Are You Overpaying Tax on Your Offshore Investments? 🌍💰

BlackLeaf Wealth
Feb 21
5 min read

As global financial scrutiny increases, South African investors with offshore holdings are facing heightened tax risks under Controlled Foreign Company (CFC) rules and SARS anti-avoidance measures.

💡 Did You Know?

If you hold shares in an offshore company, SARS may tax the undistributed foreign profits under Section 9D of the Income Tax Act, even if the income isn’t repatriated!

⚠️ What’s at Risk?

❌ 20% tax on foreign dividends—even if they remain abroad.

❌ SARS may reclassify your offshore entity under General Anti-Avoidance Rules (GAAR).

❌ Your offshore earnings could be taxed in South Africa, costing you more than expected.

Two Ways to Protect Your Offshore Assets

At BlackLeaf Wealth, we provide tailored tax-efficient strategies for individuals and corporations with offshore investments. Here’s how to legally reduce your offshore tax burden:

✅ Strategy 1: Strengthen Your Offshore Business Presence

To prevent SARS from challenging your offshore entity, ensure it has:

🏢 A Physical Office – Maintain a real business address overseas.

👨‍💼 Local Directors – Appoint resident directors to oversee decision-making.

🏦 A Foreign Bank Account – Conduct transactions in the company’s name.

📄 Board Meeting Records – Keep documented proof that major decisions happen offshore.

Pros & Cons of Strengthening Economic Substance

Pros	Cons
Reduces risk of SARS applying GAAR	Increased operational costs (rent, salaries, compliance)
Enhances legitimacy for banking & investment	Ongoing local director fees required
Potential tax treaty benefits in the future	Risk of unexpected foreign tax changes
Protection from CFC taxation if effectively managed	Requires active business operations, not just passive investments

✅ Strategy 2: Use a Holding Company in a DTA-Friendly Jurisdiction

If restructuring operations isn’t feasible, a Double Tax Agreement (DTA)-compliant structure can significantly reduce foreign tax liabilities.

🏝️ Mauritius: 3% corporate tax + DTA with South Africa (lower withholding tax on dividends).

🏙️ UAE (Dubai or Abu Dhabi): 0% corporate tax + world-class banking & investment benefits.

🔹 How It Works:

1️⃣ Set up a foreign holding company in a tax-efficient country.

2️⃣ Your Isle of Man or offshore company becomes a subsidiary of this entity.

3️⃣ Dividends flow first to the holding company, then to you, benefiting from tax treaties.

Pros & Cons of Using a DTA-Friendly Holding Company

Pros	Cons
Potentially lower tax rates than direct offshore ownership	Initial setup costs for restructuring
Withholding tax on dividends can be reduced under a DTA	Requires compliance with multiple tax regimes
Provides a legally solid way to avoid CFC rules	Must have substantial business activities in the new jurisdiction
Can enhance investment credibility internationally	Potential changes in DTA terms over time

Foreign Dividends and Controlled Foreign Companies (CFCs) – In-Depth Analysis

Scenario Breakdown

A South African business owner has invested in an offshore company incorporated in the Isle of Man, which is a low-tax jurisdiction with a 0% corporate tax rate. The offshore company earns substantial foreign dividend income, but the South African Revenue Service (SARS) applies Controlled Foreign Company (CFC) rules under Section 9D of the Income Tax Act, subjecting the undistributed offshore profits to South African tax.

Key Complications

Dividends Tax Exposure:
- Under South African tax law, foreign dividends are taxed at 20% regardless of whether they are repatriated to South Africa or kept offshore.
- This taxation reduces the efficiency of holding offshore investments.
CFC Taxation on Undistributed Profits:
- If the offshore company is 51% or more controlled by South African residents, it is classified as a Controlled Foreign Company (CFC).
- SARS can tax the undistributed income of the offshore company, even if those profits remain abroad.
GAAR & Economic Substance Risk:
- If the Isle of Man company lacks real economic substance, SARS may invoke General Anti-Avoidance Rules (GAAR).
- Indicators of a shell company include:
  - No local directors.
  - No physical office or employees.
  - Income purely derived from passive investments.
- If deemed a tax-avoidance scheme, SARS could disregard the offshore structure and impose penalties.

Two In-Depth Solutions

Solution 1: Strengthening Economic Substance for the Offshore Company

A practical approach is to legitimize the offshore business by ensuring that it has a genuine economic presence in the Isle of Man.

Key Steps to Strengthen Economic Substance

Appoint Local Directors:
- Ensure that at least one or more directors are permanent residents of the Isle of Man.
- The board must hold real decision-making meetings in the Isle of Man.
Establish a Physical Office & Bank Account:
- The offshore company should rent or purchase office space.
- Open a local bank account for transactions.
- Hire administrative employees or service providers.
Active Business Operations:
- The company should have commercial activities beyond just holding investments.
- Engage in international trade, consulting, or tech services that justify its presence.
Document Decision-Making & Compliance:
- Maintain meeting minutes, tax filings, and regulatory compliance to show that decisions are made offshore.
- Engage local auditors to validate financial records.

Solution 2: Reorganizing Holdings Through a Jurisdiction with a Double Tax Agreement (DTA)

An alternative is to restructure ownership by using a foreign holding company in a country that has a Double Tax Agreement (DTA) with South Africa.

Best DTA-Friendly Jurisdictions

Mauritius:
- Effective corporate tax rate of 3% (after tax credits).
- DTA with South Africa reduces withholding taxes on dividends.
United Arab Emirates (UAE):
- 0% corporate tax on most businesses.
- No CFC rules applied in many UAE free zones.

How the Structure Works

Step 1: Establish a Holding Company
- Instead of owning the Isle of Man company directly, the South African business owner creates a new holding company in a DTA-friendly jurisdiction (e.g., Mauritius or UAE).
- The Isle of Man company becomes a subsidiary of the holding company.
Step 2: Redirect Dividend Flows
- Dividends from the Isle of Man company are paid to the holding company instead of directly to the South African owner.
- The DTA jurisdiction applies its own tax rules, potentially lowering tax liability.
Step 3: Optimize Taxation on Repatriation
- Under the Mauritius-South Africa DTA, withholding tax on dividends may be reduced from 20% to 5%.
- If structured correctly, the UAE model allows no tax on dividends.
Step 4: Avoid SARS CFC Classification
- If properly structured, the South African owner is not the direct owner of the Isle of Man entity.
- The offshore company may fall outside CFC regulations, reducing the tax burden.

The best strategy depends on the business owner’s priorities:

If they want full control over the offshore company, Solution 1 (Strengthening Economic Substance) is the best option.
If they prefer a tax-efficient structure with lower dividend tax exposure, Solution 2 (Using a DTA Holding Company) offers the most benefits.

💡 Key Takeaway: Individuals and companies facing foreign dividend taxation and CFC risks should engage a tax advisory firm to analyze the specific financial impact, ensuring compliance with SARS regulations while minimizing unnecessary tax burdens.

Written by: BlackLeaf Wealth

February 21, 2025