The recent media statement from the National Treasury announcing the retraction of the proposal regarding the definition of a "hybrid equity instrument" from the 2025 draft Taxation Laws Amendment Bill (TLAB) is a significant development for South African businesses. The decision provides much-needed clarity and stability for transactions involving preference shares and highlights the importance of a collaborative approach to tax legislation.
Understanding the Initial Proposal
On 16 August 2025, the National Treasury and the South African Revenue Service (SARS) published the 2025 draft TLAB for public comment. The draft bill proposed a refinement to the definition of a "hybrid equity instrument" in section 8E of the Income Tax Act. The aim was to move from a rules-based system, which includes a three-year rule, to a principle-based approach. This shift would have classified financial instruments based on their economic substance rather than their legal form. For example, a preference share that is redeemable on a specific date or has a fixed mandatory dividend would have been treated as a loan (debt) for tax purposes. The goal was to prevent the misuse of dividend exemptions to reduce tax liabilities.
Rationale for the Retraction
While the substance-over-form principle aligns with international best practices, numerous commentators raised concerns with the National Treasury and SARS. The broad wording of the draft proposal was seen as a potential threat to preference shares as a viable means of financing. The uncertainty surrounding the proposal was already impacting current transactions and potentially delaying investments.
To avoid a negative impact on financing and investment, the Minister of Finance, on the advice of the National Treasury and SARS, decided to retract the proposal. This decision demonstrates a commitment to a consultative process and a willingness to respond to stakeholder feedback when the economic implications are significant.
What's Next?
The National Treasury has stated that any future proposals on the structural changes to the taxation of hybrid equity instruments will follow a consultative process with all stakeholders. This is a positive step, ensuring a balanced approach that considers the concerns of both the government and the business community before new draft legislation is published.
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