On 28 March 2011 SARS issued a draft interpretation note (DIN) regarding the application of section 9C of the Act, the so called "safe haven" provision on shares. The DIN is fairly extensive and covers a wide range of issues. The following discussion highlights some of the issues that are likely to apply to share dealers. The section applies automatically
Any disposal of a "qualifying share" (one that has been held for at least three years) will be subject to section 9C and the resultant profit or loss will be capital in nature. One thus cannot "elect out" of the provision, or establish separate share portfolios (one for investment and one for dealing) that will retain their nature extending over more than thee years.
Disposals of shares within the three year period will be subject to the normal capital / revenue considerations. Maintaining separate portfolios may thus still assist in classifying the shareholdings within the portfolios.
Three year holding period
The DIN notes that the section applies when the share has been held for a continuous period of exactly three years and uses an example of a share required at 10:00 on 1 October 2007 – it must be held until at least 10:00 on 1 October 2010 to qualify.
First-in-first-out basis
Section 9C(6) prescribes a first-in-first-out (FIFO) basis to determine which shares are disposed of where they were acquired on different dates. However, under paragraph 32 of the Eighth Schedule, for capital gains tax (CGT) purposes, taxpayers may elect to apply either FIFO; a specific identification (SPID); or a weighted average (WAV) method, to determine the base cost of their identical assets.
These provisions are not necessarily in conflict, as the section 9C rules determine the period that a share has been held, whereas the provisions of paragraph 32 of the Eight Schedule determine the base cost of the shares. Taxpayers electing either SPID or WAV for CGT purposes are required to maintain records to apply FIFO for purposes of section 9C.
"Corporate events"
The treatment of a number of "corporate events" requires special consideration. For example:
- securities–lending arrangements are not regarded as disposals and the three year holding period will continue during the period of the arrangement;
- the consolidation or subdivision of shares will not break the three year period, nor will the conversion of a close corporation or a co-operative to a company; shares acquired under an unbundling transaction under section 46, or on asset-for-share transaction under section 42, will however be held only from the date on which the shares in question are acquired;
- shares in a Venture Capital Company (VCC) will only qualify for the safe haven rule to the amount in excess of the recoupment - as the initial cost of the investment is deductible, proceeds on sale of the investment will firstly be recouped up to the level of the investment;
- after 1 January 2011, share buy backs made by JSE listed companies are excluded from the definition of a "dividend" and are thus capital in nature. In the hands of a share dealer a buy back taking place within the three year period will thus be on revenue account. Buy-backs of unlisted shares would however be taxable as a tax exempt dividend.
Recoupments
Expenditure and losses on "qualifying shares" previously allowed as a deduction to a share dealer will be recouped in the year of assessment the shares are disposed of.
Expenditure and losses incurred after the three year period will not be allowed as deductions, as the proceeds on the sale of the shares will be capital in nature (section 23(f)) on the ultimate sale of the shares.
For example, expenses and losses incurred in years one to three will be deductible and will be recouped when the shares are disposed of in year five. Expenses incurred in years four and five will not be allowed as a deduction in those years (as the share dealer would already have held them for three years). The disallowed or recouped costs may qualify for inclusion in the base cost of the shares under paragraph 20.
Paragraph 20 is limited in the nature of the expenses that may qualify. Certain expenses will thus not qualify (e.g. interest incurred in funding the acquisition of unlisted shares, or two thirds of such interest in the case of listed shares, will not form part of the base cost).
Deemed disposals
Certain "deemed disposals" may arise, for example if the taxpayer ceases to be a resident, or on the death of the taxpayer. The provisions of section 9C will apply in the former case, but not in the latter. In the case of the death of a share dealer, the amount deducted as closing stock in the previous year will be included in taxable income, even if the shares in question had been held for period of more than three years. Any value in excess of such amount will fall within the CGT provisions.
Conclusion
From this high level discussion of some of the considerations, it is clearly evident that share dealers need to keep accurate and extensive records to ensure that the dates, amounts and the nature of all share transactions can be clearly identified and treated in terms of the provisions of the Act.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.