Tuesday 12 February 2013

Penalties Given Hinge On Taxpayer’s Conduct

THE Tax Administration Act, No 28 of 2011, took effect from October 2012 and, as a result, the new rules governing the imposition of the understatement penalty also took effect.

Previously, the Commissioner: South African Revenue Service (SARS) could levy additional tax of up to twice the tax which otherwise would have been payable in accordance with section 76 of the Income Tax Act, No 58 of 1962.

Typically, a taxpayer subjected to an audit would be invited by SARS to advance reasons why additional tax should not be imposed in the particular case prior to the issue of an additional assessment. The manner in which section 76 was drafted meant that SARS was entitled to levy up to 200% additional tax where the taxpayer made a default in rendering a return in respect of any year of assessment, or omitted from his return any amount which ought to have been included therein.

The Commissioner was conferred a discretion to remit the additional tax where he was of the opinion that there were extenuating circumstances, but was unable to remit the tax where he was satisfied that any act or omission on the part of the taxpayer was done with the intent to evade tax.

The enactment of the Tax Administration Act has changed the old approach in that the Tax Administration Act itself prescribes the quantum of the understatement penalty to be imposed, which depends on the taxpayer’s conduct.
Standard Case
If obstructive, or if it is a ‘repeat case’
Voluntary disclosure after notification of audit
Voluntary disclosure before notification of audit
“Substantial understatement’
Reasonable care not taken in completing return
No reasonable grounds for ‘tax position’ taken
Gross negligence
Intentional tax evasion
 Section 223 of the Tax Administration Act sets out a table (see above) which prescribes the quantum of understatement penalties to be imposed depending on the taxpayer’s conduct.

It is important to note the definitions contained in section 221, which apply directly to the imposition of the understatement penalty. The Tax Administration Act defines a “repeat case” as a second or further case of any of the behaviours listed in the table which prescribes the understatement penalty percentage to be imposed, within five years of the previous case.

A “substantial understatement” means a case where the prejudice to SARS exceeds the greater of 5% of the amount of tax properly chargeable or refundable under a tax act for the relevant period, or R1m. A “tax position” means an assumption underlying one or more aspects of a tax return, specifically whether or not an amount, transaction, event or item, is taxable or is deductible, or may be set off.

Where a taxpayer chooses to make a voluntary disclosure before notification of an audit, the understatement penalty is reduced to zero, in all cases except when the taxpayer was grossly negligent or intentionally evaded tax.

In those cases, where a taxpayer chooses to make a voluntary disclosure after SARS has commenced an audit, the understatement penalty may range from 5% to 75%, depending on the taxpayer’s specific behaviour.

Where SARS takes the view that the taxpayer has been obstructive, or has previously been subjected to the understatement penalty, the understatement penalty will range from 50% to 200%, depending on the taxpayer’s behaviour.

In what is referred to as a “standard case” in the table, the understatement penalty will range from 25% to 150%, depending on the taxpayer’s specific conduct.

When determining the amount of the understatement penalty to be levied, the Commissioner is required to reach a conclusion as to the taxpayer’s behaviour and, at the same time, to determine whether the taxpayer should be treated as a standard case, or whether the taxpayer is a repeat offender — which would give rise to a higher level of understatement penalty.

As a result of the enactment of the table to be used by SARS in determining the understatement penalty to be levied, the only occasion on which no understatement penalty may be levied is where the taxpayer goes forward to SARS prior to the notification of an audit. In all other cases, the taxpayer will face an understatement penalty, which is more onerous than what was the case under section 76 of the Income Tax Act.

If SARS conducts an audit on a taxpayer’s affairs, and decides that certain deductions claimed do not qualify as such under the provisions of the Income Tax Act, and the adjustment is regarded a substantial understatement, the penalty could amount to 25% or 50%, depending on the taxpayer’s specific behaviour.

In levying the understatement penalty as a result of a substantial understatement, it is not necessary that SARS takes account of the taxpayer’s intention which gave rise to that adjustment. The only occasion on which the Commissioner must remit a penalty imposed for a substantial understatement is if SARS is satisfied that the taxpayer made full disclosure of the reportable arrangement which gave rise to the prejudice to SARS as defined in section 34 of the Tax Administration Act no later than the date that the relevant return was due, and was in possession of an opinion issued by a registered tax practitioner as defined in section 239 of the Tax Administration Act  The obligation to disclose under section 34 of the Tax Administration Act relates only to those arrangements regarded as reportable arrangements as defined in the act.

