Ref: #173477
v2/WS/MB/MF/DT/CBW/ZM/NK
Call for comment file
10 October 2007
Mr N Nene
Chairman: Portfolio Committee on Finance
Parliament
8000
Dear Sir
DRAFT REVENUE LAWS AMENDMENT
BILL 2007 (THE BILL), AND EXPLANATORY MEMORANDUM
Set out below please find the SAICA National Tax Committee’s comments on
the above-mentioned documents:
1.
General overview
1.1
The
press release issued by The South African Revenue Service (SARS) after the Budget
Speech indicates that Secondary Tax on Companies (STC) shall be referred to as
dividend tax with effect from 1 October 2007.
However, it is noted that the amendment Bill has not captured this
change. In particular clause 55(1)(e)
still refers to this as STC.
1.2
In
addition to the above comment, the taxation of pre-2001 capital profits is
likely to be costly to companies that have high pre-2001 capital profits. As a result, these companies could be tempted
to apply for deregistration or liquidation and this could be costly. The deletion of the exemption for pre-2001
capital profits is a de-incentive to going concern entities which existed prior
to 2001 and is also tantamount to retrospective legislation.
2.
Clause 5 – section 1
2.1
Clause 5(1)(a) – the
definition of dividend (basic principles)
2.2
Clause 5(1)(b) – the dividend
definition (redemption and reconstructions)
2.3.1
This
specific amendment proposes to regard capital profits as a dividend on the
winding up, liquidation, deregistration or termination of the corporate
existence of a company. The proposal is to come into effect on 1 January 2009
and is to apply to all distributions on or after that date.
2.3.2
In
light of this proposed amendment, there would be no distinction between
distributions as discussed above or any other distribution made as a ‘going
concern’. Is it then necessary to have a distinction as is currently the case
between paragraph (a) and (b) dividends?
2.3.3
It
has also been proposed in Clause 55(1)(h) of the Bill that sections
64B(5)(c)(i) and (ii) be repealed with effect from 1 October 2007. The
effective date of the repeal of sections 64B(5)(i) and (ii) is, thus, in
contradiction to the statement in the Explanatory Memorandum that the effective
date of the proposed amendment is 1 January 2009.
2.3.4
It is understood, however, that National Treasury is
also of the opinion that the effective date of the repeal of sections 64B(5)(c)(i) and (ii) is 1 January
2009 and not 1 October 2007 as has been erroneously stated in the Bill. In
this regard, National Treasury issued a briefing note on 28 September 2007, in
which it advised that the error will be rectified before the final Bill is
tabled in Parliament. Based on the above, it is clear that it is important that
the rectification is made.
2.3.8
Other proposed amendments to the definition of “dividend” would impact
on share buy-back transactions/redemptions, particularly the allocation of
share capital and share premium where different classes of shares are in issue.
This is best illustrated by way of an example:
A company has ordinary shares and preference shares in issue. It proposes to
redeem the preference shares out of share premium arising from the original
issue of the preference shares but, at the date of redemption, the preference
shares are nominal in value in relation to the value of ordinary shares. A
consequence of these proposals is that there is a limitation on how much of the
capital and premium may be returned to the preference shareholders, based on
the current market value of the preference shares in relation to the current
market value of the ordinary shares, even though the premium arose out of the
issue of preference shares and should justifiably be returned to preference
shareholders. It is submitted that the determination on the basis of current
market values is onerous and unfair, particularly in the circumstances
illustrated. This basis also distorts the determination of how much may be
returned to preference shareholders, given that the value of preference shares
generally remains constant, whilst the value of ordinary shares of a company
generally fluctuate.
2.4
Clauses 5(1)(f), 5(1)(g) and 5(1)(i) – the
definition of dividend (proposed amendments to paragraph (c) of the definition
of “dividend”)
2.5.1
This
proposal deals with the apportionment of the share premium account amongst the
various classes of shares based on the respective shares market value. The
Explanatory Memorandum to the Bill indicates that the market value should be
determined at the date of the relevant share premium distribution. Consideration
should be given to legislate that the market value should be determined at the
date of the distribution as the current proposal is silent on the matter.
2.5.2
In
addition, because of the nature of certain classes of shares (for example
preference shares), it may be impossible for such shares to increase in value
over time especially in relation to the equity shares in issue. This may
unfairly prejudice the preference shareholders where for example the only share
premium in issue relates to the preference shares which premium is now deemed
to ‘proportionately vest’ in the equity shareholders.
2.5.3
The value of redeemable preference shares does not
grow with the value of the company. Thus, determining their dividend portion of
a distribution based on the relative value of the ordinary shares and
preference shares creates an obvious iniquity.
2.5.6
Presumably
this proposal will not override the situation where the shareholders have
agreed that the share premium specifically attaches to a particular class of
shares in terms of a shareholders agreement or in the articles and memorandum
of the relevant company. In other words, the share premium is not regarded as a
‘pool’ which the amendment proposes to address but rather attaches (through
agreement) to a specific class of shares by agreement.
2.5.7
According
to section 5(1)((m) of the Bill, in the event of the reduction of the share
capital or share premium of a company, the share capital or premium that must
be apportioned to any share shall be deemed to be an amount which bears to the
total shares in the company the same ratio as the value of that share bears to
the total value of all shares in the company.
2.5.7.1
This
is likely to cause a burden to companies that have unlisted shares as they have
to determine the value (which necessitates valuation
of shares) of each share every time when there is a reduction of share
capital. In addition, it is not clear what forms of valuation will be
acceptable to SARS.
2.5.7.2
The
fiscus is not worse off as the use of share premium from ordinary shareholders
to settle distribution to preference shareholders does not come from profit
(where the share premium is not tainted).
By introducing this legislation, dividend tax is likely to be imposed on
capital rather on profits.
2.5.7.3
The
proposed legislation is not clear as how the share premium not recognised is
treated in future i.e. does any excess retain its nature as share premium for
tax purposes?
2.5.8
Companies are also concerned that share premium may be
“lost”, where share premium is distributed to certain shareholders, but the
allocation of the share premium to such shareholders, for dividend definition
purposes, is limited in terms of the amendments proposed in Clause 5(1)(m). It
is submitted that, where the balance of share premium distributed falls into
the definition of dividend, an equal amount of retained income should take on
the nature of the share premium distributed, but treated as a dividend.
