The article was written and published by: ReganVanRooy
10 common mistakes in SA corporate tax returns – Part II
Last week we unveiled the first five of our greatest hits in terms of common, and costly, errors in South African tax returns. For those who’ve been waiting with bated breath, here are the final five.
All references are to sections of the South African Income Tax Act, no 58 of 1962. References to “SARS” are to the South African Revenue Service and to “IFRS” are to our beloved International Financial Reporting Standards.
6. Tax treatment of foreign exchange differences
Section 24I governs the treatment of foreign exchange differences for tax purposes. Typically the tax treatment of exchange differences in terms of section 24I accords with the accounting treatment and no adjustment is required in the taxpayer’s tax return assuming the “exchange differences” are recognised in profit or loss for accounting purposes. However, there are exceptions. One such exception is found in section 24I(10A) which provides that the recognition of unrealised exchange differences with non-resident connected persons must be deferred until realised, provided that certain requirements are met. One of these requirements is that no portion of the “exchange item” represents a non-current asset or liability in terms of IFRS. Therefore, if the full balance of the “exchange item” with the non-resident connected person is disclosed in the taxpayer’s annual financial statements as a current asset or a current liability (as the case may be) the deferral rule does not apply. If all the requirements are met, the unrealised exchange differences must be deferred for tax purposes, giving rise to related deferred tax consequences.
7. Donations to section 18A organisations
Taxpayers, including companies, can claim as a deduction from their taxable income amounts donated to any section 18A-approved organisation up to a value of 10% of their taxable income. Any donation made in excess of the 10% limit in any year of assessment will be carried forward and deemed a donation in the following year of assessment eligible for deduction subject to the same limitation. Taxpayers sometimes overlook the following important points concerning section 18A deductions:
For cash donations the amount must be actually paid during the relevant tax year the deduction is claimed – an undertaking/commitment to make the donation followed by payment after year-end is insufficient to claim a deduction in the earlier year;
A section 18A receipt/certificate issued by the section 18 approved organisation to whom the donor made the donation must be available to support the donation. The certificate must specify certain information. If certain information is not contained on the certificate it will be invalid and the deduction may be denied.
8. Leases vs instalment sales
Companies that apply IFRS account for “leases” as defined in IFRS 16 as Right of Use assets and a related lease liability in their financial statements whereas companies that apply IFRS for SMEs recognise “finance leases” as assets and a related lease liability in their financial statements. Tangible assets acquired under instalment sale agreements i.e. an agreement where ownership passes to the debtor on payment of the final instalment are similarly accounted for as assets and related liability. Whereas the accounting treatment for leases/finance leases of tangible assets may be similar to that of tangible assets acquired under an instalment sale agreement, the tax treatment is different. Leases/finance leases are accounted for according to economic substance and not their legal form. For tax purposes, the legal form of the transaction should be followed. Therefore, suitable adjustments to reverse the depreciation and finance charges recognised for accounting purposes and to claim lease payments made should be processed in the taxpayer’s return. Taxpayers often fail to make such tax adjustments. While the adjustments are in the nature of temporary differences which will fully reverse in subsequent years and overall the same deductions will be claimed the pattern of recording is different and taxable income may be understated or overstated in a particular tax year.
9. Items recognised in Other Comprehensive Income (“OCI”)
Taxpayers normally determine taxable income using profit or before tax as reported in the statement of comprehensive income as a starting point and making the necessary adjustments required for tax purposes. OCI forms part of the statement of comprehensive income and comprises items of income and expense that are not recognised in profit or loss as required or permitted by IFRS. Since the components of OCI are not considered in determining the net income or loss before tax the normal “mechanics” used to make tax adjustments may not yield the correct tax effect. For example, simply respectively adding back and deducting the closing and opening balances on a post-retirement medical aid provision where actuarial gains or losses are recognised in OCI will not produce the correct tax effect without also adjusting for such gains or losses. Taxpayers, therefore, need to carefully consider the potential impact of components of OCI on the tax computation.
10. Foreign Tax Credits (“FTCs”)
South African domestic legislation (section 6quat) permits an FTC to be claimed against a resident’s SA tax liability for foreign tax suffered on non-SA source income. However, a limitation is imposed according to the following formula: Taxable income from foreign sources/Total taxable income x SA tax payable. Any excess foreign tax credit may be carried forward for seven years. The SA domestic relief may be applied as an alternative to the relief afforded by an applicable Double Taxation Agreement ( DTA). However, certain DTAs e.g. the DTA between South Africa and Namibia, contain a similar limitation. We have noted that in claiming FTCs corporate taxpayers often overlook applying the limitation in either section 6quat or the applicable DTA.
So there you have it, our top ten tips to check in your tax return.
At Regan van Rooy, we conduct deep-dive tax health checks on your corporate tax returns, either before submission to SARS annually, or as a regular check-in to mitigate risks. We cover all these items in detail.