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FINANCE PORTFOLIO COMMITTEE
23 May 2000
TAXATION LAWS AMENDMENT BILL: BRIEFING
Documents handed out
Taxation Laws Amendment Bill (draft)
Explanatory Memorandum on the Taxation Laws Amendment Bill
The draft Bill covers the tax proposals which were raised in the Minister's budget speech. However it does not include Capital Gains Tax and residence-based tax. SARS indicated that these would be dealt with at a later date. The major amendments in the Bill were highlighted and the committee had the opportunity to discuss these at length.
PROGRAMME FOR THE BILL
26 May - Public hearings
8 June - Bill tabled by the Minister
9 June - Formal deliberations
Mr Kosie Louw (from SARS) noted that this draft Bill gives effect to the tax proposals which were raised in the Minister's budget speech. However it does not include Capital Gains Tax and residence-based tax. Hopefully residence tax will be dealt with in the upcoming months and Capital Gains Tax will be legislated on next year.
The draft Bill is an extensive document spanning 76 pages. Mr Louw highlighted only what he referred to as the ''big issues''. These were discussed at length and the other amendments were read through briefly.
Amendment to section 9C of the Marketable Securities Tax Act
This deals with a person whose affairs are being investigated in the course of an inquiry (an inquiry as contemplated in the section). These provisions are found in most other tax laws. The current inquiry provisions infringe on the taxpayer's right to privacy. Unauthorised people are excluded from being present at the inquiry. Example: If the affairs of X are discussed and X feels that he will be prejudiced by the presence of Y, then X may apply for Y not to be present.
There are eight issues in this amendment. These include:
- The powers of the presiding officer in the inquiry has been extended. Now he has the power to enforce the attendance of witnesses and to compel them to give evidence or compel them to produce evidential material. However he has no powers where there has been contempt of court.
- The taxpayer can have a legal representative present to represent him in the inquiry.
- Unauthorised people are excluded from being present at the inquiry.
- The use of evidence at the inquiry is regulated.
Mr Louw said that these issues still need to be refined.
Amendment of section 1 of the Income Tax Act (paragraph f)
The definition of gross income has been extended to deal with problems they have had in respect of restraint of trade payments. The problem was that the payment the employer made to the employee for restraint of trade was often a disguise payment for services rendered. Example, when a sportsperson joins a club, they agree that there will be a restraint on him playing for other clubs. They then say the payment is for restraint of trade (so not taxable) but it is really a payment for services rendered. In this way they escape paying tax. These amounts are now included in gross income and are therefore fully taxable. It is not important anymore if the money received by the employee is of a capital or an income nature. This proposal came into immediate effect.
In response to a question by Dr Rabie (NNP), Mr Louw explained that a restraint of trade payment is often used as a disguise for a services rendered payment and then they pretend that it is for restraint of trade. This up-front payment occurs quite often and therefore this problem had to be addressed.
Amendment of section 11 of the Income Tax Act (paragraph a)
This relates to the employer making the restraint of trade payment. The amount is now tax deductible in the hands of the employer but the new provision allows the employer to claim deductions in respect of the restraint of trade payments which he makes to the employee. The provision regulates the amount of the deduction which can be claimed. One such regulation is that the amount of the deduction claimed by the employer cannot be more than the amount of the restraint of trade payment divided by the number of years the restraint applies to the employee or, the amount of the restraint of trade payment divided by a period of three years (if the restraint period on the employee is less than three years). Thus, the amount must be divided by the period which is the longest. Either a period of three years or the period for which the restraint of trade applies to the employee.
Insertion of section 9E in the Income Tax Act
This deals with foreign dividends that are now also taxable as part of the phased move from source to residence-based taxation.
2221) because the underlying profits (from which these dividends are paid) were not subject to South African tax and
2) it is part of the phased approach (the shift from source to residence-based taxation)
3) to counter the avoidance practice where taxpayers re-characterise taxable income into non-taxable income.
This section will serve as an anti-avoidance measure. An example of avoidance: People would use a foreign entity in a foreign jurisdiction in a tax haven country (usually Mauritius). The capital would flow through the foreign entity and the proceeds would be paid back to the SA citizen in the form of dividends. Instead of declaring the dividend there is a practice of lending the profits to a shareholder. The idea is to deem loans without a market-related rate of interest to be a dividend thereby making it taxable.
