Companies: How Will the Reduced Tax Rate and Assessed Loss Rules Affect You?
“What the government gives it must first take away.” (John S. Coleman)
It certainly seemed like a win for taxpayers when Finance Minister Enoch Godongwana announced in his February Budget Speech that the corporate income tax (CIT) rate has been reduced from 28% to 27% for companies with a tax year ending on or after 31 March 2023.
But as we are reminded by John Coleman’s quote: “What the government gives it must first take away.”
In this particular instance, to give a 1% reduction in the corporate tax rate, government limited the tax relief corporate taxpayers have enjoyed in the past in terms of assessed losses and interest deductions.
According to Treasury, South Africa is following an international trend evident over the past few years to restrict the use of assessed losses and reduce the corporate income tax rate.
What’s the link to the corporate tax rate reduction?
The 1% reduction in the corporate tax rate is expected to cost the fiscus R2.6 billion -in the year of assessment commencing on or after 1 April 2022. To ‘neutralise’ this – and thus achieve a revenue-neutral reduction in the corporate tax rate – two further changes to corporate tax rules have been made.
The first is further limitation of corporate interest deductions, specifically on multinationals; and the second is restrictions on the use of assessed losses to reduce future corporate tax liabilities.
The first involves changes to, amongst others, the scope and thresholds of the interest deduction limitation, achieved by fixing and limiting the interest deduction limitation ratio to 30% of a taxpayer’s “adjusted taxable income”, instead of the earlier flexible percentage (adjusted upwards and downwards based on the average repo rate) capped at 60%.
What are the new assessed losses rules?
Assessed loss rules were originally created to smooth the tax burden for:
- businesses that require a significant upfront capital outlay, causing assessed losses to accumulate before any profit is realised;
- cyclical businesses that realise losses in some years and profits in others, such as farming operations, and
- companies that suffer temporary setbacks and losses before recovering to become profitable again.
As a result companies could previously offset the full balance of any assessed loss carried forward from a previous tax year against all its taxable income for the current year. In addition, companies could carry over any assessed loss balance remaining to future years indefinitely subject only to the requirement that the company continues to carry on a trade. In effect, it meant that a company would only become liable for income tax once it earned a taxable profit and the balance of the assessed loss was exhausted.
Under the new rules, assessed losses brought forward from a previous year of assessment – regardless of the amount – can only be offset against the higher of R1 million or a maximum of 80% of taxable income for the current year.
This means that income tax will now always be levied on 20% of the taxable income for the year where the taxable income in the current year exceeds the R1 million threshold, no matter what the assessed loss balance carried forward from previous years may be. This will have adverse tax cash flow implications for some companies.
Small companies unaffected, and losses are not forfeited, unless…
Smaller companies with a taxable income below R1 million will not be affected by the new rules.
Further good news is that companies will not forfeit the balance of the assessed loss that could not be utilised. The balance can be carried forward to the next tax year, provided that the company earns income from trade in the succeeding year of assessment.
However, beware: if a company does not trade for a full year of assessment and no income is earned from such trade, the assessed loss will be lost.
When do the new rules apply, and which companies are affected?
The new rules apply to any year of assessment that ends on or after 31 March 2023, which, in more practical terms, means years of assessment that begin from 1 April 2022 onwards.
It is also important to note that the new limitation will apply to assessed losses generated prior to the effective date, as well as those arising after 1 April 2022.
Some companies will not be affected immediately, for example, companies with no assessed loss balance, or those with a taxable loss.
The cash flow implications, with examples
For those companies affected, the changes will have tax cash flow implications, best illustrated by the way of examples –
Table based on an example from Draft Explanatory Memorandum On The Taxation Laws Amendment Bill, 2021
Your Tax Deadlines for April 2022
- 1 April Start of the 2022/23 Financial Year
- 7 April Monthly Pay-As-You-Earn (PAYE) submissions and payments
- 25 April Value-Added Tax (VAT) manual submissions and payments
- 28 April Excise Duty payments
- 29 April Value-Added Tax (VAT) electronic submissions and payments & CIT Provisional payments where applicable.
