GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE

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2 GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE Foreword This guide is a general guide with regard to the urban development zone tax incentive. It is not meant to delve into the precise technical and legal detail that is often associated with taxation and should, therefore, not be used as a legal reference. The guide is not a binding general ruling issued under section 76P of the Income Tax Act, No. 58 of 1962 (the Act). The guide inter alia provides: General guidance regarding the application and interpretation of the provisions of the Act that pertain to the urban development zone tax incentive. An overview of the income tax consequences of the disposal of a building in respect of which the tax incentive was allowed or the ceasing of a taxpayer to use such a building solely for the purposes of that person s trade. Particulars of municipalities that have demarcated areas for purposes of the urban development zone tax incentive, as well as the process of demarcation that was followed. This guide is based on the legislation as at 8 January 2008, including the amendments effected by the Taxation Laws Amendment Bill, 10 of All the definitions in this guide have been extracted from the Act, unless the context indicates otherwise. The words taxpayer and person are used interchangeably as they have the same meaning for purposes of this guide. Should you require additional information you may contact your local South African Revenue Service (SARS) branch; visit SARS website at contact your own tax advisor/practitioner; if calling locally, contact the SARS National Call Centre on ; or if calling from abroad, contact the SARS National Call Centre on Comments and/or suggestions regarding this guide may be sent to the following address: policycomments@sars.gov.za. Prepared by: Legal and Policy Division SOUTH AFRICAN REVENUE SERVICE Date of first issue: September 2006 Date of second issue: March 2008 Date of third issue: September 2009 GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE i

3 GLOSSARY Unless the context indicates otherwise, the meaning of words, concepts and acronyms used in this guide, is the following: the Act : Income Tax Act, No. 58 of 1962 the Republic SARS UDZ UDZ building Minister Commissioner : The Republic of South Africa : South African Revenue Service : Urban development zone : A building or low-cost residential housing unit that is located within a UDZ : Minister of Finance : Commissioner for the South African Revenue Service GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE ii

4 CONTENTS Foreword... i GLOSSARY... ii 1. INTRODUCTION BROAD OVERVIEW OF THE TAX INCENTIVE REQUIREMENTS A PERSON MUST COMPLY WITH IN ORDER TO QUALIFY FOR THE UDZ ALLOWANCE Building requirement Urban development zone requirement Trade requirement Owner requirement Date requirements Commencement date requirement Trade date requirement Documentation requirement Documentation that must be obtained from the municipality Documentation that must be obtained from the developer INSTANCES WHEN A PERSON WILL NOT BE ELIGIBLE FOR THE UDZ ALLOWANCE INSTANCES WHEN THE PURCHASER OF A SECTIONAL TITLE UNIT WILL BE ABLE TO QUALIFY FOR THE UDZ ALLOWANCE COSTS WHICH ARE COVERED BY THE UDZ ALLOWANCE AMOUNTS WHICH WILL BE ALLOWED AS DEDUCTIONS THE OBLIGATIONS OF A DEVELOPER UNDER THE UDZ TAX INCENTIVE QUALIFICATION FOR ANY OTHER ALLOWANCES IN RESPECT OF A UDZ BUILDING HOW A PERSON CAN CLAIM THE UDZ ALLOWANCE INSTANCES WHERE A DEMARCATED AREA CAN CEASE TO BE A UDZ THE SALE OF A UDZ BUILDING WHEN A PERSON CEASES TO USE A BUILDING SOLELY FOR PURPOSES OF TRADE REPORTING REQUIREMENTS WHICH EXIST IN RESPECT OF THE URBAN DEVELOPMENT ZONE TAX INCENTIVE Municipalities The Commissioner Developers OBJECTION TO THE DISALLOWANCE OF THE UDZ ALLOWANCE THE CONTACT DETAILS OF THE DIFFERENT MUNICIPALITIES THE CONTACT DETAILS OF SARS OFFICIALS PER REGIONAL OFFICE ASSISTING WITH THE UDZ INCENTIVE CONCLUSION ANNEXURES: UDZ 1, UDZ 2, UDZ 3 AND UDZ EXTRACT OF SECTION 13quat GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE iii

5 1. INTRODUCTION In line with many countries, South Africa has a number of urban areas that are impoverished and suffering from extensive urban decay. In order to address these concerns and maintain existing infrastructure that was developed at great cost, governments internationally have increasingly utilised tax measures to support efforts aimed at regenerating these urban areas. Such narrowly targeted capital allowances seek to attract development to areas where interest would otherwise be lacking. Thus, in 2003, the Minister introduced a tax incentive for investment in 16 designated inner cities. The core objectives of the incentive are to address dereliction and dilapidation in South Africa s largest cities and to promote urban renewal and development by promoting investment by the private sector in the construction and/or improvement of commercial and residential buildings, including low-cost housing units, which are used for purposes of trade. The incentive intends to encourage investment in areas with high population carrying capacity, central business districts or inner city environments and areas with developed urban transport infrastructure for trains, buses and/or taxis. 2. BROAD OVERVIEW OF THE TAX INCENTIVE This incentive has been introduced in the form of an accelerated depreciation allowance and has been effected by the insertion of section 13quat into the Act. The tax incentive, when claimed, reduces the taxable income of a taxpayer. The incentive is not limited to the taxable income of the taxpayer and can create an assessed loss. This allowance (the UDZ allowance) is applicable in respect of the erection, extension or improvement of or addition to an entire building; erection, extension, improvement or addition of part of a building representing a floor area of at least m²; erection, extension, improvement or addition to low-cost housing; or purchase of such a building or part of a building directly from a developer on or after 8 November 2005, provided that certain requirements are met. A taxpayer will only qualify for the UDZ allowance in respect of a building or part of the building constructed, improved or purchased directly from a developer within a UDZ, if the building or that part of the building is used solely for purposes of that person s trade and was brought into use for these purposes on or before 31 March A deduction in respect of the UDZ allowance will be allowed in the determination of the taxable income of a person that constructed, improved or purchased a building from a developer, provided all the requirements are complied with. The UDZ allowance will be allowed in respect of the erection, extension of or addition to any building or the purchase of such a building or part of a building from a developer, over a period of 11 years; the improvement of an existing building or part of a building or the purchase of such an existing building or part of a building from a developer, over a period of five years; GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 1

