Strategic Professional Options Advanced Taxation South Africa (ATX ZAF) Tuesday 4 December 2018 ATX ZAF ACCA Time allowed: 3 hours 15 minutes This question paper is divided into two sections: Section A BOTH questions are compulsory and MUST be attempted Section B TWO questions ONLY to be attempted Tax rates and allowances are on pages 2 5 Do NOT open this question paper until instructed by the supervisor. This question paper must not be removed from the examination hall. ATX ZAF The Association of Chartered Certified Accountants
SUPPLEMENTARY INSTRUCTIONS 1. You should assume that the tax rates and allowances for the tax year 2018 will continue to apply for the foreseeable future unless you are instructed otherwise. 2. Calculations and workings need only be made to the nearest R. 3. All apportionments should be made to the nearest month. 4. All workings should be shown. TAX RATES AND ALLOWANCES The following tax rates and allowances are to be used in answering the questions. Year ended 28 February 2018/31 March 2018 Rebates Primary rebate R13,635 Secondary rebate (over 65) R7,479 Tertiary rebate (over 75) R2,493 Interest exemption Under 65 R23,800 Over 65 R34,500 Foreign dividend exemptions Fully exempt where 10% or more of the equity shares and voting rights are held. Fully exempt where received by a company from a foreign company resident in the same country as the recipient. To the extent of any controlled foreign company inclusions (net of applicable foreign tax). To the extent that the foreign dividend is from a company listed on the JSE. To the extent that the above do not apply: For individuals 25/45ths of the dividend is exempt For companies 8/28ths of the dividend is exempt Medical aid contribution tax rebate rates Single member Member plus one dependant Each subsequent dependant Additional medical expenses tax rebate R303 R606 R204 Persons 65 or older or persons younger than 65 if that person, his or her spouse or his or her child is a person with a disability: ((Medical contributions (medical aid contribution tax rebate x 3)) + other qualifying medical expenses) x 33 3% Persons younger than 65: ((Medical contributions (medical aid contribution tax rebate x 4)) + other qualifying medical expenses) as exceeds 7 5% of taxable income x 25% Trusts (other than a special trust) 45% Dividends tax 20% Companies Normal tax rate 28% Donations tax 20% Estate duty 20% Official rate of interest (assumed) 8% 2
Rates of normal tax payable by persons (other than companies) for the year of assessment ended 28 February 2018 Where taxable income: does not exceed R189,880 18% of each R1 of the taxable income exceeds R189,880 but does not exceed R296,540 R34,178 plus 26% of the amount over R189,880 exceeds R296,540 but does not exceed R410,460 R61,910 plus 31% of the amount over R296,540 exceeds R410,460 but does not exceed R555,600 R97,225 plus 36% of the amount over R410,460 exceeds R555,600 but does not exceed R708,310 R149,475 plus 39% of the amount over R555,600 exceeds R708,310 but does not exceed R1,500,000 R209,032 plus 41% of the amount over R708,310 exceeds R1,500,000 R533,625 plus 45% of the amount over R1,500,000 Tax rates for small business corporations for the year of assessment ended 31 March 2018 Where taxable income: does not exceed R75,750 Nil exceeds R75,750 but does not exceed R365,000 7% of the amount over R75,750 exceeds R365,000 but does not exceed R550,000 R20,248 plus 21% of the amount over R365,000 exceeds R550,000 R59,098 plus 28% of the amount over R550,000 Turnover tax rates for micro businesses for the year of assessment ended 28 February 2018 Where taxable turnover: does not exceed R335,000 Nil exceeds R335,000 but does not exceed R500,000 1% of the amount over R335,000 exceeds R500,000 but does not exceed R750,000 R1,650 plus 2% of the amount over R500,000 exceeds R750,000 but does not exceed R1,000,000 R6,650 plus 3% of the amount over R750,000 Car allowance Maximum vehicle cost for actual expenses R595,000 Fringe benefit (company car) Benefit percentage (where no maintenance plan exists) 3 5% Benefit percentage (where a maintenance plan exists) 3 25% General business reduction: Benefit value x business kms/total kms (as per logbook) Private fuel reduction: Private fuel (R) x private kms/total kms (as per logbook) Private maintenance reduction: Private maintenance (R) x private kms/total kms (as per logbook) Subsistence allowances Deemed expenditure for meals and incidental costs (per Government regulation) R397 per day (local travel) Deemed expenditure for incidental costs only (per Government regulation) R122 per day (local travel) Deemed expenditure for meals and incidental costs (foreign travel) (per published tables) will be supplied in the question where relevant 3 [P.T.O.
