In our Alert of 29 April 2016, we discussed the Ruling dealing with the tax consequences of a housing scheme carried out by a mining company, specifically whether such a housing scheme would give rise to a fringe benefit in the hands of the beneficiaries of the scheme (Every house has a story: Does employer-provided accommodation always constitute a fringe benefit?). In this article, we discuss another Ruling dealing with certain tax consequences from the perspective of the mines which implement the housing scheme.
On 10 June 2016, the South African Revenue Service (SARS) issued Binding Private Ruling 239 (Ruling) which deals with the income tax consequences resulting from cash contributions to be made by the Applicant (as a party to a mining joint venture) to a special purpose vehicle established to provide housing for the employees of the joint venture and the Applicant’s group of companies.
The Mineral and Petroleum Resources Development Act, No 28 of 2002 (MPRDA) requires, in terms of s25(2)(f), that the holder of a mining right comply with the requirements of the prescribed social labour plan (SLP) to apply for and be granted a renewal of its mining right. In terms of s100 of the MPRDA, read with the Broad-Based Socio-Economic Empowerment Charter (Charter), a mining right holder is obliged to establish measures for improving the standard of housing for mine employees.
To comply with these requirements, the Applicant and the Co-Applicant, which are both South African resident mining companies, have set up a joint venture (JV). The JV has, in terms of its SLP, agreed to the implementation of a housing scheme for the benefit of its employees and the group’s employees. For the exclusive purposes of the housing scheme, the Applicant and Co-Applicant have also established Propco, a South African resident company which is also a wholly-owned subsidiary of the Applicant.
Propco has concluded a funding agreement with a financial institution, in terms of which a loan will be extended to it and which requires that the housing scheme be conducted in a legal entity separate to the JV participants and that the entity is to be capitalised with a certain amount. Furthermore, the JV proposes to fund Propco by way of a cash contribution that is neither a loan nor equity share capital.
The funding agreement further provides for a restriction on the distributions that may be made to the shareholder of Propco. An important fact within the context of the Ruling is that the board of directors of the Applicant’s holding company resolved that any surplus cash and profits remaining in Propco after completion of the housing scheme and repayment of the loan should be utilised for social spending to further improve the lives of employees and the communities where the group conducts mining operations. To give effect to this, the memorandum of incorporation (MOI) of Propco specifically provides that:
- Upon completion of the housing projects undertaken by Propco, as set out in the group’s housing policy or prior to any voluntary liquidation proceedings which may be undertaken by Propco, all surplus cash and profits shall be applied to one or more programmes that have as its/their object the improvement of the social conditions of the communities in or around the area in which the Applicant carries on its business.
- Propco shall not be entitled to undertake voluntary liquidation proceedings without having first applied all surplus cash and profits of Propco as set out above.
Section 15(a) of the Income Tax Act,
No 58 of 1962 (Act) states, inter alia, that where a taxpayer derives income from mining operations, it may not deduct the
allowances provided in ss11(e), (f), (gA), (gC), (o), 12D, 12DA, 12F and 13quin, but instead can deduct an amount determined in terms of s36 of the Act. Section 36(7C) of the Act states that subject to the provisions of ss36(7E), (7F) and (7G),
the amounts to be deducted under
s15(a) from income derived from the working of any producing mine shall be
the amount of ‘capital expenditure’ incurred. Section 36(11) contains a broad definition of ‘capital expenditure’, but for purposes of this article only s36(11)(e) of the Act is relevant. It states that ‘capital expenditure’ means, where a trade constitutes mining, any expenditure incurred in terms of a mining right pursuant to the MPRDA other than in respect of infrastructure or environmental rehabilitation.
SARS ruled as follows:
- The Ruling is subject to the condition and assumption that the clauses in the MOI of Propco relating to the use of surplus cash and profit are strictly adhered to.
- The cash contribution to be made by the JV to Propco for purposes of the housing scheme will qualify as ‘capital expenditure’ in terms of s36(11)(e), for each member of the JV, to the extent that the cash contribution relates to housing for persons employed by the JV. Any part of the cash contribution that relates to housing for persons not employed by the JV will not be deductible and an apportionment of the expenditure must be made.
- The cash contribution will not result in the disposal of an asset by any member of the JV. Consequently, the cash contribution will not give rise to a capital gain in terms of paragraph 3 of the Eighth Schedule of the Act, nor will Propco’s receipt of the cash contribution give rise to a capital gain in terms of paragraph 3 of the Eighth Schedule.
- The cash contribution to be received by Propco will constitute a receipt of a capital nature and will not constitute ‘gross income’, as defined in s1(1).
If the Applicant and the Co-Applicant used the cash contribution to implement the housing scheme in their personal capacities and to comply with the MPRDA and the Mining Charter, instead of implementing it through the JV and Propco, each of them would have most likely been allowed to claim a deduction in terms of s15(a), read with s36 of the Act. This Ruling suggests that SARS might give mining companies some leeway to structure their affairs in a different manner, while still complying with their obligations under the MPRDA and the Mining Charter. However, it should be noted that this Ruling is only binding upon the parties to it.
Written by Heinrich Louw and Louis Botha