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DECEMBER 2015 – ISSUE 195
CONTENTS
INTERNATIONAL TAX
2469. Permanent establishment rules
2470. Collation of information -
international tax standard
VALUE-ADDED TAX
2474. Zero-rating on sale of
commercial property
PUBLIC BENEFIT
ORGANISATIONS
2471. Conduit to associations of
persons
SARS NEWS
2475. Interpretation notes, media
releases, rulings and other
documents
TAX ADMINISTRATION
2472. Notice of judgment for tax debt
2473. Voluntary disclosure relief
INTERNATIONAL TAX
2469. Permanent establishment rules
Where a foreign company renders professional services to a South African
company in South Africa, it is important that the foreign entity considers
whether, as a result of rendering such services, the foreign company will create
a permanent establishment in South Africa. The reason why this becomes
important is because where a foreign company creates a permanent
establishment in South Africa, South Africa will, under the provisions of a
Double Tax Agreement (DTA) concluded with another country, be entitled to
subject that foreign entity to tax on the profit attributable to that permanent
establishment created in South Africa.
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In the case of AB LLC and BD Holdings LLC v CSARS, [2015] 77 SATC 349,
heard in February 2015, the Tax Court had to determine whether AB LLC and
BD Holdings LLC (AB and BD) had created a permanent establishment in
South Africa, and as a result thereof, were liable to tax in South Africa. The
case involved two corporations incorporated in the United States of America
and the court therefore had to consider the provisions of the DTA concluded by
South Africa and the United States of America.
Article 7(1) of the DTA concluded by SA and the USA provides that the profits
of an enterprise of the USA shall be taxable only in the USA, unless that
enterprise conducts business in South Africa through a permanent establishment
located in South Africa. Furthermore, the DTA provides that where business is
carried on through a permanent establishment, the profits of the enterprise may
be taxed in South Africa, but only to the extent that they are attributable to that
permanent establishment.
Article 5(1) of the DTA in turn provides as follows:
“for the purpose of this Convention, the term ‘permanent establishment’
means a fixed place of business through which the business of an enterprise
is wholly or partly carried on.”
In addition thereto, Article 5(2) of the DTA provides that the term ‘permanent
establishment’ includes especially-
“(k) the furnishing of services, including consultancy services, within a
contracting state by an enterprise through which employees or other
personnel engaged by the enterprise for such purposes, but only if activities
of that nature continue (for the same or connected project) within that state
for a period or periods aggregating more than 183 days in any 12 month
period commencing or ending in the taxable year concerned.”
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The court had to decide how the DTA should be interpreted and whether it was
necessary for AB and BD to have met the requirements of both Articles 5(1)
and 5(2)(k) of the DTA.
The taxpayer contended that it is necessary that a permanent establishment be
created first under Article 5(1) and only once that has occurred, is it then
necessary to take account of the provisions of Article 5(2)(k) of the DTA. SARS
on the other hand, argued that if AB and BD fell within the provisions of Article
5(2)(k), a permanent establishment exists and it is not necessary that AB and
BD meet the requirements of Article 5(1) of the DTA.
The court also had to consider the manner in which the 183 days in any
12 month period commencing or ending in the taxable year concerned should be
determined under Article 5(2)(k). AB and BD contended that the 183 day
requirement found in Article 5(2)(k) must be for a “12 month period
commencing or ending in the taxable year concerned”. Thus, when an entity
spends less than 183 days in any 12 month period commencing or ending in a
taxable year in South Africa, then that entity cannot be said to have created a
permanent establishment in this country. AB and BD were present in South
Africa from February 2007 and the third phase of the consulting assignment
ended during May 2008. The Judge made the point that since 1 May 2008, no
employees of AB and BD were present in South Africa and that the Appellant’s
financial year commenced on 1 January 2007 and ended on 31 December 2007.
AB and BD accepted that it had been present in South Africa for more than 183
days during the 2007 tax year. The taxpayers argued that insofar as the 2008 tax
year is concerned, SARS could not count any of the days already taken into
account when determining the days that it was present in South Africa during
the 2007 tax year. On the basis that AB and BD were only in South Africa from
1 January 2008 to 1 May 2008, it was not in South Africa for 183 days during
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that tax year. It was therefore argued that SARS could not tax the profits
derived during that tax year. As far as the 2009 tax year was concerned, the
court made the point that it was common cause that AB and BD had no
presence in South Africa during that year. The taxpayers therefore argued that it
was only in 2007 that it met the 183 day rule as set out in Article 5(2)(k).
