SARS
23 JANUARY 2001
PRESENTATION TO THE PCOF AND THE SCOF

1. INTRODUCTION
Purpose:
· Explain the process up to now/consultation
· Reasons for the introduction of Capital Gains Tax (Briefly)
· International Assistance
· International Benchmarking
· Implementation and Administration
· Overview of Bill
· Specific Industries
· Consequential Amendments
· Illustrative examples
· Issues to flag

National Treasury will concentrate on the macro issues such as:
~ Reasons for introduction/Why do we need a Capital Gains Tax
~ Impact on the economy
~ Impact on Entrepreneurship/Job creation
~ Impact on investment in South Africa
~ Impact on Savings
~ Lock- in effect
~ Indexation
~ Cost benefit analysis
~ Equity considerations
~ International Benchmarking

2. PROCESS/CONSULTATION
The process was really kicked off by the release of a Guide to Capital Gains Tax on Budget Day last year. It must be pointed out that a huge amount of thinking went into the development of the Guide, which really spelled out the fundamental principles on which the CGT would be based. After the release of the Guide SARS and the National Treasury endeavoured to consult as widely and extensively as possible within the timeframe available. It should, however, also be borne in mind that the implementation of the balance of last years tax proposals such as the introduction of a residence base system of taxation, new rules for public benefit organisations, the air passenger tax, etc. prevented SARS from releasing an earlier draft CGT Bill for public comment. After the release of the Guide the following events occurred in chronological order.

About 100 different submissions on the draft legislation, consisting of about 500 pages, were received. We are now in the process of working through and evaluating these submissions to determine to what extent further adjustments need to be made to the draft Bill. The intention is to develop a comprehensive document whereby:-
· all the issues raised in the submissions and the hearings will be listed;
· by whom each issue was raised; and
· what the response thereto is.
This document (which will probably exceed 100 pages) will serve as our response document to your committee after the hearings.

3. INTERNATIONAL ASSISTANCE
· The Guide released on Budget Day last year was developed with the assistance of Prof. Sam Thompson from the US Treasury Foreign Assistance Programme who was an advisor to National Treasury and SARS at the time.
· In developing the first internal drafts of the Bill, extremely helpful input was
received from a team of experts from the UK CGT Division.
~ Trevor Evans- Head: CGT Policy Division;
~ John Evans;
~ Peter Bowen and
~ Colin Weston
· Prof. Rick Krever from Australia played a major role in assisting to finalise the draft legislation circulated for comment on 12 December 2000 when he visited SA for two weeks late last year. He is at present back in SA assisting with the evaluation process of the commentary received and finalising the draft Bill.
· The IMF played an extremely useful role when a three member team visited SA in December 2000 to evaluate the CGT proposals. The mission consisted of Messrs. Michael Keen, Leonard Burman and Russel Krelove. Their views are captured in a report produced by the mission.
· Prof. Keith Engel from the US who took over from Prof. Sam Thompson as adviser to the National Treasury also contributed to the process.

4. REASONS FOR INTRODUCTION
The core reasons for the introduction of CGT can be summarised as follows:-
· CGT will bring about greater neutrality between the taxation of income of a revenue and capital nature. It will reduce the existing distortions and minimise the administrative resources utilised in order to combat tax avoidance.
· Horizontal and vertical equity. CGT will compliment and underpin the effectiveness of other taxes eg. income tax. In this regard it will reduce opportunities of tax planning such as the conversion of capital to revenue. It is important to understand that the effectiveness of a CGT cannot only be measured by the direct revenue CGT will produce. Its indirect effect can often not be fully quantified but should form part of the calculation of the broader impact of CGT. More revenue of course will enable Government to reform the tax system further and to extend its delivery of basic services. In this regard it is important to keep in mind that Government has put back R25 billion in the form of reducing tax rates of individuals over the last 6 years. It, therefore, demonstrates that its base broadening programme enables it to reduce taxes. As the International Monetary Fund (IMF) has pointed out this brings greater fairness to the tax system.

