Taxation of public benefit organisations changed

‘Ruling could take parties unaware’ – Piet Nel.

JOHANNESBURG – Public benefit organisations (PBOs) should take note of a new binding ruling issued by the South African Revenue Service (Sars), which could result in the loss of their tax exemption on business undertakings or trade activities.

Last month, Sars issued a binding general ruling, which aims to provide clarity on the concept “substantially the whole”.

In terms of tax legislation, public benefit organisations and recreational clubs do not have to pay tax on amounts received or accrued from business or trading activities that do not fall within their normal public benefit activities, provided that “substantially the whole” of the funds derived from these activities are directed towards the recovery of costs.

For example: The majority of the income of a church with PBO status may come from tithing, which for tax purposes, would be deemed a public benefit activity and would be exempt from tax. The church may however also regularly sell hamburgers on Saturdays as a means to supplement its income. This would be regarded as a business undertaking or trading activity.

The Sars ruling eliminates uncertainty over the concept. The ruling clearly stipulates that “substantially the whole is regarded by Sars to mean 90% or more. However, in order to overcome certain practical difficulties Sars will accept a percentage of not less than 85%.”

At this stage it is unclear what the revenue authority regards as “practical difficulties”.

In terms of Sars interpretation notes, receipts and accruals from business activities could include donations, subsidies, school fees, rent, accommodation charges, fund-raising activities, investment income, the sale of movable and immovable assets and inheritances.

Piet Nel, project director for tax at the South African Institute of Chartered Accountants (Saica), says the Income Tax Act does not explicitly define what it regards as “substantially the whole”. South African courts have also not been called on the interpretation of the concept. 

Although the practice generally prevailing had been to use a percentage of 85%, organisations may for instance still have been exempt from tax on business activities if 83% or 84% of the income from these activities were directed towards the recovery of cost.

However, the new percentage could take organisations unawares, Nel says.

He explains that an entity may embark on a trading activity and find, when final accounts are drawn, that the receipts exceed the cost by 10.5% (or 15.1%).

“If we assume that this entity already received other receipts which exceed R200 000 (or 5% of receipts) this ‘profit’ would now become subject to tax.”

The ruling is effective from December 10 2013 and applies for an indefinite period.

The ruling is also relevant to professional organisations, mutual loan organisations, fidelity or indemnity funds, trade unions, chambers of commerce or industry or local publicity associations.