My query relates to a prize award made by an international company(Company X) based in the US to a South African registered PTY Ltd(Company Y). Is a prize awarded to company considered income or capital and will it be subject to income tax?
Important:
This answer is based on tax law for the tax year ending 28 February 2020.
Answer:
It must be remembered that the taxpayer bears the burden of proof should the matter be disputed by SARS - in this instance if the view is taken that it is not gross income (because it is capital in nature).
Guidance implies that sources or references relevant to your request are provided, but that ultimately your professional judgment is required to be applied to the specific circumstances.
The tax consequences of a prize are not specifically dealt with in the Income Tax Act. As there is a receipt one must apply the principles of the definition of gross income to determine if it will have tax consequences. Our courts have laid down the law in this regard. According to Judge Smalberger (in CIR v Pick ‘n Pay Employee Share Purchase Trust) “... any receipts accruing to the Trust were not intended or worked for, but purely fortuitous in the sense of being an incidental by product. They were therefore non-revenue. That makes them accruals of a capital nature falling outside the definition of "gross income" in the Income Tax Act, and therefore not subject to tax.” Judge Southwood in CSARS v Wyner agreed with this and stated the principle as follows: “This means that receipts or accruals will bear the imprint of revenue if they are not fortuitous, but were designedly sought for and worked for...”
The fact that company entered the competition may well not change the fortuitous nature of the award. The cases of Stander v CIR and CSARS v Kotze are relevant to this – it discusses the nature of a testimonial or accolade receipt.
The capital nature of the receipt may however be irrelevant if the amount is received (or accrues) in respect of services rendered. If so, it would be gross income in terms of paragraph (c) of the Income Tax Act irrespective of being capital in nature.
Judge Howie (in the Stevens case) said “… the expressions ‘in respect of’’ … in paragraph (c) … connote a causal relationship between the amount received and the taxpayer’s services or employment.” (The reference to paragraph (c) is to the paragraph in the definition of gross income).
In your opinion, you will have to deal with the “restrictions on the award” and the way the reward is to be used. This is to prove that the prize doesn’t constitute the rendering of services by the RSA company (or services to be rendered).