Examples of rounding off and amplifying the broader tax system are:-
· transfer duty - Residential property held by trusts and companies.
· Income tax - Conversion of revenue to capital. Retention of profits in company
· Estate duty - Increase cost of estate planning.
· Bring our tax system in line with international norms. Shift to a more comprehensive concept of income.
· Encourage risk taking by entrepreneurs.

5. INTERNATIONAL BENCHMARKING
CGT forms part of the tax systems of both developed and developing countries.
In Africa alone 16 countries levy CGT. CGT is long established in the majority of developed countries such as:-
· United States of America since 1913
· United Kingdom since 1965
· Canada since 1972
· Australia since 1985

[table of the study done by SARS reflecting tax system of 134 countries not included]
[table on rate structure of developed countries not included]

6. VIEWS OF SA COMMISSIONS ON TAX
The Franszen Commission in 1969 proposed a limited form of CGT on immovable property and marketable securities. The majority recommendation of the Margo Commission in 1986 was that capital gains should not be subjected to tax. The Katz Commission, on the other hand, acknowledged the case for a tax on capital gains in its 3rd Report, while recommending that it should not be implemented due to its complexity and the lack of capacity of the tax administration at that time (1995). The Katz Commission, however, also recommended in its first Report that the Revenue Service should be granted greater administrative autonomy to enable it to improve its administrative capacity. On 1 October 1997 SARS was established as a separate organ of state outside the public service but within the public administration. SARS was, therefore, as a result of this step and various other initiatives, able to enhance its administrative capacity as recommended by the Katz Commission.

7. INTRICACY OF LEGISLATION
- Style
The legislation has been drafted in a more accessible style, which has been favourably remarked upon by several commentators. However, it is dangerous to over simplify fiscal legislation as this may lead to a loss of precision that is especially open to abuse in this area. The legislation as drafted attempts to strike a balance in this regard.

- Content
In the design of the legislation itself we were mindful of the following points, amongst others:
~ Integration with the principal Income Tax Act would permit the reuse of tried and tested administrative provisions.
~ Indexation and associated loss limitation provisions would add to the complexity of the legislation.
~ The greater the number of special dispensations the greater the need would be for associated anti -avoidance provisions.

8. OVERVIEW OF THE CGT BILL
· Basic Structure
· CGT will form part of the Income Tax System
~ Other countries
~ Canada
~ UK
~ USA
~ Australia
· Move towards a more comprehensive definition of CGT
· Possibility of copying a foreign system
· Residence based
~ Residents - world wide
~ Non Residents - SA immovable property
- SA business assets, owned through a permanent establishment
~ DTA's

Definitions - Part I
~ Asset
~ Disposal
~ Proceeds
~ Base cost

Note:
The step by step approach is required for two main reasons:
Capital gains tax is triggered by the disposal of an asset and each asset must therefore be considered individually to begin with.

Once all individual gains or losses have been added together several steps are required in order to allow each reduction in the tax to be paid to be properly referenced and to take place in a logical sequence.

* If the sum of the capital gain and capital loss had been a negative figure, this exclusion would have reduced aggregate capital loss. This is symmetrical with the treatment of capital gains. It also reduces compliance costs for taxpayers and SARS as small capital losses need not be taken into account.

· Effective rates

Disposals - Part III
- Actual
- Excluded disposals
- Part disposals
- Deemed disposals

- Deviation
· Cessation of residence
· Immovable property and business assets
- Time rules

Loss limitation rules - Part IV
- Reason therefore
~ Aircraft, boats and certain rights
~ Intangible assets
~ Forfeited deposits
~ Securities lending
~ Straddle transactions

Base cost and proceeds - Part V
· Base cost
- General rule - Three components
- Acquisition costs
- Directly related to acquisition and disposal
- Improvements

