Covid-19 and Tax

Covid-19 and Tax

• 25 March 2020
• Corporate Tax
• Johan Heydenrych

Important:

Monday 23 March 2020 will be remembered in the history books as the day that South Africa declared war. In the first time in the history of our country, war is not declared on a visible enemy, it is declared on an invisible enemy. An enemy without conscience, an enemy that is especially vicious against the aged, the weak, the immune deficient! It is a war that is not fought on our borders, it is fought in our hospitals, our laboratories, but most of all, it is fought with the joint common sense of our people.

As with any conventional war, our “war effort” requires sacrifice, commitment and collaboration between the private and public sector. Any war effort is dependent on a system of taxation that provides adequate and sustainable funds to the war council to be victorious in its efforts.

The President announced several measures designed to:

• Curb the spread of the disease: These invariably leads to a cessation or reduction of economic activity – mainly due to a need for social isolation. Certain vital services need to remain, albeit with a different focus.
• Create opportunities for contributions by benefactors (local and international) to inter alia the Solidarity Response Fund.
• Provide support to businesses and individuals via the UIF system, the Solidarity Response Fund, the Temporary Employee Relief Scheme, the Industrial Development Council funds and through certain concessions granted via the PAYE system (including the employees tax incentives).

Each of the 3 pillars of the war effort holds its own unique direct and indirect tax consequences. Many of these remain uncertain but will hopefully be clarified as time progresses.

In this article, we explore certain initial tax challenges that businesses and individuals will face in the following weeks and months.

Squadron 1 - Tax: Social distancing and impact on business

• The President encourages employees to work from home. In such instances, costs may be incurred by employees in their personal capacities e.g. telecommunication, wi-fi, stationery, printing etc. The salaried employee will not be entitled to a tax deduction if these expenditures are borne by the employee. However, if the employer reimburses the expenditure actually incurred by the employee for business purposes, the employer will obtain an income tax deduction, and the employee will not be taxed thereon. Care should be taken that only business-related expenditures are reimbursed, and that no private element may be reimbursed. Certain evidentiary problems may be experienced e.g. where an employer reimburses the employee for a portion of a fixed cell phone contract cost already in existence.
• Certain employees may be stranded overseas or in quarantine after completing a business trip overseas. Employers may continue to bear the costs of subsistence, travel and accommodation during the period that the employee is unable to return to his/her home. The exemption for subsistence allowances and for employer borne travel and accommodation expenses is limited to the period that the employee spends overseas for business purposes. Where an employee’s sole purpose of an overseas trip was for business reasons, it is strongly arguable that the tax-free subsistence and travel related costs will be totally exempt, but uncertainties arise in situations where a business trip was combined with a private element.
• Par 16(2)(b) of the 7^th Schedule contains an exemption from fringe benefit tax where a travel facility is provided by an employer for employees in general from their homes to their places of work. Employees in vital industries (e.g. medical, sanitation and electricity) may experience difficulties in obtaining transport to their places of work given the reduced public transport facilities. It seems appropriate that legislation should be amended to expand the scope of par 16(2)(b) where employers provide transport facilities outside the wording of the current exemption.
• In certain instances, employers may agree to pay the medical costs for employees suffering from COVID-19. Par 12B of the 7^th Schedule to the Income Tax Act will generally regard these expenses to be taxable in the hands of the employees. A notable exception to this rule is where the medical services are rendered by the employer at the place of work for the better performance of the employee’s duties. An example is where a medical clinic is operated at a factory or mine’s premises. It appears appropriate that par 12B of the 7^th Schedule be amended to allow for an exemption where an employer agrees to pay for the medical expenditures of an employee suffering from COVID-19.
• Businesses are expecting a dramatic increase in bad debts and doubtful debts. Companies adopting IFRS 9, may claim 25% of stage 1 impairments and 40% of stage 2 and 3 impairments. SARS may issue rulings allowing up to 80% of certain impairments. Taxpayers not adopting IFRS 9 may claim 25% on debt that is more than 60 days in arrears and 40% if more than 120 days in arrears. Given the expected increase in bad debts, these allowances may need to be revisited. From a VAT perspective, VAT on bad debts may only be claimed if the debt is actually written off as irrecoverable. The delayed VAT claim on increased levels of delinquent debts is expected to create substantial cash flow problems for VAT vendors registered on the invoice basis.
• Mining companies will be required to enter into a care and maintenance phase. Section 36(11)(b) states that the cost of development, general administration, management and interest (incl other charges) on loans used for mining purposes will be regarded as “capital expenditure” for tax purposes during any period of non-production. This may cause unplanned and undue hardship for mining companies since capital expenditure may not be offset against non-mining income. Since this is an unintended consequence of the COVID-19 disaster plan, an appropriate change to the law appears appropriate.

Squadron 2 - Create opportunities for benefactors to contribute

• The Solidarity Response Fund donation form states that any donations will be tax deductible. It is uncertain whether or not the ambit of section 18A will be expanded to include any contributions made to the Solidarity Response Fund. It is also uncertain if donations will be subject to the 10% of taxable income limitation currently provided for in the Act.

Squadron 3 - Provide support to businesses and individuals

• Tax compliant companies with turnover up to R50m may postpone payment of 20% of the PAYE deducted from employees for 4 months. It should be clarified that in the event that the employer is liquidated without payment of the PAYE so delayed, that SARS does not have any right of recovery against the employee. The delay in payment of the PAYE is effectively a short-term interest free government loan to the employer in distress. Where the employer in unable to repay this “loan” for commercial reasons, the company and its directors should not be liable for an offence as it would have been if PAYE was not paid to SARS. The irrecoverable debt should simply be regarded by Government as a commercial loss and not as an offence committed by an employer.
• Using the tax system, Government will provide a tax subsidy of up to R500 per month for the next four months for those private sector employees earning below R6,500 under the Employment Tax Incentive (ETI). Grants under the ETI is current exempt from income tax and is earned by the employer. It is uncertain whether this incentive will be paid directly to the employee (as opposed to the employer) and will remain exempt from income tax.
• Businesses may qualify for various forms of grants and subsidies from government. The general rules regarding government subsidies are complex but may be summarised as follows:
  • Where the grant is listed in Schedule 11 to the Income Tax Act, then the grant itself is exempt from tax in terms of section 12P. Section 12P contains anti-double dipping provisos meaning that the taxpayer may not claim any income tax deduction for expenditures funded by the grant. As such, even though the grant is exempt, an equivalent expenditure must be added back.
  • If the grant is not listed in the 11^th schedule and is not specifically exempt (such as the ETI Grant), then the grant will take on the form of the underlying expenditure it is intended to fund. Generally, the COVID-19 related grants will be operational in nature and under general rules will be taxable.

The income tax treatment of the grants should be clarified to avoid any uncertainties. Even if the taxpayer is in an assessed loss situation, a liability for understatement penalties may arise.

The above represents only a high-level overview of the author’s initial impressions of the tax challenges facing businesses and Government during this COVID-19 crisis. These matters will evolve over the next weeks and months.

There is little doubt that the impact of the COVID-19 war will not be over once the pandemic has been contained. Economic and social recovery after the COVID-19 crisis has been averted should be managed on an equally sober basis as government, social and business leaders are managing the pandemic itself. These recovery initiatives should be underpinned by a strategically appropriate tax regime.

Webinar Commentary

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