Tax Avoidance Discussion Paper: hearings

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Finance Standing Committee

23 March 2006
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Meeting report

 

FINANCE PORTFOLIO COMMITTEE
24 March 2006
TAX AVOIDANCE DISCUSSION PAPER: HEARINGS

Chairperson:
Mr N Nene (ANC)

Documents handed out:
Banking Association of South Africa submission
Banking Association of South Africa presentation
Law Society of South Africa submission
Deloitte & Touche submission
Association for the Advancement of Black Accountants of South Africa submission
Gobodo submission
Institute of Certified Public Accountants of South Africa submission as of 22 March 2006
Institute of Certified Public Accountants of South Africa submission as of 31 January 2005
Price Water House Coopers presentation
Tax Avoidance Discussion Paper on
www.sars.gov.za

SUMMARY
Submissions were heard on the SARS Tax Avoidance Discussion Paper.

The Banking Association of South Africa said that amending Section 103 of the Income Tax Act at this time could be extremely disruptive. It could negate a substantial body of law and the uncertainty would deter financing and investment. SARS would be better served reviewing the existing provisions, activating the Advance Ruling System and aligning tax treatment with accounting treatment. It was recommended that if there were schemes which were repugnant to the SARS, that specific legislation be introduced to prohibit those schemes.

The Law Society of South Africa said that General Anti-Avoidance Rules (GAAR) were not required in South Africa. All of the taxing statutes and the common law dealt adequately with such conduct. The purpose of a GAAR was to strengthen the hands of the fiscus to alter the tax consequences of perfectly legitimate and genuine transactions in relation to which one or other of the Commissioner’s officials might entertain a real, or even imagined, grievance. The Committee had to protect the constitutionally enshrined rights of fairness and access to courts that the new Section 103 sought to infringe. The Law Society urged the Committee not to yield to SARS request to amend the provision.

Deloitte & Touche said that it was important for SARS to move as quickly as possible to raise Section 103 challenges and bring them to court when they were identified. This approach would act as a deterrent to other taxpayers considering such a scheme. The proposed wording of the ‘purpose’ requirement had to be changed. How can there be more than one purpose, and at what point does one of the several purposes become a ‘main’ purpose when the transaction was viewed as a whole? Deloitte was opposed to the inclusion in the legislation of the list of factors. It would be better if they were listed in a Practice Note or Interpretation Notice. By listing them in the legislation, a danger existed that a mechanical approach may be established in how they were applied.

The Association for the Advancement of Black Accountants of South Africa said that the reference to structured finance might be misleading in that it may be the only transaction being targeted whereas there were other transactions that fell into this category. The reference that this legislation could be detrimental to black economic empowerment transactions was misleading because these transactions were not necessarily the main beneficiaries of these structures. The Government could introduce a different piece of legislation aimed at encouraging black economic empowerment specifically rather than use it as an excuse to change the law.

Gobodo said that the GAAR should not be used a general panacea for all loopholes in the tax laws. South Africa’s dual economy had to be taken into consideration when drafting legislation that had far reaching economic consequences. The audit process and assessment of taxpayers should be fine-tuned in such a way that over-zealous attempts to penalise legitimate economic transactions were minimised. The application of GAAR should not be in a way that contravened other measures that were implemented by the Government to attract foreign investment. The successful use of the GAAR was likely to be costly as in almost all instances where the GAAR was invoked, the matter ended up in court. Therefore, a cost/benefit analysis must be considered prior to subjecting a matter to the GAAR.

The Institute of Certified Public Accountants said that by merely comparing the number of times that SARS was successful in arguing the provisions of Section 103 in court, versus the number of times that the taxpayer was successful, was not sufficient to determine efficiency in the application of the Section. Impermissible tax avoidance was often cloaked by complicated structures, orchestrated by large organisations and professional firms. Changing legislation that would affect all taxpayers because of a few taxpayers who wished to explore isolated sections of the tax legislation was unfair. More reliance and responsibility should be placed on the shoulders of the tax practitioners, thereby addressing the primary source of development of complicated impermissible schemes.

