Just when several countries are considering dismantling or reducing the impact of their capital gains tax legislation, South Africa's minister of finance has given notice in his annual budget speech of the intention to introduce the tax in South Africa. Capital gains tax will take effect from April 1 2001, and it is understood that the amending legislation will be available early in 2001. In the interim, the tax authorities have issued a guide relating to the tax and its application.
One of the difficulties in applying a capital gains tax is finding a suitable indexing factor to take account of inflation-driven increases in value rather than real increases. The problem is addressed here by avoiding indexing altogether and, instead, subjecting only a portion of any capital gain to tax at normal income tax rates. Individuals will be taxed on 25% of any gain, while the figure will be 50% for other taxpayers. At current rates, this will translate into a rate of 10.5% for individuals at the maximum marginal rate and 15% for other entities.
Resident individuals and companies will be taxed on worldwide capital gains, while non-residents will be taxed on gains from fixed property situated in the republic and from assets used in South Africa in the course of any trade, profession or vocation.
One of the more demanding requirements for taxpayers will be the maintenance of adequate records. Never a serious problem in the past, particularly for individual taxpayers, it will now be important to keep accurate records not only of cost price and all improvements, but also of legal costs relating to any dispute regarding ownership and similar costs that might not necessarily be treated as enhancing the cost of an asset in the normal course. All these will be treated as part of the cost in determining capital gains.
The starting point will be the value on April 1 2001, or any valuation done within the preceding six months. On the occurence of a 'capital gains tax event', the proceeds (or value at that date) will be compared with the April 1 2001 value and the difference taxed. As an alternative to obtaining a valuation on the starting date, taxpayers will have the option to compare original cost with value at disposal, and apportion the gain on a time basis pre- and post-April 1 2001.
A capital gains tax liability will be triggered whenever a disposal occurs. This includes actual disposals by means of sale, donation, scrapping, exchange, destruction, redemption or cancellation. In addition, a disposal will be deemed to have occurred when a person emigrates, or when the beneficial interest in a trust changes, or on certain derivative and value-shifting transactions.
Certain assets are exempt from capital gains tax:
- any residential property occupied by the owner (second homes and properties owned by trusts do not enjoy the exemption);
- private motor vehicles, personal belongings and effects;
- assurance policy proceeds;
- compensation for injury, illness or defamation;
- fortuitous gains (presumably, lottery winnings would be protected under this exemption);
- gains on conversion of foreign tender into rands for personal use (for example, cashing in unused travellers cheques on return from an overseas holiday); and
- assets of small businesses disposed of for retirement purposes, up to a maximum of R500 000 ($70,055) and provided the assets have been held for at least 15 years.
In certain cases, for South African residents only, disposal will not trigger an immediate capital gains tax liability. The gain will be rolled over until a further disposal. This relief will be available to:
- transfers of assets between members of wholly-owned groups;
- contributions by not more than five persons to any company or close corporation in return for equity capital. This exemption is intended to encourage the creation of small businesses;
- in similar vein, the transfer of business assets to a company by a shareholder who holds at least 20% of the share capital after the transfer;
- transfers of bequests or inheritances from deceased estates;
- transfers between spouses; and
- transfers in pursuance of any scheme of unbundling or rationalization.
When the rollover option is chosen, the capital gains tax ultimately paid will be on the difference between cost to the disposer at the time of the first disposal and the proceeds.
Special rules are being considered for long-term insurers, retirement funds and unit trusts.
The authorities have made it clear that anti-avoidance procedures will be installed, with severe penalties especially for activities between now and April 1 2001 entered into solely or mainly to inflate the value of assets at the start date.