Input tax in the context of unrest clean-up and rebuilding campaigns

During July 2021, large tracts of the KwaZulu Natal and Gauteng erupted into civil unrest, where looters targeted shopping malls, retail warehouses and manufacturers throughout the provinces. As the unrest continued, the trading stock and machinery of multiple businesses were stolen and infrastructure and buildings were damaged or destroyed.

The clean-up and rebuilding campaigns have begun, and they will continue for an unknown period. The question arises whether the affected value added tax (VAT) vendors are entitled to deduct the VAT paid on the acquisition of goods and services during the clean-up and rebuilding process as input tax.

The answer to this question calls for an interpretation of the definition of “input tax” in section 1(1) of the value added tax Act No. 89 of 1991 (the Act), read with the sections that set out the documentation required to substantiate the deduction.

In Natal Joint Municipal Pension Fund v Endumeni Municipality 2012 (4) SA 593 (SCA) the Supreme Court of Appeal authoritatively explained that statutory interpretation is the objective process of attributing meaning to words used in legislation. This process, it emphasised, entails a simultaneous consideration of:

  • The language used in the light of the ordinary rules of grammar and syntax;
  • The context in which the provision appears; and
  • The apparent purpose to which it is directed.

The Court in Endumeni further stated that the words must be interpreted sensibly and that the interpretation should preferably not lead to an unbusinesslike result.

Insofar as the term “input tax” is relevant for present purposes, it is defined in relation to a vendor to mean tax charged under section 7 and payable in terms of that section by:

  • A supplier on the supply of goods or services made by that supplier to the vendor; or
  • The vendor on the importation of goods by that vendor;

where the goods or services concerned are acquired by the vendor wholly for the purpose of consumption, use or supply in the course of making taxable supplies.

This enquiry raises two issues:

  1. The purpose for which the supplies were acquired; and
  2. Whether the supplies were acquired for the purpose of making taxable supplies.

The word “acquire” is not defined in the Act. However, it is defined in the Oxford English Dictionary1 to mean, "to receive, or get as one’s own (without reference to the manner), to come into possession of.”

The word “purpose” is defined in The Concise Oxford Dictionary as “an object to be attained; a thing intended”. It is important to note that the burden of proof that the purpose meets the requirements for an input tax deduction rests on the vendor.

The Supreme Court of Appeal in Consol Glass (Pty) Ltd v CSARS (1010/2019) [2020] ZASCA 175 held that:

“[29] Firstly, the diversity of goods and services that might constitute a taxable supply in a modern economy and the complexity of the lines of supply that might be used in the making of such goods and services should not be underestimated. An interpretation that was too restrictive of what was required to make taxable supplies ran the risk of underestimating this diversity and complexity.

[30] Second, since the purpose of acquisition was for consumption, use or supply, it was helpful to consider how these attributes of the goods or services acquired had utility in the making of the taxable supplies. It was this functional relationship that signifies”

The various goods and services acquired throughout the cleanup and rebuilding must then be acquired (received) for the purpose (object or aim) of making taxable supplies (supplies capable of being charged with VAT). There must be a functional relationship between the acquisition of these goods and services and the object or aim of making taxable supplies.

In paragraph 36 of the Consol judgment, the Court questioned what change was effected by the reorganisation that occurred on the facts of that case. This question was asked in the context of assessing the functional link between purpose and the making of taxable supplies, which to us suggests a focus on effect, or consequence, rather than on purpose.

In our view, VAT incurred on the acquisition of goods and services would likely be deductible as input tax if the acquisition of the goods and services was attached to the performance of the vendor’s enterprise by being consumed, used or supplied in the course of making taxable supplies, whether the acquisition was necessary for such making of taxable supplies, attached thereto by chance or undertaken in good faith for the more efficient performance of the enterprise.

Although it was an income tax and not a VAT case, in Warner Lambert SA (Pty) Ltd v CSARS 65 SATC 347, Conradie JA said the following at para 14:

“The consequences of an act often proclaim its purpose. After all, a person is presumed to have intended the natural consequences of his acts. Nevertheless, a Court must look carefully at the evidence. If there is credible evidence about a taxpayer’s purpose, it is not open to the Court to turn what is in reality a consequence into a purpose and ascribe that to the taxpayer.

In another income tax case, CIR v Pick ’n Pay Employee Share Purchase Trust 1992 (4) SA 39 (AD), the Appellate court stated:

“One is not concerned with what possibilities, apart from his actual purpose, the taxpayer foresaw and with which he reconciled himself. One is solely concerned with his object, his aim, his actual purpose.”

Vendors must demonstrate the functional link between the acquisition and the purpose of making taxable supplies. The burden of proving this always rests on the vendor seeking to make the input tax deduction.

It may be that vendors acquire professional services when deciding whether they should elect to borrow money to fund the rebuilding of their business, and it must be considered whether the supply of such professional services was incurred for purposes of making an exempt supply of financial services (in the form of a debt security). This question was answered in the Consol judgment. In dismissing the South African Revenue Services’ argument, the Court held that:

  • “It is surely a matter of the most basic common sense that a lender might well indeed typically does – supply a financial service, but not a borrower. A borrower is typically the recipient of a financial service.
  • Consol had elected to borrow money to acquire the businesses. It did so to carry on the enterprise of selling glass containers. When Consol entered into the refinance transactions and obtained finance from the consortium of local banks, it remained the same enterprise a seller of glass containers. It did not become, in addition, a supplier of financial services.”

Therefore, where vendors acquire services to finance a rebuilding project, such vendor is the recipient of a financial service and it does not itself supply a debt security (in the form of the obligation to pay money).

It is of course an entirely different matter if supplies are acquired for purposes of issuing shares to raise capital for the rebuilding.

The Tax Court in ITC 1744 65 SATC 154 held that a container manufacturer that incurred VAT on professional services in arranging the allotment of shares in order to raise working capital in the venture capital market could not legitimately deduct the input VAT since the professional services were acquired to make an exempt supply (being the issue or allotment of shares). The court held this even though the taxpayer sought to deduct the VAT as input tax on the basis that in the absence of raising the capital, it would not have been able to continue its business of manufacturing containers. The taxpayer argued that this demonstrated that a sufficiently close connection existed between the expenditure and the making of taxable supplies. However, the court was however not persuaded by this argument.

In conclusion, the VAT charged on various goods and services may be deducted as input tax if functionally linked to an aim or objective of making taxable supplies. VAT vendors should consult their advisors to determine their entitlement to deduct input tax. This determination would have to be made on a case-by-case basis.

1 It was stated at paragraph 18 by the Constitutional Court in Independent Institute of Education (Pty) Limited v Kwazulu-Natal Law Society and Others that “a word or phrase is to be given its ordinary meaning unless it is defined in the statute where it is located”.

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