An NED is not defined in the Income Tax Act, 1962 (Act).  According to the King III report, an NED must provide objective judgment independent of management, must not be involved in the management of a company, and must be independent of management on issues such as strategy, performance, resources and diversity.  Put differently, the NED must not countenance undue influence and must show no bias.

BGR 40 takes these concepts and places them into the context of the Fourth Schedule to the Act, which provides the definitions of “remuneration”, “employee” and “employer”.  The definitions are interrelated: an employee is a person who receives remuneration; remuneration is something paid to an employee; and an employer is a person who pays remuneration to another person.

The Fourth Schedule recognises two tests for determining whether a person is an employee.

The first is the so-called common law test, which broadly determines that a person who earns a salary, wage, stipend, commission, fee, bonus or some similar reward for services as an employee.

The second consists of two statutory tests which, even though the recipient is carrying on an independent trade, determine whether the reward for services is remuneration for purposes of the Fourth Schedule.  These are the “premises” test, where the services must be performed mainly at the premises of the client; and the “control or supervision” test, where the client exercises control or supervision over the manner in which the duties are to be performed or the hours of work.  Both statutory tests must be satisfied in order to render the recipient an employee in receipt of remuneration.

A moment’s reflection should lead one to conclude that a genuine NED, one who meets the criteria set out in King III, for example, cannot be an employee but must be an independent contractor.  The prohibitions placed upon employees as to the deductions they may claim against remuneration will consequently not apply to NEDs, who may claim various expenses denied to employees.

Of course, if a person professes to be an NED but the facts indicate otherwise, not only is the company in breach of its governance obligations but it will also be in breach of its obligation to withhold PAYE from amounts paid to the “tame” NED.

Now to BGR 41.  If an NED is not an employee, the question arises as to the nature of the amounts paid to the NED.  BGR 41 deals with this.  The NED, being an independent person, is carrying on an enterprise as defined in the Value-Added Tax Act, 1991 (VAT Act).  Employment can never qualify as an enterprise for VAT purposes but the NED is not an employee.  The next question is whether the NED is required or chooses to register as a vendor under the Vat Act.  The crisp test here is whether the NED is continuously or regularly carrying on the enterprise of an NED.  It is submitted that infrequent or occasional services as an NED would not qualify as an enterprise.  However, an NED who is conducting that office correctly is likely to be conducting an enterprise because regularity and continuity are surely requirements of a genuine NED.

If the NED’s enterprise generates fees in excess of the compulsory registration threshold, currently R1 million, the NED must register.  An NED whose fees are less than the threshold but who nonetheless wishes to register as a vendor may do so provided the fee income has exceeded R50 000 in the preceding period of 12 months.

In summary, an NED whose conduct meets the criteria expected of an independent director is not an employee of the company.  The NED must submit invoices for services and, if necessary based on the monetary thresholds, register as a vendor and levy output tax on fees.

February 2017

The taxpayer, a registered a vendor under the Value-Added Tax Act, 1991, conducted a fast food delivery business.  The taxpayer contracted with fast food outlets and takeaway restaurants to advertise their menus in a booklet which it had printed and distributed to households in the areas in which it made deliveries.  Typically, a customer would phone the taxpayer and place an order from a particular fast food outlet.  The taxpayer would relay the order to the outlet.  For the actual delivery, the taxpayer used the services of a group of drivers whom the taxpayer described as independent contractors.  When a delivery was due, the first driver in the queue would take control of the order.  This person, using private transport, would collect the order from the food outlet, deliver it to the customer, collect the payment in cash or by card, and report to the taxpayer.  The tax invoice reflected the price of the meal, to which VAT was added, and an amount described as “Drivers Petrol Money”.  VAT was not added to the Drivers Petrol Money, and this was the subject of the dispute between the taxpayer and SARS.  The fundamental issue in the appeal was whether the delivery of food orders to the taxpayer’s customers constituted a service supplied by the taxpayer for consideration in the course or in furtherance, of its enterprise.

The taxpayer contended that the delivery process was not part of its enterprise.  The driver was an independent contractor conducting a separate enterprise from that of the taxpayer.  In other words, the taxpayer was claiming to be conducting a delivery service but was simultaneously contending that it was not making deliveries.  The Drivers Petrol Money was a matter between the driver and the customer and the driver was not accountable for it to the taxpayer.  It appeared on the invoice solely to inform the customer of the fee payable to the driver for the delivery service.