2.5.9
This is can be illustrated by the following example:
A company has
share premium of R50 000. The share premium is distributed to its
preference share holders only. The value of its preference shares on distribution
date is R10 000 and the value of its ordinary shares is R90 000. By
virtue of the application of the proposed amendment, only R5 000 (i.e.
R50 000 x R10 000/R100 000) of the share premium distributed
will be treated as share premium for purposes of the dividend definition and
the balance of R45 000 will be deemed to be a dividend. The company,
therefore, no longer has any share premium to distribute. It is, thus,
recommended that R45 000 of the retained income of the company take on the
nature of the share premium for the purpose of making future distributions.
2.5.10
The example provided on page 10 of the Explanatory Memorandum
is not clear, and it also contains some obvious errors (for example, there is a
reference to ordinary shares that should refer to preference shares). It is
requested that the example be revised in order to clearly demonstrate the
application of the law.
Clause 5(1)(o)
defines “profits” to mean realised and unrealised profits. It is submitted that
this reference is circular and that the term “profit” is not defined per se. This may lead to uncertainty,
since different taxpayers may interpret “profits” differently. It is suggested
that the term be given a defined meaning for purposes of the Act.
2.7.1
Consideration
should be given to the utilization of the following wording - “Sub-sections
(1)(c) to (e) shall come into operation on 1 January 2009 and shall apply in
respect of any distribution made on
or after that date” and Sub-sections (1)(b) and (f) to (o) shall be deemed to
have come into operation on 1 October 2007 and shall apply in respect of any distribution made on or after that
date.”
2.7.2
This
wording aligns with the preamble to the dividend definition which deals with
‘any amount distributed by a
company’.
3.
Clause 7 - section 6quat (deduction in respect of foreign taxes on income)
3.1
The amendments to section 6quat of the Act are welcomed.
4.
Clause 10 - section 8C
4.1
Clause 10(1)(e)
The wording is
cumbersome and it is not clear how this is to apply in practice.
4.2
Clause 10(1)(f)
4.2.1
This clause proposes that any financial instrument
that derives its value with reference to a share in the company or member’s
interest will constitute an “equity instrument” as defined. The Explanatory Memorandum
states that the purpose of this amendment is to counter schemes where the
shares are sold immediately on termination of the period of the option and the
proceeds paid to employees. It is submitted, however, that this extended
definition may be too broad and will apply to options or rights granted to
employees in terms of a “phantom share scheme” where the employees have not yet
received any compensation in terms of the scheme.
4.2.2
The
proposed substitution in subsection (7) for paragraph (b) of the definition of
“equity instrument”, seems to also include cash bonuses payable to employees in
terms of the so-called “phantom share schemes”.
In terms of the rules of the majority of the phantom share schemes, the
participating employees are only entitled to a cash bonus and the value of the
bonus is determined with reference to the value of the employer company or
other company shares at a particular time in the future. It is further often the case that the rules
of the scheme may, where the employees will only be entitled to the cash bonus
after a specific date (therefore making it a restriction instrument if it is a
financial instrument based on the proposed revised definition), make provision
for the employees to defer the receipt of the cash bonus to an even later
date. Should the employees elect to only
receive the cash bonus at a later date, the proposed wording would cause the
employees to be liable for tax on part of the cash bonus (determined with
reference to the market value of the shares at that date) when the restriction
on the receipt of the bonus is no longer applicable but before the employee has
received any cash
4.3.1
This
clause proposes that the amendments to section 8C of the Act will come into
effect on the date of introduction of the Bill and will apply in respect of any
equity instrument held on or after that date.
4.3.2
The
meaning of the term “date of introduction of the Bill” is not clear and is not
commonly used in South African legislation.
4.3.3
It
could be construed to mean that the amendments will have effect as from 12 September
2007, when the Bill first became available on the internet. However, on that
date, as at present, the Bill is merely draft legislation and has not yet, and
may never be, enacted (at least not in its current form). Furthermore, there
does not seem to be consensus amongst the general public and tax practitioners
regarding the date on which the Bill was first introduced.
4.3.4
No
legal obligation exists on persons to comply with proposed legislation, persons
are obliged to comply with legislation once it has been enacted as law by
Parliament.
4.3.5
It is
submitted that the proposed amendments, be effective as from the date that the Bill
is enacted or, in the alternative, that the term “date of introduction of the
Bill” be clarified and defined.
5.1
The
introduction of this section is welcomed but it is questioned why this section
would not be applicable to shares held by a resident in a non-resident company?
It could be argued that paragraph 64B of the Eighth Schedule to the Act already
provides relief in this regard but the counter argument to that is that
paragraph 64B of the Eighth Schedule only applies in very specific
circumstances and then also only if the shares are disposed of to a
non-resident.
5.2
Section
9C(3) of the Act deals with the concerns around immovable property. Whilst
section 9C(3)(a) is clear that it deals with immovable property, section
9C(3)(b) refers only to property which is of wider application than just
immovable property. We therefore suggest the following wording for section
9C(3)(b) “that company acquired any other immovable
property during the three year period contemplated in paragraph (a) and amounts
were paid or payable during that period to any person other than that company for
the use of that immovable property
during that period.”
5.3
With
regard to the ‘direct or indirect’ attribution to immovable property, would
this also include shares held in another company that is ‘land rich’ as is the
case for non-residents in terms of the Eighth Schedule to the Act?
5.4
Section
9C(6) of the Act provides that the qualifying shares are deemed to have been
disposed of on a FIFO basis. This provision would be in direct conflict with
the provisions of paragraph 33 of the Eighth Schedule to the Act dealing with
the base cost of identical assets. This is especially so where the taxpayer has
elected to utilize the specific identification method. So in other words, the
share that is deemed to be sold first under section 9C would not necessarily
have the same base cost as that elected under the specific identification
methodology. Is this what is intended? If so, this could become rather
complicated to administer both from a taxpayer and SARS perspective?
In addition, we assume that this section
is prescriptive and not elective and that any losses incurred on qualifying
shares would be regarded as capital losses?
