By Megan Landers, Senior Manager, AJM
What is a Controlled Foreign Company (CFC)?
A controlled foreign company (“CFC”) is a foreign company in which more than 50% of the total participation rights or voting rights are directly or indirectly held or exercisable by one or more South African residents. Notably, a person is deemed not to be a South African resident for the purpose of determining the 50% threshold if that person holds less than 5% of the participation rights in a listed company or collective investment scheme.
The net income of the CFC, which is calculated as if the CFC were a South African tax resident, is imputed and taxed in the hands of the South African residents in proportion to their participation rights. Yes, even if the net income is not distributed to the shareholders. However, specific exemptions and exclusions apply, the most notable of which is as follows:
- High-tax exemption: If the CFC pays at least 67.5% of the tax that it would have paid had it been a South African tax resident, the CFC’s net income will not be imputed and taxed in the hands of South African residents.
- Foreign Business Establishment (“FBE”): If the net income of the CFC is attributable to a FBE of the CFC, the CFC’s net income will not be imputed and taxed in the hands of the South African tax residents, subject to certain exclusions. An FBE is defined as a fixed place of business located outside South Africa that is utilised for carrying on the business of the CFC for no less than a year, which is suitably staffed and equipped with facilities for conducting the primary operations of that business. In Coronation Investment Management SA (Pty) Ltd v CSARS, the Constitutional Court confirmed that the enquiry in determining whether a CFC has an FBE is a two-stage process: (a) identifying the “business of that controlled foreign company” and (b) determining whether the fixed place of business was suitably staffed and equipped for conducting “the primary operations of that business”. It further notes that the FBE exemption aims to ensure that an offshore business has economic substance in the foreign country and is not merely an illusory or “paper” business.
- 10% exclusion: If a South African resident, together with any connected person in relation to that South African resident) at the end of the foreign tax year of the CFC, in aggregate holds less than 10% of the participation rights or may not exercise at least 10% of the voting rights in that CFC.
Why does South Africa have Controlled Foreign Company (CFC) Rules?
Section 9D of the Income Tax Act, 58 of 1962, where the CFC rules are found, was introduced as an anti-avoidance measure to prevent South African residents from shifting profits to low- or zero-tax jurisdictions through the use of foreign subsidiaries, thereby reducing South Africa’s tax base. Furthermore, to encourage South African companies to expand their businesses offshore while discouraging “shell” companies with no real economic substance, and to ensure that South Africa’s tax system aligns with global best practices.
South Africa’s sophisticated and robust CFC rules meet the policy goals. They are broadly in line with the Organisation for Economic Co-operation and Development (OECD) and comparable to those of other G20 countries. The CFC rules support legitimate offshore expansion by South African companies, offering high-tax and FBE exemptions. Moreover, South Africa enforces transparency and compliance through the Common Reporting Standards (CRS) and its participation in FATCA and country-by-country reporting for large multinationals.
Comparing South Africa’s CFC Rules with Other Jurisdictions
As mentioned above, South Africa’s CFC rules are generally in line with international standards; compared to countries like the United States, the United Kingdom, and Germany, the definition of a CFC is broadly similar. The resident, or any connected person in relation to the resident, must hold more than 50% in the foreign company, either directly or indirectly. However, South Africa’s 5% shareholding threshold for excluding resident shareholders from the CFC definition in certain circumstances is particularly low in comparison to the UK’s 25% shareholding threshold and the US’s 10% shareholding threshold.
Both South Africa and the US calculate the CFC’s imputable net income as if the CFC were a resident of that country. In contrast, the UK targets CFC income that is attributable to UK activities. Both South Africa and the UK provide for an FBE exemption, and the US exempts profits earned from active trading activities. Ultimately, these various CFC regimes aim to encourage the expansion of business offshore while discouraging “shell” companies with no real economic substance.
CFC Tax Compliance and Reporting Obligations in South Africa
The tax compliance and reporting obligations in respect of CFCs have simplified over the years since the introduction of the regime. A South African resident who, on the last day of the foreign tax year of the CFC, together with any connected person in relation to that South African resident holds at least 10% of the participation rights in any CFC must submit an IT10B return to the South African Revenue Service (“SARS”) and must have a copy of the financial statements of the CFC available for submission to SARS when so requested. Accordingly, if a South African resident holds, together with any connected person in relation to them, less than 10% of the participation rights in the CFC, they do not have to submit an IT10B return to SARS.
Proposed 2025 Amendments to South Africa’s CFC Regime
In terms of the draft Taxation Laws Amendment Bill 2025, it is proposed that the high tax exemption, which aims to reduce the CFC’s net income to zero, be amended to address certain discrepancies:
- Under section 9H of the Income Tax Act, an “exit charge” is triggered when a CFC ceases to be a CFC. It is deemed to dispose of its worldwide assets on the date immediately before the date it ceases to be a CFC. A CFC may avoid the exit charge as it is treated as a resident when determining the normal tax variable element of the high tax exemption. Therefore, it is proposed that the normal tax resulting from the exit charge be added to the normal tax that would have been payable had the CFC been a resident. In other words, the proposed amendment has the effect of increasing the normal tax variable element of the high tax exemption.
- When determining whether a CFC qualifies for the high tax exemption, one is required to calculate the hypothetical taxable income of the CFC as if it were a South African resident. However, a CFC may meet the requirements for the high tax exemption based on the tax rate, even though the ultimate tax paid on profits, after shareholder refunds, is substantially lower. Therefore, it is proposed that the provisions of the high tax exemption be amended to take into account the tax refunds received by shareholders, including intermediate holding company CFCs, when determining whether a CFC qualifies for the high tax exemption. The proposed amendment aims to ensure a more accurate assessment of the actual effective tax rate paid on profits and align the application of the exemption with its intended policy objective—namely, to exclude only those foreign companies that are genuinely taxed at a level comparable to that in South Africa.
Key Takeaways on South Africa’s Controlled Foreign Company (CFC) Regime
South Africa’s CFC regime, like those of many other countries, aims to encourage the legitimate expansion of businesses offshore. Therefore, the complex regime should not deter you from broadening your business’s international footprint. Let’s connect and navigate these tax considerations together.