Author: Leonard Willemse (Mazars)
The Minister of Finance, as an incentive to encourage household savings, introduced the concept of a ‘tax free investment’ with effect from 1 March 2015. A tax free investment is any financial instrument or policy administered by regulated institutions (such as banks) owned by a natural person and authorised as such by the Minister of Finance.
In terms of section 12T of the Income Tax Act No. 58 of 1962 (‘the Act’) any amount received by or accrued to a natural person in respect of a tax free investment shall be exempt from normal tax. Furthermore, where any capital gains or losses are realised in respect of the disposal of a tax free investment, it should be disregarded in determining the aggregate capital gain or loss of a person.
Section 12T(4) limits the contributions to tax free investments to R30 000 in aggregate during any year of assessment and to an amount of R500 000 in aggregate over the life time of the natural person.
Tax free investments owned by a minor child
According to the South African Revenue Service (SARS), parents can invest on behalf of their minor child who will use their own annual or lifetime limits. In this instance the parent(s) will make contributions to the tax free investment on behalf of the minor child who is the owner of the tax free investment. A minor child is an individual younger than 18 years of age.
Contributions qualifying as donations
The contributions made by the parent(s) will in all probability qualify as a donation for both Donations Tax purposes and for purposes of the attribution rules contained in section 7(3) and paragraph 69 of the Eighth Schedule of the Act. Generally speaking a donation means any gratuitous disposal of property.
Donations tax implications
It is submitted that although the contributions made by parents on behalf of their minor child will in all probability qualify as a donation for donations tax purposes, the fact that annual contributions are limited to R30 000 will effectively mean that no donations tax will be payable on these contributions. This follows from the fact that section 56(2)(b) determines that donations tax shall not be payable in respect of so much of the value of donations made by a natural person during a year of assessment that does not exceed R100 000 (the maximum annual contribution therefore falls considerably below this exemption limit).
The effect of section 7(3) and paragraph 69 on the parent making the donation
Section 7(3) attributes any income resulting from a donation made by a parent to his or her minor child to that parent. Therefore in the absence of section 12T, any income accruing from the tax free investments resulting from the donation (i.e. the contributions) will be attributed to the donor parent and taxable in his or her hands. Section 12T(2) however exempts all amounts received by or accrued to a natural person in respect of a tax free investment from normal tax.
As section 7(3) attributes income (defined as the amount remaining of the gross income of any person after deducting therefrom any amounts exempt from normal tax under Part I of Chapter II of the Act), it follows that only amounts that are not exempt from normal tax resulting from the tax free investment, can be attributed to a parent. If therefore the amounts received by or accrued to a minor child in respect of a tax free investment are exempt, it cannot be income and thus not be attributed to a parent. The exemption contained in section 12T(2) therefore effectively neutralises the effect of section 7(3) as there is no income to attribute in the first place.
The effect of paragraph 69 of the Eighth Schedule is not as clear as is the case with section 7(3). The paragraph attributes any capital gain or loss realised by a minor child which resulted from a donation by a parent, to the parent. The parent will therefore have to include the capital gain or loss in their taxable capital gain calculation.
Section 12T(3) determines that in determining the aggregate capital gain or aggregate capital loss of a person in respect of any year of assessment, any capital gain or capital loss in respect of the disposal of a tax free investment shall be disregarded. This effectively means that where the owner of the tax free investment is a minor child, a capital gain or loss resulting from the disposal of that investment should be disregarded for purposes of determining that child’s taxable capital gain for that year of assessment. The provision has the same effect as paragraph 69 in for the minor child will not include the capital gain or loss in their income tax calculations.
The question that arises is vwhether paragraph 69 will result in the capital gain or loss being taken into account for purposes of the donor parent’s taxable capital gain calculation or whether the workings of section 12T(3) extends to the donor parent. It is unclear whether section 12T(3) enjoys preference over the attribution rules contained in paragraph 69. The intention of the legislature is therefore unclear and requires clarification. If section 12T(3) is only available to the natural person who owns the tax free investment it might well mean that paragraph 69 will still be able to attribute the capital gain or loss to the donor parent irrespective of the fact that 12T(3) infers that any capital gain or loss should be disregarded.
The above could have an adverse effect where a substantial gain is realised and it is then attributed to a donor parent and taxable in his or her hands. This in fact partially nullifies the purpose for which the tax free investment concept was introduced. The fact that section 7(3) attributes income and that section 12T(2) effectively results in no amounts of income in the hands of the minor child, nothing can be attributed to the donor parent as there is no income in the first place to attribute.
A further point to consider is the fact that section 12T(2) refers to ‘any amount’ which is then made exempt from normal tax. This begs the question whether a capital gain can be seen as an amount for purposes of section 12T(2)? A taxable capital gain is included in a natural person’s taxable income and subject to normal tax. 12T(3) exempts amounts subject to normal tax. This would in effect mean that although section 12T(3) refers to capital gains and losses, the effect of 12T(2) will be that any taxable capital gain is exempt from normal tax as it might be considered an amount for purposes of section 12T(2). Any capital gains attributed to a donor parent by paragraph 69 could therefore be exempt from normal tax in terms of section 12T(2) if this was indeed the intention and purpose of that section, notwithstanding the provisions contained in section 12T(3).
- Contributions made by parents on behalf of their minor children in respect of tax free investments will in all probability qualify as donations for purposes of donations tax and the attribution rules contained in section 7(3) and paragraph 69 of the Eighth Schedule of the Act.
- The fact that the annual contribution to a tax free investment is limited to R30 000, may result in no donations tax being payable (as this falls below the annual exemption limit of R100 000).
- Section 7(3) will have no effect on the donor parent as there is no income to attribute to him or her (section 12T(2) ensures that there is no income in the hands of the owner, i.e. the minor child).
- The interaction between section 12T(3) and paragraph 69 might however prove to be problematic as it is unsure whether section 12T(3) will enjoy preference over paragraph 69 or not. This could potentially result in the donor parent having to include the capital gain in his or her taxable capital gain calculation if paragraph 69 were to enjoy preference.
- It is furthermore unclear whether section 12T(2) might apply to capital gains if it is assumed that capital gains qualify as ‘any amount’.
- Clarifications as to the effect of paragraph 69 on a donor parent are therefore required.
This article first appeared on mazars.co.za