Thursday 15 September 2011

SARS's Beady Eye on Intragroup Transactions

In June, the Treasury released the Draft Taxation Laws Amendment Bills, 2011 that contained a proposal that section 45 of the Income Tax Act be suspended with effect from June 3.

Section 45 of the act allows for qualifying intragroup transactions to take place without adverse tax consequences and the South African Revenue Services (SARS) wanted a period of 18 months to allow it time to investigate what it perceived as abuse of the section.

On August 3, the Treasury and SARS issued another media release regarding section 45 intragroup transactions that contained details of more changes to the provision.

In that press release the Treasury and SARS said that information regarding transactions concluded in terms of section 45 had been obtained. The primary concern identified by the Treasury and SARS related to excessive debt being created on the transfer of assets concluded in terms of section 45.

The Treasury has confirmed that commercially orientated transactions should be allowed to proceed where such transactions do not result in an erosion of the tax base. S as result the Treasury has proposed that a new provision, namely section 23K, be introduced in the legislation to restrict the interest deductions associated with debt used to finance the acquisition of assets in terms of transactions concluded under sections 44, 45 or 47.

The Treasury has indicated that the results flowing from transactions concluded under section 45 will face different consequences, depending on the nature of the transactions in question.

It is important that the Receiver has the dedicated
resources to deal with applications promptly.
Interest deductions, relating to transactions that fall into the so-called “green channel,” will be deductible automatically. The interest deduction on debt associated with so-called “amber transactions” will only be permitted upon pre-approval by the authorities. Transactions that are not approved by the authorities will not be entitled to an interest deduction.

The authorities have confirmed that the above-mentioned proposals are intended as a short-tern solution to the problems identified in administering section 45. It is anticipated that a longer-tern set of solutions dealing with the deduction of interest on so-called “excessive debt” and the characterisation of debt, remain on the agenda for 2012 and into the future.

Originally, the Treasury identified concerns regarding the perceived abuse of section 45 and the amendments proposed are intended to take effect from June 3 this year.

SARS and the Treasury have proposed that the restriction on interest deductions associated with debt used to fund the acquisition of assets also apply to sections 44 and 47. The amendments to the interest deduction available in respect of transactions concluded in terms of sections 44 and 47 are proposed to take effect from August 3.

The Treasury has indicated that preference shares will be permitted as a means of funding section 45 transferred assets, subject to the proviso that tax cost associated with intragroup debt and preference shares will be subject to tighter restrictions.

However, those section 44, 45 and 47 reorganisations that rely on interest-bearing debt will be regarded as falling into the amber category of transactions which will, in turn, be classified into two broad groups. Where the interest-bearing debt associated with section 44, 45 and 47 restructures is funded within the group of companies and does not result in any loss or possible loss to the fiscus, automatic pre-approval is required. However, a discretionary approval process will apply where the interest-bearing debt, arising from the restructure, may result in a loss of revenue.

The Treasury has advised that the decision to approve or decline a restructure relying on debt financing will depend on the effect of the interest to be incurred on the tax payable by the debtors and creditors acting as parties to the debt, including the nature of the debt instrument.

As a result of the proposals issued on August 3, those transactions that can be classified as pure intragroup transfers and transactions reliant on financing by group companies should, in the main, fall into the so-called “green channel,” which will be allowed to proceed without securing prior approval from SARS.

However, those transactions regarded as leverage buy-outs and securitisations will fall into the so-called “amber channel” and will be closely scrutinised with SARS o ascertain whether approval for those transactions should be granted.

Those taxpayers, consisting of members of a “group of companies” as defined in the act, will be entitled to restructure their affairs using the intragroup provisions contained in section 45 where no excessive debt arises as a result of corporate restructure.

Clearly, the Treasury is concerned where excessive debt is created with the result that profits, which would otherwise have been subjected to tax, are effectively stripped out through substantial interest deductions, which may be received by either exempt entities or by persons who are not resident and, therefore, are not liable to tax on the interest paid.

The proposal to require that certain transactions be approved by SARS is understood. What is important, though, is that SARS has the dedicated and specialised resources to deal with the applications for approval promptly so as to ensure that legitimate transactions are not stifled in SA.

On August, 12, SARS published a draft guide on the disclosure of reorganisation transactions which summarises the proposed changes to sections 44, 45 and 47 of the legislation, including the insertion of section 23K into the act.

Further, it is envisaged that taxpayers will be required to submit a specialised return in terms of section 41(5) where a taxpayer acquires an asset through an asset-for-share transaction in terms of section 42, or a transaction envisaged in section 44, 45 and 47 of the act.

Taxpayers will be required to submit a return under section 41(5) where any f the following circumstances exist:

  •            The transactions the taxpayer has entered into to acquire an asset or assets cumulatively exceed R30m over a period of 12 months
  •             An asset or assets are transferred to the taxpayer at market value in terms of an intragroup transaction in terms of which section 45 of the act applies and the total value of an asset or assets exceeds R10m; or
  •       The taxpayer is required, in terms of section 23K(3) to apply for approval in order to secure a deduction of interest, and such approval was not requested by the company.

Those companies that require approval under section 23K(3) will be required to identify all parties to the restructure transactions and supply details of the debt instruments that are used, directly or indirectly, to acquire the assets in terms of the restructure transaction.

  •          Dr Beric Croome is a tax executive at Edward Nathan Sonnenbergs. This article first appeared in the Business Day supplement, Business Law & Tax Review, September 2011. Free Image from ClipArt

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