Tag: Employees

THE TAXATION OF EMPLOYEE INCENTIVE SCHEMES

It has become popular commercial practice for many employers to design employment incentive schemes whereby employees are remunerated for services rendered over a period of time by allowing them to participate in share incentive schemes. Typically, these schemes take the form of either cash-based settled schemes or share-based settled schemes. The former involves participating employees receiving a cash payment after a certain period at the exercise of their share appreciation rights equal to the increase in value of the underlying share value to which the scheme is linked. Share-based payments, on the other hand, involve the employees receiving actual shares in the employer company and which would (ideally) have increased in value over the period of time, due in part to the employees’ endeavours and involvement in the company’s activities.

In terms of section 8C of the Income Tax Act,[1] these benefits received by employees through participation in such schemes are taxed on income tax account, in other words, on the same basis as though these benefits had been a salary earned.

Depending on whether the rights granted under the scheme are restricted or not, the tax consequences arising for the employee will fall due either when the options are granted to the employees (in the case where no restrictions in relation to the options exist), or only once they are exercised or vest for purposes of section 8C (typically when the restrictions linked to the rights granted falls away).[2] At that stage, the gain to be taxed is calculated as being the value of the benefits received in terms of the scheme minus the amount paid (if any) to acquire those benefits.[3]

Restrictions for section 8C’s purposes typically take the form of a restriction on when the rights acquired may be exercised (typically linked to an employee remaining in service of the company for a number of years), or a prohibition on the employee transferring or selling those rights at market value to other persons (the rights granted are often not permitted to be sold to another).[4]

Take the following as an example: Company A grants an employee the right to receive shares in it worth R10 by paying an amount of R1 only. If that right to take up shares may be exercised immediately, and no restriction linked to transferability thereof for example exists, that “unrestricted equity instrument” will give rise to a taxable gain of R9 when the option is received. Where the right to subscribe for shares in Company A for R1 may however only be exercised if the employee is still in employment of Company A within 3 years’ time, or may be exercised at any point in time but may not be sold to another, then the gain realised for section 8C’s purposes will only be calculated when and at the value of the shares when these are eventually acquired. In such an instance, the gain calculated should be reduced by the subscription price of R1 paid for the shares. Similarly, if the reward does not involve the subscription of shares, but rather a payment to the employee of the increased value of shares over a predetermined period in time, the value of the shares minus the R1 paid to acquire the options will be the amount of the gain subject to income tax.

Section 8C has been the focus of many legislative amendments over the past few years and involves arguably one of the most complex provisions of the Income Tax Act. Employees and employers alike would therefore be well-advised to take detailed tax advice prior to entering into, and exercising, rights provided for in terms of employment incentive schemes such as these described above.

[1] 58 of 1962

[2] Section 8C(3)

[3] Section 8C(2)

[4] See the definition of “restricted equity instrument” in section 8C(7)

This article is a general information sheet and should not be used or relied upon as professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your financial adviser for specific and detailed advice.  Errors and omissions excepted (E&OE)

Donations tax

A2_desDonations tax is levied in terms of the Income Tax Act at 20% of the value of any property donated by South African tax residents. The tax is levied on the donor, although the Act does make provision for the tax to also be recovered from the person receiving the donation in certain instances if the donor fails to pay the requisite amount of tax.

It is no coincidence that the tax is levied at exactly the same rate as Estate Duty is. It therefore acts as an effective anti-avoidance measure for Estate Duty to ensure that an estate is not reduced by way of donations by a person in anticipation of death and in order to escape the Estate Duty.

A donation could either arise by virtue of a gratuitous disposal of property, or where property has been disposed of for less than adequate consideration. It should be noted that a donation is defined in the Income Tax Act as to specifically include any ‘gratuitous waiver or renunciation of a right’. This implies that the donations tax also potentially comes into play where a loan is waived.

Several exemptions from the tax apply though. These general exemptions include:

  • Donations between spouses;
  • Awards given to employees;
  • Donations to public benefit organisations;
  • Distributions by a trust to its beneficiaries; and
  • Donations between a ‘group of companies’.

In addition to the above, any bona fide contribution to the maintenance of any person considered to be reasonable by the Commissioner will not attract donations tax. Similarly, a natural person is allowed to annually donate property to the value of R100,000 donations tax free, whilst companies are permitted donations in the form of so-called ‘casual gifts’ of up to R10,000 during a tax year without incurring a liability towards donations tax.