6 the erection, extension of or addition to any building in relation to a low-cost residential unit, over a period of seven years; and the improvement of any existing building or part of a building in relation to a low-cost residential unit, over a period of four years. The UDZ incentive was initially available until 31 March 2009 but has now been extended for a further five years until 31 March 2014, in order to encourage and promote more investment within the demarcated zones. Municipalities will, furthermore, be given the opportunity to apply for extensions to already existing designated zones and to apply for an additional demarcated UDZ in that municipal zone. This will only be allowed where there is a specific and necessary need for an extra zone and will be subject to Ministerial approval. 3. REQUIREMENTS A PERSON MUST COMPLY WITH IN ORDER TO QUALIFY FOR THE UDZ ALLOWANCE Any person (natural person, company, close corporation, trust, etc.) will be eligible to claim the UDZ allowance if the following six requirements are complied with in respect of a building or part of a building: 3.1 Building requirement A person must have erected an entirely new building relating to a commercial, residential or low-cost residential unit; extended, added to or improved an existing building relating to a commercial, residential or lowcost residential unit or part of such a building representing a floor area of at least m²; or purchased a commercial, residential, or low-cost residential unit or part of that building directly from a developer that complies with all three of the following requirements: a) The developer erected, extended, added to or improved the entire building or a part thereof representing a floor area of at least m². b) The developer did not claim any UDZ allowance in respect of the building or that part of the building. c) In the case of the improvement of a building or part of a building, the developer has incurred expenditure in respect of these improvements which is equal to at least 20% of the purchase price paid by the person for the building or part of the building. For purposes of the UDZ allowance, a developer is defined in section 13quat of the Act as a person that (a) erects, extends, adds to or improves a building or part of a building with the sole purpose of disposing of that building or part thereof immediately after completion of that erection, extension, addition or improvement; and (b) does not use the building or part which is to be disposed of as contemplated in paragraph (a) for purposes of his or her trade in any other manner. GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 2

7 3.2 Urban development zone requirement The building or part of the building that was constructed, improved or purchased from a developer must be located within a UDZ. For purposes of the UDZ allowance, an urban development zone is defined in section 13quat as an area demarcated by a municipality in terms of subsection (6), the particulars of which were published in the Gazette in terms of subsection (8). Sixteen designated municipalities had the opportunity to demarcate areas within their boundaries. By 14 July 2006, 15 of these municipalities have demarcated areas within their boundaries. Several criteria were taken into account in the demarcation of areas to ensure that the impact of the tax incentive is maximised in the parts of the cities/towns that are most in need of development. Each municipality that had demarcated an area within its boundaries had to prove to the Minister that the following requirements had been complied with: The demarcated area is located within the boundaries of one of the 15 designated municipalities. The area has been demarcated through formal resolution by the municipality. The demarcated area is prioritised in the municipality s integrated development plan as a priority area for further investments to promote business or industrial activity or residential settlements to support such activity. The contribution from that area is undergoing a sustained real or nominal decline, whereas it previously contributed a significant portion of the aggregate revenue collections of the municipality as measured in the form of property rates or assessed property values. Significant fiscal measures had been implemented by the municipality to support the regeneration of that area, including the appropriation of significant funds for developing the area in the annual budget of the municipality, special tariffs for categories of residential, commercial or industrial users or partnership agreements with the business community for the promotion of urban development within that area. GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 3

8 The particulars of the areas that have been demarcated by the 15 municipalities were published by the Minister in the following Gazettes: Municipality Date of Gazette Gazette No. Notice No. Buffalo City 10 December City of Cape Town 14 October Ekurhuleni 6 June Emalahleni 12 May Emfuleni 10 December ethekwini Metro 10 December Johannesburg Metro 14 October Mangaung 10 December Matjhabeng 14 July Mbombela 10 December Msunduzi 6 June Nelson Mandela Bay 6 June Polokwane 6 June Sol Plaatje 10 December Tshwane Metro 10 December Note: These Gazettes/Notices are available on the National Treasury website at Trade requirement A person that constructed or improved a building or part of a building within a UDZ or purchased such a building or part of a building directly from a developer, must use it solely for the purposes of his or her trade and can only qualify for the allowance once the building has been brought into use solely for the purposes of such trade. The courts have interpreted the concept trade to be neither exhaustive nor restrictive thus it includes any activity where a person risks something with the object of making a profit. For example, the letting of commercial or residential property at market prices, the carrying on of a manufacturing concern with the object of making a profit, etc constitutes the carrying on of a trade. GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 4

