South Africa is officially in a recession for the second time in two years, rolling blackouts have disrupted daily life for weeks and the Treasury is forecasting the biggest fiscal deficit in the post-apartheid era. With the government being criticised for poor decision-making over its handling of the Covid-19 crisis and with legal challenges to the often bizarre and illogical lockdown regulations, things appear to be going from bad to worse. Not surprisingly, serious frustrations are being felt by many in business who are trying to reach some semblance of the ‘new normal’ – the buzz phrase we are all sadly becoming accustomed to using.
Even before the pandemic crisis, the Moody’s downgrade of South Africa’s Sovereign Debt status to ‘junk’ was a huge blow to an already shaky economy. The International Monetary Fund (IMF) estimates South African real GDP ‘growth’ in 2020 will be -5.8%. Taken together with high levels of crime and unemployment, this has put significant pressure on the rand and is acting as a strong disincentive to much needed Foreign Direct Investment in a struggling BRIC country that is in urgent need of economic stimulus.
Other sources of revenue that are needed to keep the lights on in the SA economy are also fast being depleted. The South African Revenue Service (SARS) Commissioner recently highlighted the vexed problem of revenue shortfalls across all tax categories, which run into tens of billions of rand and add to a trend over the past few budgets of under collection. A strong focus surely has to be on recalcitrant taxpayers and those who are not tax compliant or are involved in illegal activities. But given the pressures on the tax base, we should also expect a more robust and aggressive focus on general tax collection by SARS – meaning that comprehensive forward planning by taxpayers is vital.
A further and very concerning development is the government’s intended roll-out of its so-called Radical Economic Transformation (RET) – an attempt to rebase what is left of the economy and, in the words of President Cyril Ramaphosa, build “from the beginning”. Together with the gloomy IMF predictions, this would suggest that the South African economy is now in a position where it is fighting for its very survival rather than anticipating any immediate growth. ‘Radical’ transformation suggests further sacrifice, hardship and disruptive adjustment, which many individuals and businesses may not be able to bear.
Human capital within the economic system is also one of the most important factors in any business, and worryingly the IMF forecasts unemployment in South Africa in 2020 at 35.3% (a figure that many might view as highly conservative). There is also the risk that highly skilled workers who are currently employed may continue the ‘brain drain’ by looking for job opportunities overseas where they can be paid in a stronger currency. Seeking out alternative tax residencies and VISA-free travel – even in some cases citizenship – in other countries has become increasingly popular and is a by-product of the declining levels of business and personal confidence in the status quo.
Equally South Africa will be regarded as a less and less attractive destination for the foreign skilled workers who are needed to assist with ailing infrastructure and other projects. South African’s electricity public utility Eskom and others will need to offer more lucrative contracts and this will further erode company margins and produce even less for the already ailing fiscus.
Given the dire economic outlook, any South African who is able to invest capital in overseas markets, either passively or more actively, should consider taking the opportunity as soon as possible. There is really nothing else to wait for. The rand is under extreme pressure and although foreign currency comes at a higher cost, the volatility ‘seesaw’ that has been such a prominent theme in recent years, looks set to continue.
In seeking out alternative options for capital investment outside South Africa, there are a number of misconceptions associated with setting up ‘offshore structures’ – companies, partnerships, funds or trusts. The term ‘offshore’ has been much in the news recently and generally in a negative way. However the basic premise of an offshore structure is that it should be resident in, and controlled and managed from, a location that is outside the place of residence of its owner or owners.
A so-called ‘offshore structure’ is therefore simply a non-resident or overseas entity. It could be incorporated in an international finance centre such as the British Virgin Islands but equally it could be incorporated in a leading industrial economy such as the UK or US. Setting up or using a non-resident entity is perfectly legitimate and has many commercial and private purposes that are economically advantageous – as JVs, financing special purpose vehicles (SPVs), stock market listing vehicles, holding companies and asset holding structures, cross-border investment or trading vehicles.