5.5
Section
9C is introduced to expand section 9B with view to provide a greater degree of
certainty with respect to share transactions on a more generalised basis. It is also stated in the Explanatory
Memorandum that continued reliance on case law often leads to unintended
differences of application. It is our
view that the objective of introducing section 9C as outlined in not adequately
achieved for the following reasons:
5.6
Paragraph
3 of this section states that the provisions of this section shall not apply to
any qualifying share if at the time of the disposal of that share the taxpayer
was a connected person in relation to the company that issued that share and
more that 50% of the market value of that company is attributable directly or
indirectly to immovable property acquired by that company during the 3 year
period refer to in the definition of a qualifying interest. It is not clear from this provision whether
the taxpayer must automatically treat the disposal of the qualifying interest
as trading stock.
5.7
The
section does not deal with preference shares that do not fall within the ambit
of section 8E. These shares may not fall
within the definition of equity share.
5.8
The
introduction of section 9C without amending section 22(8)(b)(v) could cause an undesired
effect. The introduction of section 9C
could cause an automatic cessation of holding shares as trading stock. In these
instances, section 22(8)(b)(v) requires
that the cost of acquiring stock be recouped. Paragraphs 5 and 7 do not appear to be
dealing with the problem adequately as they both seem to be referring to the
treatment on the date of sale.
5.9
Although the proposed section 9C deems qualifying
shares, which were held for longer than three years, not to be trading stock,
it does not deem these shares to be a capital asset. It is therefore possible
that the proceeds from these shares can still be regarded as being revenue in nature.
It is submitted that the section must contain both these deeming provisions in
order to achieve the objective as stated in the Explanatory Memorandum.
5.10
The definition of qualifying share is restricted and
it, therefore, appears that preference shares have been excluded from the
definition. It is not certain as to whether this was the intention of the
legislature.
5.11
Section 9C(3) does not clearly state how the market
value of the company must be calculated in order to determine the more than 50%
requirement. In is unclear as to whether the value of each property should be
determined separately by using the net asset value calculation and that
thereafter the 50% rule should apply or whether the net asset value calculation
must be done as a collective. Consequently, it is requested that this section
be clarified. An alternative method could be to refer to paragraph 2 of the
Eighth Schedule, but to substitute the 80% requirement with 50%.
5.12
Further, in the event of a capitalisation award or a
subdivision of a share, section 9B provides that the capitalisation shares and
the subdivision shares and the original shares are deemed to be one and the
same. However this deeming provision is not included in section 9C. It is
unclear as to why capitalisation shares and the subdivision shares should be
treated differently from the original shares and, therefore, it is
submitted that a deeming provision,
similar to that contained in section 9B, be included in the new section 9C.
Please note textual amendment as follows―
“(C)
to the extent that―
the
participation rights are held by an insurer in any policyholder fund as defined
in terms of section 29A, in terms of a linked policy or a market-related
policy, as defined in section 1 of
the Long-term Insurance Act, 1988 (Act No. 52 of 1998); and”.
6.2
Clause 13(e) - CFCs
Clause 13(e)
defines the valuation date for offshore companies that become controlled
foreign companies (CFCs) as the day before the company becomes a CFC. However,
since this is the day before
residents hold more than 50% of the participation rights in that company, it
may be impractical to determine the value on that day.
7.
Clause 14 - section 10
The proposed addition of subparagraph
10(1)(gB)(iii) does not read properly as it starts with the words
“so much of any”. The previous
subparagraphs are preceded by the word “any”.
It is recommended that the proposed subparagraph 10(1)(gB)(iii) should
simply start with “compensation …..”.
8.1
Please
note textual amendment as follows -
“(i) which qualified for an allowance or deduction in
terms of section 11(e), 11B, 11D, 12B, 12C, 12DA, 12E, 14 or 14bis; and”.
8.2
Section
11(o) applies where a taxpayer has made an election for this section to
apply. This section has two main
requirements for it to apply. The first
requirement is that it applies to assets that qualify for allowances mentioned
in subparagraph 11(o)(i). The second
requirement is that it applies to assets whose useful life is not more than 10
years for tax purposes. There are two
main problems associated with this section.
The first concern is that this section does not indicate how election
should be made. In this regard, we
recommend that the words “at an election of the taxpayer” should be
deleted. The second concern relates to
the fact that not all assets which have less than 10 years of useful life are
included in subparagraph 11(o)(i). For
example, section 13quat allows the
deduction of improvements over a period of 5 years. However, it does not seem the taxpayers would
be entitled to a section 11(o) deduction if they dispose of their buildings
even on the actual improvements.
8.3
The
amended provisions of section 11(o) come into effect on 2 November 2006 and
shall apply in respect of any expenditure incurred on or after that date. The application of amendments retrospectively
is always difficult to manage by taxpayers who already submitted their tax
returns. For example, if a taxpayer (who
has 31 March as its year-end) has disposed of its assets to a connected person
and claimed section 11(o), which was acceptable to SARS, it needs to resubmit
the tax return. It is recommended that
the amendments to this section should apply with effect from 1 October 2007 and
should apply in respect of any expenditure incurred on or after that date.
8.4
The
subsections referred to in respect of the amendments (i.e deletion) to section
11D are not in this section. Is this
confused with another section perhaps?
In the Explanatory Memorandum it appears this change refers to subsection
1 of section 11D. However, subsection 1
does not have (c).
9.
Clause 17 - section 11D
In terms of clause
17(2) of the Bill, only clause 17(1)(c) shall be effective, retrospectively, as
from 1 November 2006. However, the wording of the Explanatory Memorandum seems
to indicate that all the amendments proposed by clause 17 shall be effective,
retrospectively, as from 1 November 2006. This needs to be clarified.
10.
Clause 18 - insertion of section 11E
It is noted that
section 11E(1)(i) only makes reference to companies which are incorporated in
terms of section 21 of the Companies Act. It is submitted that the provisions
of the new section 11E should also apply to companies, which are incorporated
in terms of section 21A of the Companies Act.
11.
Clause 21 - section 12D
It is noted that
whilst it is proposed that the definition of “effective date”, as set out in
section 12D, is to be deleted, the use of this phrase in the definition of
“affected asset” is not proposed to be removed. This appears to be an oversight
and we request that this be corrected.
12.
Clause 22 - section 12DA
The alignment of
the write-off period of rolling stock with that of ships and aircraft is
welcomed.
13.
Clause 24 - section 12F
The amendments to section 12F do not
appear to add the value they should be adding to entities such as
Transnet. The reason for this being its
effective date. These entities could
have already contracted for certain infrastructure expenditure.
