Exchange control loops go for a loop

By Shona Nicoll on 15 January 2021

In the 2020 mid-term budget it was announced that the prohibition of loop structure would be lifted and on 4 January 2021, the South African Reserve Bank (herein "SARB") published a circular giving effect thereto.

Loop structures arise where a South African resident holds an investment in a non-resident company that directly or indirectly holds an asset (including shares and loan claims) in South Africa or another Common Monetary Area. 

Prior to the circular, loop structures were generally prohibited in terms of exchange control regulations, specifically regulation 10(1)(c). The prohibition was subject to an exemption that permitted loop structures provided the South African resident did not hold more than 40% in a non-resident company. The basis for this prohibition was that loop structures provide a means for the export of capital from South Africa. 

The circular is effective from 1 January 2021 and apply to South Africa resident individuals, businesses and private equity funds. The practical effect of the updated regulations is that South African residents are permitted to create loop structures without the prior permission of SARB, provided the following conditions are met:

  1. the investment is reported to an authorised dealer including the names of the South African investors, description of the assets to be acquired, name of the South African target company, date of acquisition and the foreign currency amount introduced; 
  2. submission of an independent auditor's written confirmation or other suitable documentary evidence verifying that the loop structure was concluded at arm's length basis, for a fair and market related price; and 
  3. submission of an annual progress report to SARB. 
Further to the above, the circular no longer requires South African residents to confirm that there is no direct or indirect South African interest in the foreign lender when making an application for an inward loan. Additionally, the foreign inward loan funds may be sourced from a South African resident's foreign capital allowance, legitimate foreign assets and legitimate foreign earnings retained abroad. 

Tax consequences 

Despite the aforementioned relaxations, it is advised that South African residents tread with caution until the tax amendments are finalised. The draft Taxation Laws Amendment Bill proposes tax measures to combat the export of capital previously regulated by exchange control regulations. 

The proposed tax changes include the amendment of S9D of the Income Tax Act. The amendment will result in the inclusion of dividends earned from South African shares by a controlled foreign company into the net income attributed to the South African shareholder which will be taxed in his/her hands. Currently the dividends would be excluded from the net income attributable to South African shareholders. The proposed amendments in effect result in the dividends being subject to both South African dividends withholding tax and to income tax. 

It is therefore advisable South Africans delay taking advantage of the newly permitted loop structures pending the finalisation of tax amendments as it may have a substantial punitive impact.

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