Outstanding loans to shareholders and the advent of dividends tax

Companies and their shareholders have been anticipating the changeover from Secondary Tax on Companies (STC) to Dividends Tax for quite some time now, the effective date being 1 April 2012. There are various transitional aspects to consider.

From an administrative point of view, systems need to be in place to deal with the keeping of information relating to the dividend, who it is paid to and who the beneficial owners are. From a commercial perspective, decisions need to be made as to whether it would be cheaper to declare dividends out of retained income before the effective date and pay STC at 10%, or wait until after the effective date and pay Dividends Tax at 15%.

One issue that is often overlooked is loans to shareholders, or their connected persons, on which STC has been paid.

Generally, STC is payable on a loan to a shareholder, or a connected person in relation to that shareholder (s64C(2)(g), unless the loan bears interest at or above the prescribed rate (s64C(4)(d)) or the loan is repaid before the end of the following year of assessment (s64C(4)(f)). The company has to pay STC because the loan is deemed to be a dividend declared (s64C(2)).

When the loan is eventually repaid, the amount repaid is deemed to be a dividend accrued to the company (s64C(5)) and can be set off against dividends declared in the current or next dividend cycle, and so reduce the amount of STC payable by the company (s64B(3)).

The issue that arises in respect of the changeover to Dividends Tax is that, where a company has made such a loan to a shareholder or connected person in relation to a shareholder, and the amount is repaid after the effective date, there is no mechanism whereby the STC paid by the company can be recovered. This is so because the final dividend cycles of all companies will end on 31 March 2012 (definition of “dividend cycle” in s64B(1)) and no set-off can take place in respect of dividends accrued to or declared by a company after that date.

For example, trust X holds shares in company Y, and Z, an individual, is a beneficiary of the trust. Two years ago company Y made an interest-free loan to Z in the amount of R100. Because Z is a connected person in relation to trust X, a shareholder, the loan was deemed to be a dividend and STC of R10 (R100 x 10%) was payable by company X. If Z pays back the loan in full before the effective date, company X will be deemed to have received a dividend and this will reduce company X’s future liability for STC in respect of dividends declared (or be added to its STC credit for Dividends Tax purposes (s64J)). However, if Z pays back the loan after the effective date, there is no mechanism under the Dividends Tax regime that reverses the effect of the deemed dividend and the STC paid in respect of that deemed dividend.

The amount of the loan that is repaid after the effective date will not be included in the STC credit of the company for purposes of Dividends Tax as the provisions dealing with a company’s STC credit (s64J) does not deal with the accrual of deemed dividends in this context after the effective date.

Effectively then, the company will have paid 10% STC on a loan that is repaid.

Not all shareholders (or persons connected to such shareholders) who have loans outstanding after the effective date will face this problem though. If the shareholder (or person connected to the shareholder) was a company, the deemed dividend declared to it will have been taken into account as a deemed dividend accrued to it and would have reduced its liability for STC. Also, if the shareholder (or connected person) was a listed company, or where the transaction was in any way exempt from the provisions dealing with deemed dividends (s64C(4)), such as where interest on the loan was below the prescribed rate, there would have been no deemed dividend.

However, where the shareholder (or person connected to the shareholder) is a natural person or a trust, and STC was paid by the company on the loan, the parties should consider repayment of the loan before the effective date in order to avoid the problematic situation outlined above.

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