Tax Administration Act – Understatement penalty regime

The draft Taxation Administration Laws Amendment Bill, 2013 (TALAB) was released by the South African Revenue Services (SARS) on 5 July 2013 for public comment.

The TALAB proposes, amongst other things, that several amendments be made to the Tax Administration Act, No 28 of 2011 (the TAA) in respect of understatement penalties.

In terms of section 222(1) of the TAA a taxpayer must pay an understatement penalty if that taxpayer has made or caused an ‘understatement’. SARS has no discretion in imposing such a penalty.

The understatement penalty is a percentage based penalty determined with reference to the taxpayer’s behaviour. In this regard a table in section 223 of the TAA assigns a specific percentage to the relevant behaviour. In standard cases, the percentage ranges from a minimum of 25% to a maximum of 200%. Similarly, SARS has no discretion to reduce the applicable percentage where it has been determined that a taxpayer falls within a particular behavioural category.

The TALAB promises some relief to taxpayers subject to this rather harsh penalty regime.

Under the present provisions, a taxpayer must technically pay an understatement penalty where an honest mistake has resulted in an understatement, provided that the taxpayer’s behaviour falls into an applicable category in the penalty table. For example, if a taxpayer has made an honest mistake and this resulted in ‘substantial understatement’, the taxpayer would have to pay a 25% penalty. SARS has no discretion to not impose the penalty or to impose a penalty at a lower percentage.

The TALAB proposes that an exception be introduced in respect of taxpayers who make or cause an understatement due to a ‘bona fide inadvertent error’.

A draft explanatory memorandum on the objects of the TALAB (memorandum) was released together with the TALAB. The memorandum explains that to determine whether an understatement was caused by a ‘bona fide inadvertent error’, SARS will have regard to ‘the circumstances in which the error was made’, but also other factors including:

  • The taxpayer’s knowledge, education, experience, and skill.
  • The size or quantum, nature and frequency of the error.
  • Whether similar errors were made previously.
      • In case of arithmetical errors, whether the taxpayer has procedures in place to detect such errors.

In respect of errors relating to the interpretation of tax laws, SARS will have regard to:

  • the complexity of the provisions;
  • whether the taxpayer tried to understand the provisions, including consulting the relevant explanatory memoranda or making reasonable enquiries; and
  • whether the taxpayer relied on information (incorrect or misleading) which came from a reputable source and a reasonable person in the same circumstances would find the information complex.

The TALAB proposes further relief in the form of a reduction of some of the penalty percentages in the penalty table in section 223 of the TAA.  In respect of standard cases, the new penalties are to be reduced as follows:

 

Current penalty percentage

Proposed penalty percentage

Substantial understatement

25%

10%

Reasonable care not taken in completing return

50%

25%

No reasonable grounds for tax position taken

75%

50%

Gross negligence

100%

100%

Intentional tax evasion

200%

200%

 

The reasons provided in the memorandum for the reduction is to align the percentages with that of ‘comparative tax jurisdictions where largely similar penalty regimes apply’.

In terms of section 223(3), an understatement penalty imposed by SARS must be remitted where the taxpayer has fully disclosed particulars of the arrangement to SARS by no later than the due date of the relevant return, and the taxpayer was in possession of a tax opinion, which must meet certain requirements. One such requirement is that the tax opinion must have been issued by no later than the date that the relevant return was due.

The TALAB proposes that the said requirement must be deemed to have been met if the return was due by 1 October 2012. This implies that the taxpayer may rely on an otherwise qualifying opinion even if it was obtained after 1 October 2012, in respect of a matter where the taxpayer’s return was due by that date.

The TALAB also now makes it clear that a taxpayer may indeed object against the imposition of an understatement penalty in terms of section 224 of the TAA, and not only to the refusal by SARS to remit a penalty under section 223(3) of the TAA.

A further clarification made by the TALAB is that the term ‘understatement’ is now defined as any prejudice to SARS or the fiscus, irrespective of the tax period in which the prejudice manifests. For example, a taxpayer cannot argue that an understatement did not cause prejudice to SARS in the relevant tax year because the taxpayer was in an assessed loss position that year. If the assessed loss would have been reduced had the understatement not been made, and SARS would only have been prejudiced in a future year, it would still be an ‘understatement’.

The TALAB proposes that the above amendments apply retrospectively, with effect from the commencement date of the TAA (being 1 October 2012).

Specifically, in this regard, taxpayers on whom SARS has imposed understatement penalties at the current higher rates should insist that SARS reduce the rates in accordance with the TALAB.

Taxpayers are also afforded a further opportunity to obtain qualifying tax opinions to request remittance of understatement penalties in respect of substantial understatements.

(Editorial comment: Although the final version of the legislation might differ from the draft bill referred to in this article, the current version provides that the amendment will only come into operation when the Bill is promulgated.  Taxpayers would therefore not be able to claim refunds of penalties imposed before that date.)

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