MINUTES
Banking Association of South Africa (BASA) submission
Mr H Shaw, BASA Consultant, began by saying that SARS were to be complimented on pro-active research they had undertaken and the desire to encourage the embracing of ideals of good fiscal citizenship amongst all role players. The General Anti-Avoidance Rules (GAAR) had tried to find balance and have served as a back-stop. Individual components of an arrangement often pass the test and combinations of transactions and participants can indicate artificiality. Therefore, the issues at hand were very complex.

It was important to define what a ‘tax benefit’ was in contributing to the debate. The current definition pointed to "any avoidance postponement or reduction of liability for payment of any tax." Any reductions or postponements can only be provided for under specific provisions of the Act. It was necessary to give legislative effect to the intentions of Parliament. Allowances were intended by Parliament to benefit specific categories of taxpayer. Was it the intention of the legislator that the benefit identified was available to the taxpayer? If yes, then there can be no argument around the claiming of the benefit. If no, then the provisions of the Act were flawed.

There were two categories of unintended benefits: those that taxpayers were not entitled to, and those they were entitled to. In the first instance enforcement of the law was needed, in the second a change in the law was required. Section 103 performed a goal-keeper role in stopping the ball where the regular defenders have not succeeded in their task. The existing remedies were a review of conflicting provisions in the Act; through the identification and harmonisation of accounting treatments with the tax treatment of derivative transactions; through the introduction of an effective Reporting Requirement System and through the introduction of the Advance Ruling System (ARS).

SARS had suggested that the goal-keeper be endowed with special powers in that, whenever a tax benefit was present, the burden of proof of abnormality no longer rests with SARS, there was now a presumption of abnormality, and the Commissioner was no longer required to exercise his discretion.

Banks were normally one of the participants and functioned as intermediaries. Some of the arrangements were complex financing transactions and the tax treatment may not be immediately evident. The Banking Association had been a strong advocate for an Advanced Tax Ruling System, amendments to the Act that created certainty in the tax treatment of derivatives and hybrids, and an effective Reporting Arrangement System.

Many jurisdictions did not have GAARs as they had an existing body of law; there was convergence between accounting and tax treatment; they had an effective ARS and they had lower compliance costs. Amending Section 103 at this time could be extremely disruptive. It could negate a substantial body of law and the uncertainty would deter financing and investment. SARS would be better served reviewing the existing provisions, activating the ARS and aligning tax treatment with accounting treatment.

Law Society of South Africa (LSSA) submission
Mr H Vorster, the Chairman of the Society, said that a GAAR was not required in South Africa. All of the taxing statutes and the common law dealt adequately with such conduct. They also adequately cater for tax driven transactions that relied on non-detection by SARS for the achievement of the targeted tax benefits. Such conduct was illegal and universally castigated as tax evasion. The purpose of a GAAR was to strengthen the hands of the fiscus to alter the tax consequences of perfectly legitimate and genuine transactions in relation to which one or other of the Commissioner’s officials might entertain a real, or even imagined, grievance. This power was drastic and intrusive, and the proposed amendments gave the Commissioner even more power and this was wrong.

What SARS regarded as impermissible tax avoidance was not absolute. Many cases had shown that its perception of the content of impermissible tax avoidance was often commercially unrealistic and contrary to international trends. There must be proper safeguards against the abuse of a GAAR by a collection agency that sought to invoke it in respect of transactions that, after due process, had been held to be perfectly sound and businesslike. The second problem with SARS proposition was that it was not supported by readily available empirical evidence with regard to the fate of the ‘schemes’ referred to in its discussion paper.

The Committee had to protect the constitutionally enshrined rights of fairness and access to courts that the new Section 103 sought to infringe. The most fundamental safeguard in the present Section 103 was the requirement that in any proceedings involving its application, the burden of proving the alleged abnormality of the transaction lied with SARS. Allegations of abnormality were frequently made injudiciously without regard to the peculiar circumstances of a particular case. It was an appropriate safeguard against abuse, and was consistent with established procedural rules that the burden of proof in relation to an allegation of abnormality should be on SARS. It was this very safeguard that SARS sought to nullify.

He urged the Committee not to yield to SARS request to amend the provision.

