n Business Tax and Company Law Quarterly - Interest-deduction limitation - Section 23M

Volume 6, Issue 1
  • ISSN : 2219-1585


While recognising the need for debt capital, fiscal authorities throughout the world have been concerned for some time now that excessive debt funding could lead to tax avoidance. Such tax avoidance occurs where there is a mismatch between the tax treatment of interest incurred and interest received. Transactions have been identified in terms of which deductible interest is paid to foreign and local persons that do not attract tax in their hands. This issue has been addressed by the OECD under Action Plan 4 (Limit base erosion via interest deductions and other financial payments).

Section 23M of the Income tax Act 58 of 1962 ('the Act'), was introduced with effect from 1 January 2015 to specifically address this potential tax avoidance. In essence, section 23M limits the interest that may be deducted by a taxpayer where the taxpayer (debtor) is in a 'controlling relationship' with the creditor, or the debt is funded by a person who is not in a controlling relationship with the taxpayer, but the funds are indirectly provided by a person who is in a controlling relationship with the taxpayer. However, the provisions of section 23M are triggered only if the recipient of the interest is not subject to tax on such receipt. Section 23M will also not be triggered if the interest falls to be included in the net income of a controlled foreign company ('CFC') or has been disallowed under section 23N of the Act.
Issues that are addressed in this article include the meaning of certain of the terms, including what is meant by 'subject to tax' and the interaction of sections 23M, 23N and 31. The article concludes that 'subject to tax' means that the recipient of the interest must actually be liable to pay tax on the receipt, albeit that tax may not actually be payable because of an applicable deduction or set off of an assessed loss, for example.
While section 23M has been amended to make it clear that section 23N must be applied before section 23M is applied, the issue as regards the interaction of section 31 and the other sections remains unclear. However, the article concludes that section 31 (the transfer-pricing provisions) should take precedence as the other sections rely on the determination of the taxpayer's taxable income, which can only be determined after the application of section 31.
While it has been suggested that the provisions of section 23M may fall foul of the non-discrimination provisions of our many tax treaties, the article concludes that this is not the case.

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