S.Africa: PE Tax Ruling and Analysis update
Table of Contents
Aug. 25 — Foreign businesses rendering services in South Africa must consider and plan for the tax consequences relating to work undertaken in the country—or suffer the same fate as that of a U.S. multinational consulting firm penalized in a recent permanent establishment case before the country’s tax court, practitioners told Bloomberg BNA.
The case related to a U.S.-incorporated global advisory group with offices in “no less than 10 foreign jurisdictions” rendering services to a client in South Africa, according to the court ruling (Case No. 13276). It was one of the country’s first disputes regarding the tax treaty concept of a PE and centered on the provisions of the double tax agreement between South Africa and the U.S. and what constituted a PE under its terms.
Although the case was specific to the U.S. firm in question, the principles “are important to any foreign entity sending staff to South Africa to render services to a client in this country,” Beric Croome, tax executive at ENS Africa in Pretoria, told Bloomberg BNA Aug. 24 during a telephone interview. Such companies “must seek advice on how to transact in South Africa and try and manage
the tax issues arising out of it,” he said.
Dispute with Tax Authority
In 2011, the South African Revenue Service (SARS) issued a tax assessment on two U.S.-incorporated limited liability companies that were part of the global advisory group that specialized in the airline industry. SARS claimed that the companies—described in the anonymized ruling as AB LLC and BD Holdings LLC—owed tax for consulting services provided to a South African entity because they were present in South Africa for more than 183 days and the use of the client’s boardroom constituted a fixed place of business under the South Africa-U.S. treaty. The appellants denied that the client’s premises fulfilled the “fixed place of business” requirement under the tax treaty, eventually resulting in the court case.
The advisory services were delivered in South Africa at the client’s premises over a 16-month period between February 2007 and May 2008. Seventeen employees worked on the project, three of whom formed the “core” of the team and were present in South Africa on a rotational basis, with the other employees being sent to South Africa as was necessary. The firm operated in the client’s boardroom.
The tax court in Johannesburg agreed with the tax authority and held in its May 2015 decision that the advisory firm’s extended presence in South Africa to provide consulting services to a South African client constituted a PE for the U.S. firm, which required it to pay tax in South Africa for the relevant tax years, plus interest and penalties.
The court ruled that even if a “fixed place of business” was a prerequisite, the general, ongoing and exclusive access that the consultants had to the client’s boardroom made it a fixed place of business, and thus the boardroom was deemed a PE for tax purposes.
Osman Mollagee of PwC Africa in Johannesburg confirmed to Bloomberg BNA in an e-mail July 27 that the U.S. group would not appeal the ruling.
Ruling Confirms Understanding of DTA
Babs Naidoo, a SARS communications official, told Bloomberg BNA in an interview Aug. 21 that the tax authority welcomes the tax court’s judgment, which—among other matters—“confirmed SARS and the U.S. Treasury’s understanding of the interpretation of Article 5(2)(k)” of the South Africa-U.S. tax treaty.
According to the provision, a PE includes “the furnishing of services, including consultancy services, within a Contracting State by an enterprise through employees or other personnel engaged by the enterprise for such purposes, but only if activities of that nature continue (for the same or a connected project) within that State for a period or periods aggregating more than 183 days in any twelve-month period commencing or ending in the taxable year concerned.”
While the present case concerned the South Africa-U.S. treaty, the ruling provides guidance on the interpretation of the concepts of a “fixed place of business” under Article 5(3) and “183 days in any twelve-month period commencing or ending in the taxable year” under Article 5(2)(k), which will be of assistance in the interpretation of similarly worded provisions in other DTAs, Naidoo said.
PE Issues Not Uncommon
Keith Engel, deputy chief executive of the South African Institute of Tax Professionals in Pretoria, told Bloomberg BNA that many cross-border taxpayers try to avoid local tax when coming through a tax treaty country by ensuring their activities do not rise to the status of a PE. “If you send one person for more than 183 days, the test is triggered,” he said.
“What happened here was a use of a series of employees, all of whom fell below the threshold,” Engel said. The taxpayers “lost out” because they assumed their time would be looked at individually. Instead, “the court aggregated the total,” he said.
Engel said another aspect of the PE relates to the client’s premises. That, as well as something owned or leased by the foreign taxpayer, can be the fixed location, he said.
Croome of ENS Africa added that when firms spend more than six months offering services in the country, they should be aware of the tax requirements, as this was one of the key outcomes of the court ruling. He noted that the judge “made the point that businesses providing services in South Africa should seek advice” before rendering services in the country.
Croome added however, that he believes the case should have been appealed to a higher court.
Vedika Andhee, Director of Human Capital at EY in Johannesburg, told Bloomberg BNA in an Aug. 24 e-mail that PE issues are prevalent not only in South Africa but across the continent.
