XYZ (Pty) Ltd v The Commissioner for the South African Revenue Service
| Jurisdiction | South Africa |
| Judge | NP Mali J |
| Judgment Date | 20 December 2018 |
| Citation | 2019 JDR 0142 (Tax) |
| Docket Number | 14189 |
| Court | Tax Court |
Mali J:
INTRODUCTION
The court is asked to deal with whether the receipt of R125 million by the appellant in respect of a lease premium is of a revenue nature therefore taxable or it is of a capital nature, resulting in no tax liability. Key to the determination is whether the appellant earned the amount of the lease premium as a result of the lease agreement.
2019 JDR 0142 p2
Mali J
The determination that an amount or expenditure will generally be of a capital nature is left to the court to define the meaning of the disputed receipt. There is no single test to determine the nature of an amount. Scrutiny of case law illustrates a few different tests applied by the courts. Intention or change of it by the taxpayer is key to the resolution of the impasse. There is myriad of case law; inter alia Commissioner for the SOUTH AFRICAN REVENUE SERVICES v FOUNDERS HILL (PTY) LTD [1] at paragraph 26 it is stated:
"The difficulties attendant on invoking the intention of the taxpayer as the litmus test which determines whether the proceeds of an asset sold are of a capital nature or income nature are made plain too in Malan v Kommissaris van Binnelandse Inkomste, where EM Grosskopf J said that intentions by their nature are changeable and often not fully formulated; and evidence after the event, however honest, is not always reliable, sometimes being reconstructed. And of course in Natal Estates, in the passage cited, Holmes JA said clearly that one must 'think one's way through all the facts and thus not rely upon what the taxpayer claimed had been its original and continuing intention….
The problem lies in the fact that they had failed to appreciate that the realisation of property to best advantage applies to the realisation of a capital asset only and the fact that a taxpayer refers to an asset as a capital asset does not make it one."
The appellant is a 100% state owned company. It is mandated to develop and operate 11 500 hectares of industrial land in the XYZ Special Economic Zone ("SEZ"). The appellant was established in 1999 with its key role as the developer and operator of the XYZ Industrial Development Zone ("IDZ") as well as an investment attractor.
The respondent is the Commissioner for the South African Revenue Service ("SARS"), appointed in terms of section 6 of the SARS Act No. 34 of 1997 ("SARS Act") by the President of the Republic of South Africa, or the Acting Commissioner designated by the Minister in terms of section 7 of the SARS Act.
FACTS
On 8 June 2009, the appellant concluded an agreement with DF (Pty) Ltd ("DF"). The appellant leased to DF its property in the IDZ ("the property"). The initial lease period for the property was for 12 (twelve) years and 2 (two) renewal periods thereafter of 12 (twelve) years and 5 (five) years respectively ("the DF Lease Agreement"). DF was the first major client with an international footprint. The DF agreement was profitable at R13 million per annum, the first of its kind for the appellant. DF required the appellant to build it a facility to rent. The facility was expected to be ready for occupation by 1 July 2010, being the effected date of the lease agreement.
2019 JDR 0142 p3
Mali J
The effective date of the DF Lease Agreement was 1 July 2010. It was then registered as a long-term lease in terms of section 77 of the Deed Registries Act No. 47 of 1937 on 1 December 2010.
The appellant expected its executive authority and shareholder to fund the construction of the DF rental facility. A construction company known as JK Construction ("JK") was granted a tender to build the facility. In the second month of the building the appellant ran into financial difficulties and could not afford to pay JK. Its executive authority and shareholder did not assist the appellant with funding the construction of the DF rental facility.
The failure to pay JK had attendant reputational risk and other financial constraints, i.e. the payment of R15 000 per day as a penalty. JK offered to continue construction work on condition that it would be repaid by being appointed for future projects of the appellant. JK's offer was not accepted as it did not comply with the requirements of the Public Finance Management Act No. 1 of 1999 ("PFMA").
The appellant leased the property to MN for a period of 50 (fifty) years subjected to DF's tenancy in terms of the DF Lease Agreement. Taking into account 'Projected Income' [2] the period of 50 (fifty) years is broken up as follows:
"an amount of R1 023 019 increased on each anniversary of the Rental Date by 6.5% per annum for the years 1 to 12 of the Lease, 6.9% per annum for years 13 to 24 of the Lease and 6.5% per annum for years 25 top 50 of the Lease…"
On 8 December 2010, the appellant concluded an agreement ("the MN Agreement") with MN Properties (Pty) Ltd ("MN") being a subsidiary of OP (Pty) Ltd. The following clauses of the MN Agreement are pertinent:
MN would pay to the appellant a monthly rental in the nominal amount of R1 (one Rand) per month until the expiry of an initial lease period of 12 (twelve) years ("the first period");
MN would pay to the appellant a monthly turnover equal to 10% (ten per centum) of the gross rental received in respect of the Property for a lease period of 25 (twenty five) years commencing immediately after the first period ("the second period").
2019 JDR 0142 p4
Mali J
The appellant ceded and assigned the DF Lease Agreement to MN ("MN Cession and Assignment Agreement"). In consideration for the MN Cession and Assignment Agreement;
MN would pay the appellant an amount of R125 million upon the Rental Date;
The appellant would be substituted by MN as landlord, in terms of the DF Lease Agreement;
DF would pay all amounts due in terms of the DF Lease Agreement to MN.
On or about 11 February 2011, appellant, MN and DF concluded a deed of assignment in terms whereof, DF consented to the assignment of the appellant's rights, title and obligations in terms of the DF Lease Agreement to MN. The appellant assigned its rights, title and obligations in terms of the DF Lease Agreement to MN with effect from 1 August 2010.
On or about 7 April 2011, MN and ST Limited ("ST") concluded an agreement of sale of rental enterprise to ST; and agreement to pay the lease premium arising therefrom. The purchase price was R135 000 000 (R135 million) in terms of which R125 million payable by ST to MN would be payable directly to the appellant on behalf of MN. An amount of R10 000 000 (R10 million) would be paid by ST to MN.
As agreed the amount of R125 million was paid to the appellant by ST. It is not in dispute that when the appellant filed its income tax return for the 2012 year of assessment, the appellant did not include the whole lease premium amount of R125 million received as a gross income. Instead the appellant amortised the premium in its tax return.
On 21 October 2013 the respondent enquired about the abovementioned omission.
'The appellant alleged that the premium was a customer deposit, which is a liability to the appellant. The appellant could not substantiate the above explanation. As a result on 23 September 2014 the respondent issued a finalisation of audit letter to the appellant. The respondent raised additional assessment in respect of R125 million and imposed a 10% (ten per centum) understatement penalty ("USP"). The appellant objected to the additional assessment. The objection was disallowed by the respondent.
The argument advanced on behalf of the appellant is that the payment is of a capital nature being proceeds in respect of the disposal by the appellant of an asset (comprising of its rights, title and interests in and to the DF Lease Agreement) and therefore it does not fall within the appellant's gross income as contemplated in the general...
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