Synopsis February 2008

Transcription

1 Synopsis February 2008 Tax today* Share owners new SARS guide walks you through the rules *connectedthinking 1

2 In this issue SARS tax guide for share owners A dubious decision on trusts by the Tax Court How much tax do large South African companies really pay? Editor: Ian Wilson Written by R C (Bob) Williams Sub-editor and lay out: Carol Penny Tax Services Johannesburg Distribution: Elizabeth Ndlangamandla Tel (011) Fax (011) The SARS tax guide for share owners The coming into force of the National Credit Act 34 of 2005 coupled with the abrupt cooling of the property market means that many investors, who might hitherto have been attracted by investments in fixed property, will now be looking to invest in the stock market. In January 2008 SARS released a 30-page Tax Guide for Share Owners. This is another in a series of quality publications by SARS for the guidance of taxpayers and their professional advisers. Naturally, this publication does not have the status of law. It is merely a guide essentially SARS s interpretation of the applicable statutory and common law principles. However, it has been meticulously researched and carefully expressed and can be relied on with confidence as an accurate summary of the law. 2 Income tax on the sale of shares The question of the circumstances in which a shareholder is liable for income tax on the profit from the resale of shares has always been a somewhat complex issue. The fundamental principle is easily stated a person is subject to income tax on the profits derived from the sale of shares if he was a dealer in shares or if he was engaged in a scheme of profit-making, using shares as his stock-in-trade. (As is noted in the past paragraph of this note, the new section 9C of the Income Tax now overrides this principle where the taxpayer has held the shares in question for at least three years.) Applying this principle to the facts of any given situation is sometimes difficult, and the outcome of litigation in this regard between SARS and the taxpayer, in relation to a disputed assessment involving the profit on the resale of shares, is sometimes highly unpredictable. The major reason for this unpredictability is that the question whether the taxpayer is liable for income tax on the profit from the resale of shares depends in the main as with profits from the resale of any property on the intention of the taxpayer at the time of acquisition.

3 The Income Tax Act is explicit that, if a taxpayer contends that he is not taxable on a particular gain, or is entitled to a particular deduction, the onus of proof is on him. If he intended to hold the shares for a relatively long period of time, in order to derive dividends, then he is not liable for income tax on the profits from resale, but is subject instead to capital gains tax on those profits. If, on the other hand, he acquired the shares for the purpose of deriving a gain from reselling them at a profit, then the shares are stock-in-trade in his hands, and any gain on resale is subject to income tax. The taxpayer s intention at the time of acquisition Intention is a rubbery concept. And where the acquisition of shares took place years prior to disposal, the taxpayer himself may be hazy as to his intention at that time. Moreover, the taxpayer may have had no clear intention, or may have had mixed intentions. Furthermore, the taxpayer may have, in the period between acquisition and resale, undergone a change of intention; he may have originally intended to sell the shares at profit, but later decided to hold them as a long-term investment, or vice-versa. All of this may hedge any inquiry into the taxpayer s intention at the time of acquisition with considerable uncertainty, even where the taxpayer is telling the truth to the best of his ability. The situation is of course further complicated where shocking as it may seem the taxpayer is being economical with the truth in the version of events that he puts forward to the court. The onus of proof is on the taxpayer It should never be forgotten that the Income Tax Act is explicit that, if a taxpayer contends that he is not taxable on a particular gain, or is entitled to a particular deduction, the onus of proof is on him. If he fails to prove his contentions on a balance of probabilities, then the court must give judgment against him, and in favour of SARS. When it comes to determining a taxpayer s intention at the time he acquired shares (in other words, whether he intended to resell them at a profit, or hold onto them as a long-term investment) the courts, over the years, have tended to add layer upon layer of complexity to the inquiry. In the early days of South African income tax, the courts looked only to the taxpayer s so-called dominant intention at the time of acquiring the property in question, whether shares or other property. The income tax consequences of profitable resale depended on whether, at the time of acquisition, his dominant intention was to resell the shares at a profit. If the taxpayer, in addition to a dominant intention, had a subordinate intention, the subordinate intention was simply ignored. Later judgements added a further inquiry by decreeing that the court also had to determine whether the taxpayer had a secondary intention, by which is meant an intention that co-existed with a dominant intention, but was not a mere subordinate intention. All of this, I am sure, would be scoffed at by psychologists who would see it as an artificial and simplistic version of how the human mind works. Section 9C of the Income Tax Act the new safe haven provision One ray of clarity shines through the fog of uncertainty. Section 9C of the Income Tax Act now provides that, as from 1 October 2007, if a taxpayer holds shares for a continuous period of three years from the date of acquisition, then any gain on resale is willy-nilly now subject to capital gains tax, not income tax. 3

