In last month’s article (187 TSH 2018) I examined the concept of ‘effective management’ as dealt with in the SARS Interpretation Note 6 (Issue 1). A reader, Patrick Emmett, a senior tax consultant at Mazars, has correctly pointed out that SARS has also published an Issue 2 of this interpretation note, which pertains specifically to companies.
SARS says that Issue 2 must be read with Issue 1 in some circumstances vis-à-vis companies, since Issue 1 remains valid for periods of assessment before 3 November 2015 (see the Monthly Listing).
Thus, in the event that there wasn’t full disclosure by the company concerned, prescription does not operate, and it can be reassessed for tax purposes under the principles of Issue 1.
The thrust of my previous article was that contracting with a nonresident entity to provide administrative and other ‘dressed up’ services will not suffice to avoid effective management in the RSA.
Issue 2 further strengthens this line of reasoning that ‘rent an office’ from an offshore firm will not suffice to remove effective management from the RSA if the key decision-making persons ordinarily reside here.
A person other than a natural person is a ‘resident’ as defined in s 1(1) of the Income Tax act if the person has its place of effective management in the RSA. (The definition excludes any person deemed to be exclusively a resident of another country for purposes of the application of a tax treaty. In addition, special considerations apply to a ‘foreign investment entity’.)
The term ‘place of effective management’ is not defined in the Act and must be ascribed its ordinary meaning, taking into account international precedent and interpretation.
A company’s place of effective management is the place where key management and commercial decisions that are necessary for the conduct of its business as a whole are in substance made. This approach is consistent with para 3 of art 4 of the OECD’s Model Tax Convention on Income and on Capital as a tie-breaker when a person other than an individual is considered, before the application of the tie-breaker, to be a resident of both the contracting states.
Foreign court cases in the context of the interpretation of tax treaties have provided useful interpretations of the meaning of the place of ‘effective management’. For example, in Wensleydale’s Settlement Trustees v Inland Revenue Commissioners, Special Commissioner David Shirley made the following comment on the ordinary meaning of place of effective management:
I emphasise the adjective ‘effective’. In my opinion it is not sufficient that some sort of management was carried on in the Republic of Ireland such as operating a bank account in the name of the trustees. ‘Effective’ implies realistic, positive management. The place of effective management is where the shots are called, to adopt a vivid transatlantic colloquialism.
There is no assumption that a company’s place of effective management must be where its board meets. For example, if a board has de facto delegated the authority to make the key management and commercial decisions for the company to the senior managers and does nothing more than routinely ratify decisions that have been made, the company’s place of effective management will ordinarily be the place where those senior managers make those decisions.
Definitive rules cannot be laid down in determining the place of effective management, and all relevant facts and circumstances must be examined on a case-by-case basis.
The location where such support services may be located is generally of limited relevance to the determination of a company’s place of effective management. The location where a company’s accounting records are retained will generally not be indicative of the place where the key management and commercial decisions are made and in these circumstances would therefore be irrelevant in determining a company’s place of effective management.
As a comparative example, the three Crown Dependencies of Guernsey, Jersey and Isle of Man are required by the EU Council’s Code of Conduct Group, commencing 1 January 2019, to review whether companies tax resident in such jurisdictions have sufficient substance there, in order to remain treated as tax resident. Failure to do so will result in the exchange of information with any connected tax authority in other jurisdictions.
The place of effective management test is one of substance over form. It therefore requires a determination of the location of those persons in a company who actually ‘call the shots’ and exercise ‘realistic positive management’.