SARS contended that the presence of AB and BD in South Africa for the 2008
and 2009 years was established beyond doubt. SARS contended that as the
Appellant was in South Africa during the calendar year 1 January 2007 to
31 December 2007 and 1 January 2008 to 31 December 2008, it was in South
Africa for two tax years, that is 1 March 2007 to 28 February 2008 in respect of
the 2008 tax year and 1 March 2008 to 28 February 2009, that is the 2009 tax
year. At paragraph 47, the court indicated that the 183 day period should be
calculated forwards from 1 March 2007 to 28 February 2008 as this is the
commencing of the fiscal year and then again backwards from 28 February
2009 to 1 March 2008, as that is in respect of the ending of the fiscal year.
SARS conceded that this results in some days being double counted. SARS’
counsel contended that SARS is not only allowed by the treaty to double count
the days, but that it was actually contemplated by the parties to the DTA and in
support thereof drew attention to the OECD commentary which deals with this
point. Unfortunately, the commentary referred to Article 15 of the Model Tax
Convention on Income and on Capital which deals with income from
employment and does not in any way refer to the determination of whether a
permanent establishment has been created as envisaged in terms of Article
5(2)(k). It is therefore questioned whether it is appropriate to rely on
commentary dealing with income from employment in determining how Article
5(2)(k) should be interpreted.
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Vally J, in his judgment handed down on 15 May 2015, reached the conclusion
at paragraph 30 that Articles 5(1) and 5(2)(k) cannot be read disjunctively. He
expressed the view that as a result of the usage of words ‘includes especially’
Article 5(2)(k) of the DTA should be read as specifying those specific activities
which will be regarded as creating a permanent establishment in South Africa.
The Tax Court reached the decision that taking account of the number of days
spent by AB and BD’s staff in South Africa, it met the time requirement
specified in Article 5(2)(k) of the DTA and for that reason a permanent
establishment had been created in South Africa. The court also reached the
conclusion that AB and BD had a fixed base in the boardroom of its client in
South Africa, and had therefore established a fixed place of business in South
Africa while rendering services to its client in South Africa.
At paragraph 37 of the judgment, the court refers to the interpretation of
Articles 5(2)(k) and 5(1) as set out in the Technical Explanation, which
document the court viewed as offering an insight into the understanding of the
signatories to the DTA, namely South Africa and the United States. It is
important to note that the Technical Explanation issued on the South African /
United States DTA is not available on the SARS website and can only be
located on the website of the Internal Revenue Service. There is no indication in
the Technical Explanation itself or in any other documentation that the
Technical Explanation has been accepted or adopted by the Commissioner:
South African Revenue Service. The introductory paragraph of the Technical
Explanation states as follows:
“the Technical Explanation is an official guide to the Convention. It reflects
the policies behind particular Convention provisions, as well as
understandings reached with respect to the application and interpretation
of the Convention.”
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The court refers to the fact that the Technical Explanation makes it clear that in
considering the furnishing of services by an enterprise as dealt with in Article
5(2)(k) the analysis or interpretation accorded to the place of work set out in
Articles 5(2)(a) to 5(2)(f) is not applicable. It indicates further that the
Technical Explanation states that “in the case of furnishing of services this does
not have to occur within a ‘fixed place of business’ (Article 5(1)). Thus, once
the provisions of Article 5(2)(k) are met, there is no need to further examine
whether the provisions of Article 5(1) have also been met to determine whether
the existence of a permanent establishment has been proved.”
It would appear that the court took the view that the Technical Explanation on
the DTA under consideration is binding in South Africa, but this does not
appear to be the case in other countries. In the Canadian case of Haas Estate v
The Queen [1999] 53 DTC 1294 Margeson JTCC states at paragraph 30 as
follows:
“[30] The Federal Court of Appeal [in Canada (Attorney General) v
Kubicek Estate 1997, 51 DTC 5454] observed that:
‘There is no international tradition or procedure for an exchange of
subsequently bargained documents as determinative of treaty interpretation.
