For almost a decade South Africa has been levying a dividend withholding tax (DWT) on dividends paid to non-residents.
Various Double Taxation Agreements (DTA) reduced the DWT rate, with some reducing the rate to nil.
A reduced rate of nil was detrimental to the fiscus and SARS tried to have such DTA’s amended as quickly as possible. The problem is that in order to change a DTA, the Government of SA and that of the foreign country need to agree on any change. Surprisingly, this was completed rather quickly before the introduction of DWT and for the few remaining countries after the introduction of DWT – except for one.
Fortunately, or unfortunately, depending on which side of the fence you were sitting, the DTA with Kuwait still provides that SA cannot levy any DWT on a dividend.
Practically this did not seem to create much of a problem for the fiscus in regard to dividends declared to Kuwait.
The main problem involved Swedish and Dutch companies. In terms of the Swedish and Dutch treaties there is the so called “most favoured nation” (MFN) clause.
Using the applicable countries, in essence a MFN clause states for example that the Netherlands, in terms of the DTA, will agree to a withholding rate of say 10% but if SA then agrees to a rate of say 5% with another country, then the treaty rate (per the treaty between SA-Netherlands) will automatically reduce to 5% - there is no need for further time consuming negotiation: the rate is automatically reduced.
A brief history
In 2004 SA concluded a DTA with Kuwait (with the effective date being a few years later). Per the DTA, SA could not levy any DWT on any dividends paid to a company which was a resident of Kuwait.
The Swedish DTA had a similar exclusion clause that applied in certain circumstances and, due to the introduction of DWT, SA negotiated a Protocol with Sweden which entered into force on 18 March 2012. In summary per the Protocol, the levying of DWT was now allowed at a maximum rate of 5% if the shareholder (being a company) owned at least 10% of the company paying the dividend. Basically, in the cases where the rate had been 0%, it went to 5%.
However, the Protocol also provided that if any agreement between SA and a third state provides a better rate generally or specifically then such rate generally or specifically as the case may be would automatically apply in terms of the SA- Sweden DTA. This is a MFN clause and importantly, it was not made to apply only to agreements between SA and a third state entered into after the date the Protocol was entered into: it therefore also applied retrospectively.
Since the SA-Kuwait DTA does not levy a DWT, the MFN clause in the SA-Sweden Protocol automatically meant that there would be no DWT on dividends paid to residents of Sweden.
Probably by default as opposed to design, it did not seem as if companies were making use of the MFN clause. In turn this did not seem to cause much of an issue for SARS.
The main issue was the Netherlands which only became a concern after the Protocol with Sweden was effective.
Prior to 2009, the Netherlands-SA DTA also stated that there would be no DWT if the shareholder (a company) owned at least 10% of the company paying the dividend. In view of such clause, SARS also entered into a Protocol with the Netherlands to change the rate. This was done on 23 January 2009 (before the Sweden Protocol). In summary, DWT was now allowed to be levied at a maximum rate of 5% if the shareholder (being a company) owned at least 10% of the company paying the dividend.
The SA-Netherlands Protocol also contained a MFN clause. The clause in essence stated that if after the conclusion of the new Protocol with the Netherlands, SA and a third country enter into a DTA which reduces such DWT, then such reduced rate will automatically apply to the SA-Netherlands DTA.
With some not so fancy footwork it can be seen that the updated DTA with Sweden which was entered into after the Protocol with the Netherlands could be utilised to reduce the DWT to nil i.e. per the Swedish DTA (as amended and per the MFN) no DWT could be levied due to the Kuwait rate of nil. Then per the MFN clause of the Netherlands DTA, since the Sweden DTA had a better rate (nil), such better rate should then be applied in the case of companies holding at least 10 percent of the capital of the company paying the dividends, in terms of the Netherlands DTA.
To be fair the treatment per the DTA applies both ways, so if the Netherlands company declares a dividend to a South African company that holds at least 10 percent of its capital, it may not levy DWT.
It seemed as if both SARS and the Netherlands tax authorities disagreed with such an interpretation and the matter went to court in the Netherlands. The tax authority lost, with the result being the dividend paid in that case to a South African resident company was not subject to DWT.
A South African Income Tax Court also supported the above interpretation, in ABC (Pty) Ltd v CSARS (Case 14287).
The above interpretation was more problematic for the South African fiscus as the Netherlands has historically been favoured as what would often be referred to as a good intermediate holding location, i.e. a large corporate group would often locate a company in the Netherlands and such company would own various subsidiaries.
It would seem that this factual scenario did indeed apply to various Netherlands companies which owned shares in SA companies. In view of the above, the terms of the treaties needed to be changed. This is a task easier said than done.
A New Protocol
On 1 April 2021 SA and Kuwait entered into a Protocol to amend the DTA. In short in terms of DWT the DWT rate will be 5% if the shareholder owns at least 10% of the SA company.
What this means is that, once the Protocol is ratified, effectively the 0% ‘loophole’ will no longer be available.
Effective Date
An important issue in terms of the Protocol is when will it will take effect. The Protocol will need to be Gazetted and it would then be effective once Kuwait and SA have notified one another that the Protocol is in force. The effective date will be the date of the later of these notifications.
An unusual feature of the Protocol in regard to the dividend amendment is the following passage:
“The provisions of this Protocol shall thereupon have effect beginning on the date on which a system of taxation at shareholder level of dividends declared enters into force in South Africa.”
The passage is somewhat confusing. An easy interpretation could be that as DWT was introduced almost a decade ago, the Protocol applies from then onwards. This could of course mean that any dividends declared from SA to Netherlands/Sweden or vice versa on which no DWT was withheld, was incorrect.
If SARS were to attempt to follow this interpretation, ignoring possible prescription issues, we would be of the view that a SA court is unlikely to allow for such retrospective application.
Another interesting issue is given that now that the Protocol is available (although, it must be conceded that it could not be found on SARS’s website) whether a court would hold that any dividends declared now, even before such Protocol is effective, still be subject to such DWT because of the above passage. The Protocol is not currently effective. However, if it becomes effective by the end of the year, will SARS be allowed to go back to any dividends declared from at least 1 April 2021 and argue that such dividends should have been subject to DWT on the basis of the above passage? No immediate answer can be provided, but we must caution that there is a risk in continued reliance on the zero rate of DWT.