Section 223(3) of the Tax Administration Act requires that the opinion was issued by no later than the date on which the relevant return was due to the Commissioner, took account of the specific facts and circumstances of the arrangement, and confirmed that the taxpayer’s position is more likely than not to be upheld if the matter proceeds to court.

It is critical that, in future, taxpayers exercise reasonable care in completing their returns, failing which the understatement penalty prescribed in the table will be levied.

Where SARS reaches the conclusion, based on the facts of the taxpayer’s case, that reasonable care was not taken in completing their tax return, the understatement penalty will be levied at the level of 50% or 75%, depending on whether it is a standard or a repeat case. Clearly, where the taxpayer goes forward under the voluntary disclosure programme, the understatement penalty will be reduced.

"It has become almost impossible for taxpayers to satisfy the Commissioner that no understatement penalty should be levied."

"When determining the amount of understatement penalty to be levied, the Commissioner is required to reach a conclusion as to the taxpayer's behaviour."

Where SARS takes the view that the taxpayer had no reasonable grounds for the tax position taken, the understatement penalty is increased. Where, for example, a taxpayer has sought an opinion on a particular aspect prior to the finalisation of their tax return, it would be difficult for SARS to levy the understatement penalty on the basis that the taxpayer had no reasonable grounds for the tax position taken by the taxpayer.

Where the Commissioner is satisfied that the taxpayer was grossly negligent, the understatement penalty will be increased. Where a taxpayer, for example, fails to make full and proper disclosure in their tax return, they would, in all likelihood, be regarded as having been negligent, and thereby face a greater understatement penalty.

The highest level of understatement penalty is applicable in those cases where a taxpayer has it intentionally evaded tax, and this would comprise those cases where a taxpayer has deliberately understated income, falsified invoices to claim deductions, etc. Besides facing the risk of enhanced understatement penalties, taxpayers in such cases would face the risk of criminal prosecution as well.

The rules regulating the levy of the understatement penalty should ensure greater consistency in the manner in which penalties are levied on taxpayers. The difficulty which the Commissioner faces will be to ascertain the taxpayer’s behaviour in a particular case, and thereby ensure that the taxpayer is subjected to the correct level of understatement penalty.

Previously, under section 76, taxpayers were able to satisfy the Commissioner that additional tax should not be levied because of the particular circumstances of the case.
As a result of the introduction of the penalty table set out in this article, it has become almost impossible for taxpayers to satisfy the Commissioner that no understatement penalty should be levied.

Based on the transitional rules in the Tax Administration Act, it is questionable whether SARS may levy the understatement penalty by using the penalty table on tax returns submitted before 1 October 2012 instead of the old additional tax rules.

Where a taxpayer is subjected to an audit by SARS, and is subjected to the understatement penalty, they are entitled to ask the Commissioner for reasons why the particular amount of penalty was levied.

Dr Beric Croome is a tax executive at ENS. This article first appeared in Business Day :Business Law & Tax Review (February 2013) Free Image via ClipArt.

Wednesday 6 February 2013

The Tax Administration Act and Taxpayers' Rights


The Tax Administration Act, No 28 of 2011 (‘TAA’), was promulgated on 4 July 2012 and took effect on 1 October 2012, except for certain specific provisions dealing with the imposition of interest payable to the Commissioner: South African Revenue Service (‘SARS’) by taxpayers and also by the Commissioner to taxpayers.  The TAA provides that, once the new interest rules take effect, interest will be compounded on a monthly basis, both in respect of interest payable by a taxpayer on the late payment of tax, and also in respect of refunds payable by SARS to taxpayers.

The TAA was enacted to regulate the administrative provisions of all tax Acts administered by the Commissioner: SARS.  In preparing the legislation, the Commissioner consulted extensively, seeking input on the legislation, with a view to ensuring that its provisions comply with the Bill of Rights contained in the Constitution of the Republic of South Africa, Act 108 of 1996, as amended (‘the Constitution’). 


The TAA creates the legal framework for the creation of the Tax Ombud in South Africa.  SARS has indicated that the Tax Ombud will follow the model adopted by the United Kingdom in creating a Tax Adjudicator’s Office, and the Tax Ombud’s Office in Canada.  The legislation provides that the staff of the office of the Tax Ombud must be employed in terms of the SARS Act, and will be seconded to the office of the Tax Ombud from SARS.  The TAA requires that the Tax Ombud be appointed within one year from 1 October 2012.  The Minister of Finance has indicated that it was intended to appoint a Tax Ombud before the end of 2012.

