Revenue Laws Amendment Draft Bill [B80-2008]: Treasury & SARS response to public submissions

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Finance Standing Committee

08 September 2008
Chairperson: Mr N M Nene (ANC)
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Meeting Summary

The National Treasury (NT) and the South African Revenue Services (SARS) reported back to the Portfolio Committee on the comments extracted from the submissions on the Draft Revenue Laws Amendment Bill. Over 500 pages of comment had been received and had been fully taken into account. They noted the comments highlighting the instability of the Tax Act due to the constant changes, but responded that since 1994 South Africa’s entry to the global market warranted the complexity. Some of the responses were not final, as they still needed to be approved by the Minister of Finance, who was abroad. 

Under the heading of retirement issues, the NT discussed the taxation of pre-retirement withdrawals from retirement funds, the transfer from pension to provident funds and living annuities. Estate duty on life insurance and retirement savings was an issue that had to be cleared with the Minister of Finance.
Employers and employees issues included repayable employee benefits and consolidation of deemed employee regimes. The Minister of Finance has not been approved the latter response. The response to payroll donations deductions in respect of disability expenses was discussed. The NT and SARS declined to increase the tax free ceiling to R100 000.

The responses to the comments on Secondary Tax on Company (STC) credits were explained. The conversion from STC to dividend tax was clarified. NT did not think there would be any change on the payment of exempt parties. The revised dividend base, the Contributed Tax Capital (CTC) proposal being unfair to foreign investors and treble taxation of the rollover CTC were discussed. Responses were provided to the comments on loan cancellation and services, the dividend tax withholding regime and director/officer liability. In respect of passive holding companies (PHCs). The issue of foreign companies was addressed, the overlaps had been eliminated, the shareholder tests would be simplified and the comment on Treasury Operations had been accepted. The comment on broad based employee share acquisitions was accepted. The responses on taxation of capital gains, transitional relief, de-grouping charge, election and the share issue anomalies were highlighted.

Intellectual Property Arbitrage had attracted comments on the two-year prohibition and controlled foreign companies, and these were detailed. In respect of small business, responses were directed at the extension of presumptive tax to professional services, the annual exemption of R 200 000 from the STC in respect of dividends, venture capital company (VCC) regime limits, investor preconditions, VCC income restrictions, the definition of impermissible trades and the 40% shareholding restriction on permissible investee company ownership.

Comments and responses on miscellaneous issues included depreciation allowances for residential units and Urban Development Zones, rental charges, allowances in respect of expenditure on government business licenses, allowances in respect of industrial policy projects (IPP) and the 25% rule. NT and SARS also outlined the responses to the comments on promotion of biodiversity, value added tax, and the transition for the VAT system to the Presumptive Turnover Tax (PTT). Backdating the increase of the VAT threshold was not accepted.
The response on customs concerned the issue of buying commissions. Other general responses were also given to issues relating to Research and Development (R&D) incentives, corporate conversions, share consolidations and share subdivisions, stamp duty, second provisional tax payment penalties, SARS rulings and the possession and use of firearms by customs officials.

Members asked questions around instances where municipalities were already collecting the electricity levy, what the final outcome had been of the proposal to bring forward the payment date by two days, what would be the time frame for the finalisation of the list of disability expenses, and queries were also raised on the transitional periods granted for passive holding companies (PHC) to unwind . Further questions related to the process of property valuation with reference to the depreciation allowance for residential units and Urban Development Zones, the exact limits on the management income fee and how the NT and SARS would deal with the requirement of a certificate of occupancy.

Meeting report

Draft Revenue Laws Amendment Bill (the Bill): National Treasury (NT) and South African Revenue Services (SARS) responses
Prof Keith Engel, Chief Director: Legislative Oversight and Policy Co-ordination: National Treasury, reported that the draft Revenue Laws Amendment Bills had been published on 31 July 2008 on the website, with a further release on 20 August, for public comment. By the deadline for submissions, over 500 pages of comment had been received on the Revenue Laws Amendment Bill.  These comments had been fully taken into account as the draft Bills were prepared for formal introduction. With relation to consultation times, the National Treasury (NT) and the South African Revenue Services (SARS) were of the opinion that the process was improved this time.

Many comments had been received noting that it was difficult for tax practitioners and others to comply with the Tax Act because of the constant changes. The pre-1994 tax system had been simpler but South Africa had since entered the global market which warranted the complexity. Tax law was not based on intent, but on objective criteria to provide certainty for consumers. There was a need to adjust to changes in the global economy. The initial proposals were based, in part, on the comments of tax payers and the NT would conclude that the changes were desirable to some.