Discussion
Ms Y Bhamjee (ANC) asked Mr Vorster if he was saying that SARS had a selective memory when relying on cases to justify changing the legislation.

Mr Vorster replied that there was a selective extraction of cases, and some of the more recent cases were not referred to at all. SARS got the concept of impermissible from the UK and was it foreign to South Africa. The method of interpreting and applying the rules in determining impermissible tax was different too. Some of the decisions in the UK were controversial in the UK itself, and were used out of their context in South Africa.

Deloitte & Touche submission
Mr L Roelofse, a Partner at Deloitte and Touche, said that they were happy to have a GAAR to frustrate purely tax driven schemes. It was aimed at identifying the underlying substance of a transaction, rather than its form, to determine whether or not it falls into the category of impermissible tax avoidance. Care had to be taken that this type of approach does not operate in one direction only. It was important for SARS to move as quickly as possible to raise Section 103 challenges and bring them to court when they were identified. This approach would act as a deterrent to other taxpayers considering such a scheme.

The proposed wording of the ‘purpose’ requirement had to be changed. How can there be more than one purpose, and at what point does one of the several purposes become a ‘main’ purpose when the transaction was viewed as a whole? Care must be taken not to frame the legislation in a way that the existence of an element of tax awareness in planning commercial transactions automatically makes them susceptible to attack under Section 103. They suggested that rather than applying the purpose test to the transaction as a whole, the test be used only when analysing each and every step in the transaction. This approach would make it easier to identify any step which has obtaining a tax benefit as it main purpose.

Like pornography, ‘abnormality’ was hard to define but easy to recognise. Deloitte was opposed to the inclusion in the legislation of the list of factors. It would be better if they were listed in a Practice Note or Interpretation Notice. By listing them in the legislation, a danger existed that a mechanical approach may be established in how they were applied. Reference to circular cash-flows and to the use of tax-indifferent parties were too broad and too far reaching in their consequences. The definition of tax-indifferent party was too broad. If it was to be retained, then it was better if it was restricted to entities that were outside the scope of South African tax or were specifically exempt from South African Income Tax. Deloitte was also opposed to the onus of proof in the abnormality Section.

Association for the Advancement of Black Accountants of South Africa (ABASA) submission
Mr A Ramikosi, the National President, said that Section 103 had not been very successful in combating tax avoidance in South Africa due to the complexity in proving the ‘abnormality’ requirement. The reference to structured finance might be misleading in that it may be the only transaction being targeted whereas there were other transactions that fell into this category. This process was not sustainable as it required each transaction to be examined on a case-by-case basis. This was time consuming and a waste of resources. Blanket legislation was needed that dealt with this transaction through a proper process.

In that regard, the completion of the Advanced Ruling System (ASR) was key in ensuring that SARS provided greater certainty and clear guidance in respect of the treatment of certain tax matters. This would help in closing some of the loopholes that had actually been created by the Act itself. The same applied with regards to the Practice Notes that SARS issued but were not binding on them.

The reference that this legislation could be detrimental to black economic empowerment (BEE) transactions was misleading because these transactions were not the necessarily the main beneficiaries of these structures. The Government could introduce a different piece of legislation aimed at encouraging BEE specifically rather than use it as an excuse to change the law.

Gobodo submission
Mr M Mainganya, Gobodo Director, said that the GAAR should not be used a general panacea for all loopholes in the tax laws. South Africa’s dual economy had to be taken into consideration when drafting legislation that had far reaching economic consequences. South Africa had a skills shortage and SARS was not exempt from this. It was therefore important to ensure that sufficient skills were attracted by SARS to avoid incorrect enforcement of laws. Secondly, the audit process and assessment of taxpayers should be fine-tuned in such a way that over-zealous attempts to penalise legitimate economic transactions were minimised. Thirdly, the enforcement process had to be clear enough and fair for the taxpayer to anticipate the tax consequences of their actions.

The extent of the tax avoidance problem had not been quantified in South Africa. There had been an increase in the revenue collected by SARS since 1994 and an increased level of compliance by taxpayers. These factors pointed to a decline in the level of tax evasion but they were not conclusive. Gobodo recommended that the extent of evasion be properly researched and quantified.

