Our client is a boutique hotel. They receive booking deposits which are non-refundable up to 30 days prior to guests arriving: - 50% refundable if guests cancel within 30 days - No refund if cancelled within 2 weeks In the past we have included the entire
Important:
This answer is based on tax law for the tax year ending 28 February 2017.
Answer:
We need to remind you that the taxpayer bears the onus of proof - in this instance there was a receipt - that it is not gross income. The problem is that an amount would be gross income at the earlier of receipt or accrual. As there is no accrual yet, we accept, the taxpayer will have to show that it was either not for its (the boutique hotel’s) benefit or capital in nature in order for it not to be gross income.
In this regard, Judge Howie said, in the MP Finance case, “the sole question as between scheme and fiscus is whether the amounts paid to the scheme in the tax years in issue came within the literal meaning of the Act. Unquestionably they did. They were accepted by the operators of the scheme with the intention of retaining them for their own benefit. Nothwithstanding (sic) that in law they were immediately repayable, they constituted receipts within the meaning of the Act. In other words it does not matter for present purposes that the scheme was not entitled, as against the investors, to retain their money. What matters is that what they took in was income received and duly taxable…”
In C v COT 46 SATC 57 it was held that where an unconditional obligation existed to repay, the deposits were not received by the taxpayer, but Judge Howie, in the case referred to above, said that the fact that “the scheme was legally obliged to repay an investor immediately on receipt” didn’t mean that the deposit wasn’t received by it.
It is generally accepted that if the money is held in trust (see the Brookes Lemos Ltd v CIR 14 SATC 295) it would not be received and therefore not gross income.
In CSARS v Cape Consumers Judge Davis said with regard to the funds held in reserve that “… in terms of the legal relationships between itself and the buyers, such monies were not for its own benefit but for the benefit of the buyers.” The decision was then that it was not gross income.
If you have an uncertainty regarding the view taken, you may want to support it with an opinion from a tax practitioner.
We are not sure why you say that “the prior year’s deposits” were “deducted”.
The practice of hotels and resorts
Whilst the practice of each establishment differs, hotels and resorts generally have a sliding scale cancellation policy in place i.e. relating to the period of time between the date of cancellation and the date of the reservation. Therefore the cancellation fee is higher the closer the cancellation is to the date of the reservation.
In light of the above mentioned it is clear that the consumer has the right to cancel an advanced reservation or booking but will inevitably be liable for a “reasonable” cancellation penalty. The issue that many consumers are faced with is that suppliers, including those in the hospitality sector, fail to adhere to the reasonable cancellation referred to under Section 17. Whilst it’s common practice to charge a greater amount where the consumer cancels closer to the reserved date, the supplier still bears the onus of validating the charge. Even more, the supplier will have to bear the loss where the cancellation is due to death or hospitalisation. Unfortunately, for the supplier, they can no longer have a blanket ‘no refunds’ policy when dealing with cancelled bookings.
The relevant law: an amount will be gross income at the earlier of receipt or accrual.
The taxpayer, in this instance, will not become entitled to the deposit if the guest cancels the booking more than 21 calendar days before the date of arrival. The taxpayer will only become entitled to retain a part of the deposit, if the guest failed to cancel booking after the 21 days, but before the 7-day period. The taxpayer becomes entitled to the full deposit, if the cancelation is received less than 7 calendar days before the date of arrival.
When a deposit is paid by the prospective guest and is kept by the hotel in a separate account, the hotel doesn’t receive the amount of the deposit for its own benefit. It is therefore not a receipt for purposes of gross income.
In CSARS v Cape Consumers Judge Davis said with regard to the funds held in reserve that “… in terms of the legal relationships between itself and the buyers, such monies were not for its own benefit but for the benefit of the buyers.”
Judge Steyn, in Geldenhuys v CIR, said that “the words 'received by' must mean 'received by the taxpayer on his own behalf for his own benefit'.” Judge Herbstein, in the same case, agreed with Judge Steyn and said although the taxpayer “received the purchase price of the sheep she did not become entitled to the money, which remained the property of the remaindermen. In my opinion, it never became part of her 'gross income' and so must be excluded in the determination of her 'taxable income'.”
With respect to deposits paid by guests prior to the taxpayer’s year end, but more the 21 calendar days before the year end date, there is no receipt by the taxpayer and consequently no inclusion in the taxpayer’s gross income.
With respect to the deposits cancelled prior to the 7-day period but where the refund was not made by the taxpayer, the following is applicable. The taxpayer is under an obligation to return part of the deposit, 50%, to the guest. The hotel is entitled to the remaining part of the deposit, the other 50% thereof, but has not yet transferred it from the special account. Because they are entitled to it, the amount has accrued to them, and the amount (R5 000) must be included in its gross income for the hotels 2018 year of assessment.
Wits
The relevant comment made by Judge Watermeyer, is that Brookes Lemos “was not a trustee holding the deposits on account of the customers as security for the return of the bottles.” That can be hardly relevant to the facts at hand. In this instance he received an amount, in my view, in respect of services - probably for services to be rendered in future. We don’t know why (and it is a pity that they used fact that was relevant 30 years ago and would not happen now – compulsory military service) the employer decided to make the payment. But, be linking it to a period of employment after the 3 years, one would find it difficult to meet the onus of proof that it was not in respect of services rendered – see the Stevens case. The relevance is that, even if the taxpayer can then proof that it was capital in nature, it would be irrelevant – because of paragraph (c) of the definition of gross income.
What has also changed, is that section 11(nA) now gives a deduction for the employee when the refund is made. That follows the McGuire decision (SCA). The problem then is that, whilst there is no accrual, the taxpayer will have an inclusion in gross income, and a subsequent deduction, if there was a receipt. This deduction was introduced to cater for similar cases – the more common one now is a female employee going on maternity leave.
I think there was a receipt here. The money was paid to him for his own benefit. There was no requirement for him to keep it separate. It was also not received as a deposit. The reason for him choosing to put it in a separate account, was really to protect against the risk that he may not be able to return to the bank or may not want to. The money is then there to be able to make the repayment.
The exact wording of Judge Schreiner, taken from Genn:
“It certainly is not every obtaining of physical control over money or money's worth that constitutes a receipt for the purposes of these provisions. If, for instance, money is obtained and banked by someone as agent or trustee for another, the former has not received it as his income. At the same moment that the borrower is given possession he falls under an obligation to repay. What is borrowed does not become his, except in the sense, irrelevant for present purposes, that if what is borrowed is consumable there is in law a change of ownership in the actual things borrowed.”
In this regard, Judge Cloete, in Brummeria, said:
“It is important to emphasise that the Commissioner did not contend that the actual receipt of the loan capital resulted in the receipt of amounts for the purposes of the definition of gross income ─ and rightly so, as it has been decided in this court that a receipt of loan capital, as such, is not a receipt for the purposes of such definition…”
The fact that the legal view is that there is no receipt, is helpful, because that takes it out of gross income. My view is that it is not gross income because the receipt, under a loan agreement, is capital in nature.
With respect to Pyott – Judge Davis mentions that in that instance it was “reserve out of income to provide for a contingent liability”. This may well be relevant to the rifleman as well. This, incidentally, is why refunds of restraint payments or bonusses, were not deductible and why section 11(nA) was introduced.
Another Judge Davis, I think the one we know, said in the Cape Consumers case, that “the factual circumstances show that the income … was not received by nor did it accrue to respondent within the defined meaning. The amounts transferred to the buyers' reserve fund were held for the benefit of the buyers.”
The rifleman can’t use this either.