South Africa: Proposal to amend interest limitation rules

A proposal to amend the interest limitation rules

A proposal to amend the interest limitation rules

The “Taxation Laws Amendment Bill 2021” (released 11 November 2021) proposes to amend the interest limitation rules.

The proposal would impose new limits on tax-deductible interest (as currently subject to the rules of section 23M of the Income Tax Act No 58 of 1962). The proposed effective date is linked to the date when the corporate income tax rate is reduced to 27% (from 28%).


Section 23M currently places a restriction on the deductibility of interest payable to a creditor that is in a “controlling relationship” with the debtor, when that creditor is not subject to tax in South Africa with respect to such interest or when the creditor, not subject to tax, sources the funding from a person that is in a controlling relationship with the debtor. Typically, this would be a situation when an income tax treaty of agreement between South Africa and the country of residence of the foreign creditor reduces any withholding tax to zero.

In general, section 23M limits the amount of interest that can be deducted to the sum of:

  • Interest received by or accrued to the debtor plus a formula-driven percentage of “adjusted taxable income”


  • Interest incurred by the debtor in respect of debts, other than debts subject to section 23M, which has not been disallowed under the provisions of section 23N (section 23N limits the deductibility of interest incurred on loans used to fund “reorganization” or “acquisition” transactions)

An interest deduction that is disallowed in a particular year of assessment can be carried forward indefinitely and reconsidered for deductibility in subsequent years. 

Proposed changes

The following changes to section 23M are proposed.

  • Extension of “controlling relationship” definition: The current definition of “controlling relationship” envisages a person that directly or indirectly holds at least 50% of the equity shares or voting rights in a company, being the debtor. This definition would be expanded to include arrangements in terms of which a person, whether alone or together with a connected person, holds at least 50% of the equity shares, voting rights or participation rights in a company. In addition, the “controlling relationship” definition would include connected persons in relation to a creditor when that connected person holds at least 50% of the equity shares, voting rights or participation rights in a company.
  • “Interest” broadly defined: The definition of interest for purposes of section 23M would be expanded to include:
    • Amounts incurred or accruing under interest rate-swap agreements (as defined in section 24K)
    • The finance cost element recognised for purposes of IFRS 16 in respect of finance leases
    • Taxable foreign exchange gains or losses that arise in respect of such debt
    • Amounts treated as interest under the Sharia-compliant financing arrangements

A dividend in specie (pursuant to the hybrid-equity rules) would not be considered interest for purposes of section 23M.

  • Interest on back-to-back loans: In its current form, section 23M considers whether the creditor is subject to tax, either in the form of normal tax or withholding tax.  It does not look beyond the creditor. Currently, section 23M therefore only applies where the creditor is tax exempt or, as noted above, is a non-resident that is not subject to withholding tax on the interest as a result of tax treaty relief. Critical to note is that, in terms of the proposed amendment, section 23M could apply even if the funds that are lent out by a taxable person are sourced from a person that is not subject to tax.
  • Interest on loans made by related companies: The provisions of section 23M would be extended to arrangements when the debt is owed to a company that would have formed part of the same group of companies had the group threshold been reduced to “more than 50%” rather than “at least 70%.”
  • Interest deemed not subject to tax: When an applicable double tax treaty reduces the rate of withholding tax on interest but does not entirely remove South Africa’s taxing rights, the interest is currently regarded as being subject to tax, and the provisions of section 23M do not limit the deduction of such interest in the hands of the South African taxpayer. The proposal would treat all or a portion of the interest as not being subject to tax when the interest is not included in the income (i.e., gross income less exempt income) of the recipient and would be subject to withholding tax at a rate lower than the current rate of 15%. In determining the portion that is not subject to tax, a formula would apply. The lower the rate of withholding tax applicable to the interest, the greater the portion of the interest that would be deemed to be not subject to tax. The inclusion of the deeming provision would result in interest, that is subject to withholding tax, to fall into the section 23M net.
  • Percentage of adjusted taxable income to included: Currently, the percentage of adjusted taxable income that is included in the determination of the deductible interest is calculated based on a formula which is driven largely by the average repo rate. It is proposed that this formula be replaced by a flat rate of 30% of adjusted taxable income.
  • Adjusted taxable income for REITs: The taxation of listed real estate investment trusts (REITs) is governed by the section 25BB of the Income Tax Act. REITs are able to claim a tax deduction in relation to qualifying distributions made to investors. These amounts would be added back to the adjusted taxable income calculation under the proposal. 

KPMG observation

The amendments could significantly increase the number of taxpayers affected by section 23M and could result in a higher proportion of interest being disallowed. Furthermore, the legislation contains certain terms that have not been clearly defined and that could result in implementation challenges.

Read a November 2021 report [PDF 602 KB] prepared by the KPMG member firm in South Africa


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