Page 304 - SAIT Compendium 2016 Volume2

IN 18 (3) Income Tax acT: InTeRPReTaTIon noTes IN 18 (3)
Example 36 – Utilisation of excess foreign taxes carried forward from a previous year
Facts:
A resident company conducts trading operations in South Africa as well as Country C. In year 1 the resident company had an assessed loss from its South African operations which exceeded the taxable income earned from its operations in Country C. As a result excess foreign taxes of R400 000 were carried forward under paragraph (ii) of the proviso to section 6quat(1B)(a) to year 2 to qualify for a foreign tax rebate. In year 2 the resident company earned taxable income from the operations conducted in Country C of R1 500 000. The government of Country C granted special tax incentives in year 2 and as a result no tax was payable in Country C. The resident company’s operations in South Africa in year 2 give rise to income of R15 000 000 and deductible expenses of R10 000 000. The corporate tax rate is 28%.
Result:
Year 2
South African taxable income or assessed loss Foreign operations – Country C
South African operations
Total taxable income for year 2
Normal tax payable at 28%
Less: Section 6quat(1) rebate*
Final tax payable
* Section 6quat(1B)(a) rebate limitation:
R
1 500 000 5 000 000 6 500 000 1 820 000
(400 000) 1 420 000
Taxable income derived from all foreign sources _______________________________________ × Normal tax payable
Taxable income derived from all sources
= R1 500 000 / R6 500 000 × R1 820 000 = R420 000
No foreign taxes are payable in year 2, however there was taxable income from foreign sources in year 2 and as a result the excess foreign taxes from year 1 can potentially be used in year 2. The maximum amount of rebate in year 2 is R420 000 which means that the full amount of the excess foreign taxes of R400 000 carried forward from year 1 can be fully used in year 2.
4.9 Interaction between tax treaty credit method and section 6quat(1) rebate method
4.9.1 Tax treaty methods for providing relief from double taxation
This paragraph of the Note discusses the article in tax treaties which deals with the elimination of double taxation not otherwise already eliminated by a country’s domestic tax law or the distributive tax rules in the tax treaty. For example, a tax treaty may grant a particular country the sole taxing right which means that there is no double taxation which needs to be addressed by the article in the tax treaty speci cally dealing with the elimination of double taxation.* Tax treaties employ two principles to address double taxation, namely, the exemption principle or the credit principle. Under the credit principle, the resident state calculates the resident’s tax under its domestic law taking into account the applicable provisions of the tax treaty and it then allows a deduction from its own tax for the taxes paid in the other country.† Two credit principle methods are –
• the ‘full credit’ method under which the resident state allows a deduction from local tax of the total tax paid in the
other country on income which is also taxed in the resident state; and
• the ‘ordinary credit’ method under which the amount of the deduction from local tax permitted by the resident state
for the tax paid in the other country on income that is also taxed in the resident state is limited to its own tax which is applicable to that income.
The majority of the tax treaties concluded by South Africa provide for the elimination of double taxation by way of the ordinary credit method while a few of the older treaties provide for the exemption method of relief in the article dealing with the elimination of double tax.‡ None of South Africa’s tax treaties provide for the ‘full credit’ method of relief.
4.9.2 General principles that apply to interactions between domestic legislation and tax treaties
In respect of the interaction between domestic legislation and tax treaties, the OECD commentary on article 23B provides the following:§
* In Klaus Vogel on Double Taxation Conventions in paragraph 36a at page 1130 Vogel points out ‘... the heading (Methods for elimination of double taxation)... is misleading... it gives the impression that methods to eliminate double taxation are exclusively dealt with in Art. 23A and B (a more precise heading would be: ‘Methods for eliminating residual double taxation’).’
† Depending on the particular tax treaty, in some circumstances where the foreign tax which would otherwise be payable has been reduced in accordance with laws designed to promote economic development, the amount of the reduction is considered to be a tax paid for purposes of calculating the credit relief available under section 6quat(1) and the tax treaty. For example, see article 22(2) of the tax treaty between South Africa and Botswana.
‡ For example in the tax treaties with Germany, Zambia and Zimbabwe. § OECD Commentary on Article 23B, in paragraph 60 at page 342.
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