Namibia formalises thin cap ratios

Common practice (and common sense) prevails in Namibia

In Namibia, although a formal thin capitalisation ratio was never previously stipulated in the tax legislation, in practice it was common to apply a 3:1 ratio since this ratio is used for Namibian Exchange Control purposes.

However, with the introduction of the Income Tax Amendment Bill 12 of 2022, which was introduced in the Namibian Parliament in November 2022 a formal thin capitalisation ratio of 3:1 has been proposed.

What exactly are thin cap rules?
Generally, a company will be considered to be “thinly capitalised” if the loans made to it are disproportionate or excessive in relation to its share capital. Countries generally include “thin cap” rules in their transfer pricing legislation.

What does the Namibian legislation currently provide?
Section 95A of the Namibian Income Tax Act contains transfer pricing rules which apply where goods or services are supplied between connected parties in an “international transaction” (which includes transactions between a person who is a resident of Namibia and a person who is a non-resident, as well as transactions between two non-resident companies where one has a Namibian branch).

Section 95(3) currently states that if a non-resident party grants financial assistance to a resident-connected party, or any other resident party in which the non-resident is entitled to participate in not less than 25 % of the dividends, profits or capital of the recipient, and the loan is disproportionate in relation to the fixed capital of the resident company, then the interest on that part of the loan which is regarded as excessive, will not be allowed as a deduction for income tax purposes.

Currently the legislation does not contain a specific rule as to when the ratio of loans to share capital will be seen as excessive. Practice Note 2 of 2006 also does not specify a particular ratio to be applied in determining if loans are excessive.

What is proposed in the Bill?
The proposed amendment states that where any non-resident company or person, has an interest of not less than 25% of the share capital of the recipient of the loan/financial assistance, and the financial assistance exceeds the ratio of three to one in relation to the fixed capital of the resident company at any time during the year of assessment, a deduction will be disallowed for:

• any interest paid to the non-resident, and
• any realised currency exchange loss incurred,

by the resident company during that period on that part of the financial assistance which exceeds the three-to-one ratio.

The amendment will therefore formalise the rule applied in practice.

The resident company may approach the Minister for permission to exceed the 3:1 ratio, provided the circumstances and risks associated with the business of the taxpayer warrant such a request being acceded to by the Minister.

The above amendment should provide taxpayers with Namibian operations greater certainty around the thin capitalisation rules in Namibia.

If you would like to discuss the above in more detail or would like to understand the impact it could have on your business, please do not hesitate to contact us.