Les presentation 24 10 2013


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Les presentation 24 10 2013

  1. 1. LES South Africa Afternoon Discussion IP Structuring and its implications Andre Visser
  2. 2. What are we talking about? • • • • What is Intellectual Property (IP)? What must be done with it when created? Does it have value? How can further development or commercialisation be funded? • Can it be taken offshore?
  3. 3. Focus • • • • Some of my own practical experiences Loose thoughts Not intended as a whitepaper on international tax structuring Some recent tax changes highlighted
  4. 4. The concept IP for this discussion • Very wide concept • Registered IP: Trade Marks, Patents, Designs • Also unregistered: client lists, formulas, know-how • It is an asset • It has value (in most instances more than is appreciated) • Valuation difficult (reason for strict control)
  5. 5. Tax definition • Section 25I of the Income Tax Act (ITA) “means any (a) patent as defined in the Patents Act, 1978, including any applications for a patent in terms of that Act; (b) design as defined in the Designs Act, 1993; (c) trade mark as defined in the Trade Marks Act, 1993;
  6. 6. Tax definition (d) copyright as defined in the Copyright Act, 1978; (e) patent, design, trade mark or copyright defined or described in any similar law or that in paragraph (a), (b), (c) or (d) of a country other than the Republic; (f) property or right of a similar nature to that in paragraph (a), (b), (c), (d) or (e); and (g) knowledge connected to the use of such patent, design, trade mark, copyright, property or right”
  7. 7. Exchange Control • Always relevant in any discussion on South African tax or structuring • No specific definition of IP, but it is accepted that the same approach is followed as SARS • Accordingly wide meaning • Knowledge of Reserve Bank on nature of IP however problematic
  8. 8. Where does it begin? • • • • Invention, idea, concept, design Usually an individual/s Also in a corporate environment e.g. researchers The individual quite often takes no further steps – leaves IP where it is • Cost often the determining factor as well as the unknown factor – will it work?
  9. 9. Employee / Contractor • Employment agreement NB • Even if legislation and common law may provide assistance, better to address IP and ownership in a proper agreement • Contractors / consultants: more often than not, no arrangement. IP accrues to contractor • To transfer later, becomes a difficult process, together with tax and other costs
  10. 10. Transfer of IP • IP is an asset • There is always a cost involved in transferring an asset • On disposal: CGT Natural person 0 – 13.3% Companies 18.65% Trusts 26.64% • Donation: donations tax 20%
  11. 11. The individual • Separate IP into a vehicle • Risk • Structuring • Raising of finance • Commercialisation and disposal • Tax advantages • Problem: transfer will incur CGT or donations tax • However, Section 41 to 47 of the ITA provides for rollover relief
  12. 12. Mr A Receives shares Company • No CGT, donations tax or other taxes • No money has to flow Transfer IP
  13. 13. In the Company • IP may be further developed, commercialised and utilised • Various options to consider • Where is the IP owned? • Should it be sold or licensed? • What funding opportunities exist? • Should we go offshore?
  14. 14. Research and Development • R + D comes at significant cost • Realisation that some incentives required to stimulate R + D growth in South Africa • Section 11D of the ITA (introduced in 2006) • Basic principle: Deduction of up to 150% of expenditure incurred • General principle: expenditure (costs) may be deducted for tax purposes • Section 11D allows additional 50% deduction
  15. 15. • Recent changes to tighten control and requirements • Tax payer must • Be carrying on trade • Have actually incurred the expenditure • R + D in South Africa • Directly and solely for R + D • “trade” – pre-production expenses may be deducted once trade commences • Activity must be • Discovery of novel, practical and non-obvious information • Creation of patent, design or computer program • Creation of knowledge essential to the above
  16. 16. • Not eligible • oil, gas or mineral exploration or prospecting; • administration, financing, compliance or similar expenditure; • the creation or enhancement of trade marks or goodwill; • development of internal business processes; • market research, market testing or sales or promotion; or • social research, including arts and humanities.
