Dividend Withholding Tax (DWT) is levied on distributions that constitute a "dividend", as defined in the Income Tax Act (ITA). This means that a 20% withholding obligation exists unless an exemption applies or, in the case of dividends distributed to non-South African resident shareholders, such dividend rate is reduced under an applicable Double Taxation Agreement (DTA). Most of South Africa's DTA's require a minimum percentage shareholding to get the maximum reduced rate of 5%, otherwise, the reduced rate is generally 10% or 15%. However, there are limited instances where the DWT rate can be reduced to 0%.
As a simple example, Article 10(1) of the South Africa /Kuwait DTA effectively provides for a DWT rate of 0%. One can easily see that this is not something that sits well with National Treasury, particularly when one considers the implication of this provision when coupled with the so-called Most Favoured Nation (MFN) clause in some DTAs. In simple terms, the MFN clause provides for the automatic application of a lower rate of DWT if South Africa and a "third country" conclude a double taxation treaty that provides for a lower rate. Without going into the technical arguments of how it is applied, the MFN clause, when read together with the South Africa/Kuwait DTA, means that the rate of 0% will apply to certain DTAs.
DTAs where this finds application are the South Africa/Sweden DTA, the South Africa/Netherlands DTA and the South Africa/ United Kingdom DTA. In the case of the South Africa/ United Kingdom DTA, the MFN application is complicated by the fact that the DTA provides that the countries shall enter into negotiations with a view to providing comparable treatment as may be provided for in respect of a tax treaty with a third State.
The gist here, though, is that the opportunity exists to apply a 0% DWT rate and this is not something that National Treasury is happy with. For several years the National Treasury has been pursuing a change in the DWT rate in the South Africa/ Kuwait DTA. Per the National Treasury, the implementation of the DWT in 2012 was contingent on the renegotiation of ten tax treaties that had a zero withholding tax rate on dividends. All the protocols amending these tax treaties have been in force since 2008, except the South Africa/ Kuwait Protocol, which, while eventually signed in April 2021 after fourteen years and ratified by South Africa, is still awaiting ratification by the Kuwait Government for it to come into effect. Until it is ratified by both governments, the status quo remains that the 0% DWT rate applies and the MFN argument can still be used to obtain the benefit of the 0% DWT rate. It is worth noting that, in a submission to the Committee for the National Council of Provinces, National Treasury has noted that if the Protocol is not ratified by the Kuwait Government, National Treasury will approach parliament and begin the process of termination. This would mean that the DTA would be terminated and the MFN benefit would fall away.
However, what is of more concern is the position if the Protocol is in fact ratified and then comes into effect. This is because the intention is that the "provisions of the Protocol shall thereupon have effect beginning on the date on which a system of taxation at shareholder level of dividends declared enters into force in South Africa".
This would effectively mean that, if ratified, the 0% would fall away retrospectively as from 1 April 2012, when DWT replaced the Secondary Tax on Companies in South Africa. It would appear that this is merely an overhang from the renegotiations, given that they commenced in 2007 prior to the introduction of DWT, and so the intention would be for it to be a forward-looking provision. Unfortunately, now it would mean that it is a retrospective provision, which then gives rise to very complex and far-reaching consequences in terms of the application of the MFN since 1 April 2012, and in those instances where South African companies have been applying a DWT rate of 0%.
South African companies should therefore be aware of these developments and clauses and seek advice as to the implications, both on historical dividends and future dividends, declared and paid before the DTA is ratified.
Written by Denny Da Silva, Director Designate, Tax Practice, Baker McKenzie Johannesburg