9 3.4 Owner requirement The building or part of the building that was constructed or improved must be owned by the person claiming the allowance. Thus, a lessee that constructed or improved a building or part of a building on leased property will not be able to qualify for a UDZ allowance in respect of that building. Example 1: Owner and trade requirement Facts: Taxpayer A owns a newly erected block of apartments situated within an urban development zone. He rents out 19 of them and lives in one with his family. Result: Provided that all other requirements are met, Taxpayer A can claim the UDZ allowance on 19 of the apartments as he is the owner of them, thereby fulfilling the owner requirement. The occupants of the apartments being rented out cannot claim any allowance as they are not the owners. Additionally, Taxpayer A will not be able to claim the allowance on the flat that he is residing in as he does not meet the trade requirement mentioned in Date requirements Two date requirements must be complied with Commencement date requirement The erection, extension or improvement of or addition to the building must have commenced on or after the date on which the Minister has published the particulars of the relevant demarcated area within which the building is located in the Gazette; and in terms of a contract formally and finally signed by all parties thereto on or after that date. It is also required that the purchase agreement must have been concluded on or after 8 November Example 2: Commencement date requirement Facts: On 30 April 2005 Investment Company X commenced refurbishing its building in a UDZ of which the particulars of the demarcation of the area was only published on 6 June 2005, in terms of a contract formally and finally signed by all parties thereto on 30 May After the completion of the refurbishment of the building, Investment Company X commenced to use the building for purposes of trade on 30 September Result: Investment Company X complied with all the requirements, except for the commencement requirement. As Investment Company X commenced refurbishing the building before the particulars of the demarcation of the area was published in terms of a contract formally and finally signed by all parties thereto on 30 May 2005, it will not qualify for a UDZ allowance in respect of the refurbishment of the building Trade date requirement The building or that part of a building must have been brought into use solely for the purposes of trade on or before 31 March GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 5

10 To summarise, no person will, therefore, be able to qualify for the UDZ allowance in respect of the construction or improvement of a building or part of a building that has commenced before the date on which the particulars of the relevant demarcated area was published in the Gazette; the construction or improvement of a building or part of a building that has commenced in terms of a contract that has been formally and finally signed by all parties thereto before the date on which the particulars of the relevant demarcated area was published in the Gazette; the purchase of a building or part of a building from a developer, where the purchase agreement has been concluded before 8 November 2005; or the construction, improvement or purchase of a building or part of a building from a developer that was not brought into use solely for the purposes of trade on or before 31 March Documentation requirement It is necessary that the person claiming the allowance has obtained certain documentation from the relevant municipality. In the case where a building or part of the building was purchased from a developer, certain other documentation must be obtained from such a developer Documentation that must be obtained from the municipality A location certificate, issued by the municipality to that person, confirming that the building or part of a building that was constructed, improved or purchased from a developer is located within a UDZ within the boundaries of that municipality. It is no longer a pre-requisite for a certificate of occupancy to be issued by the municipality, however, where one can be provided it should be retained by the developer for future purposes. It should be noted that the effective date retracting the need for an occupancy certificate is on or after 21 October This means that all erections, extensions, additions or improvements that commenced or purchases that took place on or after that date do not require an occupancy certificate. A certificate has to be retained for those constructions, improvements and purchases that took place prior to 21 October Documentation that must be obtained from the developer A UDZ 3 certificate, available on SARS s website at confirming that the erection, extension, addition to or improvement of the building was commenced by the developer on or after the date of publication of the particulars pertaining to the demarcation of the relevant area in which the building is located, in terms of a contract formally and finally signed by all parties thereto on or after that date; the construction or improvement by the developer covers the entire building or at least a floor area of m²; the developer has not claimed any UDZ allowance in respect of the building or that part of the building; and in the case of the improvement of a building or part of a building, the developer has incurred expenditure in respect of those improvements which is equal to at least 20% of the purchase price paid by the taxpayer in respect of the building or that part of the building. GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 6

11 Due to the introduction of e-filing, it is no longer necessary for the mentioned documentation to be submitted with the relevant return of income in which the UDZ allowance is claimed, however, the documentation must be retained for audit purposes for a period of five years (see section 73A of the Act). A UDZ allowance which has been claimed as a deduction will be added back where the relevant supporting documentation cannot be provided. 4. INSTANCES WHEN A PERSON WILL NOT BE ELIGIBLE FOR THE UDZ ALLOWANCE A person will not be eligible for the UDZ allowance in respect of a building or part of a building if any of the requirements set out in 3.1 to 3.6 are not complied with; the person ceased to use the building or part thereof solely for purposes of that person s trade during a previous year of assessment (see 13 for more information in this regard); the building or part of a building has been disposed of by the person during any previous year of assessment; or the notice in which the particulars of an area demarcated by a municipality was published has been withdrawn by the Minister (see 14 for more information in this regard). The following examples illustrate different scenarios in which a person will not qualify for the UDZ allowance: Example 3: Trade requirement Facts: On 30 September 2005 Investor X commenced the erection of a new residential building in a UDZ after the date of the publication of the particulars of the demarcated area, in terms of a contract formally and finally signed by all parties thereto after the date of the publication of the particulars of the demarcated area. After completion of the erection of the building Investor X commenced to use it for private residential purposes on 1 February Result: Investor X complied with all the requirements, except for the trade requirement. He did not use the building solely for the purposes of his trade and will, therefore, not qualify for a UDZ allowance in respect of the erection of the building. Example 4: Owner requirement Facts: On 6 June 2006 Lessee X commenced to refurbish a building in a UDZ after the date of the publication of the particulars of the demarcated area, in terms of a contract formally and finally signed by all the parties thereto after the date of the publication of the particulars of the demarcated area. After the completion of the refurbishment of the building, Lessee X commenced to use it for the purposes of his trade from 1 February Result: Lessee X complied with all the requirements, except for the owner requirement. As he is not the owner of the GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 7

