I. Background
The anti-avoidance rules dealing with dividend stripping were first introduced in the Income Tax
Act (the Act) in 2009. Dividend stripping normally occurs when a shareholder company that intends
to disinvest in a target company avoids income tax (including capital gains tax) that would
ordinarily arise on the sale of shares. This is achieved by the shareholder company ensuring that
the target company declares a large dividend to it prior to the sale of shares in that target company
to a prospective purchaser. This pre-sale dividend, which is exempt from Dividends Tax (in the
case of a resident dividend that declares and pays a dividend to another resident company),
decreases the value of shares in the target company. As a result, the shareholder company can
sell the shares at a lower amount, thereby avoiding a much larger capital gains tax burden in
respect of sale of shares.
In 2017, amendments were made in the Act in order to strengthen the anti-avoidance rules dealing
with dividend stripping. According to the 2017 changes, exempt dividends that are regarded as
extra-ordinary dividends, received by a shareholder company are treated as proceeds or income
subject to tax in the hands of that shareholder company, provided that the shares in respect of
which extra-ordinary dividends are received, are disposed of within a period of 18 months prior to
that disposal.
Further, in 2018, amendments that were made in 2017 making provision for the anti-avoidance
rules dealing with dividend stripping rules to override corporate re-ogarnisation rules were
reversed to ensure that these 2017 amendments do not hinder legitimate re-organisation
transactions.
II. Reasons for change
It has come to Government’s attention that certain taxpayers have embarked on abusive tax
schemes aimed at circumventing the current anti-avoidance rules dealing with dividend stripping
arrangements. These schemes involve millions of rands and have a potential of eroding the South
African tax base. These latest schemes involve, for example, a substantial dividend distribution
by the target company to its shareholder company combined with the issuance, by that target
company, of its shares to a third party or third parties. The ultimate result is a dilution of the
shareholder company’s effective interest in the shares of the target company that does not involve
a disposal of those shares by the shareholder company. The shareholder company ends up, after
the implementation of this arrangement, with a negligible effective interest in the shares of the
target company without triggering the current anti-avoidance rules. This is because the current
anti-avoidance rules are triggered when there is a disposal of shares while these new structures
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do not result in an ultimate disposal of the shares but a dilution of the effective interest in the target
company.
III. Proposal
It was proposed in Annexure C of the 2019 Budget Review that amendments should be made to
the current anti-avoidance rules to curb the use of these new dividend stripping arrangements.
Furthermore, given the abusive nature of these arrangements, it was proposed that the
amendments should come into effect from the date of the announcement, which was on the 2019
Annual National Budget Day, (i.e. 20 February 2019). This means that the proposed
amendments to the legislation on anti-avoidance rules dealing with dividend stripping will come
into effect from 20 February 2019 and apply to dividend stripping schemes entered into on or
after 20 February 2019.These legislative interventions will not apply in respect of dividend
stripping schemes entered into before 20 February 2019.
In terms of the proposed amendments the anti-avoidance dealing with dividend stripping rules
will operate as follows:
The anti-avoidance rules will no longer apply only at the time when a shareholder
company disposes of shares in a target company.
In addition, the new anti-avoidance rules will apply to the following anti-avoidance transactions:
o Shareholder companies will, for purposes of the anti-avoidance rules dealing with
dividend stripping, be deemed to have disposed of and immediately reacquired its
shares in the target company despite them not disposing of their shares, if the
target company issues shares to another party and the market value of the
shares held by the shareholder company in the target company is reduced by
reason of the shares issued by the target company.
o In such an instance, the shareholder company will be deemed as having
disposed of a percentage of the shares it holds in the target company
immediately after a share issue that results in a decrease in the value of the
shares it holds. The percentage envisaged is the percentage by which the market
value of those shares has been reduced by as a result of the issuance of shares.
As with the current anti-avoidance provisions, the amount to be re-characterised will be so much
of the tax exempt dividends that were received by or accrued to the shareholder company within
18 months of the deemed that exceed 15 per cent of the higher of the market value of the shares
in the target company at the beginning of such 18-month period or market value of the shares
held by the shareholder company in the target company.