Deloitte & Touche - Budget Comment

Deloitte House View on the Budget

As expected the budget speech delivered by Finance Minister Trevor Manuel did not contain any dramatic changes and the overrun in last year's revenue collection enabled him to once again ease tax thresholds slightly.

One of the more significant, and pleasant proposals was the replacement of the secondary tax on companies of 12.5% to a dividends tax of 10%.  This tax will essentially be converted from company to shareholder level and is in line with the practice in certain other countries.  An important consideration of this is what will happen to STC credits that have been earned?  However, the devil will be in the detail of the legislation and it has yet to be seen what was meant by broadening the base of this tax.

Several changes were made to the taxes affecting individuals.  While excise duties increased as usual, the abolition of retirement fund taxes was a welcome surprise.  The residential accommodation fringe benefit law will be amended to provide that accommodation for foreign residents temporarily working in South Africa is a taxable fringe benefit.  Thresholds for estate duties and donations tax were increased.  Ahead of preparations for the 2010 World Cup, the tax on sportsmen will be waived where a foreign country provides reciprocal relief for South African sportsmen.

The Minister provided general comments about previously implemented incentives.  Additional funding has been allocated to the National Empowerment Fund (R380m), the Critical Infrastructure Programme (R300m) and the Film and Television Incentive (R300m).  The majority of the infrastructure appears to be dedicated to the Alcan Aluminium smelter in the Coega IDZ.  Manuel mentioned that the major sectors that Government will be supporting are business process outsourcing; textiles and clothing; metals; and tourism.  Surprisingly the motor industry was not included among these 'core industries'.

The main mention on exchange controls was the reduction of the current shareholding threshold outside of Africa from 50% to 25% which makes the threshold for investment into Africa and elsewhere equal.

It will be interesting to see how SARS grapples with applying VAT in the modern commercial environment.  The budget proposal indicates that Treasury intends to closely align South Africas approach to E-Commerce transactions to that of the EU and the rest of the world.  A discussion document on the topic will be published for comment during 2007.    

In general Minister Manuel has done a good job in tweaking the countrys economy in order to further encourage growth.

Social Security Tax for Low Income Employees

The Minister of Finance introduced in his Budget Speech social security reform in South Africa. The purpose behind this initiative is, in the Minister's words, "to encourage saving and self reliance". It is a well known fact that South Africans, generally, are not inclined to save and the current retirement saving plans generally benefit high income earners and do not incentivise those who fall below the tax threshold to save for the future.

The social security system being proposed will serve to protect the low income employee and will be administered and collected by the South African Revenue Service (SARS) by means of a social security tax. The implication is that in order for an individual to benefit from the proposed system, one must contribute to it. Moreover, one has to be employed to do so. It is interesting to note that the proposed system is not an alternative to the Unemployment Insurance Fund which remains in place.

When the Minister talks about enhancing the current administrative process with regard to tax registration and collection, he specifically talks about streamlining the use of payroll based contributions. As it is envisaged, this social security tax will be levered off the collection of employees tax by SARS, and it is therefore a logical step to understand that this tax will be administered through the payroll and deducted by employers, who will then pay over the funds to SARS. SARS will then keep detailed records of the contributing employees. From this, it is not a big leap to anticipate that the amount paid by an employee as social security tax will be based on the individuals earnings.

Although this initiative is to be applauded, and will cover a diverse range of employees, it is imperative that SARS focuses on cleaning up the existing employees tax base and ensure that all employers are withholding adequately on remuneration paid to employees.

SARS has identified employees tax as a key focal point in the 2007/2008 tax year. This means that dedicated audit teams have been established and trained to flush out any anomalies within an employers payroll system. It can be assumed that this is being done with a view to cleaning up the tax base from an employees tax perspective, and ensuring that employers are fully compliant with the current legislation before the introduction of new legislation which requires additional administration by the employer.

Employers should accordingly expect more regular and detailed employees tax audits. According to Tanya Kramer, an assistant manager at Deloitte, prevention in the form of regular reviews of payroll practices has proved to be more beneficial than defending the findings of a SARS audit. Regular reviews enable employers to voluntarily disclose under deductions of PAYE to SARS before SARS finds these errors on audit.

Contractors finally recognised

Tax avoidance in the form of individuals contracting either through a labour broker entity or a personal service entity (company/close corporation/trust) or as a sole proprietor rather than being regarded as employees and being subject to employees tax was a very popular practice in the past.  The benefit of this practice to the individual was that they were not subjected to PAYE, a monthly withholding tax on payments made to employees, as they were effectively not employees.  It also enabled individuals to claim additional deductions that a salaried employee would not have been entitled to.

SARS introduced legislation in 1990 and 2000 to ensure that this avoidance of PAYE and excessive deductions was addressed.  The legislation proved to be very onerous and has had unintended tax consequences and hardships for taxpayers who are legitimately independent from their clients but are deemed to be employees by the legislation.

The legislation relating to personal service entities, was recently relaxed, and is effective for all years of assessment ending on or after 1 January 2007. In other words, a taxpayer that has a 28 February year-end may apply the new legislation for the fiscal year 1 March 2006 to 28 February 2007, and a company with a June year-end may apply the new legislation for the fiscal year 1 July 2006 to 30 June 2007.

Sole proprietors, on the other hand appear to have been forgotten by the legislature in the 2006 amendments. The Minister has indicated now that legislation relating to sole proprietors will be relaxed to be in line with the recent amendments made to personal service entities.

Jasoken Pillay, manager at Deloitte, envisages that this could potentially mean that sole proprietors will not be treated as employees solely because they receive regular payments for their services or because their hours are dictated by their clients.  This would be consistent with the relief afforded to the personal service entities.

Jasoken goes on to say that, notwithstanding the relief afforded already to personal service entities and anticipated to be afforded to sole proprietors, the legislation is extremely complex and professional advice must be sought for all contracts dealing with the appointment of any contractor.

Lump sum payments covering death at work

Lump sum death benefits paid outside of the Compensation for Occupational Injuries and Diseases Act have, previously not been exempt from tax as was the case with a payment made within the ambit of the Compensation for Occupational Injuries and Diseases Act.  It is now proposed in the 2007 National Budget that all payments in respect of death while at work be tax free up to R300 000.  This was brought in as part of the broader social security reforms that the Minister of Finance has announced in the budget speech.