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Loop Structure Prohibition Finally Removed

Reading Time 3 minute read

On 4 January 2021 the South African Reserve Bank issued Exchange Control circular No. 1/2021 (the “Circular”) which gives effect to the announcement in the Minister of Finance’s 2020 Medium Term Budget Policy Statement that the restriction on loop structures will be removed with effect from 1 January 2021 so as to promote growth and incentivise investment into South Africa.

A ‘loop structure’ involves a South African resident holding assets situated in the Common Monetary Area (“CMA”), which includes South Africa, indirectly through a non-resident entity. Loop structures are currently prohibited in terms of regulation 10(1)(c) of the Exchange Control Regulations, 1961.

The Currency and Exchanges Manual for Authorised Dealers (the “Manual”) currently provides for two exceptions to the loop structure prohibition. In terms of these exceptions, private individuals (individually or collectively) or South African resident companies can acquire up to 40% equity and/or voting rights in a foreign target entity, which may, in turn, hold investments or make loans into a CMA country.

The Circular amends the Manual and removes these restrictions on loop structures allowing for private individuals and resident companies (including private equity funds) to enter into new loop structures provided such investment is reported to an authorised dealer and an annual progress report is submitted to the Financial Surveillance Department of the South African Reserve bank (“FinSurv”) through an authorised dealer. The authorised dealer must also be provided with an independent auditors written confirmation (or suitable documentary evidence) verifying that the transaction is concluded on an arm’s length basis, for a fair and market related price. On completion of a transaction an authorised dealer must provide the FinSurv with a report including inter alia:

  1. the name(s) of the South African affiliated foreign investor(s);
  2. a description of the assets to be acquired (including inward foreign loans, the acquisition of shares and the acquisition of property);
  3. the name of the South African target investment company, if applicable;
  4. the date of the acquisition; and
  5. the actual foreign currency amount introduced including a transaction reference number.

The Circular also provides that existing unauthorised current loop structures must still be regularised with FinSurv.

There are draft proposed tax law amendments to mitigate any ‘tax abuse’ which may arise due to the relaxation of the restriction on loop structures. It appears that National Treasury is anxious that loop structures may result in the loss of tax revenue in two respects. First, dividends paid by South African companies to its foreign holding entity as opposed to directly to local shareholders and second, capital gains made by the ultimate South African shareholders on the sale of their shares in the foreign entity, where before they would have been disposing of local shares. The draft amendments will result in additional South African tax being levied despite no apparent justification.

The tax proposals do not target all loop structures but only those in which the South African shareholder inserts a controlled foreign company (generally a company held more than 50% by South Africans) between themselves and the companies in South Africa.

The removal of the restriction on loop structures is a welcome step, albeit long overdue. However, the proposed tax changes go a long way in undoing the benefit of removing loop structures. The draft tax legislation has been the subject of numerous public comments which are still under consideration by National Treasury. One can only hope that National Treasury takes note of these comments and addresses the concerns raised.

This bulletin was prepared by partner Conor McFadden and candidate attorney Johan Coertze.


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