BY DAVID WARNEKE (PARTNER AND HEAD OF TAX TECHNICAL AT BDO SOUTH AFRICA)
The Taxation Laws Amendment Bill of 2017 (released on 25 October) contains proposals that will result in a significant compliance burden for companies, even although it may not always result in additional taxation. The proposal deals with disposals of shares in a company (say “A”) held by another company (say “B”) if B held significant equity shares (defined as a “qualifying interest”) in A at any time within 18 months of the disposal.
Essentially, untaxed dividends (dividends that were exempt from income tax and not subject to dividends tax) that were received by or accrued to B in the 18-month period prior to the disposal that are considered extraordinary in amount (defined as an “extraordinary dividend”), must be added to the proceeds on disposal of the shares for capital gains tax purposes. For example, if B held 50% of the equity shares in A and sells those shares, B’s capital gain on disposal must take into account the actual proceeds plus any “extraordinary dividend” received or to which it became entitled.
The proposal is to backdate the provision to 19 July 2017, which implies that dividends that accrued up to 18 months prior to that date may be subject to tax if shares are disposed of after that date. This does not apply if all the terms to the share disposal agreement were finally agreed to before 19 July 2017 by all parties to that agreement.
The determination of whether a dividend is an “extraordinary dividend” could result in a compliance burden as one has to value the shares that are disposed of to determine the market value of the shares on the date 18 months prior to the disposal and then value the shares on date of disposal. It is often a difficult, costly and time-consuming exercise to value shares, especially at a point 18 months in the past.
If it is only an equity share holding, the determination of whether a dividend is an “extraordinary dividend” is as follows. If the market value of the shares 18 months prior to the date of disposal is “C” and the market value of the shares on the date of disposal is “D”, 15% must be applied to the higher of C or D. An “extraordinary dividend” is so much of any dividend received or accrued within 18 months of the disposal of the shares as exceeds the 15% determined above. Any untaxed dividend received by or accrued to within 18 months of the date of disposal must, to the extent that the untaxed dividend is an “extraordinary dividend”, be treated as additional proceeds on the disposal of the shares.
The Draft Taxation Laws Amendment Bill (TLAB) released in July contained a similar proposal, except that there was not an “extraordinary dividend” test. The draft TLAB proposed that any untaxed dividends received by or accrued to within the 18-month period would constitute additional proceeds. The draft and latest proposals are aimed at share buy-backs and the common practice of “dividend stripping” in terms of which companies receive untaxed dividends instead of taxable proceeds on disposal. However, the proposal is not limited to share buy-backs and applies to any share disposal. It would therefore apply to disposals through outright sales of shares, even if the “extraordinary dividend” was unrelated to the sale.
The insertion of the “extraordinary dividend” test is welcomed as it will reduce the tax burden, compared to the draft proposal. However, it implies a substantial compliance burden even in the case of normal business transactions such as third party sales of shares. Since the Tax Administration Act places the burden of proof that an amount should not be subject to tax on the taxpayer and not SARS, taxpayers would be ill-advised not to conduct the valuations referred to.
The definition of “qualifying interest” is central to the application of the provision as a “qualifying interest” must be held at any time within 18 months of the disposal of the shares for the provision to apply. For listed companies, the definition of “qualifying interest” contemplates an equity or voting interest of at least 10 per cent. For unlisted companies, an equity or voting interest of at least 50 per cent (or 20 per cent if no other person holds a majority equity shares or voting rights), whether alone or together with “connected persons” in relation to the holder, must be held.
It should be noted that the provision could still apply if a qualifying interest was held during the 18-month period but not on the date of disposal of the shares in question. So for example, even if only a 5 per cent interest is disposed of, the provision could apply if at any point in the 18-month period prior to the disposal a “qualifying interest” was held.
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