thin capitalisation practices by connected parties engaged in multinational enterprises, which result in tax benefits to the detriment of the fiscus. With the growth in international economic activity and cross-border transactions, the tax issues arising from these statutory provisions are assuming increasing importance.The Taxation Laws Amendment Act 7 of 2010 has recently introduced a completely revised version of section 31, which comes into operation on 1 October 2011 and will apply to years of assessment commencing on or after that date. Until then, the existing provisions of section 31 will continue to apply. This article explores the existing provisions of section 31 and their tax consequences in the light of SARS Practice Notes 2 and 7. It then examines the reasons given by SARS (in its on the new legislation) for the introduction of the revised section. The stated intention of SARS is to continue to follow the arm's-length principle championed by the Organisation for Economic Cooperation and Development (OECD), and to follow the OECD test therefor : whether the terms and conditions of the relevant transaction differ from the terms and conditions that would have been used between independent parties dealing at arm's length, and whether this results in a tax benefit.The scope and effect of the new provisions are discussed in the light of the OECD which are outlined in the article. SARS has sought to follow these guidelines in the formulation of the new section.When the new section comes into effect, transfer-pricing rules will no longer be separate from the thin capitalisation rules, and the two sets of rules will be merged into a single provision that is based on the comparability principle referred to above. Whether the revision of the section will have the consequences intended by SARS remains to be seen.Finally, the article also explores the introduction of the new concept of 'headquarter company', which is designed to encourage the use of South Africa by foreign multinationals as an ideal African regional holding-company jurisdiction, by removing certain tax barriers that would otherwise apply.These concessions include exempting headquarter companies, in terms of section 31(4), from the operation of section 31 in certain circumstances, in relation to the granting of financial assistance by the headquarter company to companies in which it holds at least 20 % interest. The criteria necessary to qualify as a headquarter company in order to enjoy these concessions also receive attention.

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