12 building, he will not qualify for the UDZ allowance in respect of the refurbishment of the building Example 5: Sale of a building and recoupment Facts: On 30 April 2005 Investment Company X commenced refurbishing its building in a UDZ after the date of the publication of the particulars of the demarcated area. After completion of the refurbishment Investment Company X commenced using it for trade on 30 September Investment Company X then sold it on 31 January 2006 for significantly more than its cost. Investment Company X has a 28 February year-end. Result: Investment Company X complied with all the requirements and provided that the documentation requirements as set out in 3.6 are complied with, will qualify for a UDZ allowance in respect of the refurbishment of the building in the 2006 year of assessment. It will, however, cease to qualify for the UDZ allowance from the 2007 year of assessment, as the building was sold during the 2006 year of assessment. All deductions that were previously allowed in respect of UDZ allowances will, furthermore, be subject to the recoupment provisions as contained in section 8(4)(a) of the Act. Investment Company X will also be subject to taxation on the capital gain made on the disposal of the UDZ building. 5. INSTANCES WHEN THE PURCHASER OF A SECTIONAL TITLE UNIT WILL BE ABLE TO QUALIFY FOR THE UDZ ALLOWANCE The purchaser of a sectional title unit will qualify for the UDZ allowance provided the unit is used by the person solely for the purposes of that person s trade; the unit is located within an urban development zone; the unit is purchased directly from a developer that complies with the three requirements as set out in 3.1; the necessary documentation as set out in 10 has been retained and is available for audit purposes; and the purchaser has not, subsequent to qualifying for the UDZ allowance in respect of costs pertaining to a unit sold or ceased to use the unit solely for the purposes of trade during a previous year of assessment. Example 6: Units used for trade purposes vs. units used for private purposes Facts: Developer X demolished an old block of flats and erected a new block of flats consisting of 50 units within a UDZ zone after the publication of the particulars of the demarcation of the area. After completion of the erection of the new building Developer X sold 40 units and concluded lease contracts with tenants for a one year period. Some of the purchasers of the units use them for private residential purposes and the rest of the purchasers use them solely for the purposes of their trade. GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 8

13 Result: The purchasers of the units that are used for the purposes of their trade will qualify for UDZ allowances in respect of these units. The purchasers of the units that are used for private residential purposes will, however, not qualify for UDZ allowances in respect of these units. Developer X will qualify for UDZ allowances in respect of the units that are let to tenants. When these units are sold by Developer X, the purchasers of these units will not qualify for UDZ allowances. 6. COSTS WHICH ARE COVERED BY THE UDZ ALLOWANCE For purposes of the UDZ allowance cost is defined in section 13quat as the costs (other than borrowing or finance costs) actually incurred in erecting, extending, adding to or improving a building or part thereof and includes any costs incurred (a) (b) (c) in demolishing any existing building or part thereof; in excavating the land for purposes of that erection, extension, addition or improvement; and in respect of structures or work directly adjoining the building so erected, extended, added to or improved, for purposes of providing (i) water, power or parking with respect to that building or part; (ii) drainage or security for that building or part; (iii) means of waste disposal for that building or part; or (iv) access to that building or part, including the frontage thereof; The following costs will, for example, be regarded as costs for the purposes of the UDZ allowance: Construction work. Architect and approval fees. Demolishing of an existing building or part of an old building. Structures to provide water, power, sewerage, drainage, waste disposal, access to the building, parking or security. Sidewalks. Landscaping as part of the development. The following will, for example, not be regarded as costs for purposes of the UDZ allowance: Purchase price of the land. Transfer duties. Borrowing or financing charges. Transfer and related costs. Where a person purchased part of a building from a developer 55% of the purchase price of that part of the building, in the case of a new building erected, extended or added to by the developer; and GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 9

14 30% of the purchase price of that part of the building, in the case of a building improved by the developer, will be deemed to be costs incurred by the person in respect of the erection, extension, addition to or improvement of the building or part of the building. Where an entire building is purchased from a developer, the purchase price of the building will be deemed to be the cost incurred by that taxpayer. For purposes of the UDZ allowance the purchase price in relation to any building or part of a building purchased by the taxpayer is defined in section 13quat as the lesser of a) the actual cost to the taxpayer to purchase that building or part; or b) the cost which a person would have incurred had that person purchased that building or part under a cash transaction concluded at arm s length on the date on which that taxpayer purchased that building or part; These deemed costs will be regarded as costs for purposes of the UDZ allowance and no further adjustments will have to be made in this regard. The purchaser of a building or part of a building will thus qualify for a UDZ allowance in respect of the deemed costs pertaining to such a building or part of a building. This can be illustrated as follows: Example 7: Part purchase of a building Facts: Investor X purchased a new sectional title unit in a security complex from a developer on 2 January 2006 and immediately thereafter brought it into use for purposes of his trade. The purchase price amounted to R1,2m and consisted of the costs pertaining to the land and the building. Result: 55% of the purchase price will be deemed to be costs incurred by the investor for purposes of the determination of the UDZ allowance and no adjustment has to be made to, for example, exclude costs pertaining to the land. Provided that all the other requirements are complied with, the investor will, therefore, be able to claim the UDZ allowance in respect of costs incurred of 55% x R1, 2m = R AMOUNTS WHICH WILL BE ALLOWED AS DEDUCTIONS The following amounts will be allowed to be deducted as UDZ allowances: (a) In respect of the erection of a new building or the extension of or addition to any building an amount equal to 20% of the cost pertaining to the erection or extension of or addition to the building in the year of assessment during which the building is brought into use by the taxpayer solely for the purposes of that person s trade; and an amount equal to 8% of the cost in each of the 10 succeeding years of assessment. GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 10

15 This can be illustrated as follows: Example 8: Costs claimable Facts: Investor X constructed a new commercial building in order to conduct a retail business after having purchased vacant land for R5m. The cost of the new construction amounted to R100m. Result: Provided that all other requirements are complied with, Investor X will be able to claim 20% of the construction costs in the first year of assessment (that is, R20m) when the building is brought into use for purposes of trade. Thereafter, Investor X can claim 8% of the costs for each of the next 10 years of assessment (that is, R8m per annum for the next 10 years). Investor X will not qualify for a UDZ allowance in respect of the purchase price of the land. Example 9: Deemed costs Facts: Investor X purchased a new commercial building directly from a developer in order to conduct a retail business. The cost of the commercial building amounted to R100m. Result: Provided that all other requirements are complied with, Investor X will be able to claim a total amount of R55m (55% x purchase costs) over 11 years. He will be able to claim 20% of the deemed construction costs in the first year of assessment (that is, 20% x R55m = R11m) when the building is brought into use for purposes of trade. Thereafter, Investor X can claim 8% of the deemed costs for each of the next 10 years of assessment (that is, 8% x R55m = R4, 4m per annum for the next 10 years). (b) In respect of the improvement of an existing building or part of a building an amount equal to 20% of the cost pertaining to the improvement of the building in the year of assessment during which the building is brought into use by the taxpayer solely for the purposes of trade; and an amount equal to 20% of the cost in each of the four succeeding years of assessment. GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 11