Who are they taxing? They are taxing the South African resident where the profits are derived from a foreign source. It can be a South African based company which earns foreign income. Double taxation becomes an issue as the profits come from a foreign country. If the taxpayer is taxed there and he gets taxed in South Africa, this will be double taxation. There are two possible solutions to this:
1) The exemption route. Certain foreign dividends will be specifically exempted.
2) The foreign tax credit system. Here one will include the dividends in residence taxation but one will allow a credit refund if there was double taxation. The dividend will be taxed but foreign tax paid on the underlying profits from which the dividend was distributed will be allowed as a credit against the South African income tax payable.
There are four to five specific exemptions in the Bill. A distinction may be drawn between companies listed on the Johannesburg Stock Exchange and companies not listed on the JSE:
Companies listed on the JSE
The taxation of foreign dividends will not apply to dividends declared by listed companies that are distributed to shareholders who hold 10% or less of the total shareholding of the listed company. This exclusion does not apply to dividends distributed to shareholders who hold 10% or more of the shareholding.
Companies not listed on the JSE:
The Minister will announce certain countries which will be designated countries. These will be probably be countries which tax foreign dividends on a similar basis and rate as South Africa. (The country will have a tax system comparable to South Africa's). In all probability South Africa will have a double tax agreement with that country. If the profits are generated in a designated country and were subject to a tax rate of at least 27%, then the dividend will be exempt from tax in SA. However this exemption will only apply to dividends distributed to shareholders who hold more than 10% of the shareholding in a company. If the shareholder owns less than 10% the exemption will not apply.
Where resident shareholders hold at least 10% of the total shareholding of the company declaring a foreign dividend but the underlying profits were not taxed at a rate comparable to that of South Africa, no exemption will apply. The dividend will be taxed but foreign tax paid on the underlying profits from which the dividend was distributed will be allowed as a credit against the South African income tax payable.
Mr Andrew (DP) said that the whole process seemed very complicated. In light of this complexity he asked if the benefit was worth the trouble. He also asked about the credit mechanism and the portfolio investors. He asked why the person who owned more than 10% was entitled to a tax credit but the smaller investor was not. He asked what the logic was for taxing the smaller investor and not the big earners. He said that in these designated countries if the bigger holder is exempt then the small holder should also be exempt.
Mr Louw replied that billion of rands flow through tax haven countries such as Mauritius. Because these deals are so big and the money involved is such huge amounts it is a worthwhile exercise even though it is complex. The reason for taxing those who hold less than 10% and not those who hold more than 10% is purely administrative. The reasoning behind it is internationally accepted.
Mr Andrew did not understand and gave the following example: A South African investor owns 11% of Microsoft then he does not get taxed on dividends. If he owns less than 10% then he does get taxed.
Mr Louw said that when they designate a country they will look at whether South Africa has a similar tax system to that country or not. To see if dividends are always taxed at the rate of 27% in other countries is difficult. This is so because the company listed in the designated country might have subsidiary companies which sit in tax-haven countries. To analyse what is behind a foreign tax holding company is difficult. This is the administrative problem.
The 27% tax rate is an important test. Example, a holding company listed on the USA stock exchange which is operational throughout the world. Some operators are not taxed on 27%. This depends on the particular country. All subsidiaries pass on and flow through the tax haven and then come back to South Africa. If someone owns less than 10% then it is worthwhile to look and see what is going on behind it and analyse all foreign subsidiaries to see if they are taxed at least at the rate of 27%. It makes sense administratively. But if they own more than 10% then to do this is an administrative nightmare.
Ms Jumat (ANC) said that the Bill tries to close more loopholes. In respect of the 10% shareholding can people split the amounts by investing in different names to escape tax?
Mr Louw said that connected persons would be lumped together so that it would be considered as one holding.
Insertion of section 12D in the Income Tax Act
This deals with permanent structures. The issue is the depreciation on pipelines for transmission of natural oils, electricity/telephone transmission lines and railway lines. Previously South Africa did not allow any deduction for depreciation of permanent structures for tax purposes. Further, government departments are exempt from this tax so it was not a tax of importance.