The Technical Explanation is a domestic American document. True, it is
stated to have the endorsation of the Canadian Minister of Finance, but in
order to bind Canada it would have to amount to another convention, which
it does not. From the Canadian viewpoint, it has about the same status as a
Revenue Canada interpretation bulletin, of interest to a Court but not
necessarily decisive of an issue.”
It is unfortunate that the court did not deal with the status of the Technical
Explanation in South Africa and on what basis the interpretations set out therein
should bind the courts of this country. Furthermore, the court did not refer to the
rules of interpretation of treaties as set out in the 1969 Vienna Convention on
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the Law of Treaties. It is clear that the Technical Explanation has not been
adopted as part of the DTA concluded with the United States in conformity to
the provisions of the Constitution or the provisions of the Income Tax Act 58 of
1962 (the Act), itself. The question that does arise is how many similar
documents or memoranda of understanding exist between SARS and other
revenue authorities insofar as the interpretation of DTA’s are concerned.
In the case of Ben Nevis Holdings (Ltd) and Another v Commissioner for HM
Revenue and Customs [2013] EWCA CIV 578, the court indicated that
memoranda of understanding concluded by contracting states may have an
important bearing on the position of taxpayers and that it is in the interest of
fairness to taxpayers that such memoranda of understanding should be readily
available to the public.
As indicated above, the Technical Explanation is only available on the website
of the Internal Revenue Service and not SARS’ web pages, and if SARS wishes
the public of South Africa to be aware of the Technical Explanation, it should,
as a minimum, be published on the SARS website with a clear indication as to
the status that it has in the law of South Africa.
It must be remembered that Article 5(1) of the DTA, in defining a permanent
establishment, refers to a ‘fixed place of business through which the business of
an enterprise is wholly or partly carried on’. The court expressed the view that it
is not necessary that the non-resident carries out all of its business from the
fixed place of business which is established in South Africa. The court reached
the conclusion that a permanent establishment is created where AB and BD
performs only some of its obligations in terms of a contract concluded with its
client, and even if it concluded part of its business from its client’s boardroom.
The court also referred to the manner in which the 2009 assessment should be
dealt with. The court accepted that AB and BD did not have a presence in South
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Africa during any part of the 2009 calendar or fiscal year. The point was made
that the amount it earned in 2009 related to a success fee which it received in
accordance with the particular clause of the contract concluded with its client.
The court reached the view that the success fee constituted deferred income for
the February 2007 to May 2008 period and that it was therefore covered by
Article 7(1) of the DTA, which provides that the profits of an enterprise made in
the state where it held “a permanent establishment shall be taxable in that state
if the profit was attributable to that permanent establishment”. The court
therefore reached the conclusion that the success fee was directly related to the
permanent establishment and was therefore correctly assessed to tax thereon.
In assessing AB and BD to tax in South Africa, SARS levied tax on the fees
derived by AB and BD in South Africa, after deducting therefrom attributable
expenditure and imposed additional tax of 100% and levied interest on the
underpayment of provisional tax in accordance with section 89quat(2) of the
Act. The court reached the decision that the additional tax was not
disproportionately punitive and therefore dismissed the appeal against the
additional tax.
Insofar as the imposition of interest is concerned, the court expressed the view
that AB and BD should have familiarised itself with the taxation laws of the
country within which it conducts its operations, and for that reason it was
decided that AB and BD had been negligent in not seeking advice regarding the
tax consequences of the contract concluded with its client. The court therefore
came to the conclusion that SARS was correct in imposing interest on the
underpayment of provisional tax.
Based on the above case, which admittedly deals with the interpretation of
articles contained in the SA and USA DTA, it is important that non-residents
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rendering services to clients in South Africa evaluate whether they will create a
permanent establishment in South Africa, thereby triggering income tax on the
profit attributable to the services rendered in South Africa.
Furthermore, if the non-resident creates an enterprise as envisaged under the
provisions of the VAT Act, it would also be necessary to register for VAT
purposes and charge VAT on the fees received from the resident client, and pay
that to SARS. Furthermore, where persons from abroad are sent to South Africa
to render the services that may, depending on the circumstances and the
provisions of the DTA in question, give rise to the non-resident entity being
required to register as an employer in South Africa with the obligation to
withhold and deduct PAYE from amounts paid to persons sent to South Africa
to render services here.