In the modern economy, the tax competitiveness of countries played an important role in attracting foreign capital. Therefore, the application of GAAR should not be in a way that contravened other measures that were implemented by the Government to attract foreign investment. A connection was made that the increase in the amount of resources being invested by professional firms could be directly linked to the increase in the level of tax evasion. While some engaged in impermissible tax avoidance activities, a lot more were conservative. The application of GAAR should not therefore punish legitimate, unintentional mistakes by tax advisors.

The more complex the tax laws, the more there was the likelihood that such laws could be misunderstood or be prone to abuse by taxpayers, mainly due to the lack of clarity. In the last five years, several complex and large pieces of legislation had been enacted, such as Capital Gains Tax and the Taxation of Controlled Foreign Entities. A wholesale change to the GAAR could have an unintended outcome on the application of these laws.

The successful use of the GAAR was likely to be costly as in almost all instances where the GAAR was invoked, the matter ended up in court. Therefore, a cost/benefit analysis must be considered prior to subjecting a matter to the GAAR. While factors that indicated ‘abnormality’ were listed, none were listed to indicate whether the arrangement’s main purpose was tax avoidance. The proposed ‘abnormality’ Section could lead to a formulaic approach to the implementation of the GAAR in circumstances that materially differed from each other.

Institute of Certified Public Accountants (CPA) of South Africa submission
Mr N Van Zyl, CPA Technical Executive, said that by merely comparing the number of times that SARS was successful in arguing the provisions of Section 103 in court, versus the number of times that the taxpayer was successful, was not sufficient to determine efficiency in the application of the Section. SARS argued that impermissible tax avoidance was often cloaked by complicated structures, orchestrated by large organisations and professional firms. Changing legislation that would affect all taxpayers because of a few taxpayers who wished to explore isolated sections of the tax legislation was unfair. The current tax legislation had been successfully applied to specific tax avoidance provisions.

The proposed Section 103(4) placed a substantial burden of proof on the shoulders of the taxpayer. The Section could be easily abused and applied in nearly all circumstances, even to the extent that taxpayers may not be in a position to defend themselves. Surely the taxpayer had a right not to be presumed guilty, as well as the right to structure their affairs to best suit their needs and minimise the burden of tax.

They proposed the following considerations. Schemes that were identified by SARS had to be made public. This would remove the marketability of the schemes, and would make taxpayers aware that SARS was wise to such schemes. SARS could introduce a method of naming taxpayers and their facilitators that were found guilty of using impermissible tax avoidance schemes.

More reliance and responsibility should be placed on the shoulders of the tax practitioners, thereby addressing the primary source of development of complicated impermissible schemes. This may be more effective as a practitioner would have more influence on the taxpayer.

Discussion
Mr B Mnguni (ANC) asked Gobodo how big companies were going to be stopped from abusing the tax system if there was no GAAR.

Mr Mainganya replied that they were not against the GAAR, only specific provisions of it. The US and the UK did not have GAARs but they were aggressive in enforcing their anti-avoidance rules so a GAAR was not always the solution.

Ms J Fubbs (ANC) asked the CPA about its opinion on fines for practitioners. She asked ABASA to explain further what they said about BEE transactions. She asked Gobodo what a legitimate unintended mistake was.

Mr E Retief, the CPA Chairman of their Tax Committee, said that where an advisor merely gave a taxpayer an opinion and then the taxpayer relies on that opinion to enter in to a scheme. If that scheme was adjudged to be impermissible, the advisor could face a penalty. In that case it was unfair to fine the advisor. Here it was important to distinguish between merely preparing an opinion and actually helping the taxpayer implement a tax impermissible scheme. Mr Mainganya replied that a legitimate unintended mistake should not be penalised. South Africa recognised the notion of intention and taxpayers could make mistakes in their tax returns. In cases where there was no intention to defraud the fiscus and an honest mistake was made, there should be no penalties. Mr Ramikosi said that BEE deals would not suffer as they were not the main users of such special purpose entities. It would be better if there were a separate Act just for BEE deals.


The meeting was adjourned.



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