Out-Law News 2 min. read

South African firms ‘need level playing field on tax to compete in digital economy’


South African companies “cannot compete on an equal footing” with multinationals providing digital goods and services in the country, said professional services firm PwC in a new report .

The country’s tax laws “have not kept pace with the growth of the digital economy and changes in the way in which business is conducted”, PwC said. “They were designed at a time when today’s technology and business models were the work of science fiction and the ability of a company to conduct business in a country required a physical presence in the country.”

According to PwC, foreign entities are only subject to tax in South Africa on income derived from a source in South Africa. “However, the source rules were developed a century ago before the digital economy existed and do not take into account the way in which the modern economy operates. As a result, multinationals can avoid paying tax in South Africa because the source of their income is not in South Africa, notwithstanding that they operate in the local economy.”

Eloise Walker of Pinsent Masons, the law firm behind Out-Law.com said: “Getting taxation right in the digital age is a huge challenge, particularly when income sources don’t match a company’s physical location. Authorities must approach the area with caution to balance the aims of increasing revenues, encouraging foreign investment, and aiding local economies. All of South Africa’s neighbours should be watching to see if they can take advantage of any hasty actions.”

PwC’s head of national tax technical Kyle Mandy said: “Significant legislation changes will be required to level the playing fields and provide a solution. However, any domestic rule changes are unlikely to be successful in the absence of a global solution, which will entail reforms to the international tax system and tax treaties in particular.”

The head of indirect tax for PwC Africa Charles de Wet said: “We are living in an era of unprecedented digital change – the type of change that is reshaping the relationship between customers and business and prompting forward-looking chief executive officers to question the very business they are in.”

There are also worldwide reports of multinationals “that pay little or no tax in the markets in which they generate profits”, de Wet said. “Not only is this position unsustainable but it distorts competition between companies, as well as placing the multinational at an advantage over local businesses operating in the market.”

De Wet said: “It is not surprising that the tax laws have not kept up with the digital era and South Africa is not unique in this regard. The pace at which the digital economy is growing will require action from South Africa’s tax authorities, as well as an overall global solution to level the playing fields so that South African companies are able to compete with big multinationals on a level playing field.”

In September 2014, the Organisation for Economic Co-operation and Development (OECD) released its final report on the tax challenges of the digital economy under its ‘Action Plan on Base Erosion and Profit Shifting’ (BEPS).

The OECD said its report recognised “that the changes brought about by the digital economy raise systemic challenges regarding the ability of the current international tax framework to ensure that profits are taxed where economic activities occur and where value is created”.

The report did not recommend adopting a ‘virtual permanent establishment standard’. However, the report did outline “potential options to address the broader tax challenges of the digital economy”, including a new threshold for taxation based on a so-called ‘significant digital presence’.

“Under such a proposal, an enterprise engaged in ‘fully dematerialised digital activities’ could be deemed to have a taxable presence in a country if it maintained a significant digital presence,” the OECD said.

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