Now however there are entities such as Eskom and Telkom and wear and tear allowances are important for them. Also international companies have expressed interest in exploring gas fields in Southern Africa. The development of natural gas is an important contributing factor to the economic development of Southern Africa. The depreciation allowance would encourage and support the significant capital investments which would be required for such a project. This is an internationally accepted practice. A write-off period of 10 years is proposed for pipelines transporting gas or oil; and a write-off period of 20 years for electricity/telephone transmission lines and railway lines.
Dr Woods (IFP) said that without these allowances there would be a negative effect on investment decisions. He asked why these particular industries had been chosen and not others.
Mr Louw replied that many permanent structures have been included over the years. These big ones have been identified. Another area is the mining sector. They get 100% write off on permanent structures as long as they are used within the industry. Office blocks are one big area that is still outstanding. If SARS moves there then it will have a huge impact on the tax base. Silos, factories and hotels are already included in the tax system.
Mr Andrew asked for a definition of ''sole business'' as used in the context of this section where companies involved in various types of businesses would be disqualified from getting these deductions because they were not involved in a "sole business". For example if Spoornet had a property division then would they still be involved in a ''sole business''? Ms Taljaard (DP) noted this concern too, asking whether it would not create a problem if one if one company was dealing with many different services.
Mr Louw said that they had grappled with this definition. Spoornet may have different divisions but it is still one entity and therefore one taxpayer. All their divisions fall within their sole business. Mr Louw said that as long as there is ''transmission thereof'' then it is one entity and it still falls within the section.
Ms Taljaard (DP) noted that the Department of Public Works is involved in the restructuring of state assets. She asked how this policy document affected parastatals and whether these parastatals would remain separate business units. She also asked if SARS was communicating with them on this policy document.
This question was not answered.
Amendment of section 23F of the Income Tax Act
This deals with the deductions for expenditure incurred in respect of the acquisition or disposal of trading stock. Problems experienced with mismatching are the following:
- An entity buys trading stock and sells it in the same year with conditions attached to the sale. This results in a delay of the accrual of the income and this creates a mismatch. The solution in this instance (where a condition has been built in) is to match the income and the expenditure over the time period of the agreement.
- Another problem is that people incur expenses, for example on the last day of the tax year they pay an insurance premium for the next year. This results in a roll-back of the claim for the next year. In order to match the income and the expenditure, the Bill brings in certain exclusions and closes a tax loophole..
Insertion of section 30 in the Income Tax Act
This relates to public benefit organisations. Two issues were noted:
1) Tax exempt status for public benefit funds, and
2) Deductibility of donations to NGOs
Tax exemptions were previously scattered around the Act with different exemptions for different organisations. The Katz Commission researched the issue and proposed that exemptions be dealt with comprehensively. There should be one section that encompasses all these issues. It is now found in Section 30. It is also proposed that:
- The Minister will list the categories of public benefit activities in the Government Gazette. In subsection 1 of the new section 30 there are broad guidelines for him. He must use this in approving the activities of an organisation to qualify the activity as a public benefit activity.
- After the Minister's approval of the activity the organisation must approach the Commissioner for tax exempt status. The Commissioner will then make his decision on the basis of criteria listed in the section. The list is quite extensive.
An important issue is taxation of related trading activity and the non-taxation of unrelated trading activity. Mr Louw described this as being a tricky and complicated area. It is not simply a matter of ''unrelated being out and related being in''. It is more complex than that. Most of the unrelated trading activities they do not want to exempt but some of it they do. An example of the dilemma is school fees, this is income that they do not want to tax. What this section does is to create a framework of enabling legislation. There can be further discussion on the proper wording.
Ms van der Merwe (ANC) noted that there would be a long time between the date of application for an exempt status and the organisation being approved for exempt status. She asked what kind of tax system would apply to an organisation in the interim. Mr Louw said that the old provisions would continue to apply.
Dr Woods (IFP) asked why related trading activity and unrelated trading activity was an issue. He said that if they had already decided that the organisation should be listed as a public benefit organisation then the organisation was already given an exempt status why should the organisation be exempt in certain instances and not in others?
Mr Louw said that the principle was that if an exempt institution carries on a business then it is competing with commercial enterprises. The one organisation then has a tax benefit while the other organisation does not. This is unfair. For example, churches often have bookstores which compete with other commercial bookstores. This is the dilemma.
