Non-res­i­dents must be­ware tax­man’s bite

Business Day - Business Law and Tax Review - - BUSINESS LAW & TAX REVIEW - Beric Croome

WHERE a for­eign com­pany ren­ders pro­fes­sional ser­vices to a South African com­pany, it is im­por­tant that the for­eign en­tity con­sid­ers whether, as a re­sult of ren­der­ing such ser­vices, the for­eign com­pany will cre­ate a per­ma­nent estab­lish­ment in SA. The rea­son why this be­comes im­por­tant is that where a for­eign com­pany cre­ates a per­ma­nent estab­lish­ment in SA, SA will un­der the pro­vi­sions of a dou­ble tax­a­tion agree­ment (DTA) con­cluded with an­other coun­try, be en­ti­tled to sub­ject that for­eign en­tity to tax on the profit at­trib­ut­able to that per­ma­nent estab­lish­ment cre­ated in SA.

In the case of X LLC, case num­ber 13276 heard in Fe­bru­ary 2015, as yet un­re­ported, the Tax Court had to de­ter­mine whether X had cre­ated a per­ma­nent estab­lish­ment in SA, and as a re­sult thereof, was li­able to tax in SA. The case in­volved a cor­po­ra­tion in­cor­po­rated in the US and the court there­fore had to con­sider the pro­vi­sions of the DTA con­cluded by SA and the US.

Ar­ti­cle 7(1) of the DTA pro­vides that the prof­its of an en­ter­prise of the US shall be tax­able only in the US, un­less that en­ter­prise con­ducts busi­ness in SA through a per­ma­nent estab­lish­ment lo­cated in SA. The DTA also pro­vides that where busi­ness is car­ried on through a per­ma­nent estab­lish­ment, the prof­its of the en­ter­prise may be taxed in SA, but only to the ex­tent that they are at­trib­ut­able to that per­ma­nent estab­lish­ment.

Ar­ti­cle 5(1) of the DTA in turn pro­vides as fol­lows:

“…for the pur­poses of this Con­ven­tion, the term ‘per­ma­nent estab­lish­ment’ means a fixed place of busi­ness through which the busi­ness of an en­ter­prise is wholly or partly car­ried on”.

In ad­di­tion, Ar­ti­cle 5(2) of the DTA pro­vides that the term “per­ma­nent estab­lish­ment” in­cludes es­pe­cially:

“(k) the fur­nish­ing of ser­vices, in­clud­ing con­sul­tancy ser­vices, within a con­tract­ing state by an en­ter­prise through em­ploy­ees or other per­son­nel en­gaged by the en­ter­prise for such pur­poses, but only if ac­tiv­i­ties of that na­ture con­tinue (for the same or con­nected project) within that state for a pe­riod or pe­ri­ods ag­gre­gat­ing more than 183 days in any 12-month pe­riod com­menc­ing or end­ing in the tax­able year con­cerned.”

The court had to de­cide how the DTA should be in­ter­preted and whether it was nec­es­sary for X to have met the re­quire­ments of both Ar­ti­cles 5(1) and 5(2)(k) of the DTA.

The tax­payer con­tended that it is nec­es­sary that a per­ma­nent estab­lish­ment be cre­ated first and only once that has oc­curred, is it then nec­es­sary to take ac­count of the pro­vi­sions of Ar­ti­cle 5(2)(k) of the DTA. SARS on the other hand, ar­gued that if X fell within the pro­vi­sions of Ar­ti­cle 5(2)(k) a per­ma­nent estab­lish­ment ex­ists and it is not nec­es­sary that X met the re­quire­ments of Ar­ti­cle 5(1).

