Tax Issues for Company Operations · Tax Issues for Company Operations. ... appropriate format expedites the ITR 14 process. 3: Critical and objective analysis of ... • Draft preparation

June 2018

Johan Heydenrych: Director Tax Services (KPMG Services (Pty) Ltd)

Preparation and submission of the ITR 14

Tax Issues for Company Operations

Upcoming CPD Events:June:• 14 & 21 June: SARS Audit and Initial Dispute / Review process by Nico Theron• 26 & 28 June: Cross-border Considerations for the Global Client – Johannesburg & Cape Town

July:• 05 July: Webinar - VAT registrations • 09 – 19 July: Tax Issues for Individuals (ITR12) by Daylan Staude• 13 & 20 July: Webinar – Ethics & Standards

August:• 08 August: Webinar: Shareholder / Owner Manager Withdrawals by Deon van Zyl• 16 August: Webinar: Employment Tax Incentives by Beatrie Gouws

September:• 06 September: Webinar: Managing Domestic Trusts by Hanneke Farrand• 10 – 14 September: Tax Indaba at Sandton Convention Centre (Visit www.taxindaba.co.za)• 18 – 28 September: Trusts and Deceased Estates - Kempton Park by Piet Nel

http://www.taxindaba.co.za/

Objectives of Training

Importance of Tax Compliance⎯ Tax Administration Act

⎯ Tax Management

⎯ Tax Certainty

Phased approach to ITR 14 completion⎯ 8 Phases to complete and accurate tax compliance

⎯ Importance of record keeping

The ITR 14⎯ Importance of Yes/No questions

⎯ Commonly found technical issues

⎯ Preparation in anticipation of Tax Audit and IT

14SD

Objectives of Training

The primary responsibility of the Tax Practitioner with regards to the submission of the ITR 14 is to ensure that:• complete and accurate information is submitted to SARS and • that defendable positions are taken whenever Tax Uncertain Positions arise.

The Tax Compliance function is not simply an administrative function and the Tax Practitioner must exercise “reasonable care” when preparing the ITR 14.

Failure to exercise reasonable care may lead to an understatement penalty of 25% in a standard case even where the taxpayer is in an assessed loss position.

The course is developed to assist the Tax Practitioner in exercising “reasonable care” when preparing the ITR 14

tax return.

Introduction

Commonly found

misconceptions

Commonly found misconceptionsErroneous statement Reason

I can rely on the tax computation prepared by the client for AFS purposes and audited by the external auditor.


I can rely on the tax computation prepared by the client for AFS purposes and audited by the external auditor.

• The objective of the audit is to ensure that the AFS are “reasonably” stated.

• The audit is completed with “materiality” in mind.• The auditor is concerned with the net effect between

current and deferred tax. • The audit is often completed immediately after year-end

and incomplete information is available.• ITR 14 requires complete and accurate disclosure of

current tax only. Materiality is not relevant.• The auditor relies on the work done by the Tax

Practitioner in preparing an audit opinion (especially with regards to prior year tax computations) – The Tax Practitioner cannot rely on the auditor – since this is outside the scope of the audit.

Commonly found misconceptions

Erroneous statement Reason

Make full disclosure and SARS can decide whether to accept or not.

Commonly found misconceptions

Erroneous statement Reason

Make full disclosure and SARS can decide whether to accept or not.

• The ITR 14 is effectively a “self-assessment system” • The Tax Practitioner must have the ability to identify any

tax position and evaluate whether or not it will be defendable if queried by SARS.

• The rationale behind understatement penalties is that the taxpayer and tax practitioner will make concerted effort and take due care when completing the ITR 14.


Tax compliance is simply an administrative function to be completed by inexperienced staff


Tax compliance is simply an administrative function to be completed by inexperienced staff

The person completing the tax return must have the following specialist skills:• Strong accounting skills – the gap between IFRS and Tax

Accounting is increasingly becoming larger. E.g. Straight lining of leases, Share Based Payments, Business Combinations etc.

• Strong broad-based tax skills – Each Tax Return effectively requires a mini “Tax Due Diligence” to be prepared in order to identify tax critical items.

• Solid understanding of Dividend Tax, Interest WTH Tax, PAYE and VAT principles. The interaction between various taxes is extremely relevant. IT14SD’s are becoming the rule instead of the exception. E.g. Transactions between connected parties may hold VAT and PAYE implications. Loans to shareholders and group companies may give rise to Dividend Tax concerns.


The Tax Practitioner will not be held liable if the Tax Return is incomplete or inaccurate.


The Tax Practitioner will not be held liable if the Tax Return is incomplete or inaccurate.

• Where SARS levies a penalty on the grounds that “Reasonable care not taken in completing return” then the client may potentially hold the Tax Practitioner Liable for interest and penalties – subject to engagement letter limitations. This may lead to reputational damage to the individual, his/her employer and SAIT.

• Section 241(2) of TAA: “A senior SARS official may lodge a complaint with a ‘recognised controlling body’ if a registered tax practitioner has, in the opinion of the official without exercising due diligence prepared or assisted in the preparation, approval or submission of any return, affidavit or other document relating to matters affecting the application of a tax Act;

The Tax Administration Act(“TAA”)

In the event of an ‘understatement’ by a taxpayer, the taxpayer • must pay, in addition to the ‘tax’ payable for the relevant tax period, • the understatement penalty determined under subsection (2)• unless the ‘understatement’ results from a bona fide inadvertent error.

The Tax Administration Act

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The Tax Administration Act1 2 3 4 5 6

Item Behaviour Standard caseIf obstructive, or if it is a ‘repeat

case’

Voluntary disclosure after notification of

audit or criminal investigation

Voluntary disclosure before

notification of audit or criminal

investigation

(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)‘Impermissible avoidance arrangement’

75% 100% 35% 0%

(v) Gross negligence 100% 125% 50% 5%

(vi)Intentional tax evasion

150% 200% 75% 10%

Section 102(2) of the TAA reads as follows: “The burden of proving whether … the facts on which SARS based the imposition of an understatement penalty under Chapter 16, is upon SARS.”

