Amendment takes Human Error into Account

In the National Budget, presented on 27 February 2013, the Minister of Finance indicated that the rules regulating the imposition of the understatement penalty in terms of the Tax Administration Act, No 28 of 2011, would be amended to deal with those case where a taxpayer made an inadvertent error in filing a tax return with the South African Revenue Service.  

This was on the basis that, without the amendment, a taxpayer could have faced a penalty of 25% or 50%, even though the taxpayer had made a genuine mistake such as a transposition error in filing their return.

Previously, under section 76 of the Income Tax Act, No 58 of 1962, as amended (‘the Act’), the Commissioner was empowered to levy additional tax of 200% of the tax which should have been paid by a taxpayer.  

The Commissioner was then conferred a discretion to reduce the additional tax where there were extenuating circumstances, and, furthermore, it was required that the taxpayer had the intent to evade taxation for the additional tax to be imposed.  

Thus, the provisions contained in section 76 of the Act were subject to the exercise of a discretion by the Commissioner, and determined by taking account of subjective criteria.

With the introduction of the Tax Administration Act, the penalty regime was revised to introduce objective criteria such that the amount of penalty would be determined by the taxpayer’s behaviour.

Currently, the understatement penalties which may be levied by SARS under the Tax Administration Act are as follows:

Item	Behaviour	Standard Case	If obstructive or if it is a ‘repeat case’	Voluntary disclosure after notification of audit	Voluntary disclosure before notification of audit
(i)	‘Substantial understatement’	25%	50%	5%	0%
(ii)	Reasonable care not taken in completing return	50%	75%	25%	0%
(iii)	No reasonable grounds for ‘tax position’ taken	75%	100%	35%	0%
(iv)	Gross negligence	100%	125%	50%	5%
(v)	Intentional tax evasion	150%	200%	75%	10%

Section 221 defines a “substantial understatement” as a case where the prejudice to SARS exceeds a rate of 5% of  the tax  properly chargeable or refundable under a tax act for the relevant tax period or the amount of R1 million.  

Thus, where a taxpayer submits a tax return which is subsequently audited by SARS and an adjustment is made thereto such that the tax payable is increased by R1 million or 5% of the amount of tax properly chargeable under a tax act, the penalty which may be levied may amount to 25% for the first occasion of such an event or 50% where the taxpayer has previously been subjected to an understatement penalty within the last five years.

Thus, the quantum of the understatement penalty which may be levied on a taxpayer will be determined by the taxpayer’s behaviour and the level of penalty will increase depending on the nature of the behaviour of the taxpayer.

On 4 July 2013, the National Treasury released the draft Tax Administration Laws Amendment Bill 2013 for comment.  That Bill proposes various changes to the imposition of the understatement penalty such that the level of penalties is reduced in various cases.  

Accordingly, the revised table will take effect on that date that the Bill is promulgated. 

The Bill therefore proposes that the understatement penalty table be amended along the following lines:

Item	Behaviour	Standard Case	If obstructive or if it is a ‘repeat case’	Voluntary disclosure after notification of audit	Voluntary disclosure before notification of audit
(i)	‘Substantial understatement’	10%	20%	5%	0%
(ii)	Reasonable care not taken in completing return	25%	50%	15%	0%
(iii)	No reasonable grounds for ‘tax position’ taken	50%	75%	25%	0%
(iv)	Gross negligence	100%	125%	50%	5%
(v)	Intentional tax evasion	150%	200%	75%	10%

The draft memorandum on the objects of the Tax Administration Laws Amendment Bill 2013 indicates that the rationale for amending section 223 is to align the percentage of the penalty with comparative tax jurisdictions where largely similar penalty regimes apply. 

The Bill reduces the level of understatement penalty in respect of substantial understatement, reasonable care not taken in completing a return and no reasonable grounds for tax position taken by the taxpayer.

The version of the draft Bill released on 4 July 2013 indicated that the reduction in the level of understatement penalty would take effect from 1 October 2012.  

However, on 5 July 2013, the SARS website indicated that the draft Tax Administration Laws Amendment Bill 2013 and its memorandum of objects had been replaced with new versions.  

From a review of the versions released on 5 July 2013, it is apparent that it is now proposed that the effect date of the changes in the level on understatement penalty will be the date on which the Tax Administration Laws Amendment Bill 2013 is enacted.  

Those taxpayers who have received assessments from SARS and have been subjected to the understatement penalty will feel aggrieved in that the level of understatement penalty imposed on them is greater than what will be applied to taxpayers in future years, even though SARS admits that the sanctions originally contained in section 223 of the Tax Administration Bill were out of line with comparative tax jurisdictions where similar penalty regimes are applied.

It must be remembered that SARS is compelled to remit a penalty imposed for a substantial understatement in terms of section 223(3) of the Tax Administration Act where the taxpayer made full disclosure of the arrangement as defined in section 34 of the Tax Administration Act that gave rise to the prejudice to SARS by no later than the date that the relevant return was due to SARS and was in possession of an opinion by a registered tax practitioner in the prescribed form.  

The draft Tax Administration Laws Amendment Bill 2013 proposes an amendment to section 223(3)(b) that the opinion must be issued by an independent tax practitioner.  The draft memorandum on the Tax Administration Laws Amendment Bill 2013 indicates that the amendment requires that the opinion relied on by the taxpayer must be given by a tax practitioner that is independent from the taxpayer.  

The commentary on the draft Bill indicates that opinions prepared by in-house tax practitioners, in, for example, a large corporate group, will not qualify as a result of their potential vested interests relating to such matters.

The Bill also proposes an amendment to section 224 of the Tax Administration Act, stating unequivocally that a taxpayer has the right to object and appeal against an understatement penalty.  It is questionable whether this amendment is necessary in light of the provisions contained in section 104 of the Tax Administration Act, which confers the right to object against assessments issued to taxpayers.

It is clear that the reduced level in the quantum of the understatement penalties proposed in the draft Bill are not as onerous as the level of penalties currently contained in the Tax Administration Act.  It is unfortunate that the amendments will not benefit those taxpayers who have been subjected to understatement penalties since 1 October 2012.

In practice, it would appear that SARS takes the view that the understatement penalty should apply to all adjustments made to tax returns submitted by taxpayers, even where those tax returns were submitted prior to 1 October 2012, that is, the date on which the Tax Administration Act took effect.  

Based on the rule of law and the principles relating to the interpretation of statutes, it would appear that the provisions of section 270(6) of the Tax Administration Act should require SARS to consider imposing additional tax, in the case of income tax, under section 76 of the Act, or other equivalent provisions in other tax acts, in respect of events which took place prior to 1 October 2012 and not to levy the prescriptive understatement penalty contained in section 223 of the Tax Administration Act.  

No doubt the interpretation of the application of the understatement penalty to adjustments made after 1 October 2012 to tax assessments relating to years of assessment prior to 1 October 2012 will, ultimately, be determined by the courts.

 ■ Dr Beric Croome is a tax executive at ENS. This article first appeared in Business Day, Business Law and Tax Review, Aug 2013.