Prof Engel said that effective dates were another area of contention, but every effort was made to adjust the Bills so that they did not contain retroactive changes. He referred the Committee to the comments of Prof Ed Liptak (Webber Wentzel) saying that a one-size-fits-all approach was not apposite, and there was a need to develop policy that would apply across the Board.

Mr Cecil Morden, Chief Director: Economic Tax Analysis,  National Treasury, stated that NT had prepared a briefing on the responses for the Minister of Finance. However, as the Minister was currently abroad, the necessary approval had not been obtained for some of the responses.

Mr S Asiya (ANC) asked if there was any time the Portfolio Committee could meet to review the responses once they were approved.

The Chairperson replied that he was of the view that the laws were now before the Committee and what the Committee endorsed would stand. Additional issues would have to be brought before the Committee at another meeting.

Mr Asiya agreed to proceed.

Prof Engel reported on the comments on retirement issues, in relation to the taxation of pre-retirement withdrawals from retirement funds. This was criticised as prejudicial. Clarity was required on how the previous R1 800 exemption would be incorporated, and s to whether lump sum pre-retirement withdrawal benefits would be aggregated. Prof Engel said that the pre-retirement lump sum regime would be modified and the retirement lump sum formula would be used instead of annual rate tables. No exemption would exist for pre-retirement withdrawals. Taxpayers previously benefiting from the R1 800 exemption would not trigger any forward-going offset. He noted that the transfer from pension to provident funds would remain a taxable event. He noted that pension funds were preferred as a retirement savings vehicle, as provident funds allowed too much flexibility in lump sum withdrawals.

Living annuities were not in the Bill but a request for a technical correction arising out of the Taxation Laws Amendment Act, 2008, was made, so that sums could be paid to a nominee. This was accepted. However, a second request around the requirement that the value of the underlying assets be held by the annuity provider was not accepted, since the words did not preclude life insurers from offering living annuities

The estate duty proposals in the Bill elicited the comment that the general anti-avoidance rule (GAAR) was overly broad and would cause disruption. In response National Treasury had agreed to withdraw the GAAR for estate duty for reconsideration. It had some concern about the widespread concern about the widespread use of estate duty freezing techniques, and would revert with more targeted anti-avoidance rules. Another comment was that the removal of estate duty on life insurance and retirement savings would open the door to avoidance. NT concurred that this had become a risky area and recommended that this exclusion be withdrawn. This was an issue that had to be cleared with the Minister of Finance.

Employers and employee issues had attracted a number of comments. In relation to repayable employee benefits, the first comment was that the amendments did not trigger a Pay As You Earn (PAYE) refund from SARS if an employee had to repay the full value of the benefit to the employer, and did not alleviate cash flow. NT said that the PAYE system could not cater for the proposal, on administrative grounds. A request was made that the deduction should not be based on “remuneration” but on “gross income”, which would include cash plus allowances. This comment was accepted and deductions would be allowed on salary-related funds. Another comment related to deduction for repayable employee benefits, noting that the deduction was allowed only in the later year. NT did not support the proposal for a carry back of deductions, because it would require significant systems changes. The comment was made that it was not clear whether electronic communication devices other than cellphones and computers would fall under fringe benefits. Prof Engel responded that the stance on cellphones and computers used for business purposes remained unchanged. This would encompass all electronic devices, and this would be clarified  in the explanatory memorandum.

Prof Engel noted that the response on the consolidation of deemed employee regimes had not been cleared by the Minister of Finance. The three regimes had been consolidated. They had a problem combining the anti-avoidance rules for individuals but the consolidation of regimes had simplified the world for personal service entities. It was hoped that the changes would eliminate most of the current requests for exemption certificates.

Mr Franz Tomasek, General Manager: Legislative Policy, SARS, stated that the comment that the proposed payroll donation implied that the employer was obliged to deduct tax, instead of being implemented at the option of the employer, was accepted. A further comment that taxpayers should be permitted to apply to SARS to take into account additional donations paid by taxpayers who paid Standard Income Tax on Employees (SITE), was also accepted.

Mr Morden reported on comments in relation to d
eductions in respect of disability expenses. NT said that that “long term” was already part of the definition of disability. The proposal to update the proposed regulatory list of tax deductible expenses annually was accepted. SARS was in consultation with the Department of Health and other stakeholders to determine what expenses would be included in the list.