Clearly, any South African tax paid by the non-resident entity, would, under the
terms of the DTA, be recognised as a credit claimable against tax paid in the
home jurisdiction of the entity rendering the services in South Africa. Non-
resident employees who become liable to tax in South Africa should also be
entitled to claim such tax as a credit in their home jurisdiction under the DTA in
question.
It is therefore important that non-resident entities rendering services in South
Africa carefully consider how to plan and structure their affairs in South Africa,
so that they do not fall foul of the provisions of the Act read together with any
applicable DTA.
ENSafrica
ITA: Section 89quat (2)
South Africa / USA DTA: Articles 5(1), 5(2) and 7(1)
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2470. Collation of information- international tax standards
In order to provide the necessary legislative amendments required to implement
the tax proposals that were announced in the 2015 National Budget on 25
February 2015, the National Treasury (Treasury) published the Tax
Administration Laws Amendment Bill 30 of 2015 (TALAB), tabled in
parliament on 27 October 2015.
One of the important proposals relates to greater tax transparency and the
automatic exchange of information between tax administrations in various
jurisdictions in order to counter cross-border tax evasion and aggressive tax
avoidance. To this effect, section 33 of the TALAB proposes the insertion of a
definition of ‘international tax standard’ in section 1 of the Tax Administration
Act of 2011 (the TAA), and it means:
the OECD Standard for Automatic Exchange of Financial Account
Information in Tax matters;
the Country-by-Country Reporting Standard for Multinational Enterprises
specified by the Minister, or
any other international standard for exchange of tax-related information
between countries specified by the Minister,
subject to such changes as specified by the Minister in a regulation issued under
section 257.
Treasury indicated that this definition was inserted to implement a scheme
under which the South African Revenue Service (SARS) may require South
African financial institutions to collect information under an international tax
standard such as the Organisation for Economic Cooperation and Development
Standard for Automatic Exchange of Financial Account Information in Tax
Matters.
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The aforementioned standard encompasses the Common Reporting Standard
(CRS) that was endorsed by the G20 Finance Ministers in 2014. In order to
ensure the consistency and efficiency of this standard, certain financial
institutions must report on all account holders and controlling persons,
irrespective of whether there is an international tax agreement between South
Africa and their jurisdiction of residence or whether such jurisdiction is
currently a CRS participating jurisdiction.
This reporting requirement will ease the compliance burden on reporting
financial institutions as they would otherwise have to effect changes to their
systems and collect historical information each time South Africa concludes a
new international tax agreement or a jurisdiction is added to the CRS. Pursuant
to the proposed amendment, all reporting financial institutions are obliged by
statute to obtain the information and provide it to SARS. In addition, the
financial institutions must ensure compliance with the relevant data protection
laws.
In order to give effect to the proposed implementation of the international tax
standard, section 38 of the TALAB proposes the amendment of section 26 of
the TAA. Currently, section 26 enables the Commissioner of SARS, by public
notice, to require third parties to submit returns for a person with whom that
party transacts, i.e. employers, banks and asset managers of the taxpayer.
The TALAB proposes the insertion of subsection 3 to section 26 of the TAA,
which provides as follows:
The Commissioner may by public notice require a person to apply to register as
a person required to submit a return under this section, an international tax
agreement or an international standard.
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The intention of the proposed amendment is to ensure that the relevant financial
institutions register with SARS in order to comply with international tax
standards. In turn, the registration will assist SARS in the administration and the
enforcement of international tax standards.
Cliffe Dekker Hofmeyr
TAA: Section 1 definition of “international tax standard” and section 26
TALAB 2015: Sections 33 and 38
Editorial comment: Draft legislation should always be treated with care as
there is no certainty that the final legislation approved by Parliament will be
identical to the publicly issued draft.
PUBLIC BENEFIT ORGANISATIONS
2471. Conduit to associations of persons
On 18 August 2015, the South African Revenue Service (SARS) released a
draft interpretation note (Draft IN) on Public Benefit Organisations (PBOs) that
provide funds, assets or resources to other associations that use such funds,
assets or resources to carry on qualifying public benefit activities (PBAs).
PBOs play an important role in society as they relieve the financial burden on
the State in respect of undertaking PBAs. Tax exemptions and deductions are
available to assist PBOs in conducting the said PBAs and achieving their
objectives. The PBA conducted by a PBO must, in accordance with section
30 of the Income Tax Act of 1962 (the Act), be carried out in a non-profit
manner and with an altruistic or philanthropic intent.