Common capital allowances New and unused manufacturing plant and equipment 40%/20%/20%/20% Used or leased manufacturing plant and equipment 20% each year for five tax years New or unused plant or machinery used for research and development (where it does not qualify for the research and development accelerated allowance) 50%/30%/20% Small business corporation manufacturing plant and equipment 100% Small business corporation (other assets) unless wear and tear provides a greater deduction 50%/30%/20% Wear and tear (based on Binding General Ruling 7) will be supplied in the question where relevant Manufacturing building allowance (unless seller s rate supplied) 5% New or unused commercial building (not a manufacturing building) 5% No deduction where another section of the Act applies to the building Where part of a building is acquired, 55% of the acquisition price is cost Where an improvement to the building is acquired, 30% of the acquisition price of the improvement is cost Research and development (R&D) expenditure 150% Costs related to immovable property, machinery, plant, implements, utensils or articles (excluding any prototype or pilot plant created solely for the purpose of the process of research and development) are not claimed as research and development expenditure. Financing, and administrative or compliance costs may not be claimed as research and development expenditure. Capital gains tax Annual exclusion (while alive) R40,000 Annual exclusion (in year of death) R300,000 Primary residence exclusion R2,000,000 (where proceeds are R2 million or less, the full gain is excluded for the portion of the property used for domestic purposes as a primary residence) Inclusion rate (natural persons) 40% Inclusion rate (non-natural persons) 80% Time apportioned base cost formulae: Y = B + [(P B) x N/(T + N)] P = R x B/(B + A) Where deductible enhancement expenditure has been incurred after the valuation date, the time apportioned base cost formulae change to: Y = B + [(P 1 B 1 ) x N/(T + N)] P 1 = R 1 x B 1 /(A 1 + B 1 ) 4
Travel allowance table for years of assessment commencing on or after 1 March 2017 Value of the vehicle (including value Maintenance added tax (VAT) but excluding Fixed cost Fuel cost cost finance charges or interest) R R p.a. c/km c/km 0 85,000 28,492 91 2 32 9 85,001 170,000 50,924 101 8 41 2 170,001 255,000 73,427 110 6 45 4 255,001 340,000 93,267 118 9 49 6 340,001 425,000 113,179 127 2 58 2 425,001 510,000 134,035 146 0 68 4 510,001 595,000 154,879 150 9 84 9 Exceeds 595,000 154,879 150 9 84 9 Note: Where reimbursement is based on actual business kilometres travelled and no other compensation is paid to such employees and the kilometres travelled for business does not exceed 12,000, the prescribed rate is R3 55 per kilometre. Transfer duty rates for the year of assessment ended 28 February 2018 Where the acquisition price: does not exceed R900,000 Nil exceeds R900,000 but does not exceed R1,250,000 3% of the amount over R900,000 exceeds R1,250,000 but does not exceed R1,750,000 R10,500 plus 6% of the amount over R1,250,000 exceeds R1,750,000 but does not exceed R2,250,000 R40,500 plus 8% of the amount over R1,750,000 exceeds R2,250,000 but does not exceed R10,000,000 R80,500 plus 11% of the amount over R2,250,000 exceeds R10,000,000 R933,000 plus 13% of the amount over R10,000,000 Tax rates of normal tax retirement lump sum and severance benefits in respect of the year of assessment ended 28 February 2018 Where taxable portion of lump sum: does not exceed R500,000 Nil exceeds R500,000 but does not exceed R700,000 18% of the amount over R500,000 exceeds R700,000 but does not exceed R1,050,000 R36,000 plus 27% of the amount over R700,000 exceeds R1,050,000 R130,500 plus 36% of the amount over R1,050,000 Tax rates of normal tax withdrawal lump sum benefits in respect of the year of assessment ended 28 February 2018 Where taxable portion of lump sum: does not exceed R25,000 Nil exceeds R25,000 but does not exceed R660,000 18% of the amount over R25,000 exceeds R660,000 but does not exceed R990,000 R114,300 plus 27% of the amount over R660,000 exceeds R990,000 R203,400 plus 36% of the amount over R990,000 5 [P.T.O.