Many of the following ‘myths’ can easily be debunked so that planners, business owners and investors alike can be properly appraised of the wide array of legitimate, compliant options available to them to ensure an informed, considered choice.
Myth 1: Investing offshore is too complex – Actually, investing offshore can be very straightforward if the correct partners are found and the proper advice is sought. There are structures available to hold any form of asset, be it active or passive, which can be tailored to be as simple or complex as is required for individual circumstances and needs. For South Africans simply wishing to diversify their investment portfolio using the generous annual discretionary allowance of ZAR10 million per year, there are a number of uncomplicated structures to accommodate them. Often it is sensible to involve a local tax, legal or financial practitioner in the discussions with the offshore service provider, to help secure a consensus about what needs to be achieved.
Myth 2: Investing offshore is too expensive – There are many stories about arrangements where fees have depleted overseas assets and have not been cost effective in the long run. However, there are low cost options available even on traditionally expensive structures such as discretionary trusts, where fees can be tiered according to the value of the investments. This is particularly popular for those wishing to invest for future retirement provision. Service providers should always be upfront and transparent on costs so that clients can budget and plan without any unwanted surprises.
Myth 3: Offshore structures represent aggressive planning or are illegal – Taxpayers are generally entitled to plan their affairs in such as way as to legally minimise the amount of tax that they are expected to pay. Offshore structures may provide tax advantages but, in many cases, tax may not even be a consideration. They may offer a more secure and stable legal platform because they are governed by a reputable law system. They may be used to operate a business in another country or to separate a domestic business from an overseas subsidiary. They may facilitate the diversification of investments or, where investments are spread across many countries, they may be used to simplify administration. They may provide a means to eliminate forced heirship rules or probate in the country where an asset is based.
In other words, non-resident structures can offer a wide range of practical advantages but they do not change the tax or reporting obligations of owners or investors in either the country of incorporation or their country of residence. Any planning that relies on secrecy or non-disclosure should not be regarded as planning at all. This will not concern structures and arrangements that are legally and fiscally compliant and correctly reported.
Myth 4: Assets will not be safe offshore if the investor does not have control – You should ensure that any service provider – whether onshore or onshore – is properly licensed and regulated, and has a good reputation and track record. They should also have good relationships with regulators, banks and professional bodies. You should also ensure that any jurisdiction in which you are investing has an efficient and effective legal system, where contracts and other obligations can be enforced.
A service provider should have local direct representation, who is readily accessible and who can be met face-to-face (with appropriate mask of course!). Reputable service providers should also have in-house legal and accounting professionals, as well as experienced and qualified trust and company administrators on the ‘front line’. They should further have Professional Indemnity Insurance in place, often as a pre-condition.
Myth 5: Access to offshore assets is often difficult – A common misconception is that offshore service providers such as trustees or directors could refuse a distribution to a beneficiary or in the case of retirement trusts and company structures, simply ignore the requests of the investor/member or ultimate beneficial owner. These situations are rare and are not usual practice unless there is good reason. Generally it is the legal separation provided by the offshore structure that ensures the benefits, tax or otherwise, that were the primary consideration is creating the structure in the first place and it is essential that the trustees or directors remain independent and exercise proper control over the asset.
This is no different onshore. Retirement and provident funds, for example, are overseen, managed and ultimately controlled for the benefit of members or dependents by trustees who can in rare cases deviate from the request of the member. In the vast majority of cases, investments housed in trusts or in underlying company structures can be easily accessed, if proper and clear planning has been done and the necessary compliance checks have been undertaken. Regulation is not just designed to prevent illicit activities but also to provide proper standards and investor protection.
The economic outlook is worse than at any point since Ramaphosa took control of the ruling African National Congress in 2018 promising to overturn a decade of misrule. In times of challenge, it is prudent to batten down the hatches and plan for the preservation of your assets and the protection of your dependents. South Africa is sadly now in an era of economic survival, never mind recovery, so it is both opportune and essential to consider offshore options for both investment and business diversification. And the time to act is now.