South Africa’s Minister of Finance, Pravin Gordhan, in his introductory
remarks to parliament on the Taxation Laws Amendment Bills, 2011, clarified the
final disclosure requirements under the anti-avoidance rules within the country’s
tax code that were originally introduced to facilitate intra-group transactions.
“Section 45 (of the Income Tax Act) was only intended,” Gordhan
insisted, “to facilitate the movement of assets within a single group
of companies without incurring undue tax charges”. The section gives companies
roll-over relief and facilitated transfers among companies that operate as a
single group.
The corporate rules provided for a deferral of income tax or capital gains
tax, but the government had become concerned about the use of the rules as a
tax-free mechanism to obtain interest deductions linked to excessive debt (and
other hybrid instruments masquerading as debt) in facilitating, for example,
leveraged buyouts and other restructuring.
As the revenue loss resulting from transactions involving the corporate rules
had been estimated to be in the order of ZAR3bn (USD380m) to ZAR5bn a year,
the National Treasury temporarily suspended the operation of section 45 for
an 18-month period in June this year to enable an in-depth investigation.
However, in August, following consultations, the Minister of Finance lifted
the proposed suspension of section 45 to allow transactions that are commercially-driven
to continue, as long as these transactions do not result in “an unacceptable
revenue loss”.
In his remarks, Gordhan confirmed that “section 45 has become a core
acquisition tool in the case of leveraged buyouts of target companies. In essence,
a leveraged buyout exists when parties purchase a target company with debt.
(However,) while we as government are not opposed to leveraged buyouts per se,
at issue is the excessive debt often associated with these transactions.”
He took issue with the cases where the levels of debt amount to 75% to 95%
of the total balance sheet of the target company. The net effect of these excessive
levels of debt is to generate interest deductions that effectively wipe out
taxable company profits for a minimum of 5 to 7 years. Needless to say, these
excessive deductions come at an unacceptably high price to the (tax base).”
“Under the final proposal,” he confirmed, “section 45 will
be retained but tightly controlled. More specifically, taxpayers will need to
obtain South African Revenue Service pre-approval before obtaining interest
deductions associated with section 45. Excessive debt funding not only undermines
the tax system but also raises concerns in terms of systemic economic risk –
making companies far too prone to economic downturns.”
He concluded that “issues arising from section 45 point to a larger set
of problems in the tax system – the role of debt versus share financing.
Shares are often disguised as debt, and debt is often disguised as shares. Therefore,
it should be recognized that the debate around section 45 is the beginning of
a longer journey. At issue is how to curb these practices while recognizing
the need for flexible mechanisms to obtain funding. One can accordingly expect
further announcements in this area in the years ahead.”
LAWANDTAX-NEWS.COM
