Taxation Laws Amendment Bill, 2020 and Tax Administration Laws Amendment Bill, 2020 now promulgated as law in January 2021

Reference documents from www.sars.gov.za (latest news sub-section)

Rates and Monetary Amounts and Amendment of Revenue Laws Act, 2020, (Act No. 22 of 2020)
Taxation Laws Amendment Act, 2020 (Act No 23 of 2020)
Tax Administration Laws Amendment Act, 2020 (Act No. 24 of 2020)
Explanatory Memorandum on the Taxation Laws Amendment Bill, 2020
Memorandum on the Objects of the Tax Administration Laws Amendment Bill, 2020
Final Response Document on the 2020 Draft Rates and Monetary Amounts and Amendment of Revenue Laws Bill, 2020 Draft Taxation Laws Amendment Bill and 2020 Draft Tax Administration Laws Amendment Bill

Reference documents from https://www.ifrs.org/issued-standards/list-of-standards/ifrs-9-financial-instruments/

International Financial Reporting Standard 9

On 15 January 2021, President Ramaphosa signed into law the Rates and Monetary Amounts and Amendment of Revenue Laws Act, 2020, (Act No. 22 of 2020)(2020 Rates Act), Taxation Laws Amendment Act, 2020 (Act No 23 of 2020)
TLAA) and Tax Administration Laws Amendment Act, 2020 (Act No. 24 of 2020) (2020 TALAA). These Acts were published in the Government Gazette of 20 January 2021.

These Acts give legislative effect to the tax proposals as outlined by the Minister of Finance in his annual National Budget Speech delivered on 26 February 2020.

The 2020 Rates Act gives effect to changes in rates and monetary thresholds and increases of the excise duties on alcohol and tobacco. The 2020 TLAA contains more complex, technical and anti-avoidance legislative changes. The 2020 TALAA deals with tax proposals that are technical and administrative in nature.

A Final Response Document on the 2020 Rates and Monetary Amounts and Amendment of Revenue Laws Bill (2020 Rates Bill), 2020 Taxation Laws Amendment Bill (2020 TLAB) and 2020 Tax Administration Laws Amendment Bill (2020 TALAB), as well as the Explanatory Memorandum to the 2020 Taxation Laws Amendment Bill (Explanatory Memorandum) and the Memorandum on the Objects of the 2020 Tax Administration Laws Amendment Bill (Memorandum of Objects) were also published in January 2021.

In this article, we focus on a couple of the changes made now that final comments have been received, processed and the amended Acts have been promulgated;

  1. Withdrawing Retirement Funds upon Emigration and
  2. Tax Treatment of Doubtful Debt – IFRS9 standard

Further articles will deal with other changes introduced.

TAXATION LAWS AMENDMENT BILL, 2020

Withdrawing Retirement Funds upon Emigration

Applicable provisions: Section 1 of the Act, the definitions of “Pension Preservation Fund”, “Provident Preservation Fund” and “Retirement Annuity Fund”

This has been a controversial change and is explained below by SARS and Treasury.

Background

Currently, the definitions of “pension preservation fund”, “provident preservation fund” and “retirement annuity fund” in section 1 of the Act make provision for a payment of lump sum benefits when a member of a pension preservation, provident preservation or retirement annuity fund withdraws from the retirement fund due to that member emigrating from South Africa, and such emigration is recognised by the South African Reserve Bank (SARB) for exchange control purposes.

Reasons for the change

As outlined in Annexure E of the 2020 Budget Review, Government will be modernising the foreign exchange control system. As a result, a new capital flow management system will be put in place.

This new system will move from a “negative list” system to one where all foreign-currency transactions, other than those contained on the risk-based list of capital flow measures, are allowed.

In respect of individuals, one of the changes to be implemented during modernisation of the foreign exchange control system is the phasing out of the concept of “emigration” for exchange control purposes. The phasing out of this concept will have a direct impact on the application of the tax rules as the tax legislation makes provision for a payment of lump sum benefits when a member emigrates from South Africa and such emigration is recognised by the SARB for exchange control purposes.

Proposal

In order to ensure efficient application of the tax legislation, it is proposed that the definitions of “pension preservation fund”, provident preservation fund and “retirement annuity fund” in section 1 of the Act be amended to remove the reference to payment of lump sum benefits when a member emigrates from South Africa and such emigration is recognised by the SARB for exchange control purposes. As such, with effect from 1 March 2021, a new test should apply as follows:

• the legislation will make provision for the payment of lump sum benefits when a member ceases to be a South African tax resident (as defined in the Act), and
• such member has remained non-tax resident for an uninterrupted period of three years or longer on or after 1 March 2021.

