Section 42 of the Income Tax Act, Act 58 of 1962 (herein the ”ITA”), allows for the tax implications, normally associated with a disposal of assets, to be differed, if and when transaction meets the requirements of the said section 42.
An “asset-for-share” transaction, as articulated in section 42 of the ITA, is essentially a transaction in terms whereof a person disposes of an asset (the “transferor”) to a company, being a resident company (the “transferee company”), in exchange for the issue of an equity share in that resident company.
The market value of the asset so disposed must be equal to or exceed:
- the base cost of that asset on the date of disposal (in the event of an asset that was held as a capital asset ); or
- the amount of expenditure actually incurred to acquire the asset (in the event where the asset/s were held as trading stock).
- Section 42 of the ITA will not be applicable should the disposal of an asset give rise to a loss.
Further, the tax relief provided for in ‘asset-for-share’ transactions will only find application if the transferor at the close of the day on which the asset is disposed of:
- continues to hold a ‘qualifying interest’ in the transferee company after the disposal of the asset; or
- the transferor must be a natural person, whom will be engaged on a full-time basis in the business of the transferee company.
Section 42 can be a useful legislative tool to transfer an individual immovable property portfolio to a juristic entity and defer the capital gains taxes that may be triggered. However, when it comes to the transfer of immovable property, section 42 of the ITA does not automatically provide for the deferment of transfer duty or value added tax (VAT).
In the event where the transferor and the transferee company are both registered VAT vendors, one must consider the provisions of section 8(25) of the Value Added Tax Act, Act 89 of 1991 (herein the “VAT Act”). Section 8(25) of the VAT Act states that in the event where the transferor of the immovable property and the receiving company are deemed to be one and the same person, the transaction may be VAT exempted.
Should either one or both of the parties to the asset-for-share transaction not be registered VAT vendors, one must refer to the Transfer Duty Act, Act 40 of 1949 (herein the “TD Act”). The exemption in section 9(1)(l)(i) of the TD Act provides a blanket exemption, the only requirement being satisfaction of the requirements in section 42 of the ITA. The exemption in section 9(15A) of the TD Act provides the transfer duty exemption only if the requirements of both section 42 of the ITA as well as the requirements of section 8(25) of the VAT Act are complied with.
It is important, from a reporting and transactional document drafting perspective to ensure that the parties clearly differentiate between the applicable provisions, as incorrect recording of the parties’ position may result in unwanted tax implications upon implementation.
By Derek Brits | Senior Associate