The Gauteng Division, Pretoria, of the High Court recently had occasion to consider the constitutionality of retrospective legislation, in Pienaar Brothers (Pty) Ltd v CSARS & the Minister of Finance Case 87760/2014 (not yet reported). The Court in effect condoned retrospective legislation where adequate warning existed of its imminent introduction. This article will not attempt to canvass the 156 page judgment in full, but will summarise the facts and the rationale for the judgment.
The circumstances hark back to the unlamented secondary tax on companies (STC) and in particular a loophole provided by section 44(9) of the Income Tax Act, 1962 (Act) that needed to be closed.
Pienaar Brothers (Pty) Ltd (not the taxpayer) was an operating company. It needed to introduce a BEE element of ownership into the company. To this end, acting on legal advice, section 44 of the Act was used. The taxpayer was acquired in March 2007. A condition of an amalgamation transaction as applied to the current matter was that the company, the “amalgamated company”, disposed of its assets to the newly acquired company, the “resultant company” in exchange for shares in the resultant company. The amalgamated company then disposed of those shares, being its only asset, to its shareholders and its existence was terminated.
On 16 March 2007 the taxpayer, then bearing the name Sererebule Trading 15 (Pty) Ltd, concluded the amalgamation transaction, effective from 1 March 2007, in terms of which it acquired the assets of Pienaar Brothers (Pty) Ltd partly in exchange for shares in the taxpayer. The value of the assets was of course treated as the subscription price for the shares, and credited, to the extent of their par value to the share capital of the taxpayer and the rest, amounting to R29.5 million, to its share premium account. The reason for the transaction was to introduce a BEE component into shareholding.
On 3 May 2007 the taxpayer distributed the R29.5 million to its shareholders from its share premium account. At that date, paragraph (f) of the former, and equally unlamented, definition of “dividend” in section 1 of the Act excluded from the definition any amount distributed from the share premium account of a company. Section 44(9) confirmed that this exemption applied to distributions in terms of an amalgamation transaction.
On 7 May 2007 the BEE shareholders acquired 25.1% of the share capital of the taxpayer, now shorn of its substantial share premium account, for what was presumably a small, affordable amount, thus achieving the BEE objective of the transaction.
The problem that led to the present matter arose when SARS imposed STC on the taxpayer’s R29.5 million distribution to its shareholders. In other words, SARS denied the exemption provided for in paragraph (f) of the definition of “dividend”. The taxpayer objected on the grounds that on 3 May 2007 paragraph (f) still applied, as the amending legislation following the annual Budget proposals on 20 February 2007 had not yet been promulgated.
In his Budget speech on 20 February 2007 the Minister announced that certain retrospective amendments would be introduced to deal with certain anti-avoidance arrangements relating to STC.
On the following day SARS issued a press release announcing that the STC exemption for amalgamation transactions contained in Section 44(9) of the Act was to be withdrawn with immediate effect and replaced with section 44(9A), which closed the loophole with effect from that day, 21 February 2007.
The amending legislation was promulgated on 8 August 2007, deleting section 44(9) and in effect ensuring that distributions such as the one carried out by the taxpayer on 3 May 2007 would be subject to STC, with effect from 21 February 2007. The taxpayer contended that it had never received any formal notice of this retrospective legislation, and it was unconstitutional for legislation to affect transactions already concluded under previous legislation.
The court proceeded with a long and interesting analysis of retrospective and retroactive legislation, which is beyond the scope of this article. Perhaps the discussion may be very briefly summarised by saying that the court found that the retrospective legislation did not arbitrarily deprive the taxpayer of its property. Parliament had used a well-accepted mechanism for amending legislation to protect the government’s ability and need for taxes in order to run the country. Taxpayers had been warned, by the Minister on 20 February, and by SARS on 21 February, and by vigorous discussions between interested parties and SARS and National Treasury, which led to amendments to the original proposals, that the amending legislation was on the way and would be back dated to 21 February 2007. Consequently, the backdating to 21 February could not be considered to be unconstitutional.
As the court, with respect correctly, pointed out, this is a familiar mechanism. As far back as December 1988, for example, just as taxpayers were going off for their end of year break, the then Minister of Finance, Barend du Plessis, warned taxpayers that in the amending legislation following the 1989 Budget he was going to introduce two anti-avoidance measures, to take effect from the day of this announcement. The resultant additions to the Act were section 8E, at that time called preference share schemes, and section 103(5), the interest/dividend swap schemes. Taxpayers were thus put on notice that between then and the promulgation date of the 1989 amending legislation that they entered into preference share schemes and dividend/interest swaps at their peril. In 1989 we did not yet have our current constitution, but it is submitted that retrospective legislation with advance warning is both constitutional and an understandable weapon in the hands of the fiscus.
Finally, most recently in their draft response dated 14 June 2017 to comments raised at the hearings of the Parliamentary Standing Committee on Finance, National Treasury (NT) and SARS referred to Pienaar Brothers in their response to complaints that the Budget announcement, published on 22 February 2017, that the rate of dividends tax was to be increased from 15% to 20% with effect from that date, was retroactive and made without a mandate from the legislature. NT and SARS pointed out that the court in Pienaar Brothers had found that retrospective legislation was acceptable. Dividends tax is imposed when a dividend is paid in the case of listed companies, and on the earlier of when it is paid or due and payable in the case of unlisted companies. The response continued:
“South African law distinguishes between retroactive legislation and retrospective legislation. Retroactive legislation means legislation that changes the law with effect from a date in the past, in respect of events or transactions irrespective of whether they occurred before that date, typically where legislation provides that from a past date, the new law shall be deemed to have been in operation. On the other hand, retrospective legislation means legislation that affects an event that occurred prior to the date on which the legislation was promulgated but on or after the date on which the proposed change in the law was first announced.
Applying the above to the given circumstances, the proposed increase of the DT rate from 15 per cent to 20 per cent with effect from 22 February 2017 is not retroactive as it does not seek to tax dividends that were paid before 22 February 2017. The proposal was effective from the date of the announcement, not from a date in the past. However, the proposed increase can be viewed as retrospective as it has been implemented before the legislation has been promulgated. Other proposals in the Draft Rates Bill, such as changes to personal income taxes, can be characterised in the same manner. In fact, most rates and threshold changes take place after the announcement on Budget Day, and begin to be implemented before the tax laws are enacted (normally around December, about ten months after the announcement). Given the market sensitivity of tax announcement, this practice is the norm in order to ensure that taxpayers do not rush to restructure their tax affairs to lower or avoid paying the full amount of the expected tax.
All over the world, it is not uncommon for taxation measures to be enacted with retrospective operation and for those measures to commence from the date of the budget announcement, rather than the date of a transaction or enactment of legislation. Generally, there is acceptance that amendments to tax legislation may apply retrospectively, where the Government has made an announcement of its intention to introduce legislation with sufficient detail of the proposal and subsequent legislation providing for commencement with effect from the date of announcement. It is international practice for countries to accept that retrospective amendments may be appropriate where a retrospective provision (i) corrects an unintended consequence of a provision, (ii) addresses tax avoidance and (iii) might otherwise lead to a significant behavioural change that would create undesirable consequences.”
The dividends tax issue is now water under the bridge, but Pienaar Brothers has confirmed the acceptability of retrospective legislation in appropriate circumstances.