14.1
The
introduction of this provision is welcomed. However, it is proposed that the
ambit of the section be widened to include the scenario where a purchaser
acquires the building from a seller that qualified for allowances in terms of
section 13quin of the Act. This would
align this provision with the other provisions granting allowances to taxpayers
on buildings used in a process of manufacture.
14.2
The
reduction in respect of improvements incurred on current commercial buildings
should also be deductible as soon as section 13quin becomes effective.
Otherwise there will be little motivation for the improvements of these
buildings.
14.3
It is
unclear whether or not the allowances provided for in section 13quin would only apply to commercial
buildings, the construction of which commences on or after 1 January
2008, and to improvements to such buildings. Clarity is sought as to whether
this section will also apply to improvements, which were commenced on or after 1 January 2008, but where
the improvements are made to old buildings (i.e. to buildings constructed
before 1 January 2008).
15.1
The
proposals made which in many ways serve as confirmation of the practices
adopted are welcomed. The proposals currently only refer to deductions allowed
in terms of section 11 of the Act. The question may be posed as to what about
the other allowance sections such as section 12C etc. It is assumed that all
the other deductions and allowances are brought into section 11 by virtue of
section 11(x) of the Act. Consideration should be given to clarifying this
position.
15.2
The
amendment to section 20(2) is not explained.
It is believed that the deduction/allowances claimable under sections
11A to section 18A should constitute an assessed loss. It is not in the best interest of the economy
to deny the carry forward of losses in respect of the deduction/allowances
arsing from sections 11A to section 18A
16.
Clause 34 - insertion of section 23I
(intellectual property payments)
16.1
It is submitted that it may be difficult to apply the
provisions of section 23I, where the original “affected intellectual property”,
as defined (IP), was developed by a resident and disposed of to a non-resident
and the non-resident has, subsequently, improved and further developed the IP
outside
16.2
It is understood that the provisions of section 23I is
to be effective as from the commencement of years of assessment ending on or
after 1 January 2008, and will apply in respect of all IP transferred to a
non-resident prior to this date. Because of the problems discussed above, it is
suggested that section 23I only applies to IP transferred after the enactment
of the Bill and that a mechanism be prescribed, whereby it will be possible to
identify any royalties and license fees attributable to IP originally
transferred and distinguish it from royalties and license fees attributable to
subsequent developments of the IP outside South Africa.
16.3
The following clause in subsection (2) of the proposed
section in the Bill is also not clear: “if
that amount of expenditure does not constitute an amount of income received by
or accrued to any other person”. Often royalties or license fees are paid
to sub-licensors and are only thereafter received by the owner of the IP from
the sub-licensor. If the IP owner is required to include the amount ultimately
received by it in its income from a South African point of view, the section
should surely not apply.
16.4
Subsection (3) is not clear in that an amount may be
subject to tax in terms of section 35 of the Act, but this is reduced by virtue
of the application of an agreement for the avoidance of double taxation.
17.
Clause 35 - insertion of section 23J
17.1
The
proposed new section 23J could be difficult to manage due to other criteria
which are not included in the Explanatory Memorandum. The provisions of this section apply where a
depreciable asset held by a taxpayer was previously held by any other person
who was at the time that other person held depreciable asset, or at the time
that the taxpayer claimed section 23J deduction, a connected person in relation
to the taxpayer. The problem arises
because this section applies even if the taxpayer and the other person are not
connected at the time of acquisition of the asset by the taxpayer:
For example A has subsidiary B and
subsidiary C. In this example B and C are connected
persons. A sells C to third
parties. A acquires a depreciable asset from C (who is no longer a connected person) which was acquired by C when C was still a subsidiary of A. In this case A will have limited deduction even though there was not intention
to avoid tax in this transaction.
For example on 1 April 2002 A buys an asset while A is connected to company C and claim allowances in 2003 and
2004. A then disposes the asset to
company X who is not part of A and its subsidiaries. X then sells the asset to C who is no longer
connected to A. The section as it stands
limits the allowances that can be claimed by C even though there are no signs
of tax avoidance in this transaction.
17.2
It is
noted that the provisions of paragraph 38 in the Eighth Schedule have been
amended to reflect a consistent treatment between normal tax and CGT for assets
acquired from connected persons. This
paragraph still regards market value as the amount to recognise in the disposal
of assets between connected persons.
17.3
According
to paragraph 76(3), the market values are still applied in respect of company
distribution. It is not clear whether
section 23J would override the provisions of this paragraph in respect of
connected persons.
Consideration should be given to expanding
on the wording as follows -
“…the
expenditure incurred by that company in respect of the acquisition of the
preference share is deemed for purposes of this Act to be an amount equal to
the market value of the preference share determined on the date of
acquisition of the preference share or the amount received or accrued in
respect of the redemption of the preference share, whichever is the
lesser.”
19.1
The
proposals introduce a definition of connected person that is applicable in the
case of section 31 of the Act. Section 31(2) deals with the application of
transfer pricing whilst section 31(3) deals with what is commonly referred to
as thin capitalization provisions.
19.2
In
regards to the application of section 31(3) of the Act i.e. the thin
capitalization provisions, these provisions apply where the transaction occurs
between connected persons or any other person where such other person is
entitled to participate in not less than 25% of the dividends, profits or
capital of the recipient.
19.3
It is
believed that either the proposed connected party definition should be made to
only apply to section 31(2) or alternatively section 31(3) should be amended to
make reference only to the connected party definition. This should address any
anomalies.
19.4
Section 31 is to be amended by the substation for
subsection (2) of the following subsection:
“Where any supply of goods or services has been
effected-
…
between persons
who are connected persons in relation to one another;”
This implies that
all connected party transactions, whether local or international, must be
implemented at an arm’s length price, and simultaneously renders section
31(2)(a) superfluous.
19.5
We suggest that section 31(2)(b) be amended to state:
“the persons are connected persons in relation to each
other”
Section 32(2)(a)
could be ended with “and” to reinforce this.
19.6
Section 31(2)(a) also needs to clarify the position,
where the supply is between two permanent establishments of foreign companies,
where both permanent establishments are in
20.
Clause 43 - section 37A
It is not clear as to what provisions are
amended in section 37A(7). It appears
that it is (i) and (ii) in subsection 7, but this needs to be clarified.
21.
Clause 44 - section 37B
21.1
In general, the introduction of this section is
welcomed.
