Treasury to clamp down on tax abuse by dividend stripping
But critics say this could focus on transactions that should not be considered, such as the issue of shares for an employee share-ownership plan
The Treasury plans to tighten the anti-avoidance rules dealing with dividend stripping to target tax abuse, but there are fears that it might be casting its net too wide with the result that the proposed measures would also hit other unintended transactions.
The proposed changes are contained in the first batch of the draft Taxation Laws Amendment Bill, released for public comment by the Treasury in June. They were mentioned in the budget review tabled in parliament in February and will come into effect retroactively from the date of the announcement (February 20 2019) and apply to dividend stripping schemes entered into on, or after, this date.
PwC senior manager of tax technical Greg Smith said the main problem with the Treasury's proposal was that it would bring transactions into the net that clearly should not be there, such as the issue of shares for an employee share-ownership plan. "It is overly broad," he said in an interview.
Smith said the Treasury would be publishing the full text of the 2019 draft Taxation Laws Amendment Bill for public comment later this week, and changes could be made to the initial proposals regarding dividend stripping to take account of public comments.
Dividend stripping normally occurs when a shareholder company that intends to disinvest in a target company avoids income tax (including capital gains tax) that would ordinarily arise on the sale of shares. This is achieved by the shareholder company ensuring that the target company declares a large dividend to it prior to the sale. This pre-sale dividend, which is exempt from dividends tax where residents are concerned, decreases the value of the shares in the target company and as a result, the shareholder company can sell the shares at a lower amount, thereby avoiding a much larger capital gains tax burden.
“It has come to government’s attention that certain taxpayers have embarked on abusive tax schemes aimed at circumventing the current anti-avoidance rules dealing with dividend stripping arrangements. These schemes involve millions of rand and have the potential to erode the SA tax base,” the Treasury said in its explanatory memorandum to the draft bill.
“These latest schemes involve, for example, a substantial dividend distribution by the target company to its shareholder company combined with the issuance, by that target company, of its shares to a third party or third parties. The ultimate result is a dilution of the shareholder company’s effective interest in the shares of the target company that does not involve a disposal of those shares by the shareholder company.
“The shareholder company ends up, after the implementation of this arrangement, with a negligible effective interest in the shares of the target company without triggering the current anti-avoidance rules. This is because the current anti-avoidance rules are triggered when there is a disposal of shares, while these new structures do not result in an ultimate disposal of the shares but a dilution of the effective interest in the target company.”
In terms of the Treasury's proposed amendments, the anti-avoidance rules will no longer apply only at the time when a shareholder company disposes of shares in a target company. Shareholder companies will be deemed to have disposed of, and immediately reacquired, their shares in the target company, despite them not disposing of their shares, if the target company issues shares to another party and the market value of the shares held by the shareholder company in the target company is thereby reduced.
In such an instance, the shareholder company will be deemed as having disposed of a percentage of the shares it holds in the target company immediately after a share issue that results in a decrease in the value of the shares it holds. The percentage envisaged is the percentage by which the market value of those shares has been reduced as a result of the issuance of shares.