A PBO can either conduct PBAs on its own accord, or provide funds, assets or
resources to, inter alia, an association of persons carrying on one or more PBAs
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in accordance with paragraph 10 of Part I of the Ninth Schedule (Ninth
Schedule) to the Act. The Draft IN seeks to provide guidance, inter alia, on:
the interpretation of ‘association of persons’ as contemplated in
paragraph 10(iii) of Part I of the Ninth Schedule; and
the monitoring requirement imposed under section 30(3)(f) of the Act on
a PBO providing funds, resources or assets to an association of persons
contemplated in paragraph 10(iii).
Association of persons
The term ‘association of persons’ is not defined in the Act, but appears in
section 30(1) of the Act and paragraph 10(iii) respectively. The Draft IN states
that the association of persons contemplated in section 30(1) of the Act ‘refers
to a formal association of persons established by adopting a legal founding
document and which may qualify for approval as a PBO’, whereas the
association of persons contemplated in paragraph 10(iii) refers to a ‘voluntary
informal association or group of persons which carries on one or more PBAs in
South Africa [which] will not qualify for approval as a PBO because it does not
have a founding document.’
In other words, the separate identification of an association of persons as
contemplated in section 30(1) of the Act and an association of persons in
paragraph 10(iii) means that the respective associations of persons differ, the
former being a formally approved PBO and the latter an informal voluntary
association of persons.
Monitoring requirement
Section 30(3)(f) of the Act states that any PBO that provides funds to an
association of persons contemplated in paragraph 10(iii), must take reasonable
steps to ensure that the funds are used for the purpose for which they were
provided.
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The Draft IN states that due to the fact that an association of persons (as
contemplated in paragraph 10(iii)) is not approved as a PBO and does not have
to comply with reporting requirements, it is difficult for SARS to monitor
compliance and to ensure that the funds, assets or other resources received by an
association of persons from a conduit PBO are used for the purpose of carrying
on PBAs. As a result, the responsibility has been placed on the conduit PBO
that provides the funds, assets or other resources to associations of persons, to
prove that reasonable steps have been taken to ensure that the funds, assets and
other resources have been used to carry on a PBA in South Africa. The Draft IN
further states that the steps taken by the conduit PBO will vary depending on the
particular facts and circumstances and each case will be considered on its own
merits.
It is important to note that the Draft IN provides that while an association of
persons contemplated in paragraph 10(iii) is not itself a PBO, the conduit PBO
providing funds to it, must monitor how the funds are spent to ensure that the
association of persons is using the funds for carrying on qualifying PBAs. The
monitoring requirement imposed on the conduit PBO is a prerequisite for its
continued approval as a PBO.
Cliffe Dekker Hofmeyr
SARS Draft Interpretation Note (Draft IN) on Public Benefit Organisations
ITA: Section 30 and paragraph 10(iii) of Part I of the Ninth Schedule
TAX ADMINISTRATION
2472. Notice of judgment for tax debt
Judgment was handed down in the matter between Lifman and others v The
Commissioner for the South African Revenue Service and others (case no
15
5961/15, as yet unreported) on 17 June 2015 in the Western Cape Division of
the High Court.
The applicants were Mark Lifman and a number of close corporations of which
he was the sole member. During an enquiry in terms of section 50 of the Tax
Administration Act of 2011 (the TAA), conducted by the South African
Revenue Service (SARS) into the affairs of the applicants, it came to light that
the applicants owed SARS tax of approximately R13 million.
In November 2014, the parties had agreed that the applicants would make
payment by 31 March 2015, and SARS indicated that, if payment was not made,
it would take civil judgment against them.
The applicants also offered certain assets as security, and caveats were
registered in respect of the assets.
SARS notified the applicants in a letter dated 5 February 2015 that the tax debt
had to be settled by the end of March 2015.
On 3 March 2015, SARS sent another letter to the applicants, indicating that the
tax debt must be paid, failing which SARS would take such steps as are
available to them, including taking judgment, or if necessary, sequestration and
liquidation proceedings.
It transpired that the applicants did not pay the outstanding tax debt by the
agreed date, and SARS proceeded to take civil judgment against the applicants
on 1 April 2015 in terms of section 172 of the TAA.