The Tax Administration Act

(3) SARS must remit a ‘penalty’ imposed for a ‘substantial understatement’ if SARS is satisfied that the taxpayer—(a) made full disclosure of the arrangement, as defined in section 34, that gave rise to

the prejudice to SARS or the fiscus by no later than the date that the relevant return was due; and

(b) was in possession of an opinion by an independent registered tax practitioner that—(i) was issued by no later than the date that the relevant return was due;(ii) was based upon full disclosure of the specific facts and circumstances of the

arrangement and, in the case of any opinion regarding the applicability of the substance over form doctrine or the anti-avoidance provisions of a tax Act, this requirement cannot be met unless the taxpayer is able to demonstrate that all of the steps in or parts of the arrangement were fully disclosed to the tax practitioner, whether or not the taxpayer was a direct party to the steps or parts in question; and

(iii) confirmed that the taxpayer’s position is more likely than not to be upheld if the matter proceeds to court.

The Tax Administration Act S223(3)

Phased approach to ITR 14

preparation

Phased approach to ITR 14 PreparationPhase Description

1: Understanding client’s business and industry.

• Anticipate Tax adjustments.• Anticipate accounting approach followed in AFS• Identify areas where Tax Rulings were issued. • Advise client to consult Tax Practitioner BEFORE major transactions

are concluded – Tax Rulings vs Tax Opinions.





2: Information gathering.

• Requesting and collecting required information timeously and in an appropriate format expedites the ITR 14 process.







3: Critical and objective analysis of information.

• Analysing and interpretation of information.• Draft preparation of Tax computation.• Prepare draft tax computation and compare to that used in AFS.

(Normal and Deferred Tax)• Identification of tax critical items, tax uncertain positions and tax

aggressive positions.• DO NOT file return if the above has not been satisfactorily

addressed!!







3: Critical and objective analysis of information.

• Analysing and interpretation of information.• Draft preparation of Tax computation.• Prepare draft tax computation and compare to that used in AFS.

(Normal and Deferred Tax)• Identification of tax critical items, tax uncertain positions and tax

aggressive positions.• DO NOT file return if the above has not been satisfactorily

addressed!!

4: Tax computation and supporting WP

• Preparing supporting working papers • Completion of draft ITR14. • Anticipate SARS audit and the request for an IT 14SD.


5: Tax opinions and tax rulings

• Consider section 223 opinions for any Tax Positions Taken.• “More likely than not” obtained before ITR 14 is “due”.• SARS may not levy understatement penalties.• Note: Ensure person who issued the opinion is suitably qualified and

that the assumptions aligns with the reality. Often, the opinion is subject to inaccurate assumptions. Critically review opinion – do not simply accept opinion!





6: Formal communication

• Issue formal report to taxpayer client.• If Tax Practitioner is part of the external auditing firm, communicate to

external auditor.• Obtain formal sign-off from taxpayer who understands tax positions.








7: eFiling • Submissions of ITR 14 and comparing with ITA 34 assessments. • Ongoing monitor of statement of account and emails for queries,

disputes.• Ongoing check of Tax Clearance position.








7: eFiling • Submissions of ITR 14 and comparing with ITA 34 assessments. • Ongoing monitor of statement of account and emails for queries,

disputes.• Ongoing check of Tax Clearance position.

8: Tax Disputes and Tax Audit

If applicable – manage tax disputes including requests for refunds under section 190 of the Tax Administration Act.

Interpreting Annual Financial Statements

• Before commencing with the tax return completion process, it is important to critically review the AFS with the view to identify potential risk areas and adjustments.

• AFS is a “language” – Understanding the “language” will assist in ID tax challenges/opportunities

• In addition to Integrated Report:• Speak to client• Review Website• Search for SENS announcements• Download Brochures

Interpreting AFS

Step 1:• Understand the industry:

• Each industry has its own tax challenges• Most industries have tax specific legislation• Most industries have tax rulings, interpretation notes, tax opinions relevant to the

industry

• Examples• Banking• Short term and long term insurance• Mining• Manufacturing• Automotive industry• Telecommunication

Interpreting AFS

Step 1 (Continue)Understand the industry: Examples• Banking:

• Bad debts and doubtful debts (Section 11(jA) for covered persons)• Rulings to BASA• Special valuation of financial instruments and derivatives S24JB

• Mining• Section 15 and 36• Section 37

• Automotive• Automotive Incentive Scheme and S12P• APDP • Motor Plans and Guarantees and S24C

Interpreting AFS

Step 2:• Understand that AFS contains both financial and non-

financial information:• Report of the directors• Report of the chairman• Integrated report contains extensive non-financial information

Interpreting AFS

Step 3:• Identify any major events that may give rise to tax

challenges: (Examples)

• Proposed merger/acquisition/Unbundling/reorganisations• Introduction of new shareholders• Fraud• Competition Commission investigations• Significant investment in capital• Raising of finance• New acquisitions or disposals• Disputes with 3rd parties (Commercial, Competition Commission,

Customers, Shareholders, SARS, Foreign Entities)• Change in accounting policies• Restatement of prior years – fundamental errors

Interpreting AFS

• The Balance Sheet and notes thereto provide insight into:• Potential apportionment issues (Loans incurred to acquire share

investments)• Potential unproductive interest (Interest bearing loans incurred to fund

interest free loans)• Potential Transfer pricing – Thin capitalization and interest free loans• Potential IFRS adjustments – e.g. Straight lining of leases, derivatives, fair

valuations, Share Based payments (IFRS 6), Rehabilitation Provisions debited to Balance Sheet

• Potential 24I(10A) adjustments on exchange items with connected parties reflected as non-current assets/liabilities

• Potential PAYE and dividend tax issues (e.g. interest free loans made to shareholders and companies owned by shareholders)

• Potential adjustments for leasehold improvements• Terms and conditions of loans and shares may lead to adjustments in

terms of S8EA, S8E, S8F, S8FA.