This article is a general information sheet and should not be used or relied upon as professional advice. No liability can be accepted for any errors or om missions nor for any loss or damage arising from reliance upon any information herein. Always contact your financial adviser for specific and detailed advice. Errors and omission excepted. (E&OE)

Provisions and liabilities: Do you know the difference?

A1blProvisions and liabilities – words that are often used interchangeably but for accounting purposes they are not the same. To determine whether expenditure is a provision or a liability depends on the certainty, timing and amount of the expenditure.

The classification of provisions and liabilities depends on the answers to the questions as set out in the table below:  A1 table

The definitions of the different provisions and liabilities are discussed in more detail below, together with an example of each one.

  1. Provisions

A provision is a present obligation for future expenditure of which the amount can be estimated reliably but where there is uncertainty about the timing of the payment.

Example:

Some of our employees have not taken all their vacation leave. According to their employment contracts, they have the option of taking the outstanding leave days off or ask for it to be paid out instead.

Discussion:

(a)    Certainty:  We are certain that we will have to pay as we have a contractual agreement with the employees.

(b)   Timing: It is uncertain when we will have to pay because the employees can ask to take the leave or receive the payout at any time in the future.

(c)    Amount: We can reliably estimate the amount by multiplying the number of untaken leave days per employee by the employee’s average salary per day.

  1. Liabilities

2.1 Trade payables

A trade payable is a liability to pay for goods or services that have already been received or supplied, and have been invoiced by the supplier.

Example:

A supplier has delivered clothing to our company. The supplier already invoiced us for the clothing but we still have to pay them.

Discussion:

(a)    Certainty: It is certain that we will have to pay for the clothing as we have received it.

(b)   Timing: We will pay according to the terms as set out on the invoice of the supplier.

(c)    Amount: The amount is determined by the supplier’s invoice.

2.2 Accruals

An accrual is a liability to pay for goods or services that have been received or supplied, but have not yet been paid or invoiced. Sometimes it is necessary to estimate the amount or timing of an accrual but the degree of uncertainty is less than for provisions.

Example:

We ordered clothing from a supplier and they have already delivered it to us but we are still waiting for them to send us their invoice.

Discussion:

(a)    Certainty: We are certain that we have to pay the supplier as we have received the clothing.

(b)   Timing: It depends on the terms of the invoice and will only be known with certainty after we have received the invoice from the supplier.

(c)    Amount: We know what amount we ordered for but the amount will only be confirmed after we received the invoice.

2.3 Contingent liabilities

With a contingent liability, it is uncertain whether the business will be liable for payment in future. The timing and the amount of the potential payment is conditional upon the results of a future event.

Example:

A model who bought clothing from us for a photo shoot has sued us. She washed the clothes and the colours faded so much that she had to cancel the photo shoot because she could not wear the faded clothes. She has sued us for loss of income because she could not do the photo shoot. The court case is still ongoing and it is not clear yet whether the business will be liable to pay her for the loss of income she suffered.

Discussion:

(a)    Certainty: We will only know if we have to pay when the court case is finished.

(b)   Timing: It will depend on when the court case finishes.

(c)    Amount: It will depend on the amount that the judge determines.

It is clear from the above content that the classification of provisions and liabilities is a grey area and open to different angles of interpretation. Classification should always be supported by the facts specific to the situation and if in doubt, rather get professional advice. 

This article is a general information sheet and should not be used or relied on as professional advice. No liability can be accepted for any errors or omissions or for any loss or damage arising from reliance upon any information herein. Always contact your financial adviser for specific and detailed advice. 

Reference List:

  • saica.co.za
  • IFRS for SMEs – A summary by W. Consulting and SAICA
  • Income Tax Act, No 58 of 1962

Public benefit organisations: Profit from tax benefits

A3blOrganisations with philanthropic missions serving the general public may enjoy the benefit of SARS’ generosity if they have all their ducks in a row. There are, however, quite a number of requirements and stipulations which must be adhered to in order to qualify, and companies that want to apply, should ensure that they keep to all the stipulations.

The Income Tax Act (“the Act”) uses the term Public Benefit organisation as an all-encompassing concept for “old” section 21 companies, trusts or associations with the sole or principal object of carrying on one or more public benefit activities. South African branches of international companies, associations or trusts that are exempt from income tax in their resident countries also fall within the ambit of the legislation.