21.2
However, the requirement that the facility or
equipment (the cost / value of which the taxpayer would be depreciating under
this section) must be "required by
any law of the Republic for purposes of complying with measures that protect
the environment" seems unnecessarily narrow. The good intentions of a
taxpayer, who wishes to control the impact his business has upon the
environment, but is not legally obliged to do so, but nevertheless satisfies
all the other requirements of section 37B, would cause him prejudice from a
taxation viewpoint. There also does not seem to be significant scope for abuse,
as the requirements that must be fulfilled before an allowance may be claimed
clearly limit the section only to waste treatment, recycling and monitoring
equipment. The use of these assets, whether or not in terms of a legal
obligation, should be rewarded.
21.3
Subsection 3 provides a 5% per annum (20 year write
off) for post production assets. Noting that these are post production
presumably these allowances may be set off against other income (as it is
unlikely that significant income is generated post production). If not allowed
to be set off against other income this allowance is meaningless.
21.4
According
to the proposed section 37B(5), no deduction shall be allowed under this
section in respect of any environmental production or post-production asset
that has been disposed of by the taxpayer during any previous year of
assessment. In line with the comments in
section 11(o), we believe that there should be a scrapping allowance in respect
of any write-off arising from the scrapping of the environmental production
asset. The provision of this allowance
will ensure that the tax treatment of the asset governed by this section is in
line with the tax treatment of assets governed by section 11(e), section 12C
etc.
22.1
National
Treasury and SARS are commended for proposing to repeal the domestic financial
instrument holding company and foreign financial instrument holding company
tests in applying the corporate relief measures.
22.2
The
proposed amendments appear to exclude non-resident companies in the
determination of whether a group of companies exists for the application of the
corporate relief provisions. We do not agree with this proposal and cannot
understand what the loss to the fiscus would be where for example two South
African resident companies that are both wholly-owned by a non-resident parent
company enter into a restructure transaction within
22.3
In
addition, companies that have qualified as a group as a result of the
non-resident shareholding (prior to the proposed amendments) and have entered
into section 45 intra-group transactions will now not be regarded as a group
which means the provisions of sections 45(4) and (5) of the Act arguably would
become applicable. This would have disastrous consequences (albeit unintended)
and would be retrospective in nature.
22.4
It is
thus proposed that this proposal be reconsidered for purposes of the
application of the corporate relief measures.
22.5
Clause 48(1)(c) – narrowed group
definition
22.5.1
Paragraph
A – Narrowed Group definition (section 41) on page 22 of the Explanatory
Memorandum states that “(A) group of
companies eligible for intra-group rollover relief must all operate on the same
tax plane (…). Therefore fully or partially exempt companies will now fall
outside intra-group relief (…). As a result of these changes, the intra-group
relief provisions will be mainly limited to fully taxable companies and close
corporations”.
22.5.2
The
proposed “group of companies” definition excludes:
22.5.2.1
A
co-operative (paragraph (c) of the definition of “company”);
22.5.2.2
Any
association formed in the Republic to serve a specific purpose (paragraph (d)
of the definition of “company”) (referred to above as a “specific purpose
association”);
23.1
The
proposal that the de-grouping provisions are to be changed from a ‘forever’
rule to ‘six-year’ rule is welcomed.
23.2
With
regard to the proposed amendments to section 45(4) of the Act, it must, at the
outset, be stated that from a practical point of view this sub-section has been
the most difficult section to consult on given the various anomalies that arise
on application and interpretation especially as a result of references and
cross-references to various dates. It is therefore hoped that these issues
could be addressed and corrected as part of the current process.
23.3
In
regards to the proposed amendments to section 45(4)(b)(i) of the Act –
23.3.1
The
transferee is deemed (on de-grouping) to have disposed of the asset on the day immediately before the date
on which the transferee company ceased to form part of that group of companies;
23.3.2
To a
person that was a connected person in relation to the transferee company
immediately before the disposal;
23.3.3
For
an amount equal to the market value of the asset as at the date of acquisition
of that asset by that transferee company as contemplated in paragraph (a) (i.e.
the original transaction to which section 45 applied); and
23.3.4
As
having immediately reacquiring that asset for an amount equal to the market
value of that asset as at that date (i.e. the date of the original section 45
transaction).
23.4
If we
apply the requirements to a set of facts―
Assume―
Company A sells land and buildings to
Company B in terms of an intra-group transaction on 1 January 2006 at a time
when the market value is R1 million and the base cost is R0.5 million;
Company B effects improvements to the land
and buildings after acquisition in the amount of R2 million. Thus the base cost
of the land and buildings for Company B amounts to R2.5 million (R0.5 million
plus R2 million);
Company B ceases to form part of the same
group as Company A on 31 September 2007.
23.5
The
consequences are as follows―
Company B is deemed to dispose of the
asset on the day immediately prior to ceasing to form part of the same group of
companies which would imply that the base cost of R2.5 million would be
applicable.
The proceeds are deemed to be equal to the
market value of the asset on 1 January 2006 of R1 million. Therefore a capital
loss of R1.5 million arises that is restricted as a result of the application
of paragraph 39 of the Eighth Schedule.
Company B is also deemed to have
reacquired the asset for an amount equal to the market value of the asset as at
1 January 2006 i.e. R1 million.
The problem is clear, any future disposal
of the asset in excess of R1.million would attract CGT and company B would
effectively be denied a deduction for the improvements effected amounting to R2
million. This could not have been the intention? If all that is intended is to
‘undo’ the roll-over relief, then the provision needs to make provision for the
adding of expenditure incurred on the assets subsequent to their acquisition in
terms of section 45 of the Act and for the exclusion in base cost of costs
incurred on the assets subsequent to their acquisition in terms of section 45
of the Act.
23.6
The
problem is that the deemed disposal and reacquisition is deemed to take place
on the day immediately prior to the cessation of the group and where costs have
been incurred on the assets subsequent to their acquisition, the base cost
increases in relation to what it was on acquisition.
23.7
In
addition, the Explanatory Memorandum states that the deemed sale and repurchase
occurs at market value on the date of group severance. This is certainly not
what is stated in the legislation where the disposal takes place on the date of
group severance but the proceeds are
deemed to equal the market value of the asset at the time of the original
section 45 transaction.
23.8
With
regard to the proposed amendments to section 45(4)(b)(ii) of the Act, it is
understood from the Explanatory Memorandum that further depreciation allowances
on allowance assets that have been deemed as disposed and reacquired will be
limited as if the deemed repurchase was from a connected person (i.e. is
subject to the type of limitations found in section 23J of the Act). If this is
what is intended then the proposed wording requires serious amendment.