Interpreting AFS

• The Income Statement and notes thereto provide insight into:• Non-deductible and non-taxable items e.g. dividends, penalties etc.• Be careful for adjustments reflected via OCI and Equity that may have a

tax impact.• Potential apportionment issues – e.g. holding company that received

interest, management fees and dividends from group companies.• Can provide insight as to whether or not the company is trading and

assessed losses from prior years can be carried forward.• Interest paid to entities not subject to tax in RSA may give rise to Section

23M limitations

Interpreting AFS

• Normal tax and Deferred Tax notes• Analysing the normal tax, tax rate recon and Deferred tax notes can

provide insights into potential adjustments that are required.• Prior year over/understatements should be compared to actual

assessments.• Non-Income Tax

• The AFS may indicate non-income tax risks e.g. VAT, STT, Dividend Tax, PAYE, Royalty WTH Tax and non-RSA taxes.

• E.g. Supplies to connected parties may give rise to VAT risks• Royalty payments to non-residents may give rise to WTH Tax and Transfer

pricing risks

Interpreting AFS

Interpreting Annual Financial Statements: Example

Examples: Auditor General Report




Examples: Maintenance Reserve



Examples: SA Express 2016



Examples: 2016 CFO Report SA Express











Specific event

Income Tax and CGT

implications

Indirect tax implications

(VAT, PAYE, STT, WTH Tax)

Various accounting

implications

Legal, commercial, and

other implications

Purpose of AFS analysis

The ITR 14 Yes/No Questions

The ITR 14 – The questions….Potential forfeiture of assessed losses

Depending on size, more

detailed ITR 14 opens

The ITR 14 – The questions….Requires CGT disclosure

New Rules S19 and Par 12A – recoupment etc

Require VDP Number

The ITR 14 – The questions….Details required with

PBO numbers

Can go back 7 years –require certificates

Understand credit vs deduction

The ITR 14 – The questions….Requires its own tax calc

Offset PAYE

A branch of a non-resident

is a non-resident

Extensive requirements Gazette 39650

DWT and how funded?

The ITR 14 – The questions…. Automatic applications of

corp rulesS1 def vs S41

def

Potential WTH tax

requirements also tax credits

Opens transfer pricing

schedules

The ITR 14 – The questions….

Potential VAT registration liability of

non-resident. Also potential Reportable

Arrangement if >R10m

Branch of foreign entity?

Section 6quat?

Section 24I(10A)?Normally

combination


If hold >10% then exempt. Complex formula if < 10%

Forms need to be prepared

and submitted even if DTA

reduce to RnilLink to S23M

The ITR 14 – The questions….New

schedules. Now must be

submitted even if >10

Income = Gross income

– Exempt Income

The ITR 14 – The questions…. Impact of qualification

on tax?

Limitation on lease if lessor is not subject to tax in RSA –

S23G

The ITR 14 – The questions…. Potential vesting of income?

Potential VAT registrations?

ITR14: Contributed Tax CapitalDividend

definition. CTC is “tax

concept” only. Anti avoidance on corp rules

The ITR 14 – The questions….Ultimate vs Immediate

Transfer to LBC?

The ITR 14 – The questions….Importance of schedules!!!

Question not updated –Retirement Reform – all

deductible and all taxable in

employee


No allowance if not specific.

Detailed schedules to be prepared

and now must be submitted with ITR 14

The ITR 14 – The questions….12C also

applicable to Hotelkeepers

5% allowance on building


R&D allowance only if

approval obtained

Need to understand legislation


Formula driven denial of interest if recipient in controlling relationship is not subject to tax. Numerous practical issues e.g.

• Timing for IWT• DTA application

The question does not state whether 23M was applied – it states if the interest was not subject to tax.

The ITR 14 – The questions….Automatic application of many transactions.

Technically this should always be answered I the affirmative – e.g. for S45

Beware degrouping charges – no time limit.

Beware 18 Month Rule…

The ITR 14 – The questions….Transfer pricing questions are “loaded” questions. Difficult to answer in complex multinationals.


Potential VAT on

adjustments?

The ITR 14 – The questions….Debtor retentions not taxable – creditor

retentions not deductible. Difficulties with S12C etc

Reference seems incorrect - Contract adjustments complex. S22(3A)

92. Additional assessments.—If at any time SARS is satisfied that an assessment does not reflect the correct application of a tax Act to the prejudice of SARS or the fiscus, SARS must make an additional assessment to correct the prejudice.99. Period of limitations for issuance of assessments.—(1) An assessment may

not be made in terms of this Chapter— (a) three years after the date of assessment of an original assessment by SARS;(2) Subsection (1) does not apply to the extent that—(a) in the case of assessment by SARS, the fact that the full amount of tax chargeable was not assessed, was due to—

(i) fraud;(ii) misrepresentation; or(iii) non-disclosure of material facts;

Tax Administration Act

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Tax Technical issues: Commonly found errors

Fixed Assets

• Claim Section 11(e) instead of Section 12C• Claim section 11(e) or 11(g) on leasehold

improvements• Write off minor assets in Income Statement• Incorrect application of Repair and Maintenance

legislation• Proof of deferred tax does not balance on fixed assets

Fixed Assets – errors commonly found

Repair and maintenance: S11(d)

11. General deductions allowed in determination of taxable income.—For the purpose of determining the taxable income derived by any person from carrying on any trade, there shall be allowed as deductions from the income of such person so derived—

• expenditure

• actually incurred

• during the year of assessment

• on repairs of

• property

• occupied for the purpose of trade or

• in respect of which income is receivable,

• and sums expended for the repair of

• machinery, implements, utensils and other articles

• employed by the taxpayer for the purposes of his trade;

The first category mentioned above refers to repairs effected to immovable property and the second category to repairs pertaining to movable property.

Was there deterioration of the property because of use?


Expense is capital in nature – not deductible in terms of section 11(a) or 11(d). Consider potential claim under section 12C, 11(e), 13(1) or 13 quin.

No


Did the “repair” result in an “improved asset” with “improved” income earning abilities?


NoYes



Did the “repair” constitute the replacement of a “subsidiary part of the whole” or did it consist of the replacement of renewal of “substantially the whole” of the original asset?


NoYes

Yes

No



Did the “repair” constitute the replacement of a “subsidiary part of the whole” or did it consist of the replacement of renewal of “substantially the whole” of the original asset?

Expense is capital in nature – not deductible in terms of section 11(a) or 11(d). Consider potential claim under section 12C, 11(e), 13(1) or 13 quin.Section 11(d) deduction appears

claimable

NoYes

Yes

No

Only subsidiary part of whole

Substantially the whole

Provisions

Provision investment impairment

Learning Points:

⎯ Cannot simply reverse

permanent provisions - if it

was utilised, then the

deduction is overstated.