16 This can be illustrated as follows: Example 10: Refurbishment costs Facts: Investor X acquired a run-down shop for R8m and refurbished the shop in order to conduct a viable retail business. The cost of the refurbishment amounted to R100m. Result: Provided that all other requirements are complied with, Investor X will be able to claim the refurbishment costs in equal installments over five years (that is, R20m per year over 5 years) commencing in the year of assessment when the building is brought into use for purposes of trade. Investor X will not qualify for a UDZ allowance in respect of the R8m cost pertaining to the purchasing of the existing building. Example 11: Purchase directly from a developer Facts: Investor X purchased a refurbished retail shop directly from a developer in order to conduct a viable retail business. The cost of the refurbishment amounted to R100m. Result: Provided that all other requirements are complied with, Investor X will be able to claim a total deduction of R30m (30% x R100m). A deduction in respect of the deemed costs relating to the improvements can be claimed in equal installments over five years (that is, 20% x R30m for 5 years) commencing in the year of assessment when the building is brought into use for purposes of that person s trade. Improvements to a building or part of the building will include any extension or addition to the building which is incidental to that improvement, where the existing structural or exterior framework of the building is preserved. This can be illustrated as follows: Example 12: Improvement costs Facts: The owner of a 3-storey commercial building decided to install an escalator in the building. The cost pertaining to the installation of the escalator amounted to R To be able to install the escalator, a part of the building s roof had to be extended by half a meter. The cost pertaining to the extension amounted to R Result: The owner will be able to claim the cost pertaining to the installation of the escalator in equal installments over five years (that is, R4 000 per year for 5 years) commencing in the year of assessment when the escalator is brought into use for purposes of trade. The owner will also qualify for a UDZ allowance over five years in respect of the costs pertaining to the extension of the building, as the extension is incidental to that improvement. GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 12

17 c) In respect of the erection of any new building or the extension of or addition to any building, to the extent that it relates to a low-cost residential unit an amount equal to 25% of the cost pertaining to the erection or extension of or addition to that building in the year of assessment during which the building is brought into use by the taxpayer; an amount equal to 13% of the cost in each of the five succeeding years of assessment; and an amount equal to 10% of the cost in the seventh year of assessment. Section 1 of the Act defines a low-cost residential unit as a) an apartment qualifying as a residential unit in a building located within the Republic, where (i) the cost of the apartment does not exceed R ; and (ii) the owner of the apartment does not charge a monthly rental in respect of that apartment that exceeds one per cent of the cost; or b) a building qualifying as a residential unit located within the Republic, where (i) the cost of the building does not exceed R ; and (ii) the owner of the building does not charge a monthly rental in respect of that building that exceeds one per cent of the cost contemplated in subparagraph (i) plus a proportionate share of the cost of the land and the bulk infrastructure: Provided that for the purposes of paragraph (a) (ii) and (b) (ii), the cost is deemed to be increased by 10 per cent in each year succeeding the year in which the apartment or building is first brought into use; Example 13: Newly erected low-cost residential unit Facts: Developer Y erected a low-cost residential apartment amounting to R and charges the lessee a monthly rental of R This unit falls within the UDZ boundary. Result: Provided that all other requirements are complied with, Developer Y will be able to claim 25% of the cost of the unit in the first year of assessment (that is, R45 000) when the building is brought into use. Thereafter, Developer Y can claim 13% of the cost for each of the next 5 years of assessment (that is, R per annum for the next 5 years) and 10% of the cost in the sixth year of assessment (that is, R18 000). d) In respect of the improvement of any existing building or part of a building, to the extent that it relates to a low-cost residential unit an amount equal to 25% of the cost pertaining to the improvement of the building in the year of assessment during which the building is brought into use by the taxpayer; and an amount equal to 25% of the cost in each of the three succeeding years of assessment. GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 13

18 This can be illustrated as follows: Example 14: Improvements to low-cost residential units Facts: Owner Z has decided to revamp his low-cost residential unit by installing new piping through out the house as well as putting up a new roof. The costs relating to the refurbishment amounted to R Result: Provided that all other requirements are complied with, Owner Z will be able to claim 25% of the costs in the year of assessment that the unit is brought into use (that is, R7 500). Thereafter, Owner Z can claim 25% of the costs for each of the next three succeeding years of assessment (that is, R7 500 per annum for the next 3 years of assessment). To claim the UDZ allowance in relation to low-cost residential units, the taxpayer has to be the owner of at least five residential units used for purposes of trade. All the units must be situated within the Republic as per section 13sex (1) of the Act. Essentially, this means that as long as the taxpayer owns more than five residential units (whether within or outside a UDZ boundary) he will be able to claim the UDZ allowance pertaining to low-cost housing, but only on those units that qualify as low-cost units and situated within a demarcated UDZ area. This can be illustrated as follows: Example 15: Claiming the allowance on low-cost residential units located within a UDZ boundary Facts: Taxpayer A owns seven residential units. All these units are located within the Republic, of which three are situated within an urban development zone. The costs of the units are as follows: Outside the UDZ boundary: y Unit A: cost - R , rent - R2 000 per month y Unit B: cost - R , rent - R2 000 per month Unit A and B qualify as low-cost units y Unit C: total costs exceed R y Unit D: total costs exceed R Unit C and D do not qualify as low-cost units Within the UDZ boundary: y Unit E: new unit, total costs - R , rent - R2100 per month. y Unit F: purchase of an existing unit by Taxpayer A. Unit E and F qualify as low-cost units Improvements made to Unit F are equal to R Rent - R2 100 per month. y Unit G total costs amount to R and is therefore not a low-cost unit. Result: Based on the above facts, Taxpayer A qualifies for the UDZ allowance on all the units within the boundary as he complies with the requirement of owning at least five residential units. However, he will have to claim the allowance at different rates, as illustrated below: GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 14

