Although South Africans May Find the Grass Is Greener 'Over There', It Comes at a Price

by Carolyn Freeman and Deanna Comninos, KPMG, Johannesburg
(KPMG in South Africa is a KPMG International member firm)

The so-called "brain drain" from South Africa is a very real and serious phenomenon.¹ Also known as the "skilled South African diaspora," it is said that the loss to South Africa of highly educated and skilled individuals in the fields of, amongst others, medicine, engineering, accounting, finance, and science may be currently under-estimated and under-reported by the government.

This loss inevitably has costs for the South African economy. However, frequently very little consideration is given to what it actually costs the individuals who are emigrating; specifically in cases where they may be well-established financially. Contemplating the issues concerning the brain drain raises some interesting questions, including what are the possible fiscal consequences to an individual who decides to emigrate, especially considering the potential impact of capital gains tax and exchange control rules?

There are no requirements for official notification to be made to the Department of Home Affairs in relation to emigration when an individual plans to leave South Africa permanently. South African nationals may maintain their South African identity books and passports (unless they are required by their new home country to rescind their South African citizenship status); this may explain why some observers maintain that official emigration statistics are under-estimated. There is no method currently deployed by Home Affairs for accurately tracking unofficial emigration numbers.

On the other hand, the emigration requirements, from the tax and exchange control perspectives, can be onerous — although, many individuals may be blissfully unaware of them. The requirements are designed to impact higher net worth individuals particularly severely.

Tax Impact

Residence

South African citizens are generally categorized as tax residents for the purposes of Income Tax and Capital Gains Tax ("CGT"). The test for tax residence is two-fold and comprises the "ordinarily resident test," which is pertinent in this regard, and the "physical presence test," which typically applies to foreign nationals who spend sufficient time in South Africa to be classed as residents for tax purposes.

The term "ordinarily resident" has no specific definition. Essentially, where an individual has the intention to live in South Africa permanently and considers South Africa to be his or her "real home," he or she will be "ordinarily resident" in South Africa. The test is, therefore, largely subjective; but the South African Revenue Service ("SARS") considers certain objective factors when analyzing a person's "ordinarily resident" status, such as the location of personal belongings, social and religious ties, economic ties, country of birth, etc. Generally, to the extent that an individual is born in South Africa and lives in South Africa his or her whole life, that individual will be considered "ordinarily resident" for tax purposes unless he or she decides to emigrate.

Tax Residents: Capital Gains Tax Regime and Deemed Capital Gains

Tax residents of South Africa are taxable in South Africa on worldwide income and capital gains; whereas nonresidents are taxable on income from South African sources only and capital gains from the sale of South African immovable property only.

There is a rather punitive provision in the CGT legislation (dealt with in the Eighth Schedule to the Income Tax Act, No 58 of 1962) which levies an "exit charge" on South African tax residents who break their residence status. This exit charge comprises a deemed capital gain (or loss) calculated on the increase (or reduction) in the market value of the worldwide capital assets of "ordinarily resident" individuals from 1 October 2001 (the introduction date of CGT) or the date that they purchased the assets — if subsequent to this date — and the market value on the date that they ceased to be "ordinarily resident" in South Africa. Therefore, to the extent that the individual has significant worldwide assets which have grown in value, there will be a deemed capital gain which will need to be accounted for, albeit the gains are not actually realized. This could impact a taxpayer's cash flow considerably.

The deemed capital gain applies to all worldwide assets with the exception of South African immovable property, which is subject to CGT when the taxpayer actually disposes of the property (even though the taxpayer may only dispose of the property when he or she is no longer tax resident in South Africa).

Where there are capital gains derived in respect of some assets and capital losses in respect of others, these will be offset to arrive at an aggregate, or net, gain or loss. Individuals qualify for an annual exclusion from tax of gains made of ZAR 15,000 per annum and, ultimately, the capital gain is taxed at 25 percent of the individual's marginal tax rate — which is effectively 10 percent for individuals in the maximum tax bracket. Net capital losses may be carried forward to a subsequent tax year and set off against future capital gains.

The exit charge would apply equally to foreign nationals who have remained in South Africa long enough to meet the requirements for the "physical presence test" for residency and subsequently break residence by leaving the country. For a South African national to terminate ordinary residence, he or she must have the intention to do so, along with factual evidence thereof. (This would usually coincide with the date of emigration for exchange control purposes.) Conversely, "physical presence" resident individuals would be required to remain out of the country for specified amounts of time in order to break residence status.