⎯ Consider CGT

consequences

Provision claims by customers

Learning Points:

⎯ Is the cost an “inevitable

concomitant” of the business?

⎯ Section 24C is not claimable on

disputed claims.

⎯ Costs that are recoverable may

not be claimed – e.g. if

recoverable from insurance or

the manufacturer.

Employment related provisions

1. Provision for staff bonus

2. Provision for commission paid to sales representatives for

sales prior to year-end

3. Provision for overtime paid to IT employees who had to

work overtime to implement a new SAP system.

Section 7B

Learning Points:

⎯ Section 7B is wider than bonuses,

“variable remuneration” means—

(a) overtime pay, bonus or commission contemplated in the definition of

“remuneration” in paragraph 1 of the Fourth Schedule;

(b) an allowance or advance paid in respect of transport expenses as

contemplated in section 8 (1) (b) (ii); or

(c) any amount which an employer has during any year of assessment

become liable to pay to an employee in consequence of the employee

having during such year become entitled to any period of leave which

had not been taken by the employee during that year.

⎯ Be careful for intercompany charges relating to bonuses – e.g. Expats

Home Country Bonuses

Bad and doubtful debts

Bad and doubtful debts

• Provision for doubtful debt on trade debtors - provision is

based on actual value of debtors in debtors register incl 14%

VAT.

• Can the taxpayer claim a tax allowance against this

provision? If so what percentage?

Section 11(i) and 11(j)

Learning Points:

⎯ The provision should not include VAT since this is claimable from SARS

when the vendor “has written off so much of the said consideration as

has become irrecoverable”.

⎯ Section 11(j) and 11(i) requires prior inclusion in Income –

– Not applicable to staff loans and normal loans (unless moneylender)

– Not applicable if acquired debt from 3rd party on non-recourse basis

– but can claim VAT.

⎯ Section 11(j) – Normally 25% of amount due. SARS discretion in process

of being taken away and guidelines to be provided.

⎯ Section 11(i) when irrecoverable

⎯ Timing is important

Legal Fees

Legal fee

1. Provision for legal fees for sale of building occupied for

purposes of trade.

2. Legal fees paid for a labour dispute

3. Legal fees to defend legal action from customer for a

vehicle that caught fire and injured the passengers

4. Legal fees incurred to draw up a lease agreement for 20

year lease of a building

5. Legal fees to defend a challenge by the Competition

Commission who raised penalties of R20million for price

fixing.

Legal fee

Learning Points:Remember that the denial of an income tax deduction may result in a potential CGT

benefit

20. Base cost of asset.—(1) … the base cost of an asset acquired by a person is the

sum of—(c) the following amounts actually incurred as expenditure directly related to the

acquisition or disposal of that asset namely—

(i) the remuneration of a surveyor, valuer, auctioneer, accountant, broker, agent,

consultant or legal advisor, for services rendered;

(ii) transfer costs;

(iii) stamp duty, transfer duty, tax payable in terms of the Securities Transfer Tax

Act, 2007 (Act No. 25 of 2007), or similar duty or tax;

(iv)advertising costs to find a seller or to find a buyer;

(v) the cost of moving that asset from one location to another;

(ix) if that asset was acquired or disposed of by the exercise of an option …, the

expenditure actually incurred in respect of the acquisition of the option;

Legal fees Section 11(c)

For the purpose of determining the taxable income derived by any

person from carrying on any trade, there shall be allowed as

deductions from the income of such person so derived—

⎯ any legal expenses (being fees for the services of legal

practitioners, expenses incurred in procuring evidence or expert

advice, court fees, witness fees and expenses, taxing fees, the

fees and expenses of sheriffs or messengers of court and other

expenses of litigation which are of an essentially similar nature to

any of the said fees or expenses)

⎯ actually incurred by the taxpayer during the year of assessment

⎯ in respect of any claim, dispute or action at law

⎯ arising in the course of or by reason of the ordinary operations

⎯undertaken by him in the carrying on of his trade:

Legal fees Section 11(c)

⎯Provided that the amount to be allowed under this paragraph in

respect of any such expenses shall be limited to so much thereof

as—

(i) is not of a capital nature; and

(ii) is not incurred in respect of any claim made against the

taxpayer for the payment of damages or compensation if by

reason of the nature of the claim or the circumstances any

payment which is or might be made in satisfaction or

settlement of the claim does not or would not rank for

deduction from his income under paragraph (a); and

(iii) is not incurred in respect of any claim made by the taxpayer

for the payment to him of any amount which does not or

would not constitute income of the taxpayer; and

(iv) is not incurred in respect of any dispute or action at law

relating to any such claim as is referred to in paragraph (ii) or

(iii) of this proviso;

Stock

Stock provisions

1. A general provision is made for stock obsolescence - this is based on history of slow moving stock and the experience regarding nature of stock. Methodology is supported by historic statistics.

2. A specific provision for stock obsolescence is made -items specifically identified as being obsolete

3. A general provision is made for stock obsolescence since management wishes to be prudent regarding stock valuations

Stock provisions (Continued)

22. Amounts to be taken into account in respect of

values of trading stocks.—

(1) The amount which shall, in the determination of the taxable income

derived by any person during any year of assessment from carrying on any

trade …, be taken into account in respect of the value of any trading stock

held and not disposed of by him at the end of such year of assessment,

shall be—

(a) in the case of trading stock …, the cost price to such person of such

trading stock, less such amount as the Commissioner may think just and

reasonable as representing the amount by which the value of such trading

stock, …, has been diminished by reason of damage, deterioration,

change of fashion, decrease in the market value or for any other reason

satisfactory to the Commissioner;

Stock provisions (continued)

Practice Note 36 was issued on 13 January 1995.

The purpose of the Practice Note was as follows:

“It is evident that a variety of questionable

methods are used by taxpayers to write-off slow-

moving and obsolete stock, without reference to

its actual net realisable value. It has, therefore,

become necessary to explain Inland Revenue’s

standpoint in this regard.