23.9
This
proposition is best explained by way of example.
Assume
-
Company A sells and allowance asset to
Company B in terms of an intra-group transaction at a time when the market
value of the asset is R110; the cost of the asset was originally R100 and
allowances of R30 had been claimed. Company B paid R110 (the market value) for
the asset on acquisition from Company A;
Company B claims a further R30 of
allowances on the asset acquired and then ceases to form part of the same group
of companies as Company A.
23.10
The
consequences are as follows -
Company B is deemed to have disposed of
the allowance asset on the day immediately prior to ceasing to form part of the
same group of companies for proceeds equal to the market value of the asset at the
date of the original section 45 transaction. The tax value of the asset on date
of deemed disposal is R40 (R100 – R30 – R30) and the proceeds R110. Therefore a
recoupment of R60 arises in terms of section 8(4)(a) of the Act and a taxable
capital gain of R5 arises (R10 x 50%).
With regard to allowances that may be
claimed in the future, the proposals indicate that this should be equal to the
sum of―
|
The cost of that asset to the transferee company as at the date of
disposal of that asset as contemplated in paragraph (a) (i.e. the original
section 45 transaction), less - All deductions which have been allowed to the transferee company in
respect of that asset in terms of section 11; and All deductions that are deemed to have been allowed to the transferee
company in respect of that asset in terms of sections 11(e)(ix), 12B(4B),
12C(4A), 12D(3A), 12DA(4), 13(1A), 13bis(3A),
13ter(6A) or 13quin(6); |
110 [30] [0] |
|
Any amount contemplated in paragraph (n) of the definition of gross
income in section 1 that is required to be included in the income of the
transferee company which arises as a result of that disposal; and |
60 |
|
The applicable percentage in paragraph 10 of the Eighth Schedule, of
the capital gain of the transferee company that arises as a result of that
disposal. |
5 |
|
Total on which allowances can be claimed |
145 |
This result does not make sense if one has
regard to the fact that what one is trying to achieve is to be similar to the
result had section 23J of the Act applied. To test this proposition, if one
assumed section 23J of the Act applied to the original transaction (i.e. assume
that section 45 of the Act was not applicable) then Company B would only be
able to claim allowances on an amount not exceeding R105.
The R105 is arrived at by taking the
original cost of the asset to Company A of R100 and subtracting from that the
allowances claimed of R30, adding the recoupment of R30 (assuming sold at
market value of R110) and adding the capital gains element of R5 (assuming sold
at market value of R110).
23.11
How
do we create parity? The following proposal creates parity―
|
The cost of that asset to the transferor
company as at the date of disposal of that asset as contemplated in paragraph
(a) (i.e. the original section 45 transaction), less― All deductions which have been allowed to the transferor company (prior to the disposal of that asset as
contemplated in paragraph (a)) and the transferee
company (subsequent to the disposal of the asset as contemplated in
paragraph (a)) in respect of that asset in terms of section 11; and All deductions that are deemed to have been allowed to the transferor company and transferee
company in respect of that asset in terms of sections 11(e)(ix),
12B(4B), 12C(4A), 12D(3A), 12DA(4), 13(1A), 13bis(3A), 13ter(6A) or
13quin(6); |
100 [60] [0] |
|
Any amount contemplated in paragraph (n) of the definition of gross
income in section 1 that is required to be included in the income of the
transferee company which arises as a result of that disposal; and |
60 |
|
The applicable percentage in paragraph 10 of the Eighth Schedule, of
the capital gain of the transferee company that arises as a result of that
disposal. |
5 |
|
Total on which allowances can be claimed |
105 |
The methodology above works without loss
to the fiscus where the asset is acquired by the transferee from the transferor
in terms of the section 45 transaction at its market value.
Where the asset is acquired by the
transferee at its original cost to the transferor or less than its original
cost, then the allowance should be based on the lower of the determination
above or what was paid for the asset. This would treat the transaction on the
basis of had section 45 not applied, and the asset was
disposed of at less than market value, section 8(4)(k) of the Act would have
penalized the transferor and not compensated the transferee.
24.1
Sub-clause
(1)(i) proposes that sub-paragraphs (i) and (ii) of section 64B(5)(c) of the
Act be deleted. The Explanatory Memorandum indicates that these proposals are
to become effective from 1 January 2009. Clause 55(2) however indicates that
all of these amendments are effective from 1 October 2007. Clause 55(2)
therefore requires amendment in as far as referring to sub-clause 1(i) of
clause 55.
24.2
In terms of the amendments to section 64B, “a group of
companies”, for the purposes of the application of section 64B of the Act,
means a “group of companies” as defined in section 41.
24.3
In terms of this definition, when determining whether
a company forms part of a group of companies, an equity share shall be deemed
not to be an equity share if “any person
has an obligation to sell, is under a contractual obligation to sell, has made
a short sale of that share or is the grantor of an option to buy that share”.
24.4
It is submitted that the above limitation is unduly
restrictive. It is common in the case of private companies with multiple
shareholders to give a pre-emptive right to the other shareholders to acquire
these shares should a shareholder decide to dispose of his shares. Such pre-emptive
rights appear to fall foul of the proposed amendment as they will be subject to
an instrument for sale and thus fall outside the definition of group of
companies.
24.5
For example BEECO holds 71% of the shares of ABC, with
Mr X holding the remaining 29%. BEECO’s shareholding is subject to a
pre-emptive right for Mr X to buy their shares should they decide to dispose of
them. The proposed amendment appears to no longer regard BEECO and ABC as being
members of the same group of companies due to the existence of the pre-emptive
right.
25.
Clause 55(1)(d) –
insertion of definition of “group of companies”
25.1
The
proposed amendment contained in Clause 55(1)(d), i.e. the insertion of a
definition of “group of companies”, which will mean “group of companies as
defined in section 41”, will limit the dividends declared which will be exempt
from STC in terms of section 64B(5)(f) of the Act. The proposed “group of companies” definition
excludes
25.4
Clause 55(1)(i) –
deletion of post-31 March 1993 profits and pre-1 October 2001 capital profits
exclusion
25.5
Clause 55(1)(k) –
group exemption limitation
25.5.1
Section 64B(5)(f)(i) is amended to include the words:
“and that dividend is included in the profits
available for distribution of that shareholder”.
