Rules on amalgamation transaction

digital ageAuthor: Heinrich Louw (DLACliffeDekkerHofmeyr) 

The South African Revenue Service (SARS) released Binding Private Ruling 171 (Ruling) on 9 June 2014.

The facts were as follows. Two individuals, A and B,were each the sole members of close corporations C and D, respectively. C and D each held half of the issued share capital of a company E. It appears that C and D also each had a loan claim against company E, while A and B each had a loan claim against C and D, respectively.

A and B no longer wished to hold their respective interests in company E through the close corporations C and D.

It was proposed that close corporations C and D each amalgamate with company E. This would be accomplished by C disposing of its shares in and loan claim against company E, to company E. In exchange, company E would issue new shares to C. The market value of the new shares would be equal to the base cost of the shares and claim in the hands of C. C would then liquidate, wind-up or deregister and distribute the new shares in E as a dividend in specie to A.

The same steps would be taken with reference to D and B.

In the result, A and B would directly hold the issued share capital of E in equal portions.

SARS ruled that:

  • Section 44(2)(a) of the Income Tax Act, No 58 of 1962 (Act) would apply to the disposal of C and D’s assets to E, and that no capital gain would arise.
  • On receipt by E of its own shares, the shares would be cancelled and such cancellation would not constitute a disposal for purposes of paragraph 11 of the Eighth Schedule to the Act.
  • As a result of the issue of the new shares by E, its contributed tax capital would increase by an amount equal to the contributed tax capital of C and D, seemingly in accordance with s44(4A) of the Act.
  • A and B would be deemed to have disposed of their members’ interests in C and D at their base cost and their shares in E would be deemed to have a base cost equal to the said members’ interests (s44(6) of the Act).
  • The transfer of the shares in E to A and B would also not be regarded as a dividend (s44(6)(c) of the Act) paid by C and D for tax purposes.
  • The disposal of the shares in E by C and D would be disregarded for determining the taxable income or losses of C and D (s44(8) of the Act).
  • No securities transfer tax would be payable in respect of the transfer of shares in E or members’ interests in C and D.

It appears that the parties could not have made use of a liquidation transaction in terms of s47 of the Act to liquidate C and D because of the group company requirement, even though that would arguably have constituted a less complicated transaction.

It is interesting to note that as a result of the asset for share transactions between the close corporations and company E, the loans owing by E to C and D would effectively be capitalised. Unfortunately the Ruling is not clear on the treatment of the loans owing by C and D to A and B respectively.