In summary, therefore, South African nationals intending to emigrate from South Africa need to bear in mind that their worldwide capital assets (with the exception of South African immovable property) will be subject to CGT at the date that they emigrate, calculated as 10 percent of the growth in the assets from 1 October 2001 (or the date of purchase of the asset if subsequent to this date) and the date of emigration. It is also important to bear in mind that generally it is unlikely that another country — which may be home to some of the assets subject to the capital gain tax — will give tax credit relief for the exit charge paid upon emigration when the assets are actually disposed of in that country. This is because the capital gain in South Africa is a deemed, rather than actual, gain since it is calculated even though there is no actual disposition of the assets. Indeed, it is possible that the same growth will be taxed by the other country at a future date.

Exchange Control Impact

To control and limit the outflow of currency from South Africa, the transfer of funds from South Africa by South African residents is regulated by the South African Reserve Bank ("SARB"). For purposes of exchange control, individuals are resident in South Africa if they have taken up permanent residence or if they are domiciled in South Africa.

Domicile is a common law concept. An individual is generally domiciled where he or she has his or her permanent home. Permanent home is the place that remains that individual's home even when he or she is abroad, and/or to which the individual intends to return at some time in the future. Once an individual reaches majority, he or she can either retain his or her 'domicile of origin' (where the individual's parents were domiciled when he or she was born) or establish a new 'domicile of choice' by making a positive choice to take up a permanent home in a new country.

In order to formally emigrate for exchange control purposes, there is a set process which needs to be followed in order for SARB to grant nonresident status for exchange control purposes. These procedures include the completion of exchange control forms, as well as the acquisition of a tax clearance certificate from SARS.

There are special rules applicable to individuals who apply to SARB for "emigration facilities." Emigration facility is an approval by SARB to emigrate funds from South Africa. A South African exchange control resident who emigrates from South Africa and avails himself or herself of the emigration facilities is subject to a number of provisions. The amount an emigrant may export from South Africa is subject to certain maximum limits.

After the maximum allowed amount has been exported, the balance of an individual's assets (cash or otherwise) will remain in South Africa and will be categorized as "blocked assets."

Should the emigrant wish to transfer funds in excess of the specified limits, he or she may submit an application to an authorized dealer requesting permission to transfer the assets offshore, subject to the payment of an exit charge of 10 percent of the excess amount to be remitted. The SARB, however, does reserve the right to restrict the amount that is approved for transfer subject to the 10-percent exit charge. Alternatively, the SARB could approve the full amount requested but limit the transfer of such amounts by way of installments.

Conclusion

South Africa, for several reasons, has witnessed the departure of many talented and wealthy citizens in recent years. This exodus is seen by many to be a brain drain for the country, as many people with scientific and technical skills seek greener pastures.

The "cost" to an individual of emigrating is potentially very high, especially in the case of high net worth individuals. Emigrating individuals need to be cognizant of both the CGT and exchange control implications when considering leaving South Africa permanently — up to 10 percent of the value of South African-based assets being removed from South Africa, plus 10 percent of the increase in value in all capital assets worldwide. Finally, there is a renewed interest by fiscal authorities in strengthening compliance by emigrating individuals. Therefore, those individuals choosing to emigrate would do well to heed the current regulations and meet their exit charge liabilities.

Footnote:

1 Many of the facts and observations noted in this article draw from the journal articles, publications, and monographs cited below:

• R. Tyler, editor, "South Africa Battles To End 'Brain Drain'," Telegraph (online), 11 October 2007, at: http://www.telegraph.co.uk/money/main.jhtml?xml=/money/2007/10/11/cnsa111.xml.
• D. Dalling, "Maybe It's Time for a Rethink," The Witness, 28 September 2007, p. 18.
• "Trying To Stop the Brain Drain in South Africa," Global Envision (online), 17 July 2007, at: http://www.globalenvision.org/library/9/1690/.
• K. MacGregor, "Research Chairs To Counter Brain Drain," University World News (online), 14 October 2007, at: http://www.universityworldnews.com/article.php?story=20071009145148255.
• BBC News Online, "South Africa hit by 'brain-drain'," 24 July 2002, at: http://news.bbc.co.uk/1/hi/world/africa/2149297.stm.
• Human Science Research Council's "Factsheet 5 : Skills migration and the brain drain in South Africa" (25 February 2004) at: http://www.hsrc.ac.za/Factsheet-7.phtml.
• Johann van Rooyen, The New Great Trek: the Story of South Africa's White Exodus, (2000), see the review on the University of South Africa's Web page at: http://www.unisa.ac.za/default.asp?Cmd=ViewContent&ContentID=13537.
• Andrew Myburgh, "Explaining Emigration from South Africa," The South African Journal of Economics (2004) 72 (1), pp. 122-148.

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