19 Unit E: Taxpayer A will be able to claim 25% of the cost of the unit in the first year of assessment (that is, R57 500) when the building is brought into use. Thereafter, Taxpayer A can claim 13% of the cost for each of the next 5 succeeding years of assessment (that is, R per annum for the next 5 years) and 10% of the cost in the seventh year of assessment (that is, R23 000). Unit F: Taxpayer A will be able to claim 25% of the costs in the year of assessment that the unit is brought into use (that is, R11250). Thereafter, Taxpayer A can claim 25% of the costs for the next three succeeding years of assessment (that is, R per annum for the next 3 years of assessment). Unit G: Taxpayer A will be able to claim 20% of the cost in the year of assessment that the unit is brought into use (that is, R80 000). Thereafter, Taxpayer A can claim 8% of the cost for the next 10 succeeding years of assessment (that is, R32 000). Taxpayer A will not be able to claim the UDZ allowance on any of the units situated outside the boundary, however, there may be other allowances available to him in accordance with other sections of the Act. 8. THE OBLIGATIONS OF A DEVELOPER UNDER THE UDZ TAX INCENTIVE The developer has to provide the purchaser of a building or part of a building located in a UDZ, with a UDZ 3 certificate, available on the SARS website at in which it is confirmed that the erection, extension or improvement of or addition to the building or part of the building was commenced by the developer on or after the date of publication in the Gazette of the particulars of the demarcated area in which the building is located, in terms of a contract formally and finally signed by all parties thereto on or after that date; the erection, extension or improvement of or addition to the building by the developer covers either the entire building or a part of the building representing a floor area of at least m²; the developer has not claimed any UDZ allowance in respect of the building or that part of the building; a certificate of occupancy has been issued by the relevant municipality in respect of the building or that part of the building where one has to be provided regarding erections, improvements and purchases before 21 October 2008; and where the developer has improved the building or part of the building, that developer has incurred expenditure in respect of those improvements which is equal to at least 20% of the purchase price paid by the taxpayer in respect of the building or that part of the building. The onus is on the person claiming a deduction of the UDZ allowance to ensure that the information on the UDZ 3 certificate is correct. If the Commissioner has reason to believe that the information provided in the UDZ 3 certificate by the developer is not correct, the Commissioner must disallow the UDZ allowance claimed by the person in respect of the building or part of the building purchased from the developer, unless sufficient information is provided to the Commissioner to prove that the information contained in that certificate is correct. In addition to the above-mentioned obligation of a developer to provide a purchaser of a building or part of a building within an urban development zone with a UDZ 3 certificate, any developer who erects, extends, adds to or improves a building within a UDZ of which the estimated cost thereof is likely to exceed R5 million, must comply with the reporting requirements as discussed in GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 15

20 9. QUALIFICATION FOR ANY OTHER ALLOWANCES IN RESPECT OF A UDZ BUILDING The UDZ tax incentive has been introduced in the form of an accelerated depreciation allowance and does not constitute an additional tax allowance. A taxpayer that claimed a deduction of the UDZ allowance in respect of a building/part of a building may not claim any other depreciation allowances in respect of that building or part of the building. 10. HOW A PERSON CAN CLAIM THE UDZ ALLOWANCE In order to claim a UDZ allowance, a person must be in possession of the following documentation: (a) A UDZ 1 or UDZ 2 (whichever is applicable) with regard to each building or part of a building in respect of which a UDZ allowance is claimed, where the following information inter alia has to be provided: The total cost in respect of the construction or improvement of a building or part of a building or where a building or part of a building was purchased from a developer the deemed cost for purposes of the UDZ allowance. The extent to which these costs relate to any portion of the building in respect of which a certificate of occupancy has been granted by the relevant municipality, (where a certificate has to be provided regarding erections, improvements and purchases before 21 October 2008). An indication whether these costs were incurred in respect of the erection or extension of, addition to or improvement of a building. (b) A certificate of occupancy obtained from the relevant municipality, (where one has to be provided regarding erections, improvements and purchases before 21 October 2008); (c) A location certificate obtained from the relevant municipality; and (d) Where a building or part of a building is purchased from a developer, a UDZ 3 certificate obtained from the developer that constructed or improved the building or part of the building that confirms that the erection or extension of, addition to or improvement of the building or part of the building was commenced by the developer on or after the date of publication of the particulars pertaining to the demarcation of the relevant area in which the building is located, in terms of a contract formally and finally signed by all parties thereto on or after that date; the construction or improvement by the developer covered the entire building or at least a floor area of m²; the developer has not claimed any UDZ allowance in respect of the building or part thereof; and in the case of the improvement of a building or part of a building, the developer has incurred expenditure in respect of those improvements which is equal to at least 20% of the purchase price paid by the taxpayer in respect of the building or part of the building. GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 16