Section A BOTH questions are compulsory and MUST be attempted 1 You work for a firm of tax advisers. Your client, Lebo Msuthu, is a high net worth individual, resident in South Africa. In a meeting you had with her on 1 December 2018, Lebo expressed concerns about rising tax rates in South Africa. She is considering ways to minimise her liability to income tax (and, if possible, other taxes) by taking advantage of available tax incentives. Lebo would like you to advise her on several matters including VAT registration, the tax benefits of making contributions to a retirement annuity fund and the potential creation of a trust for estate planning purposes. Lebo earns R5,000,000 per annum as the chief executive officer of a large corporation. Since 1 March 2018, Lebo has served on a number of boards as a non-executive director. So far in the 2019 year of assessment, she has earned directors fees of R1,100,000. Lebo has noted that the companies have not withheld employees tax on these fees. She would like to better understand the tax implications for her of these directorships, including any actions she is required to take. Due to Lebo s concerns about rising income tax rates, her financial adviser has suggested that she makes a contribution to a retirement annuity fund to minimise her income tax liability. Lebo would like to understand the tax benefits of contributing to a retirement annuity fund now and in the future. Lebo is considering creating a trust for the benefit of her husband and two children. Lebo and her husband have one minor child who lives with them in South Africa and one major dependent child who is studying in Europe. Lebo owns a property (Property A) which can be transferred to the trust, but does not know whether to donate or sell Property A to the trust. If she sells Property A to the trust, a loan would be required to be made to the trustees because, being newly formed, the trust would not have any assets with which to pay for the property. Lebo would like to know the tax implications for her if the trustees were to obtain a bank loan or if she were to provide the trustees with an interest-free loan. Property A has a market value of R5,000,000 and was acquired in October 2001 for R1,000,000. Property A is currently being rented for R50,000 per month under a long-term residential lease. Running costs amount to R10,000 per month. Lebo would like the trust to meet the education, accommodation and maintenance costs of her major dependent child first and thereafter for the trustees to use their discretion to determine any distributions made to the beneficiaries. Specific questions Lebo has asked the following questions: (a) Is there any requirement for me to register for VAT and why? Explain my registration obligations and any compliance issues I should consider. (b) What are the tax benefits of contributing to a retirement annuity fund as suggested by my financial adviser? Other than income tax, are there any other taxes which will be minimised, now or in the future? (9 marks) (c) What would be the tax implications for me if I transfer Property A to the trust either (1) by donation or (2) by sale? If I sell Property A to the trust, please explain the tax implications for me if the trustees acquire a loan from a bank or if I provide an interest-free loan to the trust to fund the acquisition. (15 marks) (d) Are there any tax implications for me in respect of income earned in the trust? (2 marks) Required: Draft a report to Lebo Msuthu in which you address the questions raised. Note: The split of the mark allocation is shown against each of the questions raised. Professional marks will be awarded in question 1 for the format and presentation of the report and the effectiveness with which information is communicated. (4 marks) (35 marks) 6
2 SupplyALL is a company based in Country A, which supplies electronic goods to customers worldwide. The company has just expanded into Africa and has set up a distribution centre in South Africa. South Africa has a double tax treaty with Country A. SupplyALL s only presence in South Africa is its warehouse for the distribution of goods across Africa. These goods consist of those which have cleared customs following import and are awaiting delivery to customers within South Africa and those which are awaiting onward delivery (before customs) into other African countries. The distribution service staff at the warehouse deal with the customs clearance process, negating the need for the customer to do so directly and rather have the goods couriered direct to their address via the distribution centre. SupplyALL employs three full-time staff in South Africa. In addition, the company sends a quality control expert from its head office in Country A to South Africa for one week each month to check on these employees and the quality of the distribution operations. The cost of the employee is fully incurred by SupplyALL in Country A. Depending on the success of the expansion into Africa, SupplyALL might increase its presence in South Africa by seconding employees from its head office in Country A and employing additional administrative