Practical Question from Taxpayer

Can a company claim an Income Tax deduction for a motorbike purchased, used to compete in competitions that are branded with the company logo? Can the cost be allocated to Advertising expense and could one claim the VAT back? Lastly, the person being sponsored is the owners son, so other than noting it in the financials under related parties contributions, would this be allowed?

Background & Facts

A company purchases a motorcycle branded with the company’s logo and marketing material to sponsor it to a non-connected individual to compete in competitions. The ownership of the motorcycle will transfer to the individual.

Can the company (sponsor) deduct the expenditure as an advertising expenditure in terms of section 11 of the Income Tax Act 58 of 1962. 

Applicable Law 

  • ITA no 58 1962, section 11(a)
  • SARS: Guide of Professional Sports Clubs and Players, 2018
  • The New State Areas Ltd v CIR 1946 AD 610, 14 SATC 155 at 170

Application of the Law to the Facts

Due to the limited information available, let’s assume the company entered into a sponsorship agreement with a professional biker, whereby the company (the sponsor) sponsors a motorcycle to the individual, with the sole purpose of the transaction being marketing or advertising for the company (sponsor). 

The general deduction formula provided in section 11(a), allows a taxpayer to deduct expenditure if the taxpayer is engaged in a trade, the trade must generate income and the expenditure must be incurred in connection with the sponsor's trade or linked to income-producing activities (not of a capital nature).  However, there is a fine line between expenditure being of a revenue or of a capital nature. 

SARS's "Guide of Professional Sports Clubs and Players, 2020" sheds light on such scenarios by providing factors to be considered when having to prove whether the advertising expenditure was of a revenue or capital nature. One of the factors to consider is whether anything is received by or accrues to the sponsor which must be included in gross income. If the receipt or accrual is in a form other than money, the monetary value of such item is deemed to be the market value. 

In this scenario the receipt or accrual will be in a form other than money. The receiver of the sponsorship will be giving advertising and promotional services to the company (sponsor), which should be stipulated in the sponsorship agreement.

Based on the above, the receipt or accrual is revenue in nature since it represents an expense actually incurred by the sponsor in the course of its business, specifically for advertising purposes. Additionally, the motorcycle cannot be considered a capital asset of the company (sponsor), because the motorcycle was not acquired for the sole purpose and benefit of the company, but rather for the purpose of marketing, thereby linking it to the income-earning operations. 

SARS’ Guide of Professional Sports Clubs and Players, 2020 makes reference to The New State Areas Ltd v CIR-case which highlights the importance of determining the true purpose of the item being sponsored, in this case the motorcycle. 

in The New State Areas Ltd v CIR-case, Watermeyer CJ, made the following statement:

“ . . . the purpose of the expenditure is an important factor; if it is incurred for the purpose of acquiring a capital asset for the business it is capital expenditure even if it is paid in installments; if, on the other hand it is in truth no more than part of the cost incidental to the performance of the income producing operations, as distinguished from the equipment of the income producing machine, then it is revenue even if it is paid in a lump sum.”

In addition to the requirements set out in the SARS guide, the company must be able to justify the amount actually incurred. The company (sponsor) would need to prove that the market value of the sponsored motorcycle is equal to the value of the advertising and marketing services which the biker (receiver of the sponsorship) is supposed to provide to the company in terms of the sponsorship agreement. 

It is suggested that the company include specific information in the sponsorship agreement to justify the amount incurred. This might include a schedule of the competition events and the break-down of the actual marketing fees per event. However, it might be challenging to provide a break-down of the actual costs of the services provided by the person who receives the sponsorship. 

This is one possible interpretation of the consequences of a sponsorship and the possibility thereof to qualify as advertising or marketing expenditure as these type of advertising costs remain within a grey area of our tax law.

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