During the South African Budget Speech earlier in 2020, National Treasury proposed a complete overhaul of the exchange control systems. This aimed to modernise and reduce some of the burdensome and unnecessary administrative approval processes by implementing a new capital flow management system.
National Treasury has since released the draft Taxation Laws Amendment Bill, 2020 on 31 July 2020 for comment, which includes tax proposals linked to the implementation of the new capital flow management system. At this stage, National Treasury has indicated that the changes to the exchange control systems will likely take place in 2021.
Proposed reforms to exchange control systems
The overhaul of the exchange control system will involve a shift from the current negative list framework. By default, all foreign exchange control actions are prohibited unless specifically approved to a positive list framework, in terms of which all cross border transactions will be allowed, (other than those that are subject to capital flow measures or pose a high risk in respect of illegitimate transactions). This is a fundamental change that will be implemented over the next 12 months.
The features of the new capital flow management framework will include:
- A shift from exchange controls to capital flow management measures to regulate cross border capital flows;
- A more modern, transparent and risk-based approvals framework;
- Stronger measures to fight illegitimate financial cross-border flows and tax evasion;
- Strengthening cooperation between the Financial Intelligence Centre, Reserve Bank, South African Revenue Service, and other law enforcement agencies; and
- Enhancing cross-border reporting requirements.
To implement the new capital flow management system, new legislation in the form of “new capital flow management regulations” is required to be drafted along with the implementation of relevant tax amendments. As noted above, it is anticipated that this will likely only be implemented during the course of 2021.
What will the impact of these changes be?
While the new system is expected to ultimately ease the compliance cost and administrative processes for many corporates, which are subject to exchange controls, based on the guidance provided by the Reserve Bank on the new capital flow management framework, it seems that very little will change initially. In particular, it has become clear that cross-border foreign exchange activities will continue to be conducted through authorised dealers and regulated by the Reserve Bank. In addition, it appears that many of the current policies applicable to related party transactions will continue to be enforced for the time being. For example:
- Inward foreign loans must be approved subject to certain set criteria;
- The transfer of South African intellectual property to a related non-resident party in whatever form is prohibited unless specially approved by the Reserve Bank;
- The loop policy for corporates and individuals (up to 40%) will remain, pending changes to the tax legislation; and
- Foreign direct investments (“FDIs”) by South African corporates will still require approval by an authorised dealer or Reserve Bank and the adjudication limits will be retained. Further loans by South African corporates to its FDIs will be permitted but loans to third party companies will be subject to Reserve Bank approval.
It is important to note that, at this stage, no specific guidance has been provided in respect of inbound service and licence arrangements and it is not clear whether these sorts of arrangements will still require the same stringent ongoing exchange control consents.
It is also important to note that the proposed new capital flow management system will require the drafting and implementation of new regulations as well as the implementation of related tax amendments to combat illegitimate transactions or those transactions that pose a high risk in respect of illicit cross-border flows.
For example, the Reserve Bank proposes that individuals who transfer more than ZAR10-million offshore will be subject to a risk management test which will include certification of tax status and source of funds, and confirmation that the individual complies with the anti-money laundering and countering terror financing requirements prescribed by the Financial Intelligence Centre Act, 2001.
In addition, the current cooperative practices in the form of automatic sharing of information between tax authorities on individuals' financial accounts and investments will remain in place to ensure that South African tax residents who have offshore income and investments pay the appropriate level of tax.
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