Davis puzzled by low corporate taxes

South Africa’s effective corporate tax rate is nowhere near the nominal 28% the law prescribes.

It probably falls between 10% and 12% overall, with sectors such as construction and mining paying as little as 4% to 7%, says Judge Dennis Davis, who heads the Davis Tax Committee (DTC).

The effective tax rate is the actual tax paid as a percentage of profits. It gets lowered by the legitimate use of allowances and incentives – and the abuse of loopholes.

The DTC is currently studying corporate taxes in South Africa as part of its sweeping review of the entire tax system since 2013. According to Davis, criticisms that the 28% rate is too low misses the point that practically no one even pays that much to begin with.

“The only sector that is close to paying 28% is financial services, at 26%. I first want to get a handle on what is going on with our rates,” he said this week at a conference on tax evasion and illicit financial flows, organised by the Alternative Information Development Centre, a nongovernmental organisation, in Cape Town.

At the end of apartheid, South Africa had a nominal corporate income tax rate of 49%. It has been dramatically reduced over time. But even larger reductions in tax rates stem from incentives.

READ: Kantor: A revolutionary economic lifesaver - eliminate corporate income tax

“The World Bank did a report on our incentives and said the mining incentives are crazy. It is worrying when the World Bank is to the left of your actual policies,” said Davis.

This report, published in January, said the “marginal effective tax rate” of the mining industry was negative at -1.2%.

This is a different measure from the effective rate of corporate income tax Davis was referring to, and measures the total nominal effect on the return of investment of a variety of taxes and incentives.

This varies wildly for different commodities. It is -19.7 for chrome mining and 31.9 for iron ore, said the bank. The main reason for the variation is to write off mines’ massive ongoing capital expenditure against taxable income, as well as the special regime for gold companies’ corporate income tax.

This system was incentivising a “misallocation” of investment into capital-intensive rather than job-intensive activities, said the bank.

Regarding tax dodgers, Davis said his committee supported the recent Voluntary Disclosure Programme (VDP) – giving noncompliant taxpayers a chance to disclose unauthorised offshore assets and income until August 31 – despite disapproving of letting “crooks” off the hook for illegally moving assets out of the country.

READ: Offshore income disclosure could rake in billions - tax expert

The Organisation for Economic Cooperation and Development’s (OECD’s) programme on base erosion and profit shifting has come up with recommendations that are now making their way into national tax laws around the world, including South Africa’s.

One outcome is the Common Reporting Standard (CRS), an international deal on the automatic exchange of tax information that more than 100 countries have signed.

The imminent enactment of this standard motivated the VDP. The idea was tax dodgers would confess rather than face the prospect of being flushed out by the CRS later, and face heavier penalties.

“I was inundated by Swiss banks. They are beginning to get very nervous about holding these monies ... They thought that if we did a VDP, we could get in R100 billion easily. The tax and interest on that would be an immediate injection of R35 billion into South Africa,” said Davis.

To date, the VDP has only seen declarations of R3.8 billion in foreign assets, leading to taxes totalling R600 million.

“The tax system that the OECD advocates is unsurprisingly focused on promoting the developed world,” said Davis.

A powerful new country-by-country reporting rule that would make multinational corporations break down their financial reports by tax jurisdiction shows this bias. The OECD proposes it apply only to firms with turnover above €750 million (R10.4 billion).

“We would want that to come down radically. I would have thought that R750 million would be a more acceptable figure for us,” said Davis.

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