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The applicants then brought an application for an urgent interim interdict
against SARS and the other respondents, being various sheriffs, to prevent them
from executing on the judgment.
It was argued on behalf of the applicants that it is a requirement of section 172
of the TAA that SARS first had to give at least 10 business days’ notice to the
taxpayer before judgment could be taken, and that SARS failed to give such
notice to the applicants.
It was also argued that the letter from SARS dated 3 March 2015 did not
constitute a valid notice as contemplated in section 172 of the TAA. Essentially,
it was contended that the notice could only be given after the agreed date for
payment had arrived, and no payment was made. A letter pre-dating the agreed
date for payment warning the taxpayer that legal action will be taken if payment
is not made, does not constitute a valid notice.
In addition, the applicants argued that SARS’ taking judgment in terms of
section 172 of the TAA was without sufficient reason, unfair, and arbitrary, and
therefore in breach of section 25 of the Constitution which guarantees the right
not to be deprived of one’s property. According to the applicants, the warning
letter on which SARS relied also constituted a breach of their right to just
administrative action as contemplated in section 33 of the Constitution.
SARS argued that the first requirement of section 172 of the TAA is that there
must be an outstanding tax debt, which was common cause in this matter. The
second requirement was indeed that the taxpayer must be notified, but the form
and content of such notice is not specified. It is also not specified whether the
notice must inform the taxpayer that it has an outstanding tax debt, or whether it
must inform the taxpayer that SARS intends to take judgment. SARS was of the
view that the various letters that it had addressed to the taxpayer before the
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agreed payment date satisfied the second requirement of section 172 of the
TAA.
Also, the letters should be viewed in the context of the relevant facts and
circumstances, particularly the fact that the parties had concluded an agreement
to the effect that the tax debt would be paid by the end of March 2015. The
applicants knew where and when to pay, even though this was not stipulated in
the letters. They had accepted liability, agreed to pay on a particular date and
did not object to any of the assessments raised.
After considering the arguments of the parties, as well as the facts pertaining to
the matter, the court held that the applicants’ interpretation of section 172 of the
TAA was incorrect.
The purpose of giving notice was to allow the taxpayer to make preparations. In
the court’s view, such preparations already started when the agreement was
entered into in November 2014, and the applicants agreed to pay. After that, the
applicants requested a deferral of payment, which SARS rejected. The letter
dated 3 March 2015 gave the applicants sufficient notice to make preparations
and to arrange their affairs. It was therefore unnecessary for SARS to explicitly
state that the applicants had 10 days from 1 April 2015 to make payment, after
which SARS would take judgment.
A further 10 days after 1 April 2015 would in any event not have made a
difference. The court thus held that SARS had fully complied with the
requirements of section 172 of the TAA, and that the applicants did not make
out a case for an interim interdict. The application was accordingly dismissed.
It is interesting to note that the court took a purposive approach to the
interpretation of section 172 of the TAA, despite the fact that specific reference
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is made to a 10 day notice period. The court also did not specifically answer the
question as to whether the notice only has to be given in respect of the
outstanding tax debt, or whether notice must also be given of SARS’s intention
to take judgment.
Another interesting aspect of the case was that, during the first part of April
2015, some of the applicants filed for business rescue in terms of Chapter 6 of
the Companies Act of 2008 (the Companies Act). Generally, section 133 of the
Companies Act places a moratorium on legal proceedings once a company files
for business rescue. In this matter, SARS obtained judgment on 1 April 2015,
and the relevant applicants only filed for business rescue subsequently.
The court noted that the moratorium does not apply retrospectively, and actions
by some of the respondents (being certain sheriffs) after 1 April 2015 were
therefore not in breach of section 133 of the Companies Act.
Cliffe Dekker Hofmeyr
TAA: Sections 50 and 172
Companies Act: Section 133 and Chapter 6
The Constitution of the Republic of South Africa, 1996: Sections 25 and 33
2473. Voluntary disclosure relief
The Tax Administration Act of 2011 (the TAA) currently provides for various
forms of relief in respect of disclosures made by qualifying taxpayers of their
tax defaults under the Voluntary Disclosure Programme (VDP). The Tax
Administration Laws Amendment Bill No. 30 of 2015 (TALAB) makes a
welcome proposal to widen the scope of available relief to qualifying taxpayers,
to include any penalties relating to the late payment of tax.