Under broad-based employee share schemes, a request was made to increase the tax free ceiling to R100 000 over a period of five years. This was not accepted, on the basis that the R50 000 amount was the result of an analytical process, and the proposed R100 000 amount lacked an analytical base.     

Prof Engel then discussed the corporate and commercial issues. The response to the Secondary Tax on Company (STC) reforms was largely a matter of clarification on the conversion from STC to dividend tax. NT had generally accepted the comments. The main issue was the acceptance of the STC credits. This had been welcomed by taxpayers as a way to stop the double charge. He clarified the intention of the conversion from STC to dividend tax. The old tax was on companies and the new one was a tax on the dividends of the shareholders. NT had eliminated the tax on individuals on the same profit. This had a perfectly legal justification. A further comment was made that using STC credits only for a limited period might cause distortion in the economy, forcing companies to declare dividends. It was suggested that those credits should be used for a five year period. This was accepted. Another comment noted that collateral issues had not been dealt with, but Prof Engel said they would be dealt with in future, as linking the systems was currently problematic, as they were on different timelines, personnel, IT systems and would also present a problem at auditing.

On the question of the payment of exempt parties, he did not think there would be any change.

The revised dividend base had elicited complaints that this created a new set of record keeping to track Contributed Tax Capital (CTC).  This comment was not accepted as everything that was not return of capital would be deemed as a dividend. Companies had always been require to keep a second set of books and moreover, the second set to be kept under the new system was fairly simple. Comments relating to the transitional starting point and the amalgamation and unbundling transaction starting point were

Major concerns were noted about the Contributed Tax Capital (CTC) being unfair to foreign investors. The NT and SARS accepted this, and commented that the wording would be changed so that if an exempt entity, including a foreign investor, contributed an asset that was outside the South African tax net to a South Africa company, in exchange for the issue of shares, then this transaction would give rise to a CTC equal to the market value of the assets contributed.

There were complaints about the potential for treble taxation of the rollover CTC. This comment was not accepted as the additional dividends that might be created would often be offset by additional capital losses. The comment that loan cancellation and provision of services should add to CTC was noted and these points would be further clarified via the explanatory memorandum. A further comment on the CTC versus divided requested clarity as to when CTC would be repaid and what proportion of a distribution would constitute a return of CTC versus a dividend. NT responded hat  the wording would be changed to make it clear that this was elective, and the explanatory memorandum would expand on this.

Comment was made that there was no reason why the recipient should not be able to present the declaration immediately for a refund, rather than waiting for a year. Prof Engel said that this was not accepted. The goal was to have a smaller level of unnecessary withholding. The dividend tax withholding regime was more complicated, but dealt with many of the unfair aspects of the past regime.  This system was based on other world systems and had been as simplified as possible. The complexity lay in the process of a dividend being declared to a shareholder. The process passed through many hands and therefore, there were many calculations.

Mr Tomasek reported that the comment that the personal liability being placed on directors in the even to f failure to pay the dividend tax was too broad, had been partially accepted. The rules for strict liability were meant to ensure that recourse was possible and that people did not defraud the fiscus. Directors being personally liable was meant to concentrate the mind to ensure the correct deduction. NT would narrow these rules to exclude listed companies, regulated intermediaries and other applicable situations.

Prof Engel added that he was sure that there would be a number of small anomalies on withholding. He referred to the written document for some of the other comments and responses in this area.

Many varied comments were made on passive holding companies (PHCs). NT had tried to target the areas of concern and were generally retaining the regime. He added that PHC measures were not something new internationally. On the comment asking why foreign companies should be subject to the PHC provision, he responded that NT had now agreed that foreign companies would be excluded. The overlaps had been eliminated, the shareholder tests would be simplified and the comment on Treasury Operations had been accepted.

The comments that the application of punitive tax rates under the passive holding company regime could apply to some broad based empowerment deals was accepted, and cross-issue funding transactions as described in section 24B(3A) would be excluded. The concerns around the 40% charge on capital gains were accepted. NT said that the regime was only intended to correct the potential arbitrage in ordinary rates between companies and individuals, and the contradictions would be removed. In respect of comments made on the transitional relief NT was willing to look at the individual cases. Taxpayers would have to come forward. In respect of the de-grouping charge, NT and SARS would clean up the issues around the double tax so that it would work as intended. He stated that the comment asking for reinstatement of the election was not accepted. An “election out” approach was generally more beneficial. This was a reverse election where people would have to elect out of the rollover. It was clarified also that foreigners would be excluded from this regime. The share issue anomalies comment had been partially accepted, and linkage would be established through use of the changed terminology in section 7.