As a transitionary measure, a transitionary period shall be allowed for the processing of emigration applications already submitted to the SARB. As such, the existing test which refers to payment of a lump sum benefits when a member emigrates from South Africa and such emigration is recognised by the SARB for exchange control purposes will apply in respect of all applications that have been received on or before 28 February 2021 and approved by SARB or an authorised dealer in foreign exchange on or before 28 February 2022.

The amendments will come into operation on 1 March 2021.

Clarifying the Tax Treatment of Doubtful Debt in respect of certain impairments for banking regulated taxpayers

Applicable provision: Section 11(jA) to the Act

Once again SARS and Treasury have explained why such a change is needed.

Before reading the write-up, below, from SARS and Treasury, the reader should first understand what “IFRS9” is referred to in the write-up.

IFRS 9 is an International Financial Reporting Standard published by the International Accounting Standards Board. It addresses the accounting for financial instruments. It contains three main topics: classification and measurement of financial instruments, impairment of financial assets and hedge accounting. The standard came into force on 1 January 2018, replacing the earlier IFRS for financial instruments, IAS 39.

IFRS 9 specifies how an entity should classify and measure financial assets, financial liabilities, and some contracts to buy or sell non-financial items.

IFRS 9 requires an entity to recognise a financial asset or a financial liability in its statement of financial position when it becomes party to the contractual provisions of the instrument. At initial recognition, an entity measures a financial asset or a financial liability at its fair value plus or minus, in the case of a financial asset or a financial liability not at fair value through profit or loss, transaction costs that are directly attributable to the acquisition or issue of the financial asset or the financial liability.

Financial assets

When an entity first recognises a financial asset, it classifies it based on the entity’s business model for managing the asset and the asset’s contractual cash flow characteristics, as follows:

Amortised cost—a financial asset is measured at amortised cost if both of the following conditions are met:

a. the asset is held within a business model whose objective is to hold assets in order to collect contractual cash flows; and
b. the contractual terms of the financial asset give rise on specified dates to cash flows that are solely payments of principal and interest on the principal amount outstanding.

Fair value through other comprehensive income—financial assets are classified and measured at fair value through other comprehensive income if they are held in a business model whose objective is achieved by both collecting contractual cash flows and selling financial assets.

Fair value through profit or loss—any financial assets that are not held in one of the two business models mentioned are measured at fair value through profit or loss.

When, and only when, an entity changes its business model for managing financial assets it must reclassify all affected financial assets.

Financial liabilities

All financial liabilities are measured at amortised cost, except for financial liabilities at fair value through profit or loss. Such liabilities include derivatives (other than derivatives that are financial guarantee contracts or are designated and effective hedging instruments), other liabilities held for trading, and liabilities that an entity designates to be measured at fair value through profit or loss (see ‘fair value option’ below).

After initial recognition, an entity cannot reclassify any financial liability.

Fair value option

An entity may, at initial recognition, irrevocably designate a financial asset or liability that would otherwise have to be measured at amortised cost or fair value through other comprehensive income to be measured at fair value through profit or loss if doing so would eliminate or significantly reduce a measurement or recognition inconsistency (sometimes referred to as an ‘accounting mismatch’) or otherwise results in more relevant information.

Impairment

Impairment of financial assets is recognised in stages:

Stage 1 — as soon as a financial instrument is originated or purchased, 12-month expected credit losses are recognised in profit or loss and a loss allowance is established. This serves as a proxy for the initial expectations of credit losses. For financial assets, interest revenue is calculated on the gross carrying amount (i.e. without deduction for expected credit losses).
Stage 2 — if the credit risk increases significantly and is not considered low, full lifetime expected credit losses are recognised in profit or loss. The calculation of interest revenue is the same as for Stage 1.
Stage 3 — if the credit risk of a financial asset increases to the point that it is considered credit-impaired, interest revenue is calculated based on the amortised cost (ie the gross carrying amount less the loss allowance). Financial assets in this stage will generally be assessed individually. Lifetime expected credit losses are recognised on these financial assets.

Hedge accounting

The objective of hedge accounting is to represent, in the financial statements, the effect of an entity’s risk management activities that use financial instruments to manage exposures arising from particular risks that could affect profit or loss or other comprehensive income.