Unfortunately for the taxpayer, the standard contract between the taxpayer and the “independent contractor” driver was replete with conditions typically found in an employment relationship, such as hours of work and the description of the relationship as “employment”.  In addition, the driver had to wear clothing of a particular colour and prominently bearing the name of the taxpayer’s business.  The containers for the food were similarly marked and coloured.

The court followed the approach of recent UK decisions in determining the economic reality of the transactions.  And this reality was that the taxpayer held itself out as offering a food delivery service, in return for which it received a commission from the food outlet.  It was difficult to conceive of a delivery service which did not include delivery.  The court commented at Para [29]:

“The UK Supreme Court has recently acknowledged that ‘consideration of economic realities is a fundamental criterion for the application of the … system of VAT …, and … where a transaction comprises a bundle of features and acts, regard must be had to all the circumstances in which the transaction in question takes place’; see Revenue and Customs v Aimia Coalition Loyalty UK Ltd [2013] UKSC 15, [2013] 2 All ER 719 (SC), at para 56.  At para 66 of the judgment, Lord Reed underscored the point stating:

I would at the same time stress that the speeches in Redrow should not be interpreted in a manner which would conflict with the principle, stated by the Court of Justice in the present case [ see Commissioners for Her Majesty’s Revenue and Customs v Loyalty Management UK Ltd and Baxi Group Ltd (Joined Cases C-53/09 and C-55/09) [2010] EUECJ C-53/09, [2010] STC 2651], that consideration of economic realities is a fundamental criterion for the application of VAT.”

In light of all the circumstances, the economic reality was that the delivery process was a part of the enterprise and output tax was chargeable on the delivery cost.

Peter Surtees

This case was an application by Respublica for a declaratory order as to the meaning of “commercial accommodation”, arising from a dispute between Respublica and SARS.  It was not an appeal against an assessment and hence had not been through the tax court. 

Respublica owned immovable property divided into furnished units comprising kitchenette, bathroom and bedroom/living area.  It let the building to the Tshwane University of Technology for a five year period for the sole purpose of accommodating TUT’s students.  Respublica supplied domestic goods and services in the form of water, electricity, maintenance, management of the building, a common TV room and laundry services.  TUT paid rental of R1 376 480 per month plus R275 per unit for utilities.  TUT was entitled to accommodate other people during holiday periods, when the student occupants were required to vacate their units and return home.

SARS contended that the agreement did not comprise commercial accommodation, defined in section 1 of the Act to the extent here relevant as “lodging, board and lodging, together with domestic goods and services, in any…flat…which is regularly and systematically supplied…but excluding a dwelling in terms of an agreement for the letting and hiring thereof”.  The term “domestic goods and services” is defined to include cleaning and maintenance, electricity, television set, furniture and fittings and laundry.

This definition was crucial to the matter because section 10(10) of the Act provides that: “where domestic goods and services are supplied at an all-inclusive charge in any enterprise supplying accommodation for an unbroken period of exceeding 28 days, the consideration in money is deemed to be 60% of the all-inclusive charge”.  So Respublica was contending for an order that it was conducting a commercial accommodation enterprise, meaning that it was liable for VAT on only 60% of the all-inclusive charge.

Before addressing the merits, SARS first argued that the court lacked the jurisdiction to hear the matter, which should have been dealt with under the Tax Administration Act.  However, the court approved of Respublica’s contention that the matter involved a question of law and also that there was no assessment in respect of which it could raise an objection.  The provisions of the TAA relating to litigation are predicated upon response to an objection leading to an appeal, and in the present matter there had been no objection or appeal.

Noting that the dispute revolved around interpretation of relevant sections of the VAT Act, the court referred to the seminal statement in Endumeni and proceeded to follow its principles in addressing SARS’ arguments on the merits.  These arguments were that:

• the dictionary meaning of “lodging” should be interpreted to refer to a natural person. As the lessee, TUT could thus not be a lodger;
• there was no nexus between Respublica and the students upon which it could be argued that they were lodgers in the leased premises;
• TUT should be regarded as a tenant and not as a lodger;
• since the dictionary meaning of lodging is “temporary accommodation”, and the contract was for five years, the contract could not be one of lodging; and
• the utilities were paid separately from the rental and could not be considered part of an all-inclusive charge as envisaged in section 10 (10).