4 Trusts It is widely believed that the crowning achievement of English law has been the concept of the trust. No other legal system developed the concept to the same degree of sophistication. The underlying concept of a trust The underlying concept of a trust is very simple, as ideas of genius often are. Ownership involves a bundle of rights, including the right to be recognised in law as the owner of the property in question, plus the right to enjoy the fruits and benefits of the property. Usually, one conceives of the rights of ownership as being vested in one individual, whom we simply call the owner. A dubious decision on trusts by the Tax Court English law, however, came to the realisation that there was no reason why the right of beneficial ownership (the right to enjoy the fruits and benefits of the property) could not be separated from bare ownership (that is to say, ownership, stripped of the right to enjoy the benefits of the property) and vested in another person. Hence, A could be the legal owner of certain property (and for example, have the property registered in his name) and B could be the beneficial owner. In this situation, A would hold the property, as a trustee, in trust for B. In other words, while A was, legally, the owner, he would be obliged to hold the property for the benefit of B, and allow B to receive the benefits and fruits of the property. 4

5 In short, trustees have legal ownership of the trust property and the power to manage it, while the beneficiaries have beneficial ownership and the right to the fruits and benefits of the property. In a discretionary trust, the same situation applies, except that the beneficiaries have no vested (enforceable) rights to the trust income or capital. Instead, the trustees decide, in their discretion, whether and when to distribute trust income or capital to them. Nonetheless, the trustees still hold on trust; they cannot take the benefits of the trust property for themselves, and they must make their decisions according to what they honestly believe is the best interests of the beneficiaries. A family trust So, for instance, in a family trust, G, a grandfather, might donate (or bequeath) R1 million to S, his son, to hold in trust for GS and GD, his grandson and granddaughter. S would be the legal owner of the money (and would have the power to manage and invest it) but he would hold it in trust for GS and GD. S would be obliged to allow all the benefits of ownership (interest, dividends, rent, etc) to go to GS and GD. The trust deed might allow S to be paid a fee, as trustee, for administering the money, and might allow S to accumulate the interest and dividends within the trust, and not immediately pay them out to GS and GD. The fundamental point is that S, though the legal owner, would enjoy bare dominium bare ownership while GS and GD would be the beneficial owners of the trust property. These simple yet profound concepts are the basis of the English law of trusts. The South African law of trusts South Africa has taken over most, but not all, of the concepts and principles of the English law of trust, and has added some refinements of its own. Inter alia, South Africa has enacted the Trust Property Control Act no 57 of 1988 to add some uniquely South African elements to our law of trusts. For example, an important question on which the Trust Property Control Act provides clarity is what happens if the trustee goes insolvent? Can his creditors seize the property he is holding in trust and divide it among themselves along with the rest of the trustee s property? The Trust Property Control Act makes clear that trust property does not form part of the trustee s personal estate, and that property that he is holding in trust is ring-fenced (quarantined) from the claims of his personal creditors. However, the one important step that the Trust Property Control Act has shied away from, and has desisted from saying, is to decree that a trust is a legal person in its own right, that is to say, a legal entity separate from the trustee. The Income Tax Act has had its say on the question of trusts. The most important thing it says in this regard is that, for the purpose of the Income Tax Act, a trust is a legal person. Other taxing Acts, notably the Transfer Duty Act, have also taken this step. Outside of tax legislation, a trust is not a legal person in its own right it is merely an aggregation of assets. An obvious transfer duty avoidance ploy At the relevant time for the purpose of the judgment of the Tax Court, referred to above, transfer duty was payable on the value of property (meaning immovable property or a real right in immovable property) acquired by way of a transaction. It did not require an Einstein to realise that, where immovable property was held in a trust, it would apparently be possible to avoid transfer duty by the simple expedient of allowing it to remain within the self-same trust, and just changing the trustees and beneficiaries. So, for example, instead of having the trust sell and transfer its immovable property to the purchaser, an agreement could be reached that the trust deed would be amended to make the purchaser or his nominees the trustees and beneficiaries. The old trustees would then resign, leaving the trust and all its assets under the control of the purchaser, to be administered for the benefit of the new beneficiaries named in the amended trust deed. Anti-avoidance legislation to remedy this apparent loophole was bound to be enacted, and the Revenue Laws Amendment Act 74 of 2002 did so, by providing that transfer duty would be payable where there was a change in the beneficiaries of a trust which owned residential property. 5