The Practice Note refers to ITC 1489 to state that

if a method of reducing the cost of stock by a

percentage is adopted, the percentage reduction

should not only be supported by trading history

and, where appropriate, post-balance sheet

experience, but the Receiver of Revenue should

be told how that percentage is arrived at.

Stock provisions (continued)

One should however examine ITC 1489 to

determine the SARS statement in Practice Note

36. In the case of ITC 1489, the “Appellant had

used the 50% of cost method of valuation of stock

and appellant’s accountants had informed the

Receiver of Revenue, Cape Town, that ‘it has been

company policy always to value the stock at 50%

of the recorded cost values’. This explanation was

repeated in a further letter to the Receiver of

Revenue where the accountants wrote that the

stock had been valued on the same basis since the

company’s inception.

In the case of ITC 1489, the taxpayer merely wrote

off 50% of the total stock value of the entity

without any reference to the individual stock

items.

IN THE TAX COURT OF SOUTH AFRICA HELD AT PORT ELIZABETH Case No.: 13539/13673 Date Delivered: 6 July 2017

The appellant is a registered taxpayer under the provisions of the Act and has at all material times conducted the business of a manufacturer, importer and distributor of new and used motor vehicles.

The appellant determined the amount to be so included under section 22(1)(a) of the Act on a vehicle-by-vehicle basis.

IAS2 (para 6) defines NRV as “the estimated selling price in the ordinary course of business less the estimated costs of completion and the estimated costs necessary to make the sale”.

.


The various amounts which the appellant took into account in its NRV calculation fell into the following categories: • Rework/refurbishment costs (accepted)• Outbound logistics • Marine insurance (partially accepted)• Sales incentives • Distribution fees • Warranty costs • M Plan and T Plan • Road Assistance Costs

.


The discretion • In the present instance the Commissioner did not recognise that a diminution

in value had occurred at all in consequence of the further costs which the appellant had taken into account in determining the NRV.

• For the reasons set out earlier herein I consider that he erred in this regard. • By virtue of the error he did not exercise his discretion. • In an appeal in terms of the Act the tax court is required to make the same

decision, de novo, as the Commissioner was required to make. • Where the Commissioner was required to exercise a discretion the court of

appeal is called upon to exercise its own original discretion in that regard. (See CIR v De Costa 1985 (3) SA 768 (A) at 774I-J.)

.


• I have held earlier that the NRV as determined in accordance with IAS2 provides an appropriate method for purposes of section 22(1) for the determination of the actual value of trading stock at the end of the year of assessment.

• It follows that where this value is less than the cost price (as defined) a diminution in value has in fact occurred.

• There is widespread support for this method of valuation and the Commissioner ought to have recognised the diminution in value.

• The reason for the diminution is to be found in the reduction in the reasonably anticipated taxable income that will be derived from the disposal of the trading stock.

.

IN THE TAX COURT OF SOUTH AFRICA HELD AT MEGAWATT PARK Case No.: 13626

• XYZ is a member of the XYZ Group with its parent company in Sweden (‘the XYZ Group’).

• XYZ’s main business is to sell machinery and equipment (including spare parts and consumables) imported mainly from Sweden and which is used in the mining industry and other industries in South Africa.

• It comprises a number of business areas. It is common cause that at the end of each relevant year, XYZ held many thousands of items of equipment, equipment spare parts and consumables which were ‘trading stock held and not disposed of’ for the purposes of section 22 of the Income Tax Act1 (‘the Closing Stock’).

.


• Therefore, any Diminution Amount reduced the value of the Closing Stock included in the taxable income of XYZ for a relevant year and, consequently, reduced XYZ’s taxable income. XYZ contends there was a Diminution Amount of R30 191 0002 in respect of the 2008 Closing Stock and a Diminution Amount of R33 402 000 in respect of the 2009 Closing Stock.

• SARS contends there was factually no diminution of value and hence the cost price should apply.

• In the Additional Assessments, in the context of section 22(1), the Commissioner stated his view that ‘there was no diminishing (sic) in value at year end for a deduction to be claimed as a result of damage, deterioration, change of fashion, decrease in the market value in respect of trading stock’ and that he had consequently ‘added back’ the Disputed Amounts.

.


• XYZ sought to persuade the Commissioner that it was entitled to invoke the provisions of section 22(1)(a) of the Income Tax Act because it implemented a fixed policy, known as the ‘Finance Controlling and Accounting Manual’ (‘FAM’) or ‘The Way We do Things’ (‘The Way Policy’), (collectively ‘the policy’) determined by the XYZ Group that permits it to write down the value of its closing stock by 50% if such closing stock has not been sold in the previous 12 months and 100% if it has not been sold in 24 months. The policy also permits it to write down any overstock by 50%.

• The Commissioner contended that the utilisation of 50% or 100% is arbitrary and no different to any other percentage. It argued that XYZ has not been able to demonstrate why 50% as opposed to any other percentage such as 20% is appropriate.

• It argued that the use of such a fixed percentage has not been justified and is inconsistent with the requirements of section 22(1)(a) of the Income Tax Act.

.


• XYZ contended that it is entitled to estimate the diminution of the value of its stock and that it does so in terms of its policy. The policy, it argues, is in line with International Accounting Standards 2 (‘IAS2’) and Inventories Financial Reporting Accounting Standard (‘IFRS’) and accordingly constitutes a just and reasonable basis for valuing its closing trading stock in terms of section 22(1)(a) of the Income Tax Act.

.


‘Explanatory Memorandum on the Income Tax Bill, 1984’ (which introduced section 22(3)):

“A statement of generally accepted accounting practice, known as AC108 approved by the Accounting Practices Board, states the methods of valuation more fully and … is acceptable as a practical guide for the valuation of trading stock for purposes of the Income Tax Act.”

.


• I accept and approach this task of interpreting this section from the premise that it is a question of law for the court to decide.

• Any opinion of an accountant or other expert as to the correct interpretation or application of a provision of the Income Tax Act would clearly be inadmissible.

• In addition, the fact that accountants treat amounts in a certain manner cannot override the provisions of the Income Tax Act.

.


• In my view, the NRV as set out in IAS2 is an appropriate method by which to determine the actual value of trading stock in the hands of the taxpayer at the end of the year of assessment. It provides a sensible and businesslike result which accords with the purpose of section 22(1) being that the cost deduction deferred should be limited to what the taxpayer can reasonably expect to recover as at the end of the relevant tax year.