staff in South Africa. SupplyALL also has an e-book platform delivering published books via its mobile application, which is downloadable for free from the internet. Once downloaded, customers can use the mobile application to purchase and view e-books. The servers are based in Country A. This mobile application has not yet become available in South Africa, but the company plans to release it to the South African market soon. It is expected that the price of each e-book will continue to be denominated in Country A s local currency. SupplyALL wishes to fully understand the South African tax implications of its current operations and planned future operations. It also wishes to understand whether setting up a South African subsidiary to house the operations will change the South African tax implications in any way. SupplyALL also wishes to understand whether or not it may make use of the South African headquarter company regime for its business within Africa (outside South Africa) and how such a headquarter operation should be structured. Required: (a) Explain the value added tax (VAT) and customs duty implications of the current distribution operations taking place in South Africa, and any potential VAT implications arising from the proposed release of the e-book mobile application to the South African market. (6 marks) (b) Discuss whether or not the current distribution operations are likely to create a permanent establishment for SupplyALL in South Africa and the associated tax implications. Explain whether or not this would change if SupplyALL were to set up a South African subsidiary to house its operations. (10 marks) (c) Explain the employees tax implications and compliance requirements with respect to the three distribution service staff, visiting quality control expert and potential future employees/secondees. (4 marks) (d) Advise SupplyALL of the criteria to be met for the headquarter company regime to apply and explain whether or not any suitable structure could be created by SupplyALL to make use of this regime in respect of its African operations. (25 marks) 7 [P.T.O.
Section B TWO questions ONLY to be attempted 3 Joseph, aged 50, operates a successful freelance consulting practice as a sole trader. For the 2018 year of assessment, Joseph s income (excluding value added tax (VAT)) was R2,000,000. For the 2018 year of assessment, Joseph had operating expenses of R70,000 and travel expenses of R140,000. The travel expenses related to international flights and accommodation. Joseph has been presented with an opportunity to expand his business by partnering with Mountain Ltd, a Mauritian company. Mountain Ltd would like the joint business to be held within a subsidiary company (Sub A), to be incorporated in Mauritius. Mountain Ltd would hold 51% of the ordinary shares of Sub A and Joseph would hold 49%. Joseph would sell his entire business to Mountain Ltd in exchange for 49% of the ordinary shares in Sub A. The sale of Joseph s business (valued at R8,000,000) would represent his full contribution for the Sub A shares and Mountain Ltd would contribute cash for its 51% shareholding. Joseph would become the managing director of Sub A. Mountain Ltd would only attend board meetings (which will all be held in Mauritius), with Joseph making most of the day-to-day business decisions. Joseph would attend all board meetings. Joseph would remain based in South Africa, but the bulk of his work would be conducted at the premises of his clients outside South Africa. Joseph would spend 190 days outside South Africa each year and in addition would spend three months continuously at the Mauritian office from which he would service various African clients. He would not service any of his South African clients from Mauritius. Sub A is expected to generate (in rand equivalent) a turnover of R8,000,000. Operating expenses are expected to be R600,000 and salaries are expected to be R3,500,000 (including R2,000,000 to Joseph). The other employees of Sub A would all be based in Mauritius. 50% of the remaining profit (after Mauritian corporate tax of 15% on the profit) would be declared as a dividend (subject to Mauritian withholding tax of 10% of the dividend paid). Joseph would also contribute R500,000 to a retirement annuity fund each year. Required: (a) Explain why Sub A is unlikely to be considered resident in South Africa for income tax purposes and, assuming it is non-resident, explain why it would not meet the definition of a controlled foreign company. (b) Assuming Sub A is not resident in South Africa, explain, with supporting calculations, the tax treatment of Joseph s salary and dividend from Sub A, including any implications for his retirement annuity fund contributions. (c) Compare the after-tax cash position for Joseph for one complete year of assessment, assuming that he: (i) Does not sell his business to Sub A and continues to operate as a freelancer; and (ii) Sells his business to Sub A and works for the company as proposed. Notes: (1) You should assume that Sub A is not resident in South Africa. (2) Ignore the disposal of the business to Sub A. (3) Ignore value added tax (VAT). (10 marks) (20 marks) 8
