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[FAQ] The tax implication when shares are sold for consideration in the form of a put option
- 26 August 2021
- Capital Gains Tax
- The Tax Faculty Tax Specialist
This article is based on tax law for the year ending 28 February 2022.
Background
A taxpayer (Trust) owns 100% of the ordinary shares in a company and charges a non-refundable R20 million to a potential purchaser of the shares in the form of a 12-month put option expiring on 30 June 2022. The taxpayer (Trust) receives the funds for the put option on 1 June 2021 and these funds are not deposited into an escrow account.
Please advise on the following:
1. Is this put option subject to capital gains tax or income tax? And if so, when?
2. What is the capital gain or taxable income?
3. Would it make any difference if the purchaser did or didn't exercise their option to purchase the shares?
Answer
The Income Tax Act
It may be a term of the contract, but we agree that it is irrelevant, if the amount is put in an escrow account. The nature of the receipt, capital or otherwise, would be determined with reference to the intention of the taxpayer with respect to the holding of the asset that is the subject of the agreement.
SARS, in their CGT guide (issue 8), explains that a “put option” is an agreement that gives a person the right, but not the obligation, to sell an asset at a specified price (strike price) within a specified time period. See paragraph 12.7 of the guide.
Under paragraph 11(1)(f) of the Eighth Schedule, a disposal is any event, act, forbearance or operation of law which results in the creation, variation, transfer or extinction of an asset, and includes … the granting, renewal, extension or exercise of an option.
The time of disposal is the date on which the option is granted, renewed or extended – see paragraph 13(1)(a)(vi) of the Eighth Schedule.
In terms of paragraph 33(3)(a) of the Eighth Schedule, and for the purposes of paragraph 33(1) and 33(2), there is no part-disposal of an asset by a person in respect of the granting of an option by that person in respect of an asset. This effectively means that the base cost of the option, for the grantor, is zero. This accepts that there is no incidental expenditure directly related to the disposal of the option, such as legal fees to draw up the option, etc.
We agree that, for the grantor, it would make no difference if the purchaser of the option didn't exercise their option to purchase the shares. Paragraph 58 of the Eighth Schedule is relevant where the option is exercised. It provides that where, as a result of the exercise by a person of an option, that person acquires or disposes of an asset in respect of which that option was granted, that person must disregard any capital gain or capital loss determined in respect of the exercise of that option.
Webinar Commentary
Refer to the following webinar: Ethics for Tax Practitioners 2021 here.