How will the new tax legislation impact you?

What are exchange controls?

Exchange controls, often known as capital or currency controls, are restrictions set by governments on the buying and selling of currencies. Enforced to manage the flow of money and foreign currency across borders, these controls are pivotal for a nation aiming to mitigate risks associated with currency depreciation, inflation, and financial instability.

Some countries (like South Africa) use exchange controls to prevent capital flight, which occurs when residents or investors move large sums of money out of the country in response to economic or political uncertainties.

Historical context of exchange controls

Many nations, including European countries and the UK, implemented foreign exchange controls in the past, especially in the aftermath of World War II. As these economies strengthened post-war, such controls gradually receded. For instance, the UK eliminated its final restrictions in October 1979. By the 1990s, the global shift was towards free trade, globalisation, and liberalisation.

In current times, foreign exchange controls are imposed primarily in countries with transitional or developing economies. They serve to reduce speculative activities and substantial capital outflows. Countries like China, India, certain South American regions, and select African nations enforce such controls. Other nations, such as The Bahamas, Cuba, Iran, North Korea, and Sudan, also maintain stringent government-regulated exchange regimes (Griessel, 2023).

South African Exchange control background

South Africa’s history with exchange control dates back to 1939; however, in 1961, under the leadership of Prime Minister Hendrik Verwoerd, the nation faced heightened global isolation. This led to the proclamation of Government Notice R.1111 on 1 December 1961 by the National Party, establishing the legislative framework for contemporary exchange controls (Venter, 2020). The South African Reserve Bank, representing the National Treasury, oversees these controls today (Griessel, 2023).

Fast forward 62 years, and the premise on which the legislative framework of exchange control was created is still intact. In April 2015, the annual Foreign Investment Allowance (FIA) for South African individuals moving funds abroad was revised upwards from R4 million to R10 million. As discussed below, although this marked a substantial increase in rand, it is far less significant in hard currency. It should be noted that the FIA is, in addition to an annual discretionary allowance of R1 million, requiring no documentary evidence to be produced.

The new amendments to the FIA and its consequences

Over time, entities like the National Treasury and the South African Revenue Service (Sars) have tightened the scrutiny on individual offshore transfers. For instance, the 2020 Budget Review stated, “Individuals who transfer more than R10 million offshore will be subjected to a more stringent verification process. Such transfers will also trigger a risk management test that will include certification of tax status and the source of funds and assurance that the individual complies with anti-money laundering and countering terror financing requirements prescribed in the Financial Intelligence Centre Act (2001). This will be phased in by 1 March 2021.”

In April this year, Sars introduced changes to the tax clearance process for individual cross-border capital movements, focused on substituting and changing the processes of FIAs and emigration allowances. Prior to the new amendments, individuals had to utilise separate Tax Compliance Status (TCS) pins for fund transfers abroad through their FIAs or for their emigration process. Post April this year, Sars merged the FIA and emigration applications (into the same process) in a significant shift, leading to a new process called the Approval for International Transfer (AIT) Application. This transition introduces a more demanding process for taxpayers than the former FIA system, as Sars now brackets emigration and offshore allowances in the same process.

So, what does this mean for individuals?

The immediate consequence for applicants of the AIT is a necessity for further comprehensive disclosure. To receive approval to move funds abroad, Sars will require intricate details, including:

• Direct or indirect shareholding in any legal entity, domestic or foreign, exceeding 20%.
• Beneficiary status in any trust, be it local or international.
• A comprehensive balance sheet outlining both local and foreign assets.

This amplification in disclosure mandates indicates Sars’s enhanced oversight over both domestic and global assets. Many analysts and stakeholders speculate this to be a preliminary step towards introducing a wealth tax or potentially augmenting estate duties.

Net effect and illustrating the financial implications

I mentioned earlier that the net effect of raising the FIA from R4 million to R10 million is less substantial than many thought; here’s why:

Consider the ZAR/USD exchange rate. On 1 April 2015, it stood at 11.96. A person utilising their R1 million discretionary allowance would then secure $83 612. Over eight years later, at a rate of 19.29, the same allowance fetches merely $51 840. Despite the FIA increment from R4 million to R10 million, there’s been a ZAR/USD depreciation of -61.29% in the interim.

Conclusion

Exchange controls are governmental tools shaped by both economic and political considerations. The new amendments mean that Sars now holds the cards and will have further oversight of both your local and global wealth due to new disclosure requirements. The recent reforms, especially the AIT application, spotlight Sars’s intent to monitor high-net-worth individuals meticulously and has been in the pipeline since 2020. While ensuring regulatory compliance, these controls also pose challenges for potential foreign investors, given the administrative burden of transferring funds out of South Africa.

The underlying question remains – with the ZAR continually depreciating, will there be an upward revision of the discretionary allowance?

At Paragon Wealth Managers, we continually guide our clients through these financial complexities, ensuring optimal utilisation of their discretionary allowances and aiding with AIT applications. We remain committed to delivering robust hard currency returns, targeting a US CPI +5% performance over five years. For more insights, visit us here.

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