By Professor Peter Surtees, Special Tax Consultant
In a year dominated by the announcement of an exchange control and tax amnesty, the tax authorities continued with major revisions of and additions to the Income Tax Act. Several important decisions emerged from the courts, including one that succeeded in putting a brake on one of the more excessively draconian practices of SARS.
South Africa has had exchange control regulations in place for many years and, as is inevitable in such circumstances, huge amounts of grey money have been spirited offshore during that time. Finally the authorities decided to follow the example of several countries around the world and offer an amnesty. This consists of three parts, each relating to a different contravention: the exchange control amnesty in respect of unauthorised funds held offshore at 28 February 2003; the foreign tax amnesty in respect of income that accrued on such funds; and finally the domestic tax amnesty in respect of income that accrued in South Africa but found its way offshore. The classic means of committing the last-mentioned offence would of course be by transfer pricing.
The legislation was enacted in haste and contained a number of ambiguities and omissions, which had to be dealt with by means of regulation. Unfortunately, although the deadline for applications was set at 30 November 2003, the amending and clarifying regulations only appeared on 30 September, to the consternation of the tax industry. Even the application form was amended as late as 31 October. As a result, perhaps inevitably and despite vigorous earlier denials, the process was extended to 29 February 2004.
There has been no indication as yet of the total funds in respect of which the amnesty has been sought, but there have apparently been about 5 000 applications thus far. The proof or otherwise of the success of the process will finally be the amount of money accounted for. Speculation is that much of the really big money will never see the light of day. However, the public is becoming aware of the increasing reach of SARS as it extends its integrated information gathering systems and as international co-operation between tax authorities expands and develops, and more people are becoming concerned and amenable to apply.
A major unresolved issue is so-called "loop structures", which have been used for many years, with the knowledge if not the approval of the Reserve Bank, in terms of which a South African resident would establish an offshore entity that would hold an interest in the onshore entity of the resident, thereby enabling the resident to expatriate funds for his ultimate benefit. The Reserve Bank has declared that these contravene exchange control regulations and must be unwound. Major taxpayers and especially banks are objecting vigorously to this decision, and legal proceedings are likely. Who knows but that the amnesty period may even run beyond next February if the uncertainties persist.
The annual Budget published in February provided relief for individual taxpayers, understandably directed mostly at the lower end of the income scale. The definition of "resident" was amended to make it clear that the provisions of any double tax treaty would prevail in the event of a conflict between the Act and the DTA. Greater relief was granted to small business corporations, and the amount of interest exempt from tax in the hands of individuals was increased by between 40% and 50%.
The major changes appear in the second Bill, presently before Parliament and due to be passed before the middle of December. Some of the major proposed changes are set out below.
- Repeal of the inclusion of foreign dividends in taxable income where the taxpayer holds 25% or more of the equity of the company paying the dividend. It had been found that, since foreign dividends became taxable a couple of years ago, the flow had fallen significantly, and the change was aimed at encouraging a return of the inflow.
- The circumstances under which a company can be a controlled foreign company have been extended so that even a company that is 10% locally owned may choose to be deemed a CFC. This amendment is connected to the foreign dividend changes.
- While recognising the need to encourage research and development, the authorities have acknowledged that the present provisions are very limited and taxpayers are not easily able to gain access to them. Accordingly, they have been entirely replaced by a new set of provisions in terms of which the cost of capital assets used in R&D may be written off at the rate of 40% in the first year and 20% per year thereafter. Non-capital expenditure may be deducted when incurred. The research must actually or potentially result in an identifiable intangible asset other than a trade mark, and must not be related to the social sciences, arts, humanities or management, or market research, or routine activities such as quality control.
- In a drive to encourage the reversal of urban decay, the Government has identified certain areas in the CBDs of a number of cities and large towns. Persons who undertake development and renewal in these areas will enjoy tax incentives. The cost of new buildings may be written off at the rate of 20% in the first year and 5% per year thereafter, while the cost of renewing a building while retaining its exterior may be claimed in five equal annual instalments.
- For many years a favourite tax and estate planning ploy by wealthy taxpayers has been to buy farms and pour their earnings from other sources into them. The farm runs at a loss, which may be set off against income from other sources, but its capital value increases. This practice has been used in other areas such a letting rooms in one’s home on an ad hoc basis, breeding dogs and craft activities. Legislation has now been introduced to ring-fence losses from such activities, to be used only against future profits from the same activities. Fortunately, it will take about four years for the effects of the restrictions to be felt, so taxpayers have time to do some planning.
- For some time, SARS has been warning that it is unhappy about the low rate of actual tax paid by banks. Allied to this has been unhappiness about structured finance schemes. The concept of "reportable transaction" now obliges the participants to report any transaction that is subject to confidentiality as to its tax treatment, or contains a contingency provision as to any variation of the tax treatment by SARS. The intention is to strike at tax-driven structured finance schemes. It remains to be seen how effective this provision will be.
- In an effort to hasten the process of settling tax disputes, an alternative dispute resolution structure has been introduced. The idea is sound, but there are concerns that SARS enjoys too much control over the process, and it will be interesting to see how well it works in practice.
There are numerous other amendments to the corporate restructuring rules, CGT and the tax position of public benefit organisations, but these tend to be refinements of existing legislation.
On the judicial front, perhaps the most significant development was the decision by the Supreme Court of Appeal in favour of the taxpayer in Anil Singh v C:SARS 65 SATC 203. SARS has the power to submit an assessment to court and obtain summary judgment against the taxpayer. Applying the "pay now, argue later" principle, SARS is then able to force the taxpayer to pay, pending any further steps. In the Singh case, however, SARS overreached itself in that the assessment was presented to court during the day and only served on Singh later on the same day. The court found, on application by Singh, that SARS was obliged to deliver an assessment to the taxpayer, and then wait for the statutory 30 day period for objection to elapse before action could be taken. This was a severe reversal for SARS and an important victory for taxpayers, because in recent years SARS has developed an increasingly aggressive attitude, and this decision served as a reminder of the need for due process.
What are the prospects for 2004? The 2002 summary ended with the hopeful comment: "Every taxpayer is hoping for an end or at least a reduction in the flood of new legislation". Sadly, the opposite has proved to be the case. Nevertheless, the hope is now there for 2004. The tax relief that came with the 2003 Budget is unlikely to be repeated, however; the strong showing of the Rand this year, when it has been the best performing currency in the world, has put a dent into tax collections. This will have to be recovered from somewhere, and what easier target than the taxpayer?
The content of this article does not constitute legal advice and should not be relied on in that way. Specific advice should be sought about your specific circumstances.