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The VDP is a formal statutory process, provided for in Part B of Chapter 16 of
the TAA, and in terms of which qualifying taxpayers can approach the South
African Revenue Service (SARS) on a voluntary basis for purposes of
disclosing their tax defaults. Upon a successful VDP application and conclusion
of an agreement with SARS, the taxpayer will enjoy relief from understatement
penalties (which could be up to 200% in severe cases) and administrative non-
compliance penalties. Additionally, SARS will not pursue criminal proceedings
against the taxpayer.
Currently, the VDP does not provide relief for late payment penalties or interest
(for example, the 10% late payment penalty for Value-Added Tax or
employees’ tax). These are generally dealt with outside the VDP process at
SARS branch office level, once the VDP process has been completed. In other
words, the VDP process, as it currently stands, does not necessarily prevent a
taxpayer from seeking relief from late payment penalties or interest. However,
the process at SARS branch office level is less formal and, in some cases, open
to subjective application of the law as it pertains to available remedies to remit
penalties or interest, in whole or in part.
The proposed amendment in the TALAB states that VDP relief will now be
widened to include late payment penalties (interest still remains excluded),
which essentially eliminates the ‘secondary’ process of attempting to obtain
relief at SARS branch office level. The proposed amendment, which becomes
effective on the date of promulgation of the TALAB (likely January 2016),
brings into play a potentially risky interim time period for prospective VDP
applicants. The question now arises whether such applicants should wait for
promulgation of the amendment?
The risk in waiting for promulgation is that VDP relief for understatement
penalties tapers down where voluntary disclosure is made after SARS has
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issued a notification of audit or investigation. For example, VDP relief would,
in most cases, result in no understatement penalties being levied. However,
where SARS has issued notification of an audit or investigation, it will be
entitled, depending on the severity of the case, to levy understatement penalties
of up to 75%.
It may therefore be a dangerous (and unnecessary) gamble to wait for
promulgation of the proposed amendment because SARS could, at any time,
issue a notification to a taxpayer to conduct an audit or investigation.
Cliffe Dekker Hofmeyr
TAA: Part B of Chapter 16
Tax Administration Laws Amendment Bill 2015 (TALAB)
VALUE-ADDED TAX
2474. Zero-rating on sale of commercial property
If commercial immovable property is sold as a going concern and if certain
requirements are met, then the sale can be zero-rated for value-added tax (VAT)
purposes, in terms of section 11(1)(e) of the Value-Added Tax Act of 1991 (the
VAT Act).
Among other things, it is a requirement that (i) the seller carries on an enterprise
in relation to the property and (ii) the enterprise is an income-earning activity on
the date of transfer of the enterprise.
The term ‘enterprise’ is defined widely in section 1 of the VAT Act and it is
trite that the leasing of commercial immovable property is an enterprise for
purposes of the definition.
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The South African Revenue Service (SARS) has issued Interpretation Note No
57 (IN 57) dealing with the sale of an enterprise as a going concern. In IN 57,
under the heading “Supply of an income-earning activity”, SARS states the
following:
“The purchaser must be placed in possession of a business which can be
operated in that same form, without any further action on the part of the
purchaser. …”
Leasing activities generally consist of, amongst others:
An underlying asset that is the subject of a lease; and
A contract of lease.
Accordingly, a vendor who conducts a leasing activity in respect of fixed
property and who intends to dispose of (supply) such leasing activity must make
provision in the contract stating that the other aspects of the leasing activity are
disposed of together with such fixed property in order to constitute an income-
earning activity. In instances where the agreement does not provide for a
property together with the lease agreements to be transferred, only the asset is
sold and section 11(1)(e) will not apply.
An asset which is merely capable of being operated as a business does not
constitute an income-earning activity. There must be an actual or current
operation. For this reason, the agreement to dispose of a business yet to
commence or a dormant business is not a going concern.
As the parties must agree that the enterprise will on the date of transfer thereof
be an income-earning activity, the zero rate can apply where the seller is, in
terms of the contract, obliged to start the business and ensure it is
income-earning before transfer thereof. However, in instances where the
purchaser takes possession of the enterprise before the date of transfer, and the
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enterprise is only income-earning after the date of transfer, the zero rate will not
apply.
