Withholding tax on service fees as a method to combat base erosion and profit shifting

Abstract

Around the globe, including in South Africa, there has been an increasing occurrence of cross-border service fees being used by multinational enterprises to shift profits. South Africa did not have legislation to implement a withholding tax on the service fees. Because of the deductions allowed for these amounts paid when the taxable income is calculated in terms of South African taxation legislation, base erosion can occur. Research indicates that billions of rands are lost through this type of erosion. As a consequence, legislation to levy a withholding tax on service fees paid was assented. In terms of the Taxation Laws Amendment Bill released by the South African National Treasury in 2013, withholding taxes will be levied on service fees paid as part of the South African Government’s attempt to protect its profit base. This legislation was assented on 12 December 2013. The effective date is however proposed to be postponed to 1 January 2017. This indicates that there are uncertainties as to the effectiveness of the legislation and whether it is the most appropriate mechanism to apply in the South African context. Owing to the possible impacts on the South African resident, the research gained insights into whether the assented legislation is fundamentally sound enough to achieve its goal. By performing qualitative research and critical comparative analyses, the research gained an understanding of the service fees countries should be entitled to tax and the need for legislation to protect the tax base created from service fees. This article explores how the assented legislation compares to the conceptual frameworks developed by bodies involved in designing policy frameworks such as the Organisation for Economic Co-operation and Development (OECD) and the United Nations (UN). The results of the research are that the assented legislation is a combination of both the views of the UN and the OECD. The mechanism used is a withholding tax but its application is limited to service fees generated within the borders of South Africa. It was found that the assented legislation to achieve the goal intended by National Treasury is fundamentally flawed and that alternative mechanisms could be more appropriate