The Constitution Court (“the Court”) had the final word on the Coronation Investment Management SA (Proprietary) Limited (“Coronation SA”) v Commissioner for the South African Revenue Service (“SARS”) case on 21 June 2024. The matter dealt with the Income Tax Act’s section 9D-exemption in relating to foreign subsidiaries of South African-based companies, i.e. controlled foreign companies or CFCs.
The case boiled down to two issues, i.e. what was Coronation SA’s Irish subsidiary’s “business” and consequently, what was its “primary operations”? This would ultimately determine if Coronation Ireland’s income was exempt pursuant to section 9D from South African income tax. The exemption would apply if the requirements of a “foreign business establishment” (“FBE”) as defined, were met.
The matter related to Coronation SA’s 2012 tax year of assessment. The Irish subsidiary of Coronation SA relevant to the matter is Coronation Global Fund Managers (Ireland) Limited (“Coronation Ireland”), with two other subsidiaries also being relevant, i.e. Coronation International Limited (“Coronation UK”, a British company) and Coronation Asset Management (Proprietary) Limited (“CAM”, a South African company). A diagram of the complete Coronation organisation structure is available here: https://www.coronation.com/en-za/personal/shareholder-information/corporate-structure/
Background:
South African tax residents, including South African companies, are taxed on a worldwide basis. Section 9D was implemented to determine the taxation of South African-owned foreign companies on income earned abroad. It aims to balance the competitiveness of South African multinational businesses in a global economy whilst protecting the South African tax base.
Coronation Ireland and other subsidiaries
Coronation Ireland is a subsidiary of Coronation SA, and a controlled foreign company (“CFC”). Coronation Ireland is licenced in terms of Irish laws as a fund manager.
Its business entails the administration of its collective investment scheme (“the fund”), acting as the custodian thereof, managing the investments as well as the marketing / distribution of the fund.
As with the majority of fund managers’ common commercial practice, Coronation Ireland delegated its investment management trading activities to Coronation UK and CAM. Very few companies similar to Coronation Ireland were approved by the Irish licencing authority to conduct both fund management and investment management trading activities in respect of the funds they were managing.
In addition, both Coronation UK and CAM were appropriately licenced to do so in terms of the relevant British and South African laws. These two subsidiaries were independently regulated as specialist investment managers within the jurisdictions they operate in. Ultimately, Coronation UK and CAM remained accountable to Coronation Ireland as its supervisor, retaining the overall responsibility of the fund’s prospectus and risk appetite.
Coronation Ireland’s directors held quarterly meetings to determine its business strategy and via the executive employees, managed the daily operations of the business. Oversight and supervision of Coronation UK and CAM’s functions form an integral part of Coronation Ireland’s responsibilities.
It is important to note that this operating model was in accordance with a similar business conducted by Coronation SA in SA, i.e. differentiating between fund management and investment management with different entities being responsible for each and the investment management entity reporting to the fund manager. It was therefore based on sound commercial practice.
In broad strokes, SARS contended that Coronation Ireland outsourced all of its core functions to Coronation UK and CAM (our emphasis).
Section 9D explained
A FBE in relation to a CFC means, in terms of section 9D(1), that Coronation Ireland had to a have a “fixed place of business” in Ireland for purposes of “carrying on of the business” for at least a year with one or more offices there. The office, i.e. the “fixed place of business”, should be “suitably staffed”, “suitably equipped” with “suitable facilities” for “conducting the primary operations of that business”. These are the requirements per section 9D(1) of the Income Tax Act.
The exemption in terms of section 9D(1) would apply if the requirements of a FBE as defined, were met. The Court held that Coronation Ireland’s business is fund management with a supervisory role in relation to Coronation UK and CAM, and Coronation Ireland’s activities as set out above were its primary operations.
Economic substance was of utmost importance in this matter whilst determining Coronation Ireland’s business and primary operations, i.e. the substance of the business had to be proven and not just exist as “merely an illusory or ‘paper’ business”.
Outcome and comments
The Court held that the Supreme Court of Appeal’s judgment in favour of SARS was “legally and factually unsustainable” and that “it does not make commercial sense at all”.
It further held that the FBE definition in terms of section 9D is not a “anti-outsourcing enactment” and that the “offshore business, regardless of its chosen business model, has economic substance”. The Court reiterated that section 9D’s objectives aim to ensure that South African offshore subsidiaries remain competitive with its competitors.
It also held that SARS and the courts “will objectively consider” CFCs and FBEs business operations to determine the commercial rationale and whether the business has economic substance.
Consequently, there is no “one size fits all” recipe to apply. Each FBE’s business and primary operations would look different, it would have different needs in terms of staffing, equipment and facilities, and operating models will differ from business to business. It may, as is the case here, be very specific to the company and the sector it operates in.
Therefore, specific sectors as well as legal and jurisdictional environments will differ from each other. Within these variables, commercial rationale and economic substance should be the cornerstones when establishing foreign subsidiaries within the South African context (if the intention is for section 9D’s FBE exemption to apply).
For queries relating to the article or potential advice, please contact Suzanne Smit at suzanne@fidelisvox.co.za.