“It is not uncommon for companies to provide the type of services mentioned (especially IT related consulting services), at their clients premises, for extended periods of time in excess of the 183 days mentioned,” she said. “The companies would allocate a ‘space’ or offices for the individuals to work,” she added, noting that besides the PE issues, there is “also a good likelihood” that the foreign individuals rendering services in South Africa are “on the incorrect visas, and are not being taxed on the remuneration earned for services rendered in South Africa.”
Aug. 26 — Foreign businesses rendering services in South Africa should consider the aggregated time of workers in calculating whether they have a permanent establishment now that the tax court in Johannesburg has rendered one of the first decisions on the tax treaty concept of a PE, practitioners told Bloomberg BNA.
The tax court in found the taxpayer’s presence in South Africa constituted a PE under the country’s double tax agreement with the U.S. when the overall time spent by its employees in South Africa was factored in aggregate, rather than on an individual basis.
The decision, rendered in May and recently published, also considered the consultants’ access to their client’s boardroom could be considered a “fixed place of business.”
The case involved an anonymized, U.S.-incorporated, global advisory group, with offices in 10 or more foreign jurisdictions rendering services to a client in South Africa.
Although the case was specific to the U.S. firm in question, the principles “are important to any foreign entity sending staff to South Africa to render services to a client in this country,” Beric Croome, tax executive at ENS Africa in Pretoria, told Bloomberg BNA Aug. 24 in a telephone interview.
Ruling Confirms DTA
Babs Naidoo, spokesperson for the South African Revenue Service told Bloomberg BNA in an interview Aug. 21 that the tax court’s judgment “confirmed SARS and the U.S. Treasury’s understanding of the interpretation of Article 5(2)(k) of the DTA.”
According to Article 5(2)(k) of the treaty, a PE includes “the furnishing of services, including consultancy services, within a Contracting State by an enterprise through employees or other personnel engaged by the enterprise for such purposes, but only if activities of that nature continue (for the same or a connected project) within that State for a period or periods aggregating more than 183 days in any twelve-month period commencing or ending in the taxable year concerned.”
While the present case concerns the South Africa-U.S. DTA, the ruling provides guidance interpreting the concepts of a “fixed place of business” under Article 5(3) and “183 days in any twelve-month period commencing or ending in the taxable year” under Article 5(2)(k), which will be of assistance in the interpretation of similarly worded provisions in other DTAs, Naidoo said.
‘Fixed Place of Business.’
The case involved a 2011 South African Revenue Service (SARS) tax assessment against two U.S. incorporated limited liability companies that were part of the global advisory group specializing in the airline industry. SARS claimed that the appellant owed tax for consulting services provided to a South African entity because it was present in South Africa for more than 183 days and because the use of the client’s boardroom constituted a fixed place of business under the South Africa-U.S. tax treaty.
The companies denied that the client’s premises fulfilled the “fixed place of business” requirement under the tax treaty, eventually resulting in the court case.
The court heard that the advisory services were delivered in South Africa at the client’s premises over a 16-month period between February 2007 and May 2008. Seventeen employees worked on the project, three of who formed the “core” of the team and were present in South Africa on a rotational basis, with the other employees being sent to South Africa as necessary. The firm operated in the client’s boardroom.
The tax court agreed with the tax authority and held that the advisory firm’s extended presence in South Africa to provide consulting services to a South African client constituted a South African PE, resulting in the U.S. firm needing to pay tax as a PE for the relevant tax years, plus interest and penalties.
The court ruled that if a “fixed place of business” was a prerequisite, the consultants’ general, ongoing and exclusive access to the client’s boardroom made it a fixed place of business, thus the boardroom was deemed a PE for tax purposes.
Osman Mollagee, a partner at PwC Africa for international tax services in Johannesburg, confirmed in a July 26 e-mail to Bloomberg BNA that the U.S. group would not appeal the ruling.
Avoiding PE Status
Keith Engel, deputy chief executive of the South African Institute of Tax Professionals in Pretoria, South Africa, told Bloomberg BNA that many cross-border taxpayers try to avoid local tax when coming through a tax treaty country by ensuring their activities do not rise to the status of a permanent establishment. “If you send one person for more than 183 days, the test is triggered,” he said.
In this case, Engel said, there were a series of employees, “all of whom fell below the threshold. Taxpayers took the position you looked individually, so the source country [South Africa] lost out.”
However, he noted, that in this case, “the court aggregated the total,” he said. “This game is also played throughout Africa. To be fair, sometimes uncoordinated employees come through on random
projects and companies don’t want to face accidental aggregation.”
Vedika Andhee, director of human capital at EY in Johannesburg, told Bloomberg BNA in an Aug. 24 e-mail that PE issues are prevalent not only in South Africa, but across the continent.
“It is not uncommon for companies to provide the type of services mentioned—especially IT related services—at their clients’ premises, for extended periods of time in excess of the 183 days mentioned,” she said.
Andhee noted generally that, besides PE issues, some foreign individuals rendering services may be on incorrect visas and are not being taxed on the remuneration earned for services rendered in South Africa.
To contact the reporter on this story: Edwin Naidu in Johannesburg at correspondents@bna.com