The ad-hoc nature of a double tax amendment could see companies moving elsewhere.
Mauritius, the island that in effect offers a corporate tax rate of 3%, no capital gains tax and no withholding tax on dividends, has long been favoured by international investors as a gateway for investment into Africa.
The island has double tax agreements (DTAs) with several countries in Africa, which allow wily investors to have a presence in their country of choice but pay the very low tax rates offered by Mauritius.
But recent changes to the DTA being brokered between it and South Africa mean that investors may start looking at other intermediary countries to invest into Africa's biggest economy.
Double tax agreements are brokered by the tax administrations of two countries to avoid the "double payment" of tax. Mauritius has several such agreements in place, which has contributed to its label of tax haven.
Tax havens — countries that offer foreign investors little or no tax liability — have come under the spotlight globally since multinationals such as Apple, Google and Starbucks were revealed to have made extensive use of them to avoid paying billions of dollars of tax to host countries.
Barclays Bank has recently come under fire from the nonprofit organisation ActionAid for promoting investment into Africa through Mauritius.
Agreements earn a bad name
Aneria Bouwer, a partner in the tax team at legal firm Bowman Gilfillan, said that the agreements have earned a bad name.
"DTAs have a negative reputation — that people use them to avoid taxes as opposed to avoid paying double taxes," said Bouwer, whose clients all use Mauritius as a conduit.
South African tax law currently requires a company to pay taxes where it is incorporated or from where it is effectively managed. If these take place in two separate countries, the rule of effective management trumps that of incorporation.
So, a company that is incorporated in South Africa but is effectively managed from Mauritius would be required to pay tax on the island and, therefore, would be subject to the far lower corporation and dividends tax rates.
"Sars [the South African Revenue Service] saw some companies taking advantage of the dual residence arrangement," said Bouwer.
"These companies have the advantage of being exchange-control residents in South Africa and the advantages of being tax residents in Mauritius," she said.
The amendments to the new DTA address this. The amended law says that management no longer automatically trumps incorporation.
Instead, it says that "the competent authorities of the two states must 'by mutual agreement endeavour to settle the question' and determine how the DTA will apply to such a person," Bouwer said.
Essentially, in every dual-citizenship case where the question is raised, Sars and the Mauritian tax administration will have to battle it out to determine where the relevant tax will be paid.
Sars is hoping to broaden its dividends tax base through the amendment. According to a recent PwC report, Paying Taxes 2014, South Africa is seeking to address a significant reduction in tax collection in 2012, mostly attributable to a change in dividend tax law.
"The reduction is primarily due to South Africa replacing the secondary tax on companies, which was levied on a company declaring a dividend, with a dividends tax that is levied on the shareholder," said the report.
Although the amended DTA law will widen the net for tax collection, companies that have used Mauritius as a doorway to invest into South Africa could be put off by the new agreement, Bouwer said.
Uncertainty for companies
The suggested ad-hoc decision-making about where to pay what will create "substantial uncertainty for companies faced with the dual-residence conundrum," she said.
"They would have to rely on the tax authorities in the two countries not only to reach an agreement on this issue but to do so in an expeditious manner to avoid leaving the taxpayer dangling in mid-air."
But, according to ActionAid, the decision to tighten the DTA favours South Africa.
"Foreign direct investment flows are important," the organisation said in a report, Time to Clean Up: How Barclays Promotes the Use of Tax Havens in Africa.
"However, while such investments have the potential to increase development, in the absence of the right conditions they can also harm long-term social and economic prospects. The kind of services that people in Africa need, such as healthcare, education or environmental management, all require steady, dependable and long-term sources of finance in the form of domestic tax revenues.
"The extensive use of tax havens such as Mauritius to channel investments can lead to the loss of tax revenues for poor countries through a variety of dodges which take advantage of the low tax regimes, tax treaties and secrecy that these tax havens offer," it said.
"Promoting the use of tax havens as a way of channelling investment into Africa cannot be considered as supporting responsible investment and sustainable development for all."