21 It is no longer necessary for the above documentation to be submitted with the relevant return of income in which the UDZ allowance is claimed, but the documentation must be retained for audit purposes for a period of five years (see section 73A of the Act). A UDZ allowance will not be allowed where this documentation cannot be provided to the Commissioner. 11. INSTANCES WHERE A DEMARCATED AREA CAN CEASE TO BE A UDZ Any municipality that has demarcated an area within its boundaries has to provide an annual report to the Minister and the Commissioner with regard to UDZs; and location certificates to taxpayers that constructed or improved buildings within the demarcated areas confirming that such buildings are located within the demarcated areas. If a municipality fails to comply with the above requirements, or has issued a location certificate in respect of a building that is situated outside a UDZ and the Commissioner reports that to the Minister, the Minister may withdraw the notice in which the particulars of an area demarcated by a municipality was published in the Gazette in respect of contracts formally and finally signed by all parties thereto on or after the date of the withdrawal. The area that was demarcated as an urban development zone will no longer constitute as such. However, such a notice will not be withdrawn by the Minister if the municipality takes corrective steps (that is, submit the annual report or withdraw the incorrect location certificates) within a period specified by the Minister. 12. THE SALE OF A UDZ BUILDING Where a person that claimed a deduction for a UDZ allowance sells the building in respect of which the UDZ allowance was claimed, he or she will from the year of assessment following the year of assessment during which the building or part of the building was sold, no longer qualify for a UDZ allowance in respect of such building or part of the building. All deductions that were previously allowed in respect of UDZ allowances, will be subject to the recoupment provisions contained in section 8(4)(a) of the Act. In addition, such person will be subject to taxation on any capital gain made on the disposal of the UDZ building. Provided that the new owner complies with all requirements, the owner will now be able to claim the UDZ allowance on that building. This can be illustrated as follows: Example 16: The sale of a UDZ building Facts: Investment Company X constructed a new commercial building in order to conduct a retail business. The cost of this new construction amounted to R200m. The company claimed 32% of these costs over three years of assessment (20% (R40m) in the first year and 8% (R16m) in each of the following two years). Investment Company X then sold the building for R308m. GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 17

22 Result: Purchase price of building Less: UDZ allowances granted R200m R 72m R128m Selling price (proceeds) R308m Recoupment of UDZ allowances Capital gain (R308 R200) R72m R108m R180m The R72m recouped and the taxable capital gain of R54m (R108m x 50%) will be included in the taxable income of Investment Company X. 13. WHEN A PERSON CEASES TO USE A BUILDING SOLELY FOR PURPOSES OF TRADE Where a person that claimed a deduction for a UDZ allowance ceases to use the UDZ building or part of a building in respect of which the UDZ allowance was claimed solely for purposes of trade, such person will from the year of assessment following the year of assessment during which the person ceased to use the building or part of the building solely for purposes of trade, no longer qualify for any UDZ allowances in respect of the costs incurred in respect of such building or part of such building. This can be illustrated as follows: Example 17: Ceasing of trade activities Facts: On 30 April 2005 Investment Company X commenced refurbishing its building in a UDZ after the date of the publication of the particulars of the demarcated area. After completion of the refurbishment Investment Company X commenced to use it for purposes of its trade on 30 September Company X then ceased to use it solely for purposes of its trade on 31 January Investment Company X has a 28 February financial year-end. Determination of the UDZ allowance: Investment Company X complied with all the requirements and provided that the documentation requirements as set out in 3.6 are complied with, will qualify for a UDZ allowance in respect of the refurbishment of the building in the 2006 year of assessment. It will, however, cease to qualify for the UDZ allowance from the 2007 year of assessment, as the company ceased to use the building solely for purposes of trade during the 2006 year of assessment. 14. REPORTING REQUIREMENTS WHICH EXIST IN RESPECT OF THE URBAN DEVELOPMENT ZONE TAX INCENTIVE In terms of the Act there are various specific aspects in respect of which the Commissioner, municipalities and developers have to report on. GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 18

23 14.1 Municipalities Any municipality that has demarcated an area within its boundaries has to provide an annual report to the Minister and the Commissioner with regard to the UDZ tax incentive. To enable a municipality to provide this information annually, it will be required from any person that applies for a location certificate at a municipality to provide certain information to that municipality. The following information has to be provided by the municipalities to the Minister and the Commissioner on an annual basis: Total number of applications for location certificates. Particulars of each taxpayer to which a location certificate has been issued. The location of each building for which that certificate has been issued. The estimated costs incurred by the taxpayer in respect of each building or part of a building or in the case of a taxpayer who purchased the building or part from a developer, the estimated amount of the UDZ allowance to be claimed in respect of that building or part of the building. The estimated number of jobs created as a result of the UDZ tax incentive. The additional property rates collected as a result of the UDZ tax incentive. The average turnover time for all planning and building approvals. The information must be provided in respect of each financial year of a municipality ending on or before 30 June, by 28 September of that particular financial year, in other words, within three months after the end of such financial year; The above dates are published in the Gazette annually by the Minister and can be found on the National Treasury website. If a municipality fails to provide such an annual report to the Minister and to the Commissioner; and corrective steps are not taken by that municipality within a period specified by the Minister, the Minister may withdraw the notice in which the particulars of an area demarcated by a municipality was published in the Gazette. The effect of such a withdrawal will be that the area that was demarcated by the municipality will no longer constitute a UDZ and a taxpayer will, therefore, not be able to qualify for a UDZ allowance in respect of any building that was constructed or improved within that area in respect of a contract formally and finally signed by all parties thereto on or after the date of the withdrawal The Commissioner The Commissioner must submit an annual report to the Minister containing information relating to the number of taxpayers that have claimed a UDZ allowance during a specific year, the costs attributable to the allowances granted and to those that will be granted. GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 19

24 The Commissioner is, furthermore, obliged to inform the Minister when a municipality has issued a location certificate in respect of a building that is situated outside a UDZ Developers In addition to the certificate discussed in 8, any developer who erects, extends, adds to or improves a building within an urban development zone of which the estimated cost thereof is likely to exceed R5 million must inform the Commissioner within 30 days after the commencement of that erection, addition or improvement of the estimated costs thereof in respect of the building or part(s) of the building which the developer intends to sell and the estimated selling price of the building or those parts; and inform the Commissioner within 30 days after the sale of the building or all anticipated sales of any parts of the building have been concluded of the actual costs incurred in respect of that building or parts of that building and the actual selling price of that building or parts thereof. A UDZ 4 that is available on the SARS website at has to be completed and submitted to: Legal and Policy Division: Legislative Policy Private Bag X923 Pretoria 0001 or sent via to udz4@sars.gov.za 15. OBJECTION TO THE DISALLOWANCE OF THE UDZ ALLOWANCE Where a person that claimed a deduction in respect of a UDZ allowance is not satisfied with an assessment issued, for example, where an adjustment has been made by the Commissioner to the UDZ allowance claimed in the person s return of income, the person may object to such an assessment. The objection must be in the prescribed ADR 1 form; state the grounds on which the objection is lodged; and reach the Commissioner within a period of 30 business days after the date of the assessment. Further information regarding the objection and appeal procedure is set out in the Guide on Tax Dispute Resolution and is available on the SARS website GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 20

