Treasury proposes changes to tax treatment of collective investment schemes
The amendments would make explicit the difference between capital and revenue, rather than SARS having to rely on the circumstances of individual cases
The Treasury has proposed changes to the Income Tax Act to clarify the tax treatment of collective investment schemes.
The proposed changes would bring certainty to tax rules regarding the distinction between capital and revenue, which is not explicitly stated in the Income Tax Act — which does not define income of a capital nature.
Currently, SARS relies on the facts and circumstances of each particular case, and on case law, to determine this distinction, which the Treasury says has resulted in different applications of the law and an uneven playing field regarding the taxation of collective investment schemes.
Treasury chief director of legal tax design said in a briefing to parliament’s finance committee on Thursday on the Draft Taxation Laws Amendment Bill that it had come to the government’s notice (via whistle-blowers) that some collective investment schemes "are, in fact, generating profits from the active, frequent trading of shares and other financial instruments rather than for long-term investments.
"These collective investment schemes argue that the profits are of a capital nature, even though they are trading and not revenue and, therefore, not subject to income tax. They base this argument on the intention of long-term investors in the collective investment scheme."
Profits of a capital nature would be taxed at the lower capital gains tax rate.
Mputa explained that for income tax purposes now, distributions to unit trust holders that are not of a capital nature, which are made within 12 months of the income being accrued or interest received, followed the "flow through" principle. They are deemed to accrue to unit holders on the date of distribution and are subject to tax in the hands of the unit holders.
In terms of the proposed amendments, she said distributions from collective investment schemes to unit holders, which were derived from the disposal of financial instruments within 12 months of their acquisition, should be deemed to be income of a revenue nature and be taxable as such in the hands of unit holders if distributed to them under current tax rules. This is the one-year holding-period rule.
Where a collective investment scheme acquired financial instruments at various dates, it will be deemed to have disposed of those instruments acquired first. The "first in, first out" method will be used to determine the period the financial instruments were held for the purposes of the one-year holding-period rule.
Mputa said deductions and allowances would not flow through to unit holders and amounts deemed to have accrued to unit holders will be limited to amounts of gross income, reduced by deductions allowable under Section 11 of the act.