• The legislature could, in my view, not have intended that a requirement for a trader to subtract a Diminution Amount from cost is that the trader assess each individual item of closing stock.

.


• If … there was a diminution in value of the Closing Stock for a reason contemplated in section 22(1), the Commissioner was required to ‘exercise a discretion as to the amount which he consider[ed] to be just and reasonable as representing the amount by which the value of such trading stock ha[d] been diminished’; and he has failed to do what is required of him in terms of the Income Tax Act.

• Where, as in the current matter, an appeal concerns a discretion which the Commissioner was required to exercise, the required approach of the Court was stated by van Heerden JA in CIR v Da Costa36 to be a re-hearing of the whole matter by this court and that this court could substitute its own decision for that of the Commissioner.

.


• The NRV as determined in accordance with IAS2, IFRS and SA GAAP and the policy, provides an acceptable and appropriate method for purposes of section 22(1)(a) for the determination of the actual value of trading stock at the end of the year of assessment, the application of which leads to a sensible and businesslike result. It constitutes a just and reasonable basis for valuing XYZ’s closing stock for 2008 and 2009, as contemplated in such section.

.

Audit fee provisions

Audit fee provision

Learning Points:

⎯ Definition of “unconditional

liability”

⎯ Evaluate each provision/accrual

based on the question: “If I were

to close down the business at 30

June – will this amount still be

payable?”

⎯ Also applies to recognition of

income:

⎯ Example – Case against

municipalities by mining

companies.

Prepayments

Prepayments Section 23H

Nature of prepayment 2015 2016 2017

Prepayment for tax return preparation services to be rendered 3 months after year-end

100 000 110 000 120 000

Prepayment for 12 months insurance130 000 15 000

Prepayment for IT license fees for 8 months70 000 80 000 85 000


23H. Limitation of certain deductions.

(1) Where any person has during any year of assessment actually incurred any expenditure

(a) which is allowable as a deduction in terms of the provisions of section 11 (a), (c), (d) or (w), or

section 11A;

the amount of the expenditure in respect of which a deduction shall be allowable in terms of such

section in the said year and any subsequent year of assessment, shall be limited to, in the case of

expenditure incurred in respect of—

(i) goods to be supplied, so much of the expenditure as relates to the goods actually supplied to

such person in such year of assessment; or

(ii) services to be rendered, an amount which bears to the total amount of such expenditure the

same ratio as the number of months in such year during which such services are rendered

bears to the total number of months during which such services will be rendered … or

(iii) any other benefit to which such expenditure relates, an amount which bears to the total

amount of such expenditure the same ratio as the number of months in such year during

which such person will enjoy such benefit bears to the total number of months during which

such person will enjoy such benefit


Provided that the provisions of this section shall not apply—

(aa) where all the goods or services are to be supplied or rendered within

six months after the end of the year of assessment during which the

expenditure was incurred, or such person will have the full enjoyment

of such benefit in respect of which the expenditure was incurred

within such period

(bb) where the aggregate of all amounts of expenditure incurred by such

person, which would otherwise be limited by this section, does not

exceed R100 000; or

(cc) …

(dd) to any expenditure actually paid in respect of any unconditional liability

to pay an amount imposed by legislation.

Accrual of income

Income received in advance

Income is received from customers that is reflected as "liabilities" in the balance sheet for the following

2015 2016 2017

Amount received for warranty provided on product sold 200 000 220 000 230 000 Amount is received for a 5 year maintenance plan

300 000 325 000 350 000 Private customer has inadvertently paid an invoice twice - it is retained for 3 years and then released to income

20 000 20 000


Learning Points:

⎯ Income is taxable at the earlier of receipt or unconditional accrual

⎯ IN 78 governs Section 24C claim


Extracts from IN 78

• Section 24C provides temporary relief, in the form of an allowance which reverses

in the following year of assessment, to taxpayers that receive income in advance

of incurring the expenditure related to the earning of that income.

• The Commissioner must be satisfied that –

• the taxpayer’s income in a particular year of assessment includes an amount of

income received or accrued under a contract;

• all or part of the advance income will be used to finance future expenditure

which will be incurred by the taxpayer in performing the taxpayer’s obligations

under that contract; and

• the future expenditure when incurred will qualify for a deduction or, in the case

of the acquisition of an asset, will qualify for any deduction under the Act.

• The words “will be incurred” indicate that the Commissioner must be satisfied

that there is a high degree of probability and inevitability that the expenditure will

be incurred by the taxpayer.

Theft

Losses from theft

1. Loss suffered from monies stolen by cash book clerk

2. Loss suffered from monies stolen by marketing director

3. Loss suffered due to accounting clerk colluding with customer

to process false credits to customer account

4. Loss suffered due to employee colluding with supplier to falsify

repairs to company car.

Losses from Theft - IN 80

Interpretation Note 80 deals with Income

tax treatment of stolen money

⎯ Expenditure and losses incurred by a taxpayer in

carrying on a trade as a result of embezzlement,

fraud or theft of money and any legal and

forensic expenditure incurred in investigating the

crime will qualify as a deduction in determining

taxable income provided

⎯ it meets the requirements of section 11(a) or in

the case of legal expenses, section 11(c).

⎯ An important factor in determining the

deductibility of the expense or loss will be

whether the risk of its incurral was a necessary

incident of the taxpayer’s trade. Any amounts

allowed as a deduction which are recovered or

recouped must be included in the taxpayer’s

income.


⎯ A taxpayer claiming a deduction for expenditure and losses owing to

the embezzlement, fraud and theft of money and for expenditure

pertaining to legal and forensic services to investigate such

expenditure and losses bears the onus of proving such expenditure

and losses under section 102 of the TA Act.

⎯ Without limiting the manner in which the expenditure and losses can

be proven, the following will be considered as prima facie proof that

such expenditure and losses occurred:

– A police case docket reference number;

– A report by an accredited private investigator;

– A report by a forensic auditor; or

– A charge sheet issued by a court.

⎯ A taxpayer will also need to prove the quantum of the expenditure and

losses.