25 16. THE CONTACT DETAILS OF THE DIFFERENT MUNICIPALITIES The contact details of the municipalities that demarcated areas within their boundaries are as follows: Municipality Contact Person(s) Tel. No. Fax No. Address Buffalo City Mr. Albie Kotzee (043) (043) City of Cape Town Mr. Peter Henshall- Howard (021) (021) Peter.Henshall- Ekurhuleni Mr. Greg Botholo (011) (011) Emalahleni Mr. Nathi Tshiwanammbit (013) (013) Ms. Jurine Bothma (031) Emfuleni Ms. Erika van der Walt (016) ethekwini Metro Ms. Fikile Ndlovu (031) (031) Johannesburg Metro Ms. Lebo Ramoreboli (011) (011) Mangaung Mr. Moeketsi Sefika (051) (051) Matjhabeng Mr. Koos Duvenage (057) (057) Mbombela Mr. Rick de Villiers (013) (013) Msunduzi Mr. Vasu Naidoo (033) (033) Nelson Mandela Bay Mr. Ashwin Daya (041) (041) Mr. Zwelithini Gagayi (041) Polokwane Mr. Graham Powell (015) n/a Sol Plaatje Mr. Themba Mlonyeni (053) (053) Tshwane Metro Mr. Ntokozo Zuma (012) n/a GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 21

26 17. THE CONTACT DETAILS OF SARS OFFICIALS PER REGIONAL OFFICE ASSISTING WITH THE UDZ INCENTIVE SARS Office Contact Person Telephone Number Address East London Mr. Zim Hoza (043) Cape Town Ms. Carla Boer (021) Veereniging Mr. Molefi Libaze (016) Ms. Susana Olifant (016) Johannesburg Mr. Motswasele Mogotsi (011) Port Elizabeth Ms. Miriam Madonsela (041) Polokwane Ms. Pertunia Machika (015) Mr. Mike Konanani (015) Kimberley Ms. Pia Atsma Pietermaritzburg Mr. Ian Butler (033) Durban Ms. Prudence Shabalala (031) Ms. Yvonne Nel (031) Bloemfontein Mr. Morne Olivier (051) Welkom Ms. Francie Kellerman (057) Nelspriut Ms. Loraine de Beer (013) East Rand Ms. Ella Cope (011) GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 22

27 18. CONCLUSION It is trusted that this guide will contribute to greater clarity regarding the application and interpretation of the provisions of the Act pertaining to the UDZ tax incentive. Further information about SARS and taxation is available on the SARS website or can be obtained from SARS offices. GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 23

28 ANNEXURES: UDZ 1, UDZ 2, UDZ 3 AND UDZ 4 GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 24

29 GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 25

30 GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 26

31 INCOME TAX UDZ 4 Dev eloper information Note s: 1. This f orm must be completed b y a de ve loper to co mply with t he rep ortin g oblig at ions as per s ec tion 13 qua t (10A) o f the Income Tax Ac t, This f orm must be completed with regard to each build ing in resp ec t o f which the cos t is likely to exce ed R5 million. 3. P art A o f t his form must b e co mplet ed a nd the fo rm submitted to S A RS within 30 d ays aft er t he c ommen cement of th e erec tion or ext ensio n of or a dd ition to o r imp rov ement of th e bu ilding or the parts whic h the developer in tend s to se ll. 4. P art B of this form mus t be comp let ed a nd the fo rm submit ted to S AR S w it hin 30 d ay s after t he s ale o f the building o r a ll an ticip ated sales of any parts of th e bu ilding. 5. Forms mu st be submitt ed t o: Leg islative P olic y, Priva te B ag X9 23, P ret oria, o r se nt v ia to udz4@ sars.go v. za Pa rtic ula rs of dev eloper Name Income tax refere nce no. Po stal a ddr ess Po sta l cod e Work telep ho ne nu mber C O D E N U M B E R Cell pho ne nu mber N U M B E R Pa rtic ula rs of building/part of building Descrip tio n of buil ding Ph ysi ca l add ress Total nu mber o f un its in the case of a bu ildin g/part of a buil ding su bdivid ed in to u nits Po sta l cod e Pa rt A Estimated co sts of e rection o r e xte nsion o f or a dditio n to b uild ing o r p art(s) inten ded fo r sa le Estimated co sts of imp rovem ent in respe ct of th e bui ldin g or par t( s) in te nde d for sale Estimated se lling p rice of bui ldin g or par t( s) in te nde d for sale R R R Date of commen ce men t of ere ctio n, e xten sion, ad dition o r i mpro ve ment M M D D Pa rt B Actua l co sts i ncurr ed in re sp ect o f the bu ildi ng or pa rt(s) of the b uild ing tha t was sold Actua l se lling p rice of bui ldin g or par ts of b uild ing tha t was sold R R Date whe n occupa ncy cer tificate wa s issued by the mu nicipa lity M M D D Date of sale of bui ldin g/last p art(s) of b uild ing in te nd ed for sale M M D D In th e case of u nits so ld, total n umbe r o f u nits sold 1-1 GUIDE TO THE URBAN DEVELOPMENT ZONE TAX INCENTIVE 27