• there is no clause in the Act that stipulates that a lodger be a natural person;
• the students were an integral part of the lease agreement and obliged to abide by its terms. The premises were let to TUT for the sole purpose of accommodating the students;
• the students went home during the holidays, making their stay a temporary one;
• Respublica did provide domestic goods and services;
• SARS’ interpretation of “commercial accommodation” was too restrictive and Respublica’s application was not about the meaning of “lodging” but about the phrase “commercial accommodation”.

Historically, the proximity and porous borders between South Africa and its neighbours have tempted vendors to carry out purported exports to these countries when in fact the goods concerned either never leave South Africa or are routed back by illegal means. In this way vendors are able to claim the zero rate of tax, which applies to exports, when the standard 14% rate should apply. The agreement seeks to prevent this practice, at least between South Africa and Swaziland.

The respective governments have each agreed to establish a refund system administered by a Claims and Refund Manager to deal with claims and refunds. A memorandum of understanding will set out the operational procedures regarding refunds and claims. When a vendor in one state charges and collects VAT on exported supplies, the importer in the other state may claim a refund of the VAT. This is done through the tax authority in the importer state. Presumably the intention is that this tax authority will satisfy itself that the transaction is genuine and that the zero rate applies before authorising the refund and calling on the tax authority in the exporter state to remit the VAT to it. The refund will then be remitted to the importer.

By placing the process of refunds in the hands of the tax authorities, the hope is that the opportunity for fraudulent VAT claims will be minimised, if not eradicated.

The tax court based its decision on the absence of tax invoices from the sponsors. The Value-Added Tax Act, 1991 (Act) requires a vendor who claims input tax credits to be in possession of supporting tax invoices from suppliers. Because the sponsors had declined to issue tax invoices, the taxpayer contended that SARS was obliged to force them to do so in fulfilment of their obligations as vendors and of SARS’s responsibility “to carry out” the provisions of the Act. The tax court rejected this submission.

The taxpayer staged annual international jazz festivals in Cape Town. In doing so it was carrying on an enterprise and had registered as a vendor in terms of the Act. It concluded sponsorship agreements with SAA, the City of Cape Town, the SABC and Telkom, who provided money, goods and services. In return, the taxpayer provided goods and services in the form of branding and marketing. All the sponsors were registered vendors under the Act.

It was common cause that the transactions were barter transactions. The values received by the taxpayer were evident from the sponsorship contracts. If, for example, SAA agreed to provide transport benefits, the value could be determined with reference to what these benefits would cost a person who bought and paid for them. Equally, the values of the goods and services provided in return by the taxpayer were determinable from the contracts. The tax court had found that the sponsors had not charged VAT and the taxpayer had not paid VAT to the sponsors, on the grounds that the sponsorship agreements provided that all amounts mentioned were exclusive of VAT. With respect, the High Court correctly rejected this approach. The parties were vendors, with all the attendant obligations, and the provisions of the Act are clear that, where the price of a transaction is agreed to be exclusive of VAT, this merely means that VAT has to be calculated and added to the price. It does not mean that the transaction falls outside the VAT net.

The High Court accepted the taxpayer’s submission that the agreements afforded sufficient records of the supplies to enable SARS to be satisfied that the input tax claims were genuine, despite the refusal of the sponsors to issue tax invoices. A potentially far reaching comment in the judgment was that “(T)he fact that the sponsors have failed to issue the invoices does not make it impractical to require that they be issued. On the contrary it was the Commissioner’s responsibility in the circumstances to compel their issue. The evidence provides no basis for us to find that the Commissioner could reasonably have been satisfied as to the requirement of impracticability”. In other words, SARS was obliged to compel the sponsors to issue tax invoices.

Section 16(2) of the Act provides that, with certain exceptions, no input tax is allowed in the absence of a tax invoice. One of these exceptions is subparagraph (f), which read at the time: “the vendor…is in possession of documentary proof, as is acceptable to the Commissioner, substantiating the vendor’s entitlement to the deduction at the time a return in respect of the deductions is furnished”. SARS raised three reasons why this provision was not applicable to the present matter, to each of which the court gave short shrift.

The court upheld the appeal with costs. This case confirms that, in appropriate circumstances wider than contended for by SARS, forms of evidence alternative to tax invoices are acceptable in support of input tax claims.