⎯ In ITC 952, the court stated that a sound reason for the decision in the

Lockie Bros case was –

⎯ “that one does not reasonably expect a senior manager or

managing director to make away with his employer’s funds, and

that such a risk is not reasonably incidental to the trade, as the

petty larcenies of servants and the leakages through carelessness

or dishonesty to which the revenues of most profit-earning

organizations are exposed”.

⎯ SARS recognises that times have changed since the Lockie Bros and

ITC 952 cases and that embezzlement, fraud and theft by senior

managers has become more prevalent.

⎯ A loss arising as a result of embezzlement, fraud or theft by a senior

employee will therefore not automatically be denied as a deduction.


⎯ However, there may still be circumstances in

which the risk of embezzlement, fraud or theft by

a senior manager is not inherent in the particular

business, for example, the theft of a company’s

cash by a director who is also the sole

shareholder of the company.

⎯ Each case must be considered on its merits

having regard to its particular facts.

⎯ Facts which will be relevant in most cases

include, for example, the nature of the business,

who perpetrated or is suspected to have

perpetrated the embezzlement, fraud or theft, the

perpetrator’s relationship to the taxpayer and the

method used to perpetrate the embezzlement,

fraud or theft.

Consulting Fees

Consulting Fees – examples

1. Tax fees for preparation of annual income tax returns

2. Due diligence fees incurred for purchase of new business

3. Tax fees to lodge objection and appeal against a dispute

arising from a PAYE assessment raised by SARS

4. Fees charged by SAP consultants to implement a new

SAP system.

Consulting Fees

Learning points

⎯ SARS allows minor assets up to R7 000 to be written off in full – This is

limited to S11(e)

⎯ Assets over that value must be capitalised and wear and tear claimed.

⎯ Care should be taken before Consulting Fees are capitalised – it must

qualify for “cost” in terms of S11(e).

Note: Carefully evaluate the costs that are capitalised in cost for

accounting purposes.

Penalties and Fines

Penalties and fines – examples

1. Company pays PAYE assessment without recovering it

from employees

2. Penalty and interest charged on late payment of VAT

3. Competition commission penalty charged for collusion

4. Penalty charged by Municipality for late delivery of

shipment of 20 vehicles under supply agreement for

supply of traffic vehicles

Penalties and Fines

Section 23. Deductions not allowed in determination of taxable income.

―No deductions shall in any case be made in respect of the following

matters, namely―

(o) any expenditure incurred―

(i) where the payment of that expenditure or the agreement or offer to

make that payment constitutes an activity contemplated in Chapter 2

of the Prevention and Combating of Corrupt Activities Act, 2004 (Act

No.12 of 2004); or

(ii) which constitutes a fine charged or penalty imposed as a result of an

unlawful activity carried out in the Republic or in any other country if

that activity would be unlawful had it been carried out in the Republic;

Interpretation Note 54 provides guidance.

Penalties and Fines

In ITC 14903 a cartage contractor

sought to claim a deduction for traffic

fines under section 11(a).

⎯ The court held that to allow the fines

as a deduction would be contrary to

public policy, frustrating the

legislative intent and allow a

punishment imposed to be

diminished or lightened.

⎯ The court added that the fines did

not play any actual part in the earning

of the income and were not an

inevitable concomitant of the

business of a cartage contractor.

Penalties and Fines

IN 56: Position of the recipient

Despite section 23(o) denying a deduction to

the payer, illegal contracts can in principle have

fiscal consequences for the recipient.

The only question as between the taxpayer and

the fiscus is whether amounts received by or

accruing to a taxpayer fall under the literal

meaning of “gross income”.

Penalties and Fines

Conclusion IN 56

⎯ Section 23(o) has put it beyond doubt

that corrupt payments such as

bribes, fines and penalties for

unlawful activities are not deductible

for income tax purposes.

⎯ However, the deductibility of bona

fide commercial penalties remains

unaffected by the provision. Such

commercial penalties are subject to

the normal tests for deductibility

under the general deduction formula.

Exempt income

Youth Employment Tax Incentive

⎯ Not claimable if all tax affairs

are not in order

⎯ S10(1)(s) exempts from tax:

“any amount by which the

employees’ tax as defined in

section 1 of the Employment

Tax Incentive Act, 2013,

payable by an employer as

contemplated in section 3 of

that Act is reduced in terms of

section 2 (2) of that Act or paid

in terms of section 10 of that

Act;”

https://www.mylexisnexis.co.za/Library/IframeContent.aspx?dpath=zb/jilc/kilc/alrg/ulrg/0ds6c/7rw6c&ismultiview=False&caAu=#gjcb

Exempt income – examples

1. Youth Employment Tax Incentive - not received in cash

but offset against PAYE liability.

2. Company receives dividend from local subsidiary

company that is liquidated

3. Company receives a tax exempt grant from the jobs fund

created by National Treasury - exempt in terms of section

12P. It is designed to recover salary costs incurred by the

company.

Exempt Income

Dividends

⎯ Exempt ito S10(1)(k)

⎯ Evaluate expenditure incurred to earn exempt

income

Jobs Fund

⎯ Section 12P exempts grants listed in the 11th

Schedule to be exempt

⎯ It does however state that expenses funded

from such exempt grants are not tax deductible.

⎯ Special rules for depreciable assets

⎯ Special rules for non-depreciable assets

Donations and B-BBEE expenditures

Donations and contributions – examples

1. Donation made to Public Benefit Organisation - Receive

18A certificate

2. Bursaries granted to previously disadvantaged children -

used to increase B-BBEE Scorecard points

3. Amount paid as "incentive payment" to border official to

facilitate transfer of goods from Zimbabwe to Zambia

Donations

Donations

⎯ Section 18A – Limited to 10% of Taxable Income

– No amount available when assessed loss

⎯ Must have valid certificate

⎯ Revised disclosure requirements

B-BBEE Costs

B-BBEE Costs BCR 002

The Executive Committee (EXCO) of the Applicant took a policy

decision at a Board meeting to enhance its CSI programme in order to

meet the requirements of the Black Economic Empowerment (BEE)

scorecard. As a result of this policy decision there would need to be a

shift from the existing CSI programme to socio-economic development

by means of educational assistance through bursaries.