Part I of the Ninth Schedule to the Act lists a number of activities that qualify as public benefit activities. The Schedule includes activities resorting under the following headings:

  • Welfare and Humanitarian
  • Health Care
  • Land and Housing
  • Education and Development
  • Religion, Belief and Philosophy
  • Culture
  • Conservation, Environment and Animal Welfare
  • Research and Consumer Rights
  • Sport

A company, trust or association whose sole or main object is to provide funds to an organisation carrying out one of the activities listed above is also regarded as a public benefit organisation. Apart from the requirement that the organisation’s sole or main object has to be the carrying out of one or more public benefit activities, these activities need to be carried out in a non-profit manner and with altruistic or philanthropic intent.

In accordance with the essence of a non-profit institution, the activities of the organisation may not be intended to directly or indirectly promote the economic self-interest of any fiduciary or employee of the organisation. Employees may, however, receive reasonable remuneration for their services. A further requirement is that the activities must be for the benefit of, or be widely accessible to, the general public. Although the activities may focus on a certain sector of society, for instance children or AIDS sufferers, it may not serve the needs of a small or exclusive group.

Public benefit organisations need to apply to the Commissioner for approval in terms of Section 30.  This provision contains a number of stringent requirements; not only with regard to the applying for approval but also maintaining that status. These requirements will be discussed in more detail in the following edition of the Newsletter.

In terms of section 10(1)(cN) of the Act the receipts and accruals of a public benefit organisation are exempt from income tax. However, any income derived from a business undertaking or trading activity carried on by the organisation, subject to certain exemptions, remains taxable. An approved public benefit organisation need not register as a provisional taxpayer.

Treasury seems to accept that the vast majority of public benefit organisations are dependent on donations. Accordingly, there are a number of concessions to encourage generous donors:

  • Donations to public benefit organisations are exempt from Donations Tax.
  • Property bequeathed to such an organisation in terms of a will is not taken into account for purposes of Estate Duty.
  • Section 18A of the Income Tax Act entitles a taxpayer to a deduction, limited to a maximum of 10 percent of his taxable income, in respect of donations to approved public benefits. No deduction will be allowed unless the taxpayer is in possession of a receipt meeting the requirements of the provision.

In order to curb abuse of this provision, an organisation needs to apply to the Commissioner for approval to receive tax deductible donations. This application is usually done simultaneously with the general application for exemption. Only organisations that carry on one or more of the activities listed in Part II of the Ninth Schedule will qualify. The list of activities in this part is less comprehensive than Part I:

  • Welfare and Humanitarian
  • Health Care
  • Education and Development
  • Conservation, Environment and Animal Welfare
  • Land and Housing

The receipt issued in respect of the donation must certify that the donation will only be utilised in the furtherance of the organisation’s goals. Should the funds be applied for another purpose, not only would the donor be denied his deduction but the amount will also be taxable in the hands of the organisation.

Public benefit organisations are exempt from the payment of Transfer Duty when acquiring a property, but only if the whole or substantially the whole of the property is used for the carrying on of one or more approved public benefit activities. Should an organisation be fortunate enough to hold shares, dividends distributed to it will not attract Dividends Tax. There will also be no Securities Transfer Tax payable on the transfer of a listed security. As far as the disposal of assets is concerned, there is no liability for Capital Gains Tax if substantially the whole of the asset (85 percent or more) was used in the carrying on of approved public benefit activities.

Public benefit organisations carrying on activities falling in specified categories (Welfare and Humanitarian, certain Health Care activities and Religion, Belief and Philosophy) are exempt from the payment of the Skills Development Levy (SDL). The liability for Employees’ Tax, however, remains unaffected.

The one tax type not addressed in this article is Value Added Tax (VAT). The treatment of non-profit organisations in the VAT Act is a completely different kettle of fish and will be discussed in detail in a subsequent article.

This has been an attempt to explain what a public benefit organisation is and briefly list the benefits of obtaining the Commissioner’s approval. Next month’s article will focus on all the bits and bobs that are needed to ensure that an organisation complies with the legal requirements.

This article is a general information sheet and should not be used or relied on as professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your financial adviser for specific and detailed advice.

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