The Value Added Tax (VAT) Act generally prohibits VAT-registered individuals from levying and reporting VAT on exempt supplies, such as interest income and educational institution fees. Conversely, the same Act mandates that individuals exclusively dealing with or trading in zero-rated supplies must report or register for VAT, even though these supplies do not generate any output tax. Given this, traders dealing in exempt supplies should be aware that such supplies may sometimes transition to become zero-rated supplies. Consequently, this transition invokes VAT obligations. Primarily, such a unique transformation of transactions typically impacts interest earned from abroad. Today, we aim to address some key technical issues surrounding interest earned from outside Botswana and elucidate why such interest may trigger VAT consequences.
Foreign interest
Foreign interest refers to interest income derived from a source located outside of Botswana. This encompasses interest earned from various sources such as bank accounts, investments, or other financial instruments situated in different countries. There are several avenues through which foreign interest income can be generated. For instance, a Botswana-based business may invest in a foreign company or extend loans to overseas enterprises. In either scenario, the business would accrue interest on its investments or loans, constituting foreign interest income.
It should be noted that interest earned from a source within Botswana generally falls under the exempt supplies category as regulated by the VAT laws. This technically means that a business operator who exclusively earns Botswana-basedinterest need not worry about local transactions VAT. This is based on the fact that a person who earns or generates exempt income is not required to register for VAT. However, such VAT treatment changes when the interest is received from a foreign source. Let us have a look at what the law says.
Enter the transition
The VAT Act states that ‘A supply of goods or services is not an exempt supply if, in the absence of exempting provision, the supply would be charged with tax at the rate of zero percent.’ Simply put, the provision of the Act basically means that where a supply that is ordinarily exempt is made to be both exempt and zero-rated, then the zero-rating takes precedence. Now, looking at cross-border interest earners, it is unquestionable that the domestic supply of interest is technically a financial service, thus exempt from VAT.However, interest earned from a non-resident technically triggers a complex situation. On one hand, interest isclassified as an exempt financial service. However, such interest qualifies for zero-rating as the VAT Act generally prescribes a zero percent VAT rate on exports, despite them being exempt. Technically, such interest changes character to a zero-rated supply by the absence of an exempting provision of foreign earned interest. Consequently, offshore interest earned in excess of P1m or anticipated to exceed P1m must register for VAT and include the foreign income as part of taxable sales. If this is not done, the foreign interest earners not only infringe the VAT Act but also underpay the training levy, which is based on Vatable turnover.
Conclusion
In this regard, business operators must understand the fact thatinterest that is ordinarily exempt domestically can turn out to be zero-rated if earned from offshore. The above analogy also applies to other incomes such as foreign educational institutions’ fees for distance learning and hospital fees charged to non-residents of Botswana.
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