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Ok. Got itSARS announced its intention to withdraw Practice Note 31 for tax years starting on or after 1 March 2023.
On 15 November 2022, the South African Revenue Service (SARS) announced its intention to withdraw Practice Note 31 (originally issued on 3 October 1994) for tax years starting on or after 1 March 2023.
Most of Nedbank Private Wealth clients rely on Practice Note 31 for the deduction of interest paid, trustee fees and portfolio fees, since these clients are not trading but investing in financial instruments on capital account.
The general principle, as set out in section 11(a) read with section 23(g) of the Income Tax Act,58 of 1962, is that a taxpayer is allowed, as a deduction against income, expenditure actually incurred in the production of the income, to the extent that such expenditure and losses are laid out or expended for the purposes of carrying on any trade, provided such expenditure and losses are not of a capital nature. Any expenditure that has not been incurred for the purpose of producing income will not be allowed as a deduction. The deduction of interest in terms of section 24J of the Income Tax Act also requires the carrying on of a trade.
In paragraph 2 of Practice Note 31, SARS states that although a person earning interest on capital or surplus funds invested does not carry on a trade (and therefore normally expenditure would not be allowed as a deduction), it is nevertheless the practice of SARS to allow expenditure incurred in the production of such interest to the extent it does not exceed such interest.
The question then arises as to what happens in the situation where a taxpayer earns partly dividend and partly interest/rental income, which is referred to as dual purpose.
In the case of CIR vs Nemojim 1983(4) SA 935 (A), it was held that in case of expenditure with dual purposes, the courts may apportion the expenditure between the two purposes and must consider what would be fair and reasonable in the circumstances of each case.
SARS favours the apportionment on the basis of gross income and in Practice Note 64 it states that ’general expenditure must be allocated to the various sources of income on a logical, fair and reasonable basis’.
For example, if a client earns R100 000 in income for a tax year of which R60 000 is dividends and R40 000 is interest, then the portfolio fees should be split 60/40.
In respect of clients that use trusts, the same apportionment of the trust administration expense can also be made.
Please note that the deduction of fees or expenses in respect of foreign dividends is not permitted in terms of section 23(q) of the Income Tax Act. |
The status quo remains for the tax year ending 28 February 2023
The intended withdrawal of the Practice Note 31 does not affect tax years that started before 1 March 2023, especially the tax year ending 28 February 2023. Taxpayers are therefore entitled to rely on Practice Note 31 for tax years starting before 1 March 2023.
What do I need to do for tax years starting on or after 1 March 2023?
The public, including lobby industry bodies such as the Association for Savings and Investment South Africa (ASISA) and the Banking Association South Africa (BASA), submitted representations for legislative amendments to replace Practice Note 31 as part of the Budget 2023 Annexure C tax proposals. The representations made during November 2022 to National Treasury and December 2022 to SARS are expected to be included in Budget 2023 Annexure C and detailed later during the 2023 Draft Tax Laws Amendments Acts expected at the end of July or the beginning of August 2023.
What will happen if Practice Note 31 is withdrawn without replacement dispensation during the 2023 Budget Annexure C tax proposals?
If Practice Note 31 is withdrawn without a replacement dispensation, you will not be able to deduct the interest expense, trustee fees and portfolios fees if you are investing on capital account.
Most Nedbank Private Wealth clients invest in financial instruments for long-term purposes (on capital account) and therefore any disposals of such financial instruments are treated as a capital gains tax event. These clients will not be able to deduct interest incurred, trustee fees and portfolio fees as the requirement of ‘trade’ will not be met.
For clients speculating in financial instruments (trading account), any disposals of such financial instruments are treated as trading stock for tax purposes, ie taxed at normal income tax rates as opposed to capital gains tax rates. These clients should be able to deduct interest incurred, trustee fees, portfolio fees as the requirement of ‘trade’ will still be met and such clients do not rely on Practice Note 31.
We welcome your contribution should you have specific scenarios you would like to bring to our attention to support the dispensation replacing, or incorporation into, the legislation of the principles set out in Practice Note 31.
Clients who are provisional taxpayers will need to take into account any legislative development during 2023 affecting the interest, trustee fees and portfolio fees deductions for the tax year ending 28 February 2024.
Advice and the Philanthropy Team
We will keep you informed about the Budget 2023 tax proposals, and also lobby accordingly through industry bodies on this matter. If you need any further information, please do not hesitate to contact the fiduciary specialist for your region.
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