South African Revenue Service: Proposed Tax Reform in SEZs Applies Arm's Length Principle

• The South African government has proposed an amendment to replace an anti-profit shifting rule in the Taxation Laws Amendment Bill.
• The new rule will apply the arm's length principle to domestic transactions between companies operating within SEZs and those outside.
• Groups may be able to access the 15% corporate income tax rate if they can support their pricing decisions, but there is a risk of double taxation if not properly priced at arm's length.

The proposed amendment may create an opportunity for groups previously disqualified by the 20% threshold or deterred from locating part of a supply chain in a SEZ to access the 15% rate provided their pricing can be supported.

The South African government's efforts to revamp its Special Economic Zones (SEZs) have taken a significant step forward with the proposed amendment to the Taxation Laws Amendment Bill. The bill seeks to replace an anti-profit shifting rule that has been criticized for being 'not business-friendly' and not aligned with prevailing business models. This move is expected to make SEZs more attractive to investors, particularly those in the manufacturing sector, which has been a key focus area for the government's industrial policy.

At the heart of the proposed amendment is the application of the arm's length principle to domestic transactions between companies operating within SEZs and those outside. This principle requires that prices or terms in intra-group transactions be comparable to what would have been agreed upon by independent parties dealing at arm's length. The aim is to prevent profit shifting to SEZ companies, which are taxed at a lower rate of 15%, without any physical transfer of goods.

While the proposed amendment may create opportunities for groups to access the 15% corporate income tax rate, lawyers must be aware of the potential risk of double taxation. The bill provides for an adjustment only in the hands of the party deriving the tax benefit, which could lead to the same profit being taxed twice within South Africa. This highlights the need for companies to carefully price their transactions at arm's length and maintain robust evidence to support their pricing decisions.

Lawyers should watch for the potential to access a lower 15% corporate income tax rate in South African Special Economic Zones, but be aware of the risk of double taxation if not properly pricing transactions at arm's length.

Source: Original reporting via Briefly