25.5.2
This gives rise to a problem of iniquity. A dividend
from pre-acquisition profits must be written off against the investment (i.e.
not included in profits available for distribution) and the section 64B(5)
exemption is therefore not available. However, if a loan is instead given to
the shareholder, since these profits are not reflected as distributable, no STC
would be payable. In addition, the provisions of section 64B(5)(f) should apply
to the extent that the
dividend is included in the profits available for distribution.
25.5.3
What is also of concern is that a particular taxpayer
may be carrying the investments at fair value and would therefore
mark-to-market the investments on an annual basis thus creating a profit on
revaluation. When a dividend is subsequently declared, this amount will not be recognised in profit despite the revaluation
forming part of the profits available for distribution. How will such scenarios
be dealt with i.e. where subsequent to the original acquisition the investment
is revalued to above the original cost? Also, what if the recipient company has
an accumulated loss? Would the dividend be regarded as forming part of the
profits available for distribution despite the recipient company having an
accumulated loss? Clarification should be provided in this regard via further
amendments to cater for these scenarios.
25.5.4
It is proposed that the section 64B(5)(f) exemption (group companies STC
exemption) be no longer limited to profits “earned” whilst the companies were
part of the same “group of companies”. This, provided that the dividend is
included in the “income” (i.e. income statement) of the shareholder for
financial reporting purposes. That is, it is proposed that the section
64B(5)(f) exemption will apply to so-called “pre-acquisition” dividends in
circumstances where the dividend is not set-off directly against the cost of
the investment for financial reporting purposes but taken to the income
statement. It is apparent that National Treasury seeks to link the exemption
from STC to the paying company, to how the (pre-acquisition) dividend may be
treated by the recipient for financial reporting purposes. We do not believe
that it is appropriate to determine the pre-conditions to qualify for the
section 64B(5)(f) exemption from STC, with reference to IAS 18
(International Financial Reporting Standards), which statement, it is
acknowledged globally is at best, vague. It is foreseen that this link to
financial reporting statement IAS 18, will cause companies in a group to
manipulate their financial statement disclosure, to secure the STC exemption,
given that the treatment for financial reporting purposes is arguable. In
addition, globally there is much debate on how one determines so-called “pre-acquisition”
and “post-acquisition” profits in a group. In other words, does one look to the
immediate holding company of the acquired company, or the ultimate group
holding company? Tax legislation is in itself complex and it is submitted that
entering the debate on accounting concepts will unnecessarily add to it and
should be avoided.
26.
Clause 56 - section 64C
The official rate
of interest is used to exclude the deeming of low interest loans as dividends
for STC purposes. However, some institutions are able to enter into agreements
with third parties to borrow and lend at rates below the official rate as a
matter of course. These entities are prejudiced by the official rate of
interest requirement.
27.
Clause 57 - paragraph 2 of the Second
Schedule
It is not clear what changes are proposed
in respect of paragraph 2 of the Second Schedule to the Act. Paragraph 2 does not have subparagraph (a).
28.
Clause 59 – paragraph 11A of the Fourth
Schedule
Clause 59(1)(c) provides (after
subparagraph (ii)) that “that person and that employer must deduct or
withhold from the remuneration payable by them to that employee during that
year of assessment, an amount equal to
the employees' tax payable in respect of the gain …”. The proposed
wording suggests that both parties must withhold the total employees’ tax
payable in respect of the gain, i.e. if the total gain was say R100, the
applicable tax rate was 40% and the employees’ tax was R40, then both parties has to withhold R40 each
from any remuneration payable to the employee.
A total of R80, i.e. double
the actual amount of employees’ tax due will therefore have to be
withheld. It is proposed that the
wording be amended to clarify the situation.
29.
Clause 60 - paragraph 9 of the Seventh Schedule
It is proposed
that paragraph 9(7A) of the Fourth Schedule be included in the Act specifying
that there shall be no fringe benefit on residential accommodation provided to
an expatriate employee for a period less than or equal to 183 days. This time
period is very short, since many secondments tend to be for up to two years.
30.
Clause 61 - paragraph 10 of the Seventh Schedule
It is not clear
why this exemption is not also provided to foreign expatriate employees, who
are stationed in
31.
Clause 63 - paragraph 19 of the Eighth
Schedule
31.1
It is understood that the purpose of the provisions of
paragraph 19 of the Eighth Schedule to the Act is to prevent the generation of
capital losses by dividend stripping.
31.2
It is submitted that paragraph 19, as now amended,
will find too wide an application and will have a punitive effect on certain
companies and their shareholders merely because the companies are too
prosperous. For example, a company experiencing a boom may distribute an extraordinary
dividend, as defined, simply because it is cash flush. However, when a
shareholder, within two years of receiving the dividend, disposes of the
relevant shares, which have now significantly escalated in value, the
shareholder will have to add the dividend to the proceeds realised. This will
result in unwarranted economic double taxation in that the company will be
subject to STC on the extraordinary dividend declared and the shareholder will
be subject to CGT in respect of the same dividend.
It is not clear from the DRLAB what has
been amended in sub-clause 1(b) relating to CFC’s? The Explanatory Memorandum
also refers to something totally different.
33.
Clause 66 - insertion of paragraph 42A of
the Eighth Schedule
The provisions of the proposed paragraph
42A to the Eighth Schedule to the Act appear to apply in respect of
an arrangement or a compromise as envisaged in section 311 of the Companies Act
and are confined to listed companies. It
is noted that the problem outlined in the Explanatory Memorandum in respect of
shares in listed companies can equally apply to shares held in an unlisted
company. It is also noted that the
provisions of section 311 of the Companies Act apply to unlisted companies as
well. As the provisions of the proposed
paragraph 42A of the Eighth Schedule do not seem to apply to unlisted
companies, it is recommended that the provisions of this paragraph be extended
to unlisted shares as well. It is also
recommended that the provisions of this paragraph also apply even in instances
where an arrangement is between the company and its creditors as shareholders
could be forced to dispose of their shares in these circumstances as well.
34.
Clause 68 - paragraph 65 of the Eighth
Schedule
This amendment
proposes the deletion of the word “capital” in its first appearance in
paragraph 65(4) of the Eighth Schedule of the Act, but it is not deleted in its
second appearance. It is submitted that the word be consistently deleted
throughout paragraph 65(4).