~ Items excluded from base cost
~ Borrowing costs/interest
~ Assets acquired before 1/4/2001 (valuation date) ~Proceeds exceed base cost
· Option
- Market value
- Time apportionment
- 20% rule
~ Limitations
~ Proceeds less than base cost
· Higher of
- Market value
- Time apportionment ~ Listed assets
~ Valuation rules
· Market value/guiding principle
- Who may perform calculations
· How does election work/2 year period

- Deviations
~ Time-based apportionment for listed assets
~ 2 year versus 6 months

· Proceeds on Disposal
- General rules

- Receipts and accrual/apply income tax principles

- Exclusions

- Connected party rules

· Non-arms length disposals (donations)
- Disposals to and from deceased estates

- Deviations
- Deceased estates & donations
- No roll-over- now CGT events
- Reasons
~ Otherwise rolled forever
~ Problem to determine base cost

Primary residence exclusion - Part VI
- Definition - primary residence
- General principle
~ Disregard capital gain and capital loss
~ Per person- However- occupation rule and main residence
- Guide did not deal with all detail
- Statement was made that further detail would be dealt with in Bill
- Size of residential property
- Apportionment rules
- Absence
· 2 year rule
· Rental rule
~ Non-residential use (trade)
- Transfer from company/cc
~ Exemptions- stamp duty - transfer duty
Deviation
· Cap on exemption – R1 million
· Definition of ‘’spouse’’

Other exclusions - Part VII
· Other exclusions
~ General principle
~ Personal use assets
Deviation
· Wider - now only define taxable assets
· Reason - limit to assets with potential to increase in value
Issue of collectables
Assurance and retirement benefits
Small business exclusion

Deviations
· Holding period reduced from 15 years to 5 years
· Early retirement
Compensation for personal injury/illness/defamation
- Involuntary
- Restores previous position P Prize money
- Only SA
Conversion of foreign currency
- Insurance proceeds
- To prevent double taxation
- Unit trusts

- Deviation
· Incidence of Tax
· Property unit trusts
- Donations to public benefit organisations
- New exclusion
- Assets used to produce exempt income

Roll-overs and Attribution rules - Part VIII
· Roll-overs
- Involuntary disposals
- Reinvestment in similar assets
- Deviation
- Transfers between spouses

· Reason
- Transfer of business to a company

· Reason
Deviation
· Previously limited to 5 persons
· Now 10% holding requirement
· Reason - Close Corporations

· Attribution rules
- Attribution of capital gain to spouse
- Attribution of capital gain to parent of minor child
- Attribution of capital gain which is subject to conditional or revocable vesting
- Attribution of capital gain to non-residents
~ Anti-avoidance
~ Similar to Income Tax Rules

Companies and shareholders- Part IX
- Dividends declared by non-listed company
- Dividends declared by listed company
- Reduction and redemption of share capital and share premium
- Liquidation or de-registration of companies

Trusts and Insolvent Estates - Part X
· Trusts and Beneficiaries
- Different events
- Trustee assets treated as assets of beneficiaries
- Interest in gains only
- Distribution of other amounts
· Insolvent estates
- Estate prior to insolvency and insolvent estate treated as the same person
- No carry forward of losses
- retain

Anti-avoidance - Part XI
- Section 103(1)
- Section 103(2)
- Value shifting

Miscellaneous - Part XII
Transactions during the transitional period

9. SPECIFIC INDUSTRIES
· Unit trusts
- Deviation
· Insurance industry
· Retirement industry
- Deviation

10. CONSEQUENTIAL AMENDMENTS
· Transfer Duty
- Exemption

· Stamp Duty
- Exemption

· Estate Duty
- Rebate/vs Reduction in rate

· Donations Tax
- Rebate/vs Reduction rate

· Rationalisations
· Unbundling transactions
· Other Income Tax Amendments
- Section 26A
- Rebate - Section 6quat
- Reporting
- Unit Portfolios
- Portfolio Administrators
- Other Records

11. ILLUSTRATIVE EXAMPLES
Agricultural sector
Example 1 - Immovable farming property
A farmer buys a farm 10 years before the implementation date and sells it 5 years after the introduction of CGT.