4 The Engineering Global Group (EGG) has its main holding company and research and development company resident in Lowtaxia, a low tax jurisdiction. Engineer SA Co Ltd (ESC) is the South African resident subsidiary of EGG. ESC acts as a distributor of EGG goods in South Africa. ESC is responsible for the acquisition, marketing and sales of EGG s final products to South African customers. In addition to the acquisition price paid for the goods, ESC must pay a royalty of 7% of its turnover to EGG. Payment of this royalty gives ESC the exclusive distribution rights over the EGG goods in South Africa. In Year 1, ESC only performed a marketing and demonstration function to help develop market exposure for the products. In Year 2, it began actively selling the goods, while continuing with its marketing and demonstration functions. ESC s marketing of the products is based on the overall strategy and policies of EGG. Years 1 3 of ESC s operation yielded losses. Years 4 and 5 were profitable, but the net profit before tax never exceeded 1% of the sales turnover. The gross profit margin in these years was 8%. This is attributable partly to the high cost of goods from the parent company in Lowtaxia and partly to the royalty payment based on turnover. Years 6 8 generated losses attributable to a devaluation of the rand at the time of the acquisition of the goods from Lowtaxia against Lowtaxia s currency. Required: (a) Explain the actions the South African Revenue Service (SARS) would take in a transfer pricing audit of Engineering SA Co Ltd (ESC). (b) Outline, and explain the purpose of, the main transfer pricing documentation ESC should have compiled in support of its transactions with the Engineering Global Group (EGG). (c) Explain which transfer pricing methods are likely to be most acceptable to SARS in respect of the transactions between ESC and EGG and any factors which are critical in selecting the most appropriate method to use. (d) Explain, first, the nature of the royalty payment and whether or not it would qualify for a tax deduction for ESC and, second, the adjustments which SARS may process if it is deemed that the prices charged for the finished goods and royalty payments between EGG and ESC are deemed to be not at arm s length. (20 marks) 9 [P.T.O.
5 PropCo Ltd is an unlisted company which owns commercial properties and rents them out. During the 2018 year of assessment, the company disposed of a Portuguese property. PropCo Ltd is considering signing an agreement to transfer all of its remaining assets to a real estate investment trust (REIT). Sale of Portuguese property PropCo Ltd acquired the Portuguese property on 15 September 2016 from a person resident in the United Kingdom. The acquisition cost was GBP 1,500,000. The property was acquired by PropCo Ltd with the intention of renting it out, but no suitable tenants were found. The Portuguese property was also deemed unsuitable for the property portfolio held by PropCo Ltd and so the company decided to sell it. Due to a sudden increase in property prices, PropCo Ltd was able to sell the property to a third party for EUR 3,000,000 on 1 June 2017. The selling costs in Portugal were EUR 30,000 and the Portuguese capital gains tax levied on the sale was EUR 150,000. The following exchange rates are relevant: Spot rate Average exchange rate for the relevant year of assessment 15 September 2016 GBP 1 = R18 8493 GBP 1 = R18 9169 1 June 2017 EUR 1 = R14 5965 EUR 1 = R15 1246 Proposed sale of property assets to SA Commercial Property Fund PropCo Ltd is currently considering signing a written agreement with SA Commercial Property Fund, a REIT listed on the South African stock exchange. Under the terms of the agreement, which is expected to be signed on 31 December 2018, all of PropCo Ltd s assets would be sold to SA Commercial Property Fund in exchange for shares in SA Commercial Property Fund. The only substantive assets held by PropCo Ltd are three South African properties. After settling any remaining liabilities and providing for liquidation costs, a final dividend will be declared to PropCo Ltd s shareholders and the company will be voluntarily liquidated. PropCo Ltd is expected to be liquidated within 12 months of the transfer of its assets to SA Commercial Property Fund. Of the three South African properties to be transferred to SA Commercial Property Fund, one is leased to a manufacturing tenant. The other two properties were both acquired used. One of them is used by the tenant as administrative offices and the other is used by the tenant as a distribution centre. Required: (a) Explain, with supporting calculations, the tax implications for PropCo Ltd arising from the sale of the Portuguese property. (13 marks) (b) (i) Explain why the proposed transfer of PropCo Ltd s property assets to SA Commercial Property Fund will qualify for the relief offered by the amalgamation corporate rule. (3 marks) (ii) Briefly explain the income tax relief available to PropCo Ltd and SA Commercial Property Fund under the amalgamation corporate rule. (4 marks) (20 marks) End of Question Paper 10