The ruling made in connection with the proposed transaction is as

follows:

Expenditure incurred in respect of the CSI programmes for purposes of

earning BEE scorecard points will be deductible under section 11(a)

read with section 23(g).

Foreign exchange

Foreign exchange– examples

1. Realised exchange loss on revaluation of debtor account

outstanding - reflected as current asset

2. Unrealised exchange gain on revaluation of debtor

account outstanding - reflected as current asset

3. Cumulative unrealised exchange loss/(gain) on revaluation

of intercompany loan account with Nigeria - Reflected as

non-current asset

Forex gains/losses

Section 24I

• Generally alignment between

accounting and tax

• Unrealised forex gains/losses are

generally taxable/deductible

Exclusion

• Where exchange item is reflected as

non-current asset/liability purposes in

the AFS

• Then defer until realisation

• Remember to do the calculation on a

cumulative basis

Leasehold improvements

Leasehold improvements– examples

Company incurs R10million at its own discretion to extend

the admin building by 1000 m2. Building is leased from REIT

Properties and brought into use 1 May 2015.

• Can an income tax deduction be claimed on the leasehold

improvements

• Can the cost of the leasehold improvements be included in

the base cost of the leasehold property.

Leasehold improvements

⎯ Section 11(g) only allows deduction

if the lessee is “obligated” to effect

the improvements.

⎯ Generally it is non-deductible and a

“permanent” difference.

⎯ Carefully analyse the make-up of

the amounts disclosed as

“leasehold improvements” in the

AFS

⎯ Movable items included may be

subject to S11(e) (air conditioners,

movable partitions, ovens etc.)

Leasehold improvements: CGT

Par 24.2 of the CGT Guide

⎯ If a lessee builds on the ground of a

lessor, the building belongs to the owner

of the ground, the lessor, unless it is a

building of a movable nature, such as a

tent.

⎯ When then does the timing of the disposal

of those improvements by the lessee

occur?

⎯ The right of use of the improvements is

disposed of on expiry of the lease [para

13(1)(b)].

Remember to claim a capital loss when the

lease expires or the lease is sold.

Raising fees

Raising fee – example

Company pays a R1 200 000 raising fee to Commercial Bank

on 1 February 2017 to raise R50million loan repayable over 10

years. The loan is used to acquire 100% shares in a new

company acquired on 1 February 2017.

• Can an income tax deduction be claimed on the raising

fees?

• Can an income tax deduction be claimed on the interest

paid?

• Can the raising fees be included in the base cost of the

shares acquired?

Raising fees

“Interest” is defined in section 24J(1) to include, inter alia the:

(a) gross amount of any interest or similar finance charges, discount or

premium payable or receivable in terms of or in respect of a financial

arrangement;

(b) amount (or portion thereof) payable by a borrower to the lender in terms

of any lending arrangement as represents compensation for any amount to

which the lender would, but for such lending arrangement, have been

entitled; …

irrespective of whether such amount is—

(i) calculated with reference to a fixed rate of interest or a variable rate of

interest; or

(ii) payable or receivable as a lump sum or in unequal instalments during

the term of the financial arrangement…”

Raising fees

The crisp issue for consideration is whether this raising fee will constitute

“interest” as defined in section 24J(1).

“Interest” is defined in section 24J(1) to include, inter alia the: … gross

amount of any interest or similar finance charges, … in terms of or in

respect of a financial arrangement;

It is therefore necessary to evaluate whether the raising fees will qualify as

“similar finance charges” as envisaged in par (a) of the definition of interest

above.

The term “similar finance charges” is not defined in the Act, nor is there

any case law bearing particularly on this term in the context of section 24J.

Therefore, as per the literal approach to statutory interpretation explained

above, the term must be given its ordinary dictionary meaning.

Raising fees - Section 11(a)

The following extract from the SARS practice manual is relevant:

[A:R2] Raising fees – Deduction

1. Where a loan is utilised for the purchase of fixed business assets, the interest on

such loan will be allowed with effect from the time that the asset produces income.

2.(1)Any raising fee, whether in the form of a single or an annual payment, relating to

a loan raised in connection with the acquisition of fixed assets is not allowable as a

deduction from income. (ITC 882 (23 SATC 239).)

(2)This principle applies equally where the fee is paid in respect of a loan raised to

repay an existing loan which was originally raised for the purpose of acquiring fixed

assets.

3. Where a loan is raised during the currency of a business for the immediate

purpose of the business, e.g. to finance purchases of stock-in-trade, any expenditure

incurred in obtaining such loans is regarded as expenditure incurred in production of

income and is allowable. (CIR v Genn & Company (Pty) Ltd 1955 (3) SA 293 (A) (20

SATC 113) and an unreported case in October 1956.)

Raising fees: Base Cost

Par 20(2)(a)

(2) The expenditure incurred by a person in respect of an asset does not

include any of the following amounts—

(a) borrowing costs, including any interest as contemplated in section

24J or raising fees

Anticipating the

IT 14SD

Anticipating the IT14SDReconcile to

Value of Supplies per VAT 201

Reconcile to Input VAT claimed per

VAT 201

Anticipating the IT14SD

Reconcile to amounts used for

EMP 201

What’s New…

• Section 12H: Learnership agreements - A new schedule has been added to the return. This schedule requires the number of learners and the allowance amount to be completed for each field listed in the learnership schedule. The schedule requires separate disclosure for learners with a disability and learners without a disability for NQF levels 1 – 6 and NQF levels 7 – 10.

• Submission of IT10 - A new IT10 schedule has been introduced to enable all companies to upload the IT10 schedule as a supporting document regardless of the number of Controlled Foreign Companies to enable these companies to comply with the provisions of section72A of the Income Tax Act.

• Group of companies that prepares consolidated financial statements - Companies with subsidiaries will now be required to submit their complete group structure.

• A number of additional line items have been added in the tax computation to provide for the relevant legal changes.

• New questions pertaining to Country by Country regulations have been added.

What’s New? 26 February 2018 - Enhancements to the Income Tax Return for Companies (ITR14)

http://www.sars.gov.za/AllDocs/OpsDocs/SARSForms/IT10B - Schedule Controlled Foreign Company 2012 Onward - External Form.zip

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