A South African company issued preference shares to its holding company in order to obtain cashflow to purchase another company. The shares were classified as a debt instrument in the South African company and have interest of 10%. Will the interest be
Author: Peter Surtees
Important:
This answer is based on tax law year ending 28 February 2020.
Answer:
The fact that the preference shares were classified as a debt instrument for accounting purposes and subject to a fixed coupon rate does not change the fact that they are shares in terms of the Income Tax Act. The 10% is not interest for purposes of the Act, but is a dividend. Because the shareholding is company to company, no dividends tax is payable; but the payments retain their nature as dividends.
Relevant tax law
Section 1(1) of the Act: “’dividend’ means any amount, other than a dividend consisting of a distribution of an asset in specie declared and paid as contemplated in section 31(3) [transfer pricing], transferred or applied by a company that is a resident for the benefit or on behalf of any person in respect of any share in that company”. There is more to the definition but this portion addresses your client’s situation.