VAT consequences of tourism December 2016

By PHILLIP LOURENS, Published in Tax

It seems that certain South African travel companies like taking risks when it comes to Value-Added Tax (VAT).

According to the 1998 Explanatory Memorandum on the Taxation Laws Amendment Bill, when VAT was originally introduced, the intention was to levy VAT (at 14%) on consumption in South Africa. Those supplies where consumption does not take place in South Africa, and the benefit of the services is not enjoyed in South Africa, should be subjected to VAT at the rate of zero percent.

In order to give effect to this "zero-rating" in circumstances where the services are supplied to a person who is not a resident of South Africa, s11(2)(l) was included in the Value-Added Tax Act.

To eliminate any doubt as to the scope of s11(2)(l) of the VAT Act, the subsection was substituted in 1998. It was expressly stated in the Explanatory Memorandum that, in order for the zero rate of VAT to apply, the supply of services must be made to a recipient who is not a resident, and neither the recipient nor any other person to whom the services are rendered may be in South Africa at the time the services are rendered.

Section 11(2)(l) was again amended in 1999, with the Explanatory Memorandum for that year stating that "the presence in the Republic of the recipient of a service, or of any other person to whom the service is rendered, at the time the service is physically rendered ... will prohibit the zero-rating provided for in this subsection from being applied."

These explanations seemed sufficiently clear but still there were South African VAT vendors seeking to zero-rate their supplies in circumstances where they were not entitled to do so.

Judgement in the case of XO Safaris v CSARS (395) [2016] ZASCA 160 was delivered by the Supreme Court of Appeal on 3 October. The court was called upon to once again give clarity as to the interpretation of s11(2)(l).

Briefly, the facts of the matter were: XO Safaris (XO) is a registered VAT vendor and operates a business involving the supply of services to foreign tour operators (FTOs), which arrange foreign tours to South Africa but are not residents in South Africa for tax purposes.

When XO's agreements were concluded with the FTOs, neither the FTOs nor their customers were physically present in South Africa. XO offered package deals to the FTOs that included accommodation, travel, restaurant bookings and recreational activities, such as golf, safaris, whale watching and the like (local services). XO contracted local service providers to provide the services to the customers of the FTOs. The accommodation, meals and other activities were used, eaten or enjoyed (as the case may be) in South Africa, by the members of the tour groups assembled by the FTOs.

In terms of the agreements with the FTOs, it was the responsibility of XO to ensure that the local services were properly provided during the tours. XO accepted that this involved a supply of services to the FTOs but claimed that it was a supply that was zero-rated in terms of s11(2)( l). This meant that because XO would claim input VAT deductions in circumstances where it did not pay output VAT, it was effectively making profit at the expense of the fiscus. The Commissioner for the South African Revenue Service (SARS) contended that these services did not fall within s11(2)(l) but were subject to the standard rate of VAT of 14% in terms of s7(1) of the VAT Act. After losing its appeal in the Tax Court, XO appealed to the Supreme Court of Appeal.

XO's witnesses testified (in the Tax Court) that XO would provide the local services listed in the itinerary, budget or programme and that the FTOs would purchase such services. One witness testified that the local services were provided while the customers of the FTOs were in South Africa.

XO contended that its services should be zero-rated because it did not supply or render the local services directly to the FTOs or their customers. The argument was that there needed to be a direct connection between the party that supplied the services and the recipient. The crux of XO's case was that the local services were rendered by the local supplier directly to the FTOs or their customers because XO had no direct relationship with the customers. The court held that this did not accord with the facts.

The court focused on the application of s11(2)( l) to XO's activities and stated, in regard to the interpretation of that section, that the cardinal consideration in determining the intention of the legislature is to interpret the section in the context of the VAT Act as a whole. The court further specifically stated that regard should be had to the history of the section, and the explanatory memoranda in the event of any uncertainty.

The letters of agreement, standard terms and conditions of contract, and the itinerary attached to the letters of agreement proclaimed unequivocally that XO was providing materials and services (in South Africa) consisting of accommodation, meals, entertainment, gifts, transport, and the like, as specified in the itinerary. That is what XO undertook to provide to the FTOs, that is what it was paid to provide and that is what it provided. The court reiterated that it had previously held that the purpose of the VAT Act is to ensure that when services are consumed in South Africa, VAT is payable at the standard rate (see Master Currency v CSARS 2014 (6) SA 66 (SCA)).

The court held that XO provided the goods and services, not directly to the FTOs but to persons who were in South Africa at the time that the goods and services were provided. Those persons enjoyed the benefit of the services while they were in South Africa and this served to exclude the services from the class of services that enjoy zero-rating under s11(2)(l) of the VAT Act.

Note, however, that the judgement in the XO Safaris case does not mean that services offered by South African travel service businesses to foreign tour operators will automatically be subject to VAT at 14% just because the services relate to South African travel packages.

XO's modus operandi may be distinguished from businesses merely offering services such as acting as an agent in the making of bookings and offering travel advice to non-residents, while those non-residents (and perhaps also their ultimate clients, if they are tour operators, for example) are not physically present in South Africa. These services may still qualify for the zero rate of VAT.

Lourens is a Senior Associate at Hogan Lovells (South Africa).