New tax treaty with Mauritius may affect cross-border investment

THE new double-tax treaty between SA and Mauritius is set to come into force in January next year, following a controversial renegotiation to better protect the South African tax base.

However, tax experts have warned that sweeping changes to the treaty, including withholding taxes for interest (10%) and royalties (5%) that were wholly eliminated in the 1996 treaty, may be to the detriment of cross-border investment.

The biggest issue for most taxpayers is the revised “tie-breaker” clause that resolves tax residency status when both countries claim to have taxing rights over the same taxpayer.

The new treaty allows for the South African and Mauritian tax authorities to come to a “mutual agreement” when there is a dispute about the tax residence of a company and who has the first right to tax.

No other tax treaties with SA have a mutual agreement procedure to determine residence status. Tax treaties use the “place of effective management” test as the so-called tie-breaker in the case of a dispute.

Cynics might have surmised that SA has inserted this in the SA-Mauritius tax treaty, and not in other treaties, simply to make life difficult for multinationals that have based themselves in Mauritius.

South African Institute of Tax Professionals deputy CEO Keith Engel said this change was probably part of a larger trend. “I think we will be seeing a lot more of these tie-breaker clauses as we go forward, especially with low-tax countries.”

Webber Wentzel international tax director Dan Foster said the new tax treaty with Mauritius, which was signed in Mozambique two years ago, had now been ratified by SA and Mauritius, and would come into force in January next year.

“It is no secret that SA considers Mauritius to be a competitor in terms of being a gateway to Africa. SA would do well to consider why investors chose Mauritius rather than SA.”

Perhaps it was the fact that Mauritius had no exchange controls, simple taxes and low rates, business-friendly policies and treaties that encouraged investments, said Mr Foster.

“The existence of this mutual agreement procedure as a tie-breaker has led to considerable uncertainty and concern among multinationals that have Mauritian companies in their group structures,” said Mr Foster.

“Such a procedure has generally been considered unworkable and a barrier to trade and investment,” he added.

Mr Engel said resolutions of disputes through this method generally took at least a year or two, in the best of circumstances.

SA and Mauritius signed a memorandum of understanding setting out the factors that would be taken into account to determine which country had the taxing right.

These factors include where the meetings of the entity’s board of directors or equivalent body are usually held, where the CEO and other senior executives usually carry on their activities, where the senior day-to-day management of the entity is carried on, where the headquarters are located, where the accounting records are kept, and “any such other factors” that may be identified and agreed on by the relevant authorities in determining residence.

“While the memorandum of understanding clarifies the situation somewhat, it is not clear whether the new landscape provides the certainty most taxpayers desire,” Mr Engel said.

PwC national tax technical head Kyle Mandy said the new Mauritius treaty should make little difference in most cases.

A company that is effectively managed in SA is likely to continue to be regarded as South African tax resident under the new Mauritius treaty.

However, this will no longer apply automatically and the South African and Mauritius tax authorities will need to agree on the residence of the company each time a company is regarded as tax resident in both countries.

“Until such time as the authorities have agreed, the company will not have access to the treaty and will run the risk of being taxed in both countries and suffering double taxation as a result,” Mr Mandy warned.

“The immediate concern is whether both tax authorities will have adequate resources and capacity to resolve the issue within a reasonable time period in order to minimise uncertainty for taxpayers,” he said.

If the two tax authorities cannot reach an agreement on who has the taxing right, a company that contends that it does not have its place of effective management in SA, will ultimately have to take it to court.

“The treaty itself does not seemingly provide a remedy for the situation where the tax authorities cannot agree on the place of residence,” Mr Mandy said.