Outsourcing and the Foreign Business Establishment Rule for CFC Purposes

• Jurisdiction: South Africa
• Date: 01 March 2023
• Pages: 13-23
• Author: Wally Horak,James Mckinnell
• Published date: 01 March 2023
• Published By: Siber Ink
• DOI: 10.10520/ejc-btclq_v14_n1_a3

13

© Juta and Company (Pty) Ltd

Outsourcing and the Foreign

Business Establishment Rule for

CFC Purposes:

WHY THE SCA GOT IT WRONG IN CSARS V

CORONATION INVESTMENT MANAGEMENT SA (PTY)

LTD

WALLY HORAK,* JAMES MCKINNELL†

ABSTRACT

The judgment recently delivered by the Supreme Court of Appeal in the case

of CSARS v Coronation Investment Management SA (Pty) Ltd, has caused signif‌i -

cant uncertainty and concern amongst South African multinational enter-

prises which operate via subsidiaries in foreign countries. The judgment had

to consider the requirements under section 9D of the Income Tax Act 58

of 1962 to qualify for the foreign business establishment (FBE) exemption

from the controlled foreign company (CFC) rules, which may result in the

imposition of South African normal tax on the South African parent company

(‘Coronation SA’) of an amount equal to the net income of the CFC.

In particular, the question was whether the CFC (‘Coronation Ireland’) may

determine the scope of its primary business conducted in the foreign country

or whether objective factors determine the potential scope of such business.

The SCA considered the question with reference to the CFC’s Memorandum of

Association and its business licence and concluded that the CFC was entitled

to conduct the wider business of fund management and investment manage-

ment and the fact that it decided to outsource its investment management

functions implied that it did not conduct its primary business via the FBE in

Ireland. Therefore, the SCA rejected the notion that the primary business is

determined with reference to how the CFC chooses to operate, i e the choice

of a business model cannot alter the primary operations of the CFC. The SCA

thus held that the CFC did not qualify for the FBE exemption. With respect to

the imposition of an understatement penalty and under-estimation of provi-

sional tax penalty, the SCA found that the taxpayer relied on a legal opinion

that it was entitled to the FBE exemption and there is nothing to suggest that

the taxpayer’s tax returns were not submitted in the bona f‌i de belief that it

may be eligible for the FBE exemption. Therefore, the Court ruled that the

claim for understatement penalties and under-estimation penalties must fail.

Background facts

Coronation Investment Management SA (Pty) Ltd (Coronation SA) estab-

lished Coronation Global Fund Managers (Ireland) Limited (Coronation

* Head of Tax, Cape Town, Bowmans.

†

Head of Litigation, Cape Town, Bowmans.