There had been three comments on Intellectual Property (IP) Arbitrage, concerning the Two Year Prohibition, as more fully set out on page 20 of the written response. Mr Tomasek explained that this had now been narrowed down to two regimes – bare dominium schemes and situations where the same going concern was being charged for Intellectual property which had previously been in the tax net. Generally, the NT and SARS would make sure that the trade and the IP would stay together. As a rule, they would look to the underlying trade.

The controlled foreign company (CFC) comment was partially accepted. This was an old standard rule that had been in place for seven years. They would concede to softening the rule if individuals went before SARS. There was a request for an active royalties exemption. The NT and SARS did not think this should be left up to a ruling. As a prophylactic measure, they thought an active royalty should not be a ruling and would limit that to when the royalty was received from foreigners. They still had to look at the request on what happen when a South African company took over a foreign entity. This was currently narrow but open to discussion.

Mr Tomasek reviewed the comments on the small business presumptive tax. There was not much comment initially and SARS had specifically sought informal comment. One suggestion was to allow  professional services, trading trusts and VAT vendors to use the presumptive tax regime. However, SARS did not accept this. There was a simple, single tax table at present. The question arose on whether there would have to be a separate tax table for the businesses that had higher profit margins. This was an issue of setting the appropriate rates. SARS also noted was that professionals often had to keep detailed records – for instance optometrists, dentists and consultants – and therefore would be in a position also to keep detailed accounting records.  He did think that SARS could work on the definition of “professional services”. In respect of the annual exemption of R 200 000 from the STC in respect of dividends declared by the entity, the comment was made that the limit should not be a monetary amount. This was not accepted. The imposition of STC or the Dividend Tax on distributions in excess of R 200 000 went some way to counter the use of the very small business regime to strip companies with substantial pre-existing retained earnings of those earnings, tax free.

Mr Morden remarked that the venture capital company (VCC) regime was meant to help small businesses. NT exercised caution in looking at VCC tax incentives, as these complicated the tax system. It was suggested that the monetary thresholds were too high, but NT did not agree and decided that the limits on the VCCs in the form of the thresholds would be retained for now. Comment was made that the proposed period of 18 months to commence trade, for investee companies, from the time that the shares were issued was considered to be too short. NT believed there might be a case for this and had therefore increased the period to 24 months for junior mining or exploration activities.

An important clarification of this partial acceptance, was that this was only applicable to natural persons and listed companies. There were possibly vehicles to undermine the thresholds in unlisted companies.

The comment in relation to how deductions on investor preconditions be calculated had not been accepted. VCC income restrictions comment had been accepted, and management fee income to be earned by a venture capital fund would be allowed. The criticism that the VCC percentage investment in small investee companies was too narrow was not accepted because the intention was to provide equity financing in the bottom of the market. The definition of impermissible trades would be redrafted to accommodate tourism-type activities. The 40% shareholding restriction on permissible investee company ownership, would be increased to 49%. The condition to this partial acceptance was that they would have to guard against a VCC having a controlling interest in a company.

Miscellaneous income tax issues were then reviewed. On the depreciation allowances for residential units the requirement for occupancy certificates, which were not always available for old buildings, would be reviewed. The comment on the rental charge was accepted. Employer sales of low cost housing to employees was meant as an incentive for low cost housing and the rental adjustment would be made over time using the Consumer Price Index or a similar indicator. SARS had noted that certain fringe benefits might accrue to the employers who sold to employees. This was beyond the scope of the Bill and would receive attention in future.

Prof Engel reviewed the comment on the allowances in respect of expenditure on government business licenses. He responded that there were costs associated with the acquisition of licences and certain businesses required these licences in order to operate. This was partially accepted as, in general, this would be restricted to the mining, telecommunications and gaming industries. There were also small amendments to perpetual licences.

The allowances in respect of industrial policy projects (IPP) had a number of exclusions from the incentive programme, and submissions had requested that these be removed. The NT and SARS had noted but not accepted this, as the incentive programme was designed to be targeted at the manufacturing sector and to deal with generic market failures and support the objective of the IPP.
NT would clarify that the 25% rule for upgrades was not for gross assets, but for assets specific to the project. Any inference to the contrary would be corrected.

On the promotion of biodiversity, the comment that suggested a 10% waiver was not accepted, but had to be revisited.

