PETER DACHS: Are exchange-control loop structures still permitted?

With much fanfare the Reserve Bank has announced that the full “loop structure” restriction was lifted on January 1 “to encourage inward investments into SA”. 

With a loop structure, an SA resident invests in an offshore vehicle, which in turn invests in SA assets. Loop structures were previously prohibited because they created a channel for the direct or indirect export of capital from SA. This prohibition was in place for decades and the subject of much debate, even challenged in court.

The original concern about loop structures arose where the acquisition of an SA asset was not entered into on an arm’s length basis. In these circumstances, the nonresident shareholder could extract capital and/or dividends from the SA asset. This could contravene the provisions of regulation 10(1)(c) of exchange control regulations, which prohibit SA residents from entering into transactions by which capital or any right to capital is exported directly or indirectly.

In terms of the 2021 circular, SA companies and resident individuals with authorised foreign assets could invest in SA assets provided that, where such assets were acquired through an offshore structure, the investment was reported to an authorised dealer (commercial banks acting as agents for the Bank in relation to exchange control matters). It was also necessary to verify that transactions were entered into on an arm’s length basis for market value consideration.

This market widely welcomed the abolition of the loop structure prohibition as it allowed SA residents to invest in offshore vehicles that held SA assets. On the basis set out in the 2021 circular, namely that transactions were concluded on an arm’s length basis and for a fair and market related price, there did not seem to be any reason to prohibit such arrangements.

However, early in 2022, there were indications from the Bank that the relaxation of the loop structure policy was intended to encourage new inward investments into the country and not to allow residents to externalise control of SA entities to a foreign jurisdiction. It was suggested that a new exchange control circular may be issued to provide more clarity on this issue.

It is often said that to operate efficiently markets need certainty. Unfortunately, that is no longer the case in relation to the abolition of loop structures, since the new circular has not yet been released. This places authorised dealers in a difficult position. In terms of the 2021 circular, a loop structure needs only be reported to an authorised dealer as and when the transaction is finalised, and the authorised dealer is then required to submit an annual progress report to the Reserve Bank’s financial surveillance department.

However, given uncertainty about the application of the 2021 circular, authorised dealers may now be reluctant to receive a report from an SA resident company or individual placing a loop structure on record. Instead they may send this report to the Bank for its views. This would essentially reintroduce the position before the 2021 circular, where the approval of the Reserve Bank was required prior to any loop structure being entered into.

It seems that the Bank is concerned about loop structures that may result in externalisation of control over existing investments. If this is so, it should be articulated in a new circular to provide certainty.

Until this occurs, resident individuals and corporates should engage with their authorised dealers before entering into any loop structures, to understand the requirements for such arrangements. It may well be that mere notification of the structure as contemplated in the 2021 circular will not suffice.

• Dachs is head of ENSafrica’s tax department. He writes in his personal capacity.