The mandate of the Tax Ombud, is to review and address complaints by a taxpayer regarding a service or a procedural administrative matter.  The Tax Ombud must review a complaint lodged by a taxpayer and resolve it either through mediation and conciliation, and must act independently in resolving taxpayers’ complaints.  The Tax Ombud is required to follow informal, fair and cost-effective procedures in resolving taxpayers’ complaints.  The creation of the Tax Ombud is to be supported in that it creates a mechanism for complaints to be dealt with by a formalised procedure, despite the fact that the Tax Ombud may be located within the SARS structure. 

Section 17 of the TAA makes it clear that the Tax Ombud may not review legislation or tax policy, or SARS policy or practice generally prevailing, or deal with any matter subject to objection and appeal under a fiscal statute, or any decision which is before the Tax Court.  In those overseas countries where Tax Ombud Offices have been created, the resolution of legal disputes falls outside of the jurisdiction of the Tax Ombud and, in this respect, South Africa is adhering to the international norm.

The TAA provides that once the Tax Ombud receives an issue falling within the Ombud’s mandate, the Ombud may determine how the review of the taxpayer’s complaint is to be conducted, and whether a review should be terminated before completion of the matter.
Currently, where taxpayers encounter administrative difficulties with SARS, it is necessary to raise the matter first with the official dealing with the taxpayer’s affairs and failing resolution at that level, to refer the matter to the Branch Manager of the Receiver of Revenue office in question.  

Only once that procedure has failed to resolve the matter, may be the matter be escalated to the SARS Service Monitoring Office.  Section 18 of the TAA requires the taxpayer to exhaust available complaints resolution mechanisms in SARS before resorting to the Tax Ombud, unless there are compelling circumstances not to do so and this follows international practice.

It is provided that the Tax Ombud may entertain a request for assistance without exhausting SARS internal complaints procedures where the matter raises systemic issues or exhausting the complaints resolution mechanism will cause undue hardship to the taxpayer, or exhausting the SARS procedures is unlikely to produce a result within a period of time, which the Tax Ombud considers reasonable.

The Tax Ombud has a duty to submit reports to Parliament on an annual basis, and to identify those issues which are causing problems for taxpayers, and it is hoped that this will ultimately enhance tax administration in South Africa and reduce the administrative burden faced by taxpayers.


The TAA also seeks to ensure that taxpayers’ rights are protected where a taxpayer faces a criminal investigation.  The Act requires that audits and criminal investigations are separated, ensuring that the rights of an accused under the Constitution are protected.  This was previously not properly dealt with under the provisions of the Income Tax Act or other fiscal statutes.


One power contained in the Act that has attracted much comment is SARS’ power to conduct a search-and-seizure operation without a warrant to protect documents from imminent destruction by taxpayers.  Previously, SARS could only search a taxpayer’s premises and seize documents when authorised to do so by a warrant issued by a court in terms of section 74D of the Income Tax Act.  

Section 63 of the TAA provides that a senior SARS official may, without a warrant, exercise the powers contained in section 61 of the TAA, which regulates the search of premises and seizure of documents.  It is intended that the search of premises without a warrant should only take place in exceptional circumstances, but there is always the concern that the power may be abused.  It is appropriate to point out that seventeen other statutes in South Africa confer on state organs a similar power to conduct search-and-seizure operations without a warrant.  It remains to be seen if this part of the TAA will face a Constitutional challenge at some point.


Previously, taxpayers experienced frustration in dealing with SARS, in that a letter of inquiry would be received from SARS and the taxpayer would submit a response thereto, and sometimes many months, and in some cases, unfortunately, even years, would pass before the taxpayer received any indication from SARS as to whether the inquiry or audit was completed, or, alternatively, what adjustments were to be made to the taxpayer’s assessments.  

Fortunately, the TAA contains a provision whereby SARS must advise a taxpayer as to the status or progress of an audit conducted on their affairs.  There was, previously, no such provision under the other fiscal statutes.  In accordance with section 42(1) of the TAA, the Commissioner was required to release a Public Notice setting out the details and processes relating to the manner in which taxpayers should be kept informed of audits conducted by SARS.  