In terms of deductions for a restricted area, it was not the place of the NT and SARS to make that decision. It was the precept of the Department of Environmental Affairs and Tourism to choose the priority area. The NT and SARS would then provide the tax assistance.

Mr Tomasek reviewed value-added tax (VAT). The responses on this were outlined on the transition for the VAT system to the Presumptive Turnover Tax (PTT). Additionally, exit charges on assets did not have to be paid, as SARS wanted as few as possible obstacles to the conversion. Backdating the increase of the VAT threshold was not accepted.

Under the issue of customs, the buying commission issue would be clarified in the explanatory memorandum.

Prof Engel discussed the comments on the Research and Development (R&D) incentive.

The comment on corporate conversions, share consolidations and share subdivisions was accepted. The proposed amendments would be withdrawn and the amendment would be reconsidered at a later stage.

NT had respectfully declined the suggestions in regard to stamp duty.

Mr Tomasek dealt with the Draft Revenue Laws Second Amendment Bill, under which suggestions had been made for various alternative methods of calculation. These had been partially accepted. An 80% minimum was proposed but the Minister of Finance would have to make the final call on that. An exceptional case to the penalty was detailed on page 36 of the written responses.

Other issues related to SARS rulings and the possession and use of firearms. On the former, SARS would not publish duplicate rulings, and on the latter the reference the reference to “imminent or future death” has been deleted, and wording consistent with the provisions of the Correctional Service Act, 1998, referring to self-defence or defence of another, had been substituted.

Discussion
Dr D George (DA) referred to instances where municipalities and other authorities entitled to administer the proposed the electricity levy were already collecting the levy. He asked if SARS was receiving this money.

Mr Morden responded that SARS did not receive any comment on the electricity levy and as such had not presented anything on it. The present implementation date was set for 1 October 2008. The comments they had received highlighted the need to communicate more with the press on this issue. There was currently no law for municipalities to collect the levy. Mr Tomasek had alerted them to this issue. He had asked his colleagues at the NT to investigate and would get back to the Committee with a response.

Dr George referred to the proposed bringing-forward of the payment date by 2 days. He asked if this had been discussed, and what the final outcome was.

Mr Tomasek responded that bringing the date forward did not elicit a lot of strong opinion. SARS did receive one suggestion that a notice period should be instituted. SARS thought that this made sense and thought that the period should be 30 days notice of the change.

Mr S Asiya (ANC) referred to the responses on the disability expenses and the list mentioned. He noted that no time frame was given for the finalisation of the list.

Mr Morden responded that it was SARS’s responsibility to compile the list. The list needed to be finalised before the finalisation of the Bills, therefore it would have to be in place by 1 March 2009.

The Chairperson referred to the comment (on page 18) that transitional periods be granted for passive holding companies (PHC) to unwind. He was under the impression that the submissions pertained to existing PHCs, and sought clarity on the comment and a response.

Prof Engel responded that a PHC was a company like any other and would generate most of its income from financial instruments (passive income). There was a concern that people would try to make their companies look like a PHC by increasing passive income and moving active business out, and then attempt to liquidate tax-free. In order to entertain the comment on the transitional period, NT would have to be presented with actual cases where this was applicable.

The Chairperson referred to comment on page 25 that the management income fee would be allowed within limits. He asked what exactly these limits would be.

Mr Morden responded that there was a certain expectation that management fees should be defined as a fixed percentage amount. NT was yet to get a handle on that but did not want other fees to creep in, giving rise to an exorbitant management fee.

The Chairperson referred to the comment on depreciation allowance for residential units and Urban Development Zones. He asked how the NT and SARS would deal with the requirement of a certificate of occupancy.

Prof Engel responded that the depreciation allowances were a special incentive that would have a reporting requirement. This was a core problem, as they were trying to find another municipal certificate that was granted regularly to use as a reporting document. For this, they would have to rely on the municipalities to come forward with a suggestion.

Mr Morden replied that the alternative would be to scrap this requirement for existing buildings.

Mr K Moloto (ANC) queried the response on rental fees. He asked how the process of valuation would work and whether it was intended to value the building as well as the land.

Mr Morden responded that this measure was aimed at providing an incentive for low cost housing (LHC), and so NT had to come up with some measure. This had resulted in the threshold of R200 000 for stand- alone housing and R 250 000 for apartments. The residential property was a challenge as the cost of building the house may be the same, but the cost of the land differed from area to area. For the purposes of selling the houses, they would ignore the land value. For the purposes of rental they could not ignore land value, as it was material.

The meeting was adjourned.

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