Judge Vally in his judg­ment handed down on 15 May 2015 reached the con­clu­sion that Ar­ti­cles 5(1) and 5(2)(k) can­not be read dis­junc­tively. He ex­pressed the view that as a re­sult of the us­age of the words “in­cludes es­pe­cially” Ar­ti­cle 5(2)(k) of the DTA should be read as spec­i­fy­ing those spe­cific ac­tiv­i­ties which will be re­garded as cre­at­ing a per­ma­nent estab­lish­ment in SA. The Tax Court reached the de­ci­sion that tak­ing ac­count of the num­ber of days spent by X’s staff in SA, it met the time re­quire­ment spec­i­fied in Ar­ti­cle 5(2)(k) of the DTA and for that rea­son a per­ma­nent estab­lish­ment had been cre­ated in SA. The court also con­cluded that X had a fixed base in the board­room of its client in SA, and had thus es­tab­lished a fixed place of busi­ness in SA while ren­der­ing ser­vices to its client in SA.

In as­sess­ing X to tax in SA, SARS levied tax on the fees de­rived by X in SA, af­ter de­duct­ing there­from at­trib­ut­able ex­pen­di­ture and im­posed ad­di­tional tax of 100% and in­ter­est on the un­der­pay­ment of pro­vi­sional tax in ac­cor­dance with sec­tion 89quat(2) of the In­come Tax Act. The court reached the de­ci­sion that the ad­di­tional tax was not dis­pro­por­tion­ately puni­tive and there­fore dis­missed the ap­peal against the ad­di­tional tax. In­so­far as the im­po­si­tion of in­ter­est is con­cerned, the court ex­pressed the view that X should have fa­mil­iarised it­self with the tax­a­tion laws of the coun­try within which it con­ducts its op­er­a­tions, and for that rea­son it was de­cided that X had been neg­li­gent in not seek­ing ad­vice re­gard­ing the tax con­se­quences of the con­tract con­cluded with its client. The court there­fore came to the con­clu­sion that SARS was cor­rect in im­pos­ing in­ter­est on the un­der­pay­ment of pro­vi­sional tax.

Based on the above case, which ad­mit­tedly deals with the in­ter­pre­ta­tion of ar­ti­cles con­tained in the SA and US tax agree­ment, it is im­por­tant that non-res­i­dents ren­der­ing ser­vices to clients in SA must eval­u­ate whether they will cre­ate a per­ma­nent estab­lish­ment in SA, thereby trig­ger­ing in­come tax on the profit at­trib­ut­able to the ser­vices ren­dered in SA.

If the non-res­i­dent cre­ates an en­ter­prise as en­vis­aged un­der the pro­vi­sions of the VAT Act, it would also be nec­es­sary to reg­is­ter for VAT pur­poses, and charge VAT on the fees re­ceived from the res­i­dent client and pay that to SARS. Where per­sons from abroad are sent to SA to ren­der the ser­vices that may, depend­ing on the cir­cum­stances and the pro­vi­sions of the DTA in ques­tion, give rise to the non­res­i­dent en­tity be­ing re­quired to reg­is­ter as an em­ployer in SA with the obli­ga­tion to with­hold and deduct PAYE from amounts paid to the per­sons sent to SA.

Clearly, any South African tax paid by the non-res­i­dent en­tity, would un­der the terms of the DTA be recog­nised as a credit claimable against tax paid in the home ju­ris­dic­tion of the en­tity. Non­res­i­dent em­ploy­ees who be­come li­able to tax in SA should also be en­ti­tled to claim such tax as a credit in their home ju­ris­dic­tion un­der the DTA in ques­tion.

It is im­por­tant there­fore that non-res­i­dent en­ti­ties ren­der­ing ser­vices into SA care­fully con­sider how to plan and struc­ture their af­fairs in SA, so that they do not fall foul of the pro­vi­sions of the In­come Tax Act read to­gether with any ap­pli­ca­ble DTA.

Cre­ation of a per­ma­nent estab­lish­ment leaves for­eign firms ser­vic­ing lo­cal com­pa­nies open to tax li­a­bil­i­ties

Dr Beric Croome is a tax ex­ec­u­tive at ENSafrica.

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