  17. 17. Funding • To develop IP, funding is essential • In broader terms * loan funding * equity • Equity is provided by investors or owners. Usually evidenced by a share certificate • If an offshore investor involved, share certificate must be endorsed for exchange control purposes (often forgotten) • Capital is fixed and investors earn dividends • Dividends are subject to 15% dividends tax. SA Companies excluded • To repay requires a process (usually share repurchase)
  18. 18. • Some flexibility if an instrument such as preference share is utilised • Loan funding: could be from shareholders, financial institutions or government • From shareholders – capital is advanced subject to repayment. Usually no, or limited interest • From financiers – interest will be payable. Security? • IP could be provided as security, deed of security registered in appropriate registry. • Interest payment will be deductable by the company, reduces taxable income • If offshore funder – exchange control approval required
  19. 19. Thin Capitalisation • Recent changes to Section 31 of ITA • One single anti-avoidance provision under the ITA • The principle is that transactions between residents and non-residents must be on an arms-length basis • If not, SARS may impose arms-length provisions and tax accordingly • For instance, if capital is regarded as insufficient, portion of loan funding interest, may not be deductable for tax purposes
  20. 20. Transfer Pricing • “affected transaction” • Transaction, operation, scheme, agreement understanding between connected resident and nonresident parties • Any term or condition different to that which would have existed between arms-length parties • Accordingly, loan transactions may be adjusted to armslength terms • Previous safe harbour rules no longer applicable
  21. 21. Exchange Control • Thin capitalisation also relevant for exchange control. If 75% or more of shares held by non-resident, then local borrowing restrictions may apply • Reserve Bank will also scrutinise loan arrangements • repayment terms • Interest payable (excessive interest not allowed)
  22. 22. Government Funding • Number of government research grants and facilities are available • However, in terms of Intellectual Property Rights from Publicly Financed Research and Development (IPR Act), such IP must be commercialised for the benefit of people of South Africa • Description of IP very wide (excludes copyright) • Cannot deal with such IP without consent • National IP Management Offices (NIPMO) established for this purpose
  23. 23. • NIPMO operates in a similar manner to the Reserve Bank insofar as control of IP is concerned • Also strict requirements for transfer of IP (especially offshore) • In our experience, stricter than Reserve Bank
  24. 24. Should IP be separated from the business? • • • • Creates planning flexibility Isolates the risk of the business from the IP Assists with international planning and expansion Creates tax efficiencies through licensing arrangements within the group • Properly manage IP • Can spin of business and retain IP • Separates income from IP from business income • Assists with franchising • Capital raising (e.g. through a bond issue)
  25. 25. • However, there may also be certain disadvantages • Enforcement of IP in certain jurisdictions • Certain accounting difficulties • Proving damages
  26. 26. Public funding • • • • If IP portfolio is strong IP may be securitised. Not common in South Africa Require separate vehicle for this IP is packaged into a bond, listed on the bond exchange and traded • Cheaper than bank financing • Essentially a loan from the public in return for a return
  27. 27. Should we move offshore? • Considerations • Low tax jurisdiction to minimise tax costs • Maximise royalties to move income to IP holding entity • Maximise tax deduction for local entity • Minimise royalty withholding taxes through double tax treaties
  28. 28. Difference between tax objectives and IP objectives • Tax: • Create optimal tax structure • Reducing tax liability • Minimise value to minimise taxes d • IP: • Protect IP (i.e. Not in risky jusidictions) • Maximise value for enforcement, and defendable royalty rates
  29. 29. Basic conditions • House IP in low tax jurisdiction • Maximise royalty flows to that jurisdiction • Ensure proper protection of IP rights and enforceability of IP rights d • Avoid liquidation issues • Ensure strong corporate law environment (e.g. Piercing corporate veil) • “Kangaroo countries” • International treaties to enforce IP
  30. 30. Transfer of IP : Exchange Control • • • • Must obtain exchange control approval Difficult Must value the IP (arms-length principle) If approved, IP may be transferred on receipt of proceeds in South Africa • Oilwell decision seemed to create a possibility, but this was changed by amendment on 8 June 2012
  31. 31. Transfer of IP: Tax • Transfer pricing provisions relevant • Both SARS and Reserve Bank cautions of no-tax or low tax jurisdictions • Mauritius: Popular destination from South Africa • Low Tax (0 – 3%) and double tax treaty within South Africa and various other countries • Close to South Africa • CGT will apply on transfer
  32. 32. How to set up entity • Subsidiary – with approval of Reserve Bank • Individuals – use R4 million foreign investment allowance • Trust – cannot invest offshore
  33. 33. Tainted IP • Section 23 of ITA • Tainted IP • IP owned by connected person • Was utilised in the business of taxpayer • Transferred ownership to non-resident • South African person, who retains use of IP, not entitled to deduction in South Africa
  34. 34. Controlled Foreign Company • Income earned by CFC is taxed in South Africa (Section 9D of ITA) • Foreign company in which South Africa residents hold more than 50% of participation or voting rights (excluding headquarter company) • Certain exclusions, e.g. DTA or CFC pays 75% or more of tax in South Africa, in other jurisdiction
  35. 35. Break the link • Connected person or South Africans should not own the IP / foreign company • Most popular solution: foreign trust • Trust will hold the shares in the foreign company. Beneficiaries under the trust will receive eventual benefits • Significant planning required to totally break the link due to imputation rules • Must be set up by non-resident • Funding of the trust must be at arms-length (transfer pricing)
  36. 36. • Donations will impute income to South African donors • Section 25B of the ITA: if income accrues to an ascertainable beneficiary of a trust, income will be taxed in the hands of the beneficiary in South Africa
  37. 37. Royalty tax withholding • Foreign company will enter into licence agreement/s with worldwide entities • If to South Africa, be careful of tainted IP provisions and royalty withholding tax (RWT) • 15% fo the amount of any royalty paid to non-resident • Royalty = right of use or permission to use IP (as defined), as well as imparting scientific, technical, industrial or commercial knowledge or information
  38. 38. Management and Control • If effective management and control is in South Africa, the entity will be regarded, from a South African tax perspective as a South African resident • All income and capital gains will be taxed in South Africa • Practically: appoint foreign director/s • Hold board meetings in the specific country • Day to day management must take place in that country
  39. 39. Loop structure • Holding of an equity interest in South African company or assets, via an offshore structure Offshore entity Mr A SA Company • Prohibited by exchange control authorities • Could obtain approval, however, very rare and difficult
  40. 40. Conclusion • Proper structuring requires careful upfront planning • Tax and exchange control issues are quite often a significant challenge • Structuring should not be to the detriment of IP protection, or create an unnecessary administrative burden
  41. 41. THANK YOU QUESTIONS? Andrè Visser Partner PHONE FAX EMAIL WEBSITE +27 (0) 12 432 6206 +27 (0) 12 432 6544 andre.visser@adamsadams.com www.adamsadams.co.za PHYSICAL ADDRESS Lynnwood Bridge 4 Daventry Street Lynnwood Manor Pretoria South Africa POSTAL ADDRESS PO Box 1014 Pretoria 0001 South Africa