Under Rule 2 of the Public Notice, dealing with keeping taxpayers informed, a SARS official responsible for an audit instituted before but not completed by the commencement date of the TAA, or instituted on or after 1 October 2012, must provide the taxpayer subject to audit with a report indicating the stage of completion of the audit.  

Where the audit started before the commencement date of the TAA, the Commissioner must provide feedback within 90 days of the TAA’s commencement, and within 90 day intervals thereafter.  Where SARS instituted an audit on or after 1 October 2012, the report must be submitted within 90 days of the start of the audit, and within 90 day intervals thereafter until the audit is concluded by SARS.

The Commissioner is required to advise the taxpayer as to the current scope of the audit, the stage of completion of the audit, and relevant material still outstanding from the taxpayer.
It is hoped that the Commissioner: SARS will adhere to this requirement, thereby alleviating the frustration that occurred in the past, that taxpayers subject to an audit would hear nothing from SARS for a long period of time and then suddenly be requested to supply additional information within a very short period of time.

Previously, the Commissioner would also not advise a taxpayer as to when an audit had been completed, particularly, when no adjustments were made in the calculation of the taxpayer’s taxable income.  Since the commencement of the TAA, it would appear that SARS is now advising taxpayers that an audit has been completed and that no adjustments are being made in the calculation of taxable income.


Where, however, the audit identifies amounts which SARS wishes to subject to tax, it is necessary that SARS advises the taxpayer thereof, and also furnishes the grounds or reasons for the assessment issued to the taxpayer.  The Commissioner is required to furnish the grounds of an assessment within 21 business days of the assessment being issued to the taxpayer.  

Previously, the taxpayer had a right to request reasons for assessments issued by SARS, but no provision was contained in the Income Tax Act compelling SARS to issue reasons within a specified period after the issue of an assessment.  The TAA therefore improves the position for taxpayers in this regard.


The TAA also contains a permanent voluntary disclosure programme whereby taxpayers can approach the Commissioner to rectify pervious defaults under any fiscal legislation, other than customs and excise.  If taxpayers have failed to comply with their obligations under the fiscal laws of the country, they are, therefore, entitled to rectify those defaults under the framework contained in the TAA.  

Unfortunately, the provisions of the Voluntary Disclosure Programme contained in the TAA are not as attractive as that contained in the Voluntary Disclosure Programme and Taxations Laws Second Amendment Act, No 8 of 2010.  This is by virtue of the fact that, under the TAA, taxpayers will remain liable for interest due to SARS, and, depending on their particular circumstances, may remain liable to an understatement penalty ranging from 5 to 10%.


The TAA also amends the time frame within which taxpayers need to object to an assessment.  Previously, a taxpayer was required to submit an objection within 30 days after the date of the assessment, which was defined in the Income Tax Act as the due date of the assessment.  This was typically a date some time after the date on which the assessment was issued.

Under the TAA, the objection must now be lodged within 30 days of the date of issue of the assessment, which generally means that an objection must be lodged earlier than what would have been the case under the Income Tax Act. 


The Income Tax Act previously contained no procedure dealing with the issue of tax clearance certificates applied for by taxpayers.  The TAA now contains specific provisions regulating the manner in which tax clearance certificates may be applied for and issued by the Commissioner.  The TAA requires that SARS must issue or decline to issue the tax clearance certificate within 21 business days from the date that the application is properly filed.  Unfortunately, it would appear that, historically, SARS did not issue tax clearance certificates promptly, and it is hoped that the new statutory provisions in the TAA will be complied with.


The TAA contains many provisions with which taxpayers are familiar, but also refines and modifies a number of provisions which were contained the various fiscal statutes and introduces various new provisons.  It is important that taxpayers and SARS officials alike are aware of the provisions of the TAA so as to ensure that the provisions of the TAA are complied with.  In drafting the TAA, the Commissioner was sensitive to the rights of taxpayers, and sought to ensure that the TAA does not infringe on the rights of taxpayers.  

Certain of the provisions contained in the TAA referred to above do enhance the protection of taxpayers’ rights by way of new provisions which were not found in the other tax Acts.  It remains to be seen, though, whether the Commissioner is geared to providing taxpayers with regular feedback on the status of audits, and to deal properly with the other provisions contained in the TAA.

*Dr Beric Croome is a Tax Executive at Edward Nathan Sonnenbergs Inc.  This article appeared in the January 2013 issue of TaxTalk newsletter