Authors: Andrea Minnaar and Scott Salusbury
When disposing of an asset, it is critical to determine whether the proceeds of the disposal are of a capital nature, since if they are, they will be taxed in terms of the capital gains tax regime at a much lower effective rate than if they were of a revenue nature.
Certain shares, if held for a continuous period of three years prior to disposal, are deemed to yield capital proceeds in terms of section 9C of the Income Tax Act. In the case of shares which fall outside the provisions of section 9C we must turn to the case law, which over the years has become rather extensive in this area. The enquiry is essentially one into the intention of the taxpayer in acquiring, holding and disposing of the asset. If the taxpayer’s intention was such that they ‘entered into a scheme of profit-making’ the proceeds received on the disposal will be deemed to be revenue in nature. If, on the other hand, the asset was acquired ‘for better or for worse’, or relatively speaking ‘for keeps’ (i.e. only to be disposed of if some unusual, unexpected or special circumstance warranting or inducing the disposal, supervened)’, then the proceeds will generally be deemed to be of a capital nature.
The latter test, which has unsurprisingly become known as the ‘for keeps’ test, originated in the Appellate Division (now the Supreme Court of Appeal) in the 1978 case of Barnato Holdings Ltd v Secretary for Inland Revenue, 1978 (2) SA 440 (A) and has often been cited since. A recent judgment by Judge Dennis Davis in the Western Cape Tax Court ITC 1867 75 SATC 273 however, brings the continued usefulness of the ‘for keeps’ test into question.
The facts of the case were fairly involved but the taxpayer, a special purpose vehicle formed with the sole purpose of holding certain shares, argued that it had acquired the shares as a strategic, long-term investment and that it had not changed its intention. The court was satisfied, on the evidence before it, that the taxpayer had intended to hold the shares for ‘at least three years, arguably slightly longer’.
Davis J considered the ‘for keeps’ test in relation to this investment horizon and acknowledged that in modern market conditions the test had become outmoded. The learned judge cited numerous examples of shares on the NYSE (among them PanAm, Compaq and Arthur Andersen) which would have featured in many balanced portfolios in 2000 but which have now disappeared. He suggested that among other factors, the pace of technological innovation mitigates against companies remaining successful for extended periods. The very idea of holding shares ‘for keeps’ according to Davis J was no longer necessarily a sensible investment strategy and was representative of an ‘old, static economic order’.
Unfortunately for the taxpayer, while Davis J accepted that it was not necessary to show an intention to hold the shares ‘for keeps’, there was still a burden of showing that the investment had been made for ‘some significant duration’. On the facts, the court found that the possibility of an early realisation had always been in the minds of those controlling the taxpayer, and the proceeds of the disposition were therefore held to be revenue in nature.
The taxpayer took the matter on appeal where it succeeded before a full bench of the High Court (Western Cape Division), namely Capstone 556 (Pty) Limited v CSARS  ZAWCHC 123. The appeal court did not expressly address the ‘for keeps’ test but it agreed that the three year investment horizon was in line with the intention to hold shares as an investment. The fact that the opportunity for an early sale had arisen and been taken did not change the taxpayer’s intention.
Where does this leave the ‘for keeps’ test? It would appear that, at least in the circumstances of the Capstone case, the intention to hold a share for a relatively short period and the early disposal of that share when an opportunity presents itself is not a bar to showing a capital intention. At the same time it is important to remember that the primary question is whether the taxpayer acquired and disposed of the shares as part of a scheme of profit-making. The length of time for which shares are held is only one factor in this enquiry, and the courts will deal with each matter on a case by case basis and taking into account all admissible factors.