The Modified Section 23M: Interest deduction limitations
Author: Michael Rudnicki
Affiliations: Executive, Bowmans
Source: Business Tax & Company Law Quarterly, Volume 14 Issue 1, 2023, p. 24 – 31
Section 23M of the Income Tax Act 58 of 1962 seeks to limit the deduction of interest on debt arising between parties related to one another and in respect of which the interest is not subject to tax in the hands of the recipient of the interest.
Section 23M was amended in 2021 by the Tax Laws Amendment Act 20 of 2021 and is effective from years of assessment ending on or after 31 March 2023. The key amendments to the section deal with:
- Interest partially subject to tax.
- The amendment to the definition of ‘interest’, being the subject matter of the limitation rules in the section.
In respect of interest partially subject to tax, i e a tax rate say of 5% in terms of a double taxation agreement, the limitation rules will apply to that part which is not subject to tax, i e 10% in the example given (being the 15% withholding tax rate — 5% withholding tax limitation under the applicable double taxation agreement).
The definition of ‘interest’ is expanded. The relevance of the definition’s expansion is that all ‘interest’ payable to a related party (a ‘controlling relationship’ as defined) which is not subject to tax, could be limited in terms of its deductibility.
The amended interest defi nition includes:
- Interest as contemplated in s 24J of the Act: which includes common law interest and other charges of a similar nature;
- Amounts incurred or accrued in respect of ‘interest rate agreements as contemplated in section 24K of the Act;
- Any fi nance cost element recognised for purposes of IFRS in respect of any lease agreement that constitutes a finance lease as defined in IFRS16;
- Foreign exchange gains and losses; and
- Amounts deemed to be interest in terms of Sharia compliant financing arrangements.
Accordingly, finance arrangements between related parties where the ‘interest’, as defined, is not subject to tax or is partially subject to tax may be limited in terms of its deductibility.