Page 276 - SAIT Compendium 2016 Volume2

IN 18 (3) Income Tax acT: InTeRPReTaTIon noTes IN 18 (3)
in the context of section 6quat the term ‘source’ should be given the less-restrictive meaning of ‘the quarter from which it comes’ rather than the meaning of ‘originating cause’. The purpose of this Note is not to provide an in-depth analysis of the meaning of source or to discuss alternative views on source. Nevertheless, SARS has considered this view, but does not accept it.
(c) Deeming source rules in tax treaties which override actual source rules
A tax treaty between South Africa and a foreign country may contain ‘deemed source’ rules for determining the source of certain items of income and capital gains. In circumstances where this is the case, the outcome from applying the deemed source rules is applied for purposes of the Act as a whole.
Accordingly, if the outcome of the application of the deemed source rules in a tax treaty* is that the source of a particular amount is different to the position reached when applying the provisions of section 9 and common law principles, the deemed tax treaty source rules applies for purposes of, for example, gross income and section 6quat. It could mean that South Africa loses its right to tax a non-resident on actual South African-source income or that South Africa needs to grant a resident a foreign tax rebate under section 6quat(1) on actual South African-source income. However, this is an acceptable consequence of tax treaties.
Example 4 – Deeming source rule for interest under a tax treaty
Facts:
A resident company derives interest income as a result of money lent to a Namibian resident. The funds are used by the Namibian resident in South Africa.
Result:
Under section 9(2)(b)(ii) interest income is derived from a source in South Africa when it is received for the use or application in South Africa by any person of funds or credit obtained under any form of interest-bearing arrangement. However, under paragraph 5 of article 11 of the tax treaty entered into between South Africa and Namibia, the interest income is deemed to be derived from a source in Namibia as the payer is a person resident in Namibia. Paragraph 5 of article 11 reads as follows:
‘5. Interest shall be deemed to arise in a Contracting State when the payer is that State itself, a political subdivision, a local authority or a resident of that State.’
Accordingly, notwithstanding the fact that the funds are used by the Namibian resident in South Africa, the source of the interest is Namibia as paragraph 5 of article 11 of the tax treaty overrides the source rule under section 9(2)(b)(ii).
While the tax treaty treats the interest income earned by the resident company as being derived from a source in Namibia, and therefore permits Namibia to impose tax on such interest income under paragraph 2 of article 11 of the tax treaty, South Africa still has the right to tax the interest income in the hands of the resident company under paragraph 1 of article 11 of the tax treaty. However, under article 23 of the tax treaty, South Africa (as the country of residence) will need to provide a rebate for the tax, if any, suffered in Namibia. South Africa21 will exercise its right to tax the income by including the interest in the resident company’s gross income and taxable income and may potentially grant a rebate for Namibian tax on the interest income under section 6quat(1).
Example 5 – No deeming source rule for interest under a tax treaty
Facts:
A resident company derives interest income as a result of money lent to a person resident in Country Z. The funds are utilised in South Africa. Country Z taxed the resident company on the interest.
The tax treaty entered into between South Africa and Country Z does not provide for a deemed source rule for interest income in favour of Country Z.
Result:
Under section 9(2)(b)(ii) interest income is derived from a source in South Africa when it is received for the use or application in South Africa by any person of funds or credit obtained under any form of interest-bearing arrangement. South Africa will not grant a rebate under section 6quat(1) for the taxes levied by Country Z on the interest income because the interest income is derived from a source in South Africa.
Example 6 – Source: interaction between common law and the tax treaty
Facts:
A resident company manufactures teapots in South Africa which are sold in stores run by the resident company in South Africa and Country X.
Assume that based on the speci c facts and circumstances of the case the originating cause of the income is the manufacturing activity which is conducted in South Africa.
The business pro t article in the tax treaty entered into between South Africa and Country X provides that –
‘the pro ts of an enterprise of a Contracting State shall be taxable only in that State unless the enterprise carries on business in the other Contracting State through a permanent establishment situated in that other State. If the enterprise carries on business in that manner, the pro ts of the enterprise may be taxed in the other State but only so much of them as is attributable to that permanent establishment’.(Emphasis added.)
The store operated by the resident company in Country X constitutes a permanent establishment as de ned in the tax treaty. Accordingly, under the tax treaty South Africa and Country X have a right to tax the income.
* Taking into account any agreement reached in an applicable mutual agreement procedure. † As the country of residence.
268 saIT comPendIum oF Tax LegIsLaTIon VoLume 2