VAT and PAYE collide – can your expats create a VAT liability in a foreign jurisdiction?

Sending your employees to carry out services on the company’s behalf in a foreign jurisdiction always needs to be carefully planned in terms of the employee’s personal tax liability and the corporate tax implications, but expats can also create a VAT liability in that jurisdiction. Let’s take an example of a holding company that decides to send certain employees to its South African subsidiary, to assist with the implementation of a building project for a period of three months.

The first question which is usually asked is whether the holding company’s employees will create a permanent establishment for income tax purposes, but the question as to whether a VAT liability is established is equally important.

In assessing whether a VAT liability will be created, it is important to bear in mind that, although they may be aligned in some areas, the criteria for establishing a permanent establishment (“PE” essentially a foreign branch and seen as a taxable entity in the foreign jurisdiction) for income tax purposes, and establishing a VAT enterprise or taxable activity, are in most cases different. This is often ignored, so you can have a corporate tax PE without a VAT PE and vice versa.  Further, Double Tax Agreements do not provide VAT relief, although they may provide relief from double taxation for corporate tax.

The South African VAT legislation requires a person to register for VAT where two requirements are met:

• An enterprise is carried on. This requires an activity to be carried on, on a continuous or regular basis, in or partly in SA, in the course or furtherance of which goods or services are supplied for consideration; and
• Taxable supplies must have exceeded ZAR1 million in the past 12 months or be expected to exceed ZAR1 million in the next 12 months, in terms of a contractual obligation in writing.

The terms on which the employees are “seconded” may well make a difference – for example, the permanent employment of the employees with the holding company may be temporarily suspended, and the employees employed by the SA subsidiary for the period over which the building services are to be provided; alternatively, the holding company may continue to employ its employees and recover their salaries from the subsidiary. A dual contract could even be entered into.

Let’s assume that the employees remain in the employ of the holding company whilst providing the building services to the subsidiary; that they provide their services whilst physically located in South Africa; and that the holding company recovers a fee for the services. In this case, there will be an activity carried on in, or partly in, South Africa. This activity will be carried on over a period of three months and this will likely be seen as being on a continuous or regular basis: the South African Revenue Services, in past rulings, has seen the performance of services locally, even if only over a period of a few weeks, as being carried on a regular basis. There is therefore no “cut off period” as there may be, for example, under a Double Tax Agreement, which may provide that services rendered for less than certain defined periods, often six months, will not create a permanent establishment.

Therefore, if the holding company earns fees for the services exceeding ZAR1 million, a VAT liability may arise.

This may not be the case, however, if the holding company seconds its employees to the subsidiary while the employees are providing the services i.e. they enter a temporary contract with the local company.

Equal consideration, therefore, needs to be given to the VAT consequences of employees rendering services while physically located in a different jurisdiction to their employer, as it is to the income tax implications. In addition, consideration needs to be given to whether the method of contracting will make a difference to the employer’s tax liabilities.

So the moral of the story is – ignore VAT at your peril!  Contact us if you’d like to discuss this further.