Hedge accounting is optional. An entity applying hedge accounting designates a hedging relationship between a hedging instrument and a hedged item. For hedging relationships that meet the qualifying criteria in IFRS 9, an entity accounts for the gain or loss on the hedging instrument and the hedged item in accordance with the special hedge accounting provisions of IFRS 9.

IFRS 9 identifies three types of hedging relationships and prescribes special accounting provisions for each:

a. fair value hedge: a hedge of the exposure to changes in fair value of a recognised asset or liability or an unrecognised firm commitment, or a component of any such item, that is attributable to a particular risk and could affect profit or loss.

b. cash flow hedge: a hedge of the exposure to variability in cash flows that is attributable to a particular risk associated with all, or a component of, a recognised asset or liability (such as all or some future interest payments on variable-rate debt) or a highly probable forecast transaction, and could affect profit or loss.

c. hedge of a net investment in a foreign operation as defined in IAS 21.

When an entity first applies IFRS 9, it may choose to continue to apply the hedge accounting requirements of IAS 39, instead of the requirements in IFRS 9, to all of its hedging relationships.

Now for the SARS and Treasury write-up.

Background

In 2017, section 11(jA) of the Act dealing with doubtful debt allowance was introduced to provide an allowance for the debts that are considered to be doubtful for persons referred to in paragraphs (c)(i) to (iii) and (d) of the definition of “covered person” in section 24JB of the Act, that are subject to prudential banking regulation. This doubtful debt allowance was formulated using impairment requirements in IFRS 9 that are based on an expected credit loss and contains terminology that is derived from IFRS 9.

In turn, section 11(j) of the Act dealing with doubtful debt allowance, generally applying to taxpayers that are not subject to prudential banking regulation i.e. other than covered persons that value their financial assets at fair value, makes provision for a doubtful debt allowance, provided that the following requirements are met, namely that there is an amount of a debt due to a taxpayer and had that debt become bad it would have been allowed as a deduction under Part I of Chapter II of the Act (i.e. section 11(a) or 11(i)). In addition, such amount must be included in the taxpayer’s income in the current year of assessment or must have been included in a previous year of assessment.

It therefore follows that the application of doubtful debt allowance rules contained in section 11(jA) relating to taxpayers subject to prudential banking regulation is not aligned with the requirements provided in section 11(j) of the Act dealing with doubtful debt allowance.

Reasons for change

It has come to Government’s attention that, unlike doubtful debt allowance rules relating to taxpayers generally not subject to prudential banking regulation contained in section 11(j) of the Act, the current doubtful debt allowance rules contained in section 11(jA) applicable to taxpayers subject to prudential banking regulation do not restrict the allowance to be granted to a debt, if it had become a bad debt, that would have been deductible in terms of section 11(a) or 11(i) of the Act.

For instance, certain impairments, which relate to financial assets under IFRS 9 that are held by a non-banking regulated taxpayer would not be deductible in terms of the provisions dealing with doubtful debt deduction in section 11(j) of the Act, are deductible in terms of IFRS 9. An example of such a financial asset is a financial guarantee contract, which in terms of IFRS 9 is a contract that arises where a provider of a loan obtains a guarantee from a third party for a potential loss because a borrower may fail to pay the debt. As a result, a taxpayer subject to prudential banking regulation that applies IFRS 9 to fair value a debt for financial reporting would be able to claim a doubtful debt allowance under section 11(jA) in respect of the impaired financial guarantee.

However, for other taxpayers the requirements of section 11(j) that provide for a deduction of doubtful debts would not have been met because the cost or value of the impaired financial guarantee would not have been deductible under section 11 had it become bad.

Proposal

In order to address this anomaly, it is proposed that loss allowances relating to impairments of financial assets under IFRS 9 that would not have been allowed as a deduction under section 11(a) or 11(i) of the Act had they become bad, should not qualify for a doubtful debt allowance in terms of section 11(jA) of the Act.

The amendments are deemed to have come into operation on 28 October 2020 and apply in respect of years of assessment commencing on or after that date.

As is the norm nowadays; trying to understand all the jargon, lingo and multitude of changes made to financial standards and tax laws requires a lot of patience and a clear mind. Use of Professional Tax Practitioners is the ideal means to getting a grip on all these often confusing matters.

Author Craig Tonkin

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