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Special Economic Zone regime proposals ‘make no sense’

If approved, only newly established businesses will qualify for tax benefits.

The latest proposals to refine the Special Economic Zone (SEZ) regime have been described as unrealistic and unreasonable.

National Treasury announced in the Taxation Laws Amendment Bill that only companies whose expansions result in a 100% increase in turnover will be eligible for the beneficial tax benefits of a SEZ. It is also proposed that only newly established businesses will qualify for the tax benefits.

The SEZ regime was preceded by the Industrial Development Zone (IDZ) programme. Following a review of the latter the SEZ regime was introduced in 2014, but only became effective in 2016. Income tax benefits were introduced in 2013 which included an accelerated depreciation allowance on buildings and improvements and a reduced corporate tax rate of 15% instead of 28%.

‘Economic tools’

According to Treasury SEZs are regarded as “an economic tool that can be used to promote national economic growth, the exportation of goods and a way of attracting targeted foreign and domestic investments and technology”.

Duane Newman, joint MD at Cova Advisory, expressed his frustration with the latest round of proposed changes to the regime. He says it makes no sense for Treasury to stop activities it is trying to promote in the first place.

He says a company cannot control its turnover – and what happens if the expansion only results in a 95% increase in the turnover; is the company then disqualified from the tax benefits?

“The 15% tax rate is restrictive as it is, with [existing] anti-avoidance measures. They are seeing shadows.

“The issue is that Sars is losing tax revenue, but the point is that the money is being actively deployed in the economy.”

Treasury said in its explanatory memorandum that the changes are intended to counter the potential unintended consequences of old, existing and relocated businesses claiming the income tax benefits aimed at attracting new and expanded manufacturing businesses.

Philippa Rodseth, executive director of The Manufacturing Circle, says the cost to relocate will outweigh the benefit of a tax incentive offered by relocating to a SEZ.

“It seems that the anti-avoidance rules are not in line with business practices, and [are] not growth friendly.”

Expansion requirement

Christo Engelbrecht, director at Catalyst Solutions and a member of the South African Institute of Tax Professionals (Sait) incentive tax committee, says the 100% expansion requirement is unrealistic.

“I think what they are trying to achieve is to avoid businesses winding down operations outside of SEZs and moving operations inside SEZs to take advantage of the lower tax rate.”

Certain companies will have a much higher base than others and may potentially still invest in a significant project in a SEZ, but will not meet the 100% increase in gross income expansion requirement.

“Also, there may be various other market factors that may lead to the project not achieving the 100% expansion requirement. There will therefore not be certainty for the taxpayer in terms making investment decisions,” he warns.

Treasury added that if a company operated outside an SEZ prior to an expansion, it will be required that any expansion embarked on by the company “should not result in a closure or reduction of production, number of employees and gross income of the business or connected person in relation to that company outside an SEZ”.

Dti involvement 

Engelbrecht says the issue of displacement was discussed during a Sait incentive committee meeting. “The general consensus was that the displacement issue is really best for the Dti [Department of Trade and Industry] to control rather than for Sars to determine.”

The committee also felt that the issue could be best addressed with a pre-application process. “Issues of displacement require a more facts-and-circumstances analysis. Pre-approval also gives taxpayers certainty that their entry into the SEZ is within acceptable boundaries than a post-hoc facts-and-circumstances analysis,” says Engelbrecht.

Tipping the scales against SEZs

Given the cost versus benefits for existing or expanding manufacturing facilities to relocate to an SEZ, the likelihood of it happening in the light of the proposed changes is “probably not very high”, says Rodseth.

Treasury has also proposed changes to the anti-avoidance measures in terms of profit shifting between connected companies from a company outside the SEZ to the SEZ company in order to benefit from the 15% corporate tax rate.

Currently the anti-avoidance measure prohibits a company from claiming the income tax benefit if more than 20% of the income and 20% of the expenditure arise from transactions with connected persons.

However, this has affected “some legitimate business models” that were established before the SEZ regime came into effect and before the introduction of the anti-avoidance measures.

The proposed change is to allow the lower tax rate on the income and expenditure that do not exceed the thresholds. Once the 20% is exceeded the 28% rate applies to that income.

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countless academic studies prove that location incentives never work. It never makes sense for a business to set up other than where it should were it not applying taxpayer give-aways. Not for the business, not for the taxpayers, not for that business’s competitors that had to fight uneven competition for a while. Only the incentive consultants make money out of incentives.

Well, the whole incentivised SA car industry would disagree with you on that one. Stop the tax breaks and they would leave the next day.

Maybe they should show the same enthusiasm in getting rid of the stifling, corrupt BEE system that is where most of our problem lies.

That will have 10 times the effect, safe huge amounts of money and increase tax not reduce it.

Just a scam to keep the BEE corruption going. Nobody wants to invest and give a large portion away for nothing?? Unless you are also corrupt.

“Treasury said in its explanatory memorandum that the changes are intended to counter the potential unintended consequences of old, existing and relocated businesses [read: WMC?] claiming the income tax benefits aimed at attracting new [read: black?]and expanded manufacturing businesses.”
“should not result in a closure or reduction of production, number of employees and gross income of the business or connected person in relation to that company outside an SEZ”

Ignored seems to be:
• If the SEZs are outside of the current metros, they will reduce (or at least not add to)congestion.
• Many smaller municipalities simply do not have the rates base to pay their way (including to Eskom). This should be a factor in locating SEZs.
• SEZs should be located in economically depressed areas apart from helping to spread wealth, would divert internal migration from the big cities and towards where economic growth and development are needed.
• The cost of living being less outside of the metros, this could contribute to fighting inflation in the case of businesses relocating.
• SEZ’s have attracted foreign investment in other jurisdictions, where the “ease of doing business”, threats of expropriation and regulation bloat do not deter it. If Treasury were serious about attracting foreign investment, it would be calling for the other factors to be addressed as well.

Or SEZs could be located where it makes the most business sense. Rather than wasting the business and the incentives on locations where the business can bail out failed municipalities.

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