6 The decision The decision of the Johannesburg Tax Court in The T Trust v CSARS (case 11286; judgement given on 26 October 2007 and not yet reported) concerned events which occurred before the anti-avoidance statutory amendment, referred to above, came into effect. The case involved a trust which had sold certain immovable residential property owned by it to a Mr X for R1.9 million. Two months later, X and the trust agreed to cancel that agreement of sale. In its place, they entered into a new agreement in terms of which (for the same consideration, namely R1.9 million) the trustees of the trust would resign, and X and his nominees would be substituted as trustees and beneficiaries. In short, this was precisely the transfer duty avoidance ploy outlined above. SARS was of the view that, even though these events had occurred prior to the anti-avoidance legislation referred to above, transfer duty was nonetheless payable. The taxpayer lodged an objection and the disputed assessment came before the Johannesburg Tax Court. The Tax Court ruled that transfer duty was payable, inter alia on the grounds that, on the facts of this particular matter, a new trust had come into existence, and that the property had been transferred from the old trust to the new trust. The Tax Court judgment has huge implications, outside of transfer duty, for trust law generally and some aspects of tax law. 6

7 Critical analysis The particular transfer duty point of law involved in this judgment is now only of historical interest. This is because the anti-avoidance statutory amendment, referred to above, now covers the situation where a trust tries to avoid transfer duty in respect of residential property by changing its trustees and beneficiaries. The amended legislation makes clear that; in such a situation, transfer duty is payable. But the Tax Court judgment has huge implications, outside of transfer duty, for trust law generally and some aspects of tax law. Virtually every trust deed provides for trustees to resign or be removed from office, and for new trustees to be appointed in their place. Virtually every trust deed also permits the trust deed to be amended so as to change the beneficiaries. Does it follow from this judgment that, every time there is a change of trust beneficiaries, the trust comes to an end and a new trust comes into existence, with the trust property passing from the old trust to the new trust? Many professionals who deal with trusts would find this an astonishing proposition, with momentous legal consequences. Looking back over past decades in which still-existing trusts have undergone changes of beneficiaries, is our legal landscape now littered with the husks of old trusts which (unrealised by anyone, prior to this judgment) have been replaced by new trusts because of a change of beneficiaries? If so, what has happened to the assets of those old trusts? Did they magically, and without any legal process, transfer to the new trusts? Or do the assets still reside in the old trusts, even though the trustees of the new trust believe that those assets are under their control, and have been dealing with them on that basis? What has happened to the rights of creditors of those old trusts? They presumably cannot hold the new trusts liable for the debts of the old ones? How does anyone distinguish an old trust from the new when a new trust has been created in this way? Both trusts share the same IT number assigned by the office of the Master of the High Court at the time when they were first registered. Both share the same trust deed. Fresh letters of authority will not have been issued by the Master of the High Court to the trustees of the new trust; does this mean that they have been acting without authority? In a future issue of Synopsis, we will critically examine and comment on this judgment of the Tax Court. 7

8 Total Tax Contribution How much tax do large South African companies really pay? 8

9 In 2007 PricewaterhouseCoopers (South Africa) conducted an in-depth study of the total contribution made to the national fiscus by fifty of the largest South African companies. Some of the results of the study have been released to the media, and the full report will be published soon. The findings of this study (the first of its kind in South Africa) will be of great interest to government, SARS, the corporate sector, financial institutions, trade unions and other stakeholders. The results of the survey are based on information provided in response to detailed questionnaires by fifty of South Africa s largest companies, covering a wide range of their tax affairs. The published results have, of course, been anonymised. Taxes borne and taxes paid The total tax contribution to the fiscus by the corporate sector has two components on the one hand, taxes paid and actually borne by a company (such as corporate income tax); on the other hand, tax which is collected by the company and remitted to SARS (such as VAT, PAYE and excise duties). In relation to taxes collected by a company, the cost of collection is borne by the company, but not the tax itself. Currently, the corporate sector gets no financial recompense for collecting tax, and must act as an unpaid tax collector for the fiscus. In addition to the direct cost of collecting tax (the computer systems, the software, staff salaries, etc) the risk of non-compliance with tax-collecting obligations, which can result in the imposition of penalties and interest, is also borne by the collecting company. Survey results The study revealed that, in respect of the fifty companies surveyed For every R1 of corporate tax paid by these companies, they paid a further R0.54 in other business taxes. In other words, corporate tax comprises only 65% of all the taxes borne by companies the other 35% is reflected in expenditure or the cost of assets. This important finding shows how erroneous it is to assume that the amount of corporate income tax, disclosed in a company s financial statements, reflects its total tax contribution to the fiscus. This survey reveals that large companies pay half as much again in other business taxes. In 2007 the fifty participating companies paid taxes of R50,4 billion and collected (and remitted to SARS) taxes of R52 billion. This means that for every R1 of taxes borne, taxes amounting to R1.03 were collected. These fifty companies alone thus accounted for a large proportion of aggregate taxes paid and taxes collected. They are thus a vital component of South Africa s tax system. It has always been known that the largest companies are major contributors to the fiscus. The PwC study now quantifies this contribution. What fiscal and economic measures would allow this vital sector to grow and prosper, thereby further enhancing taxes paid and collected? The PwC survey has placed this question firmly on the agenda, with hard factual data as the basis for debate. The survey also revealed a substantial difference in the ratio of taxes borne to taxes collected by large South African companies vis-à-vis their counterparts in other countries. In the United Kingdom for every 1 of tax borne another 1.90 in tax was collected. The higher ratio is to be expected in European countries as a result of the higher social security contributions made by employers. Australia also has a slightly higher ratio at A$1 to A$1.40. If South Africa adopts a more extensive social security system, this country may see a commensurate change in the ratio of taxes borne to taxes collected. 9