35.
Clause 70 and 71 – paragraphs 76 and 76A
of the Eighth Schedule
35.1
The amendments to paragraphs 76 and 76A amount to the
retrospective taxation of capital distributions made between 1 October 2001 and
30 June 2008. Such capital distributions will now be deemed to be a part
disposal on 1 July 2008. This amounts to retrospective taxation and undermines
the concept of certainty which is a fundamental tenet of any tax system.
35.2
In
addition, the requirement that the tax on past distributions be paid on 1 July
2008 may give rise to significant cash flow implications for holders of shares
and a phased payment period should perhaps rather be put in place.
35.3
Further, the proposal that each capital distribution will trigger a disposal of
shares will be extremely complex to administer. It will be difficult to determine the market
value of the shares as at either 1 July 2008 or at the date of distribution,
where capital distributions are made after 1 July 2008. This is a particularly
onerous obligation in respect of unlisted shares. Using the example quoted in
the explanatory memorandum the shares would be required to be valued at each
date of distribution.
36.1
The
proposed amendment that seeks to tax capital distributions that have taken
place prior to the tabling of the Bill should be strongly reconsidered in light
of the fact that this amounts to retrospective legislation. Numerous taxpayers
relied on the provisions of the Act to determine whether to distribute profits
or to return capital. To change laws retrospectively is not an acceptable
practice and leads to mass uncertainty in regards to legitimate tax planning.
Should any of the said transactions be regarded as unacceptable or
impermissible avoidance, then the merits of the provisions of section 80A of
the Act should be considered.
36.2
It is
common that in a group of companies there will be some restructuring in one way
or another. The restructuring could
entail the distribution of shares to the ultimate holding company and this
could give rise to a capital distribution in
specie. With the proposed
introduction of paragraph 76A to the Eighth Schedule, such a capital
distribution in specie could result
in cash flow problems as the ultimate holding company may not have cash to
settle capital gains tax. In these
circumstances, the ultimate holding company could be forced to dispose of some
of the shares received in order to settle the tax liability arising from the
capital gain. The situation could even
be more complex if one considers the provisions of section 9C. In terms of this section, ultimate holding
company could be seen to have realised a revenue profit on the disposal of the
capital distribution in specie.
37.
Extraordinary dividends
37.1
It is proposed that the scope and the application of the provisions
relating to extraordinary dividends (paragraph 19 - where a share is acquired
and disposed off within two years of its acquisition and a dividend accrued or is
received which dividend exceeded 15% of the proceeds on sale of the shares) be
widened significantly and should cover all shares (not only shares disposed of within
two years of acquisition). In terms of the proposed amendments, it would appear
that any extraordinary dividend received must be added to proceeds on disposal
of the shares (the add-back of the extraordinary dividend being limited to the cost
of acquisition of the shares). At first glance, there is a possibility that
there would be a liability for STC (payable by the paying company) and CGT (payable
by the recipient), on all extraordinary dividends, which is iniquitous. If this
proposed change is enacted in its current form, it will penalise all those long
term shareholders who are invested in companies that have followed a strategy
of “profit reinvestment” (as opposed to dividend stripping), who happen to
receive a dividend after conceivably many years of no dividend payouts, and who
soon thereafter happen to dispose of their shares. Clearly the proposed change
does not favour a policy of reinvestment of profits and encourages shareholders
to invest in companies where dividends are paid out regularly. It is submitted
that the consequences of this proposed change be considered more fully, before
it is enacted in this form. A more equitable result would be for the add back
to proceeds to happen for capital gains tax purposes, only in circumstances
where the paying company claimed exemption from STC.
37.2
In terms of the proposed amendments effective 1 July 2008, “capital
distributions” (paragraph 74) would be treated as part disposals, triggering
CGT earlier than is currently the case for persons using the specific
identification or first-in-first-out methods of determining “base cost”. As a ‘transitional
measure’, any capital distributions on these shares received pre-1 July 2008, would
be treated as a part disposal on 1 July 2008 (to the extent that the tax on it
has not been triggered as yet). In respect of shares for which the weighted
average method of determining base cost is used, where a ‘negative’ base cost
is arrived at on the weighted average method, as a consequence of capital
distributions, then the ‘negative’ base cost at 30 June 2008 must be treated as
a (taxable) capital gain on 1 July 2008. Section 46 (unbundling transactions)
are not impacted by these proposals. It is submitted that given the scope for misapplication
in this regard, for the purposes of clarity for particularly those shareholders
who are individuals (who could conceivably be close to retirement or in
retirement), that SARS issue a media release explaining, by way of illustrative
examples, what the effect of this proposal would be.
VALUE-ADDED TAX ACT NO. 89
OF 1991
38.
Clause 114 - section 11 (read together
with clause 110 – section 1)
38.1
Section 11(1)(a)(i) of the VAT Act
38.1.1
It is
proposed that the references to paragraphs (a), (b) and (c) of the export
definition be deleted. As a result, exports may only be zero rated as
contemplated in the regulations. The only regulations currently issued in
respect of exports are the VAT export incentive scheme, published as Notice
2761 of 1998, which deals with indirect exports.
38.1.2
Section
11(1)(a)(i) will as a result only refer to paragraph (d) of the export
definition, since no regulations have been issued for direct exports and,
therefore, no direct exports will be covered under section 11.
38.1.3
It is
assumed that this was not the intention of the proposed amendment and the
wording of the section should be reconsidered. It is believed that even if new
regulations will be issued in future, which cover both direct and indirect
exports, the legislation needs to explicitly authorise exports as defined in
paragraphs (a), (b) and (c) of the definition of “exports” and accordingly the
amendments to section 11(1)(a)(i) should not be made.
39.
Phase 2 of STC Reform
Thus far, there has been no
consultation by National Treasury on the manner in which the switch to a ‘withholding
tax on shareholders’ regime will be implemented. Given the significance of the
proposed change, it is imperative that extensive consultation be had with the
likes of SAICA (SAICA is keen to play a role) so that practical issues are
debated and addressed prior to any draft legislation being released for
comment.
Please do not hesitate to contact me should you
require further information.
Yours faithfully
M Benetello W
J Du T Smit
CHAIR: NATIONAL TAX
COMMITTEE ACTING PROJECT DIRECTOR: TAX
The South African Institute
of Chartered Accountants