How best to hold offshore assets
Tony Davey
Offshore Planning
'A correctly structured offshore company/trust combo can be an income tax efficient vehicle'
THERE are many vehicles commonly used to hold your offshore assets. In the simplest form, offshore investments are held by an individual in his or her own name. Other structures include an offshore trust or company or even a trust/company combination.
The latter, being the most sophisticated structure, has a number of advantages.
It is a combination of a company and a trust - of which you and your family are the beneficiaries - with the trust owning the shares in the offshore company.
Income Tax Planning
Section 9C of the Income Tax Act deems foreign-sourced investment income to be from a South African source in certain circumstances. But it's only "investment income" as defined in this section which is subject to tax.
"Investment income" is defined as being: annuities (excluding social security and pensions in respect of past employment), interest, rentals, royalties, and income of a similar nature.
So, for the individual investor it is tax efficient to invest in avenues which yield "noninvestment income" such as shares, endowment policies and unit trusts (mutual funds) because dividends, bonuses on policies, and capital appreciation are exempt from SA income tax.
But a correctly structured offshore company/trust combination can be an income tax efficient vehicle for alternative offshore investments.
The offshore company/trust combo, as the owner of the investments, is not ordinarily resident in SA. So, provided the company is not a controlled foreign entity, the deeming provisions of Sections 9C and 9D in the Act, which deem foreign investment income to be from an SA source and hence potentially taxable, don't apply.
For example, rental income from a London flat owned by you is taxable, whereas the same income earned by an offshore company with dividends remitted to its shareholder (the offshore trust) is not taxable in SA.
What about the controlled foreign entity (CFE), you may ask. This is a vehicle defined in the Act as an entity, effectively managed outside SA, in which South African residents hold more than 50% of the participation rights or are entitled to exercise more than 50% of the votes or control of such an entity.
But given that the offshore trust is the shareholder and not you, and assuming the trustees exercise independent judgment, the offshore company will not be seen as a CFE.
A problem on transfer pricing?
In the context of investment planning, when a South African transfers monies into an offshore trust, it would be made by way of either a donation or loan finance.
When a donation is made, 25% donations tax would be payable because the donor is a person usually resident in SA. So it's preferable to transfer monies to the offshore trust via a loan.
But in terms of Section 31, the Commissioner of Inland Revenue could impute an interest rate on the "soft loan" which, because it is interest income, would be taxable in the lender's hands.
An offshore company could be interposed between the SA lender and the offshore trust. In lieu of a loan to the trust, the investor subscribes for preference shares in the company.
The company uses such money to buy investments, the growth of which is attributable to the offshore trust which holds the ordinary shares in the interposed company.
As the preference share transaction is not goods or services (as defined in Section 31) this section is not operative. Anyway, a deemed dividend return is tax-free.
Commercial presence
It's not uncommon for a company to be engaged in business activities such as property transactions, whereas a trust tends to assume a more passive investor role.
A company acts through its directors while a trust usually needs a resolution supported by all trustees before embarking on any investment or business venture. It follows that commercial pragmatism favours a company/trust combo with the company entering into transactions with the trust behind the scene as a passive shareholder.
Advocate Tony Davey is a director of Incentive Holdings Ltd
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