10 International comparisons Similar surveys have been conducted by PwC in several overseas countries. A consistent methodology is used in all of PwC s Total Tax Contribution studies, so international comparisons are possible. Companies which participated in the South African study will thus be able to benchmark their tax data not only against their peers in South Africa, but against similar companies overseas. The purpose of the study The purpose of this PwC study was not to act as a lobby for the corporate sector, nor to motivate for tax relief or particular tax reforms, but simply to elicit reliable factual information and place it in the public domain as the basis for an informed debate by all stakeholders. Reliable data on the tax affairs of the corporate sector has hitherto been lacking, and much of the debate (for example, on the question of whether large South African companies are engaging on a large scale in aggressive tax avoidance) has been based on mere rumour and speculation. The number of business taxes in South Africa The PwC study has revealed that in South Africa the total number of taxes levied (and either borne by the companies surveyed or collected by them) is currently 21, after taking account of the abolition of Regional Services Council levies and Retirement Funds tax. Prior to 31 March 2007, the total number of taxes borne and collected by companies in South Africa was 23, which included 21 national taxes and two local taxes. The high number of business-related taxes in South Africa may come as a surprise, given that the spotlight is often dominated by a few obvious taxes, such as income tax and VAT. 10

11 In South Africa the total number of taxes levied (and either borne by the companies surveyed or collected by them) is currently 21. The high number of business-related taxes in South Africa may come as a surprise, given that the spotlight is often dominated by a few obvious taxes, such as income tax and VAT. By way of comparison, similar studies in the United Kingdom identified 22 business taxes while 56 taxes were identified in a study in Australia and 31 in the Netherlands. South Africa therefore does not have the same complexity and fragmentation in its tax system as does Australia. Nevertheless, South Africa may wish to consider whether its tax system can be simplified, inter alia by reducing the number of different business taxes, or perhaps consolidating some of them. The survey will be repeated in 2008 The PwC survey of the total tax contribution of large South African companies is to be repeated in Companies which did not participate in the first survey are welcome to participate in follow-up studies. PwC s contact person in this regard is Charles de Wet Office: Cell : charles.de.wet@za.pwc.com. A multiplicity of taxes makes a country s tax system complex and increases the compliance burden, that is to say the cost of complying with the tax laws, as distinct from the cost of paying the tax itself. Tax risk In addition to the tax burden and the compliance burden, the corporate sector in South Africa bears a substantial tax risk, that is to say the risk of incurring penalties, interest and reputational damage where tax obligations (in particular, relating to the collection of tax) are inadvertently not complied with. For taxes such as corporate tax, employees tax (PAYE) and Value-Added Tax, large companies often have no choice but to make costly investments in dedicated human and technological resources to ensure compliance with the relevant legislation. The risk associated with taxes collected by companies and paid over to SARS is often under-estimated. The largest amounts of tax collected in this way are in respect of fuel levies, PAYE and VAT, for which the company acts as an unpaid tax collector for the fiscus. 11

12 Regional offices Bloemfontein (051) Cape Town (021) Durban (031) East London (043) Johannesburg (011) Port Elizabeth (041) Pretoria (012) This publication is provided by PricewaterhouseCoopers Inc. for information only, and does not constitute the provision of professional advice of any kind. The information provided herein should not be used as a substitute for consultation with professional advisers. Before making any decision or taking any action, you should consult a professional adviser who has been provided with all the pertinent facts relevant to your particular situation. No responsibility for loss occasioned to any person acting or refraining from action as a result of any material in this publication can be accepted by the author, copyright owner or publisher PricewaterhouseCoopers Inc. All rights reserved. PricewaterhouseCoopers refers to the network of member firms of PricewaterhouseCoopers International Limited, each of which is a separate and independent legal entity. PricewaterhouseCoopers Inc is an authorised financial services provider.