Regarding section 30(1), Mr Andrew commented that many words were used in the definition of a public benefit organisation. He commented that ''well-being of the general public'' together with ''public good'' was sufficient and doubted if the other words were necessary.
Dr Woods commented that SARS was contradicting itself by saying that giving them a tax exempt status for certain things will be to the disadvantage of the commercial sector. On the one level you give them an advantage and on the other level you say you cannot give them an advantage.
Insertion of section 23H in the Income Tax Act
On tax deductibility Mr Louw said that the basic concept remains the same but it is shorter now and easier to read. This section deals with the limitation of deductions in respect of individuals offering personal services to the employer through legislative entities such as trusts and companies. By doing this they save tax as they utilise the benefit from the difference in ratios between individuals and companies (the marginal rate applicable to individuals is higher than the rate applicable to companies). Also, if they offer services via a legislative entity then it is easier to claim back expenses such as travelling expenses.
The proposal made to discourage this practice is to:
1) make the remuneration paid by the client to the employee subject to employees tax,
2) that the income of such a company be taxed at the rate of 35%, and
3) that the allowable deductions of such a company or a trust for tax purposes be limited to the amount of the remuneration paid to the shareholder or other employees of the company.
Insertion of section 47b in the Customs and Excise Act
This deals with airport passenger tax which will take effect from 1 August 2000 at a rate of R100 per passenger. It is levied on the airliner itself and not on the passenger. This means that the airliner will collect and pay. Certain groups have noted concern on issues relating to the airport passenger tax. These are:
1) Date of implementation - some feel that the date for implementing the tax is too soon for them to get systems into place. People are already buying tickets for flights after 1 August. They have asked for a six month delay in implementation. This has been discussed with the Minister. The feeling is that this request is unreasonable. It is possible however that it will be delayed for three months.
2) The fixed rate of the tax - they do not want it to be fixed at R100. They want a differential rate (a distinction drawn between long distance and short distance flight). The Minister is not totally against this possibility.
3) Security - duties are collected on behalf of the Commissioner. Thus there is a deferral of the taxes. The Commissioner would like to be covered in respect of non-payment of the taxes. This is standard policy for excises, for example on liquor and tobacco.
4) Commission - the airline companies have requested a substantial commission for collecting the taxes. The Ministry is not in favour of this. VAT collectors do not get a commission and if it is allowed for the airlines then this would set an undesirable precedent.
5) The Air Transport Association have also objected to this tax. They said that the tax is in contravention of the Chicago Convention (of which SA is a signatory).
Mr Feinstein asked about the Chicago Convention's objection to the airport tax. He noted specifically that there were similar taxes internationally.
Mr Louw replied that there were such as in the UK. The problem was that in South Africa these taxes were only levied on international flights. If they were levied on international flights and national flights then that would be okay.
Ms Taljaard asked whether the Chicago Convention would sanction South Africa. A representative from the SARS panel replied that the Charter can deny SA any voting rights in terms of that Charter, and SA can no longer be a member of the Charter.
Amendment of section 1 of the Income Tax Act (section 1(g))
A new paragraph was added to the definition of ''gross income''. The effect is that any surplus funds out of a pension fund are to be taxed in the hands of the employer.
Taxation of receipts and accruals of Eskom and subsidiaries
Eskom enjoyed certain exemptions from taxes, duties and levies in terms of the Eskom Act. Then came the Eskom Amendment Act which repealed these exemptions subject to certain conditions. One condition was that the Minister of Finance must determine the tax values of Eskom's capital assets for the purpose of calculating depreciation allowances. This Act also attempted to repeal Eskom's exemptions in respect of marketable securities tax. The references were however made incorrectly with the result that the withdrawal of the exemptions never took place.
Section 24 will be introduced into the Eskom Act so that these exemptions no longer apply to Eskom or any company in which Eskom holds all the shares. A provision will also be inserted to provide for the determination of the tax values of the capital assets for the purpose of calculating depreciation allowances. The essence of this section is that Eskom enjoyed various privileges and all of these are now being withdrawn.
This ended the briefing on the significant amendments. There minor amendments were read through fleetingly. The meeting was adjourned
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