[1] [2014] 76 SATC 109

[2] Case No A 129/2014

The TAA sets out the penalties that can affect taxpayers. This contrasts with the former situation where the provisions for penalties were scattered all over the tax Acts. The TAA sets out and explains the impact of the three penalty categories: general fixed amount penalties; specific percentage-based penalties and understatement penalties. The first two of these are called administrative non-compliance penalties and the third is in a category of its own.

Administrative penalties

The TAA provides for two categories of administrative offence:

1.   general non-compliance eg failure to submit a return on time or at all; and
2.   specific percentage-based penalties

 General non-compliance

The non-compliance penalty fines the taxpayer for the late submission of a return or the failure to submit a return. If a taxpayer fails to submit a return by the due date, the TAA provides for a so-called “fixed amount” penalty on a sliding scale, ranging from R250 to R16 000 per month, based on the tax liability for the preceding year of assessment. If the taxpayer in the preceding year had an assessed loss or a taxable income not exceeding R250 000, the penalty is R250 per month. The penalty increases in steps until the R16 000 maximum applies where the taxable income for the preceding year exceeded R50 million.

But it doesn’t end there. The penalty will increase by the same amount for every month that the return is overdue up to a maximum of 35 months. Interestingly, if SARS is not in possession of the address of the offender the penalty period extends to 47 months. In addition to the burden of being faced with a fixed amount penalty, the taxpayer will also be subject to interest on the outstanding penalty, currently at a rate of 9%.

Relief is available in the form of a reduced penalty for several categories of persons: companies listed on a recognised stock exchange; companies whose gross receipts or accruals for the preceding year exceeded R500 million; members of any group of companies that includes a company in either of the above two categories; and institutions that are exempt from income tax (but liable to tax under another tax Act) with receipts or accruals in excess of R30 million.

To add injury to injury, a taxpayer who has failed to submit a return may also have failed to pay the tax which would have been payable in respect of the return. This is where the percentage based penalty comes into the picture. The percentage based penalty penalises the taxpayer according to the amount of tax not paid when required under the Act. The TAA imposes the penalty but doesn’t specify the actual percentages at which the fines are levied; these have to be obtained from the relevant tax Acts. For example, penalties relating to provisional tax payments are determined by the Fourth Schedule to the Income Tax Act and are as follows:

1. 10% on the late or non-payment of provisional tax;
2. 20% if the taxpayer fails to file an estimate; or
3. 20% if the taxpayer understates a provisional tax estimate by a particular percentage of the taxable income.

Without going into detail that is beyond the scope of this article, in broad terms the severity for underestimating taxable income is greater where the taxable income turns out to exceed R1 million, and the leeway for error is less for such taxpayers as well.

SARS may remit a penalty in the case of first offenders if reasonable grounds for the non-compliance exist and if the non-compliance has since been remedied. The taxpayer must apply to SARS to remit the penalty before the date on which the payment of the penalty is due.

How does the taxpayer know that SARS has imposed an administrative penalty?

All fixed amount and percentage based penalties will be reflected in a penalty assessment provided for in the TAA. However, there is a practical problem with penalty assessments, because SARS does not automatically inform the taxpayer that a penalty assessment has been issued. The taxpayer has to find this out by going to the SARS website. SARS may appoint an agent, such as the taxpayer’s employer, to collect the unpaid penalties on their behalf. In all other circumstances, payments made by the taxpayer to SARS will firstly be allocated to penalties and interest before the tax liability is reduced.

Understatement penalties

The most controversial of the penalties is the understatement penalty. The understatement penalty fines a taxpayer who makes an error, deliberately or otherwise, in submitting a return.

Before the advent of the TAA, the Income Tax Act, for example, provided for what we now call the understatement penalty. The default rate was 200% which SARS had the discretion to reduce. However there was no fixed scheme which guided SARS in exercising its decision.

Under the new penalty regime, understatement penalties are disclosed in a decision matrix, sometimes referred to as a ”behaviour grid”. These range from 0%, if the taxpayer voluntarily discloses a substantial understatement before an audit or an investigation, to 200% for an obstructive or repeat case of intentional tax evasion, and each possible scenario in between.

The penalty is levied on the amount of the shortfall to the fiscus. Described in broad terms, this is calculated as the difference between the tax that is properly chargeable and the amount that would have been charged had the taxpayer’s declaration been accepted.