Planning to Cease Being a South African Tax Resident? What You Should Know Before Approaching SARS
“Dear IRS, I am writing to you to cancel my subscription. Please remove my name from your mailing list.” (Snoopy)
According to some estimates, as many as 1,900 millionaires have left South Africa over the last few years. A New World Wealth Africa report indicates that 4,200 high net-worth individuals left the country over the last 10 years.
Whether due to choice or circumstances, a taxpayer ceasing to be a tax resident of South Africa must declare the change to SARS.
As the number of wealthy and skilled South Africans who are emigrating increases, SARS recently announced that another channel has been made available to taxpayers to inform SARS as above.
You can now also inform SARS through the Registration, Amendments and Verification Form (RAV01) available on eFiling or at a SARS branch, by capturing the date on which you ceased to be a tax resident.
Alternatively, you can inform SARS by capturing the date on the ITR12 tax return, as before.
Informing SARS via any channel could trigger unintended consequences. In addition, to qualify the taxpayer will have to substantiate how the qualifying criteria are met.
Many intricacies
It is not as simple as filling in a form. Numerous factors are taken into account to determine whether a taxpayer has ceased to be a tax resident of South Africa.
There are three bases for qualification for individuals:
- Cease to be ordinarily resident
- Cease by way of the physical presence test
- Cease due to application of a Double Tax Agreement (DTA).
Whether an individual ceases to be a tax resident in South Africa is based on the manner in which such individual has been a tax resident. If the taxpayer has been ordinarily tax resident, the intention to cease will be supported by various objective factors. If a person has ceased to be ordinarily tax resident, it will be from the day such person ceased residence.
An individual, who is resident by virtue of the physical presence test, ceases to be a tax resident when that person has been physically outside the Republic for a continuous period of at least 330 full days. The individual will be deemed to have ceased to be a tax resident from the day such person left South Africa.
An individual who has become a tax resident of another country through the application of a double tax agreement will also cease to be a resident for tax purposes in South Africa.
Companies
A company is deemed to be South African tax resident either if it was incorporated here or if its place of effective management is located locally.
A company’s place of effective management may no longer be located in South Africa, for example, when the majority of a company’s board of directors move offshore on a permanent basis.
If a company becomes a tax resident of a jurisdiction with which South Africa has a double tax agreement, the company would normally cease to be South Africa tax resident.
Beware the unintended consequences
The intended outcome of informing SARS of breaking tax residency is that the taxpayer is no longer taxed in South Africa on worldwide income, but only on South African sourced income.
It may also have unintended outcomes. Informing SARS via any channel will trigger a case number as well as a request for various documents and substantiations, which taxpayers are obliged by law to provide.
If the declaration is made via the RAV01 form on eFiling, the completed declaration form must be submitted with the relevant supporting documentation. If the declaration is made on the income tax return (ITR12), the supporting documents and information requested will depend on the basis on which you have ceased to be a tax resident.
In many instances, advising SARS that you or your company intend to cease to be a tax resident will trigger an audit.
Potential tax liability
For individuals, ceasing to be a tax resident triggers a deemed disposal of worldwide assets, and exposes the taxpayer to possible capital gains tax.
Depending on the type of assets held and where they are located at the time when an individual breaks tax residence, a deemed disposal for capital gains tax purposes will take place when the person’s local tax residency ceased. The individual will be deemed to have disposed of worldwide assets at market value to a South African tax resident, with some exceptions such as certain personal-use assets and immovable property situated in South Africa.
Where a company ceases to be a South African tax resident, a capital gains tax may be triggered, and an additional dividends tax may also arise, among other possible unintended consequences.
Given the complexity of the provisions and potential tax liability, it is recommended that taxpayers rely on professional advice covering not only their South African tax position, but also their tax position in their new country of residence, well before approaching SARS.