In this regard the recent United Kingdom (UK) case of HMRC v Royal College
of Paediatrics and Child Health and another [2015] UKUT 38 (TCC) is
interesting. Under UK VAT law – like our VAT Act – there is effectively no
VAT if a business is transferred as a going concern and certain requirements are
met.
Briefly, the facts of the Royal College case were the following: A developer
owned a commercial building in London. The building was vacant. The Royal
College of Paediatrics and Child Health (Royal College) occupied other
premises elsewhere in London. The Royal College also let part of those other
premises to other organisations including the British Association of Perinatal
Medicine (BAPM). The Royal College wished to buy the building from the
developer. The BAPM and other tenants wished to move to the new building
with the Royal College and remain its tenants.
Before concluding the sale with the developer the Royal College instructed its
advisers to achieve the most VAT efficient structure for the purchase. The
advisers suggested that VAT could be saved if the sale was structured as the
transfer of a going concern; if BAPM entered into an agreement for a lease with
the developer before the Royal College agreed to buy the property then, since
the developer was carrying on a business, the transfer would be one of a going
concern.
The developer and BAPM entered into an agreement for a lease of a single
room in the building for a premium of £1,000. The agreement was conditional
on the developer concluding an unconditional contract for the sale of the
property to Royal College. The premium would be repaid if this condition was
23
not met or if completion of the lease with the Royal College had not happened
by a certain date. Rent was only payable after completion. It appears as if the
developer did not enter into a lease agreement with BAPM; they entered into an
agreement to enter into a lease.
The Royal College granted a lease to BAPM after the sale.
The court considered the relevant legislation and authorities and held as
follows:
“It seems to me that a critical point arising…is that for a transfer to fall into the
relevant class there are two things which have to be transferred. First of course
an asset must be transferred. However something else has to be transferred as
well. That further element is referred to variously as a business, an undertaking,
or an economic activity (or part of such a thing). Merely transferring an asset on
its own will never be enough to satisfy the test. In order to work out whether the
necessary second element has been transferred, one needs to look at all the
relevant circumstances. The test is one of substance not form. The
circumstances can include the intentions of the parties.”
The court held the following: the putative tenant (BAPM) was already a tenant
of the purchaser (Royal College); the agreement for the lease and the sale were
part and parcel of the same arrangement; the agreement for the lease was not
part of the seller's business as the tenant came from the purchaser; the fact that
the Royal College subsequently granted a lease to BAPM did not mean that the
lease could be connected to the agreement between the developer
and BAPM.
The court accordingly ruled that there was no transfer of a going concern.
The attitude of the court was similar to that expressed in IN 57. Interestingly, in
the Royal College case, the court held that there could be a going concern not
24
only if the seller transferred an existing lease to the buyer, but also if the seller
transferred a lease agreement with a putative tenant.
In many cases in South Africa where owners of commercial properties wish to
sell their properties, the properties are vacant. Without doing something further,
the properties cannot be sold as going concerns and the transactions cannot be
zero-rated for VAT purposes. Often parties in a transaction of this kind are
tempted to create a lease between the seller and a third party simply for the
purpose of creating a going concern. As the court in the Royal College case
demonstrated, the substance and not the form of the transaction will be the
deciding factor as to whether the rental enterprise is genuinely a going concern.
However, on the strength of the Royal College judgment, it appears that there
may well be a case for a going concern if a seller, prior to the sale, concludes a
lease agreement with a bona fide third party which will only take effect after the
sale and which the purchaser will take over after transfer.
Cliffe Dekker Hofmeyr
VAT: Section 1 definition of “enterprise” and section 11(1)(e)
SARS Interpretation Note No 57
SARS NEWS
2475. Interpretation notes, media releases, rulings and other documents
Readers are reminded that the latest developments at SARS can be accessed on
their website http://www.sars.gov.za.
Editor: Ms S Khaki
25
Editorial Panel: Mr KG Karro (Chairman), Dr BJ Croome, Mr MA Khan,
Prof KI Mitchell, Prof JJ Roeleveld, Prof PG Surtees, Mr Z Mabhoza, Ms MC
Foster
The Integritax Newsletter is published as a service to members and associates of
The South African Institute of Chartered Accountants (SAICA) and includes
items selected from the newsletters of firms in public practice and commerce
and industry, as well as other contributors. The information contained herein is
for general guidance only and should not be used as a basis for action without
further research or specialist advice. The views of the authors are not
necessarily the views of SAICA.
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