The intentions with the new understatement penalty regime are good because the TAA seeks to provide a formal decision matrix for SARS to use in determining the extent of the penalty.

The decision matrix lists the following five behaviours which SARS must consider. These are:

1. substantial understatement;
2. reasonable care not taken;
3. no reasonable grounds for tax position taken;
4. gross negligence; or
5. intentional tax evasion.

A substantial understatement usually means that the prejudice to SARS exceeds the greater of 5% of the tax properly chargeable or R1 million.

Interestingly, SARS must remit a penalty for substantial understatement if the taxpayer, by no later than the return due date:

1. made full disclosure of the facts and circumstances surrounding the understatement penalty; and
2. obtained an opinion issued by an independent registered tax practitioner who confirmed the taxpayer’s position, having regard to all the facts and circumstances.

For each of the behaviours described above, there are four possible levels of offence. These are:

1. standard case;
2. obstructive or repeat case;
3. voluntary disclosure after notification of audit; or
4. voluntary disclosure before notification of audit.

On one hand, taxpayers now know where they stand where penalties are concerned, compared with the previous situation where SARS had unregulated discretion. On the other hand, however, the new penalty regime can be severe and taxpayers and SARS are already arguing about which categories of understatement a particular offence falls into.

One likely consequence of particularly the new understatement penalty regime is that taxpayers will be more eager to get opinions from tax practitioners to support the argument that they took reasonable care and as such are eligible for a reduced penalty rate.

All penalties

The taxpayer is entitled to object to any of the penalties described in this article.

With acknowledgments to Elana Ross, tax associate at Norton Rose Fulbright

SARS conducted an income tax and VAT audit of the taxpayer, a car dealership business. The taxpayer used a customised system supplied by the franchisor which provided both the financial information of the taxpayer and statistical information critical to managing the risk inherent in the dealership business. One of the peculiar features of this system was that it reflected certain internal transactions as actual ‘sales’. SARS treated the internal transactions as sales and VATable supplies respectively for income tax and VAT purposes.

When conducting the audit SARS ignored the bespoke nature of the system and resorted to imposing penalties and raising additional assessments, based on what the system appeared to report, ignoring the facts behind the reports. As a result, if the officials did not understand an entry or transaction, they raised an additional assessment. Further, they ignored the taxpayer’s attempt to show that SARS’ conclusion was wrong and why.

To add insult to injury, all the additional assessments raised were subject to penalties at the maximum rate of 200%, without any explanation why the taxpayer’s conduct was said to be dishonest or directed at the evasion of tax, which is the requirement before SARS may impose a 200% penalty.

Generally, taxpayers bear the burden of proof in tax disputes with SARS. In other words, it is up to the taxpayer to prove a claim, an exemption or non-liability. The court accepted that the taxpayer bears the onus in any dispute with SARS, but held that this does not mean that SARS is free to adopt a passive attitude. The court emphasised that “… the onus was on the taxpayer to show on a preponderance of probability that the decisions of SARS … were wrong. That, however, is not to suggest that SARS was free to simply adopt a supine attitude. It was bound before the appeal to set out the grounds for the disputed assessments and the taxpayer was obliged to respond with the grounds of appeal and these delineate the disputes between the parties”. Thus, although the taxpayer bears the onus in tax matters, SARS is equally obliged to engage with the facts and verify the grounds on which an assessment is based.

The court also found that the raising of penalties with an additional assessment must be based on proper grounds for believing that there has been an under-declaration of supplies or income for VAT and income tax. SARS cannot ignore explanations or reasons from taxpayers and raise additional assessments and penalties without seeking to understand the taxpayer’s systems. SARS officials are obliged to familiarise themselves with the systems used by taxpayers. The conduct of SARS will only be considered administratively fair if the taxpayer is afforded this treatment.

If SARS officials are unable or unwilling to get to grips with the systems in operation, it doesn’t lie with them to impose tax as they see fit and leave it to the taxpayer to explain and justify the system in court. If they adopt this approach, their decisions will not be based on proper grounds and the taxpayer’s rights will be compromised.

Thus taxpayers must assert their rights before a dispute even reaches the tax court by requesting SARS to provide the grounds on which it is raising an additional assessment.

With acknowledgment to Rivalani Mutshinya and Andrew Wellsted of Norton Rose Fulbright Tax Services