DealMakers - Q1 2022 (released May 2022)
Corporate Income Tax: A bittersweet reduction
by Lance Collop
The long awaited and much anticipated decrease in the corporate income tax (CIT) rate from 28% to 27% was confirmed by Minister of Finance Enoch Godongwana in the 2022 Budget Speech. This decrease is long overdue and comes into effect for years of assessment ending on or after 31 March 2023. Ironically, now that it has finally arrived, this reduction in CIT may end up doing more harm than good for the growth of the economy.
The reduction in CIT is accompanied by a host of other proposals that remove or otherwise restrict tax incentives and deductions available to companies. The most pervasive of these changes is the limitation on the use of assessed losses, which allows a company to shield only the higher of R1 million or 80% of taxable income arising in a year of an assessed loss.
This is demonstrated in the following example:
Company A has an assessed loss brought forward of R2 000 000 and makes taxable income of R1 100 000 for the relevant tax year. Before the limitation kicks in, Company A would have no tax liability as the full balance of the assessed loss could be used to shield the taxable income of R1 100 000. However, once the limitation on the use of assessed losses kicks in for Company A, it can only offset the higher of R1 000 000 or R880 000 (80% of R1 100 000) by the assessed loss brought forward, giving rise to a cash tax liability for the relevant year.
One can only wonder how many companies out there are in a similar position to Company A, suddenly being expected to pay tax when they are still trying to recover from the devastation that the pandemic and the associated State of Disaster had on the economy. Would this money not be put to better use by these companies to settle debilitating debt, re-invest in the business, or most crucially, employ people?
The proposed limitation will also adversely affect companies operating in industries that are inherently cyclical, agriculture being a good example. And what is perhaps most concerning is the negative impact that this limitation will have on the potential for investment into critical infrastructure and energy projects, at a time when the government should be doing all it can to grow the renewable energy sector.
Renewable energy industry players already feel hard done by because of the fact that the fiscal regime for renewable energy companies in South Africa is inferior to that of countries where this industry's growth has been successful, notably in the European Union and the United States of America. In this regard, the only major tax incentive for renewable energy companies in South Africa is the ability to claim the cost of the renewable energy assets in the first three years of trading. This, in turn, creates a significant assessed loss and, consequently, these companies only start paying CIT after they have traded for a number of years. This makes sense, as these projects typically assume significant amounts of debt, and the tax deferred is put to good use by settling this debt as soon as possible. With the limitation now in play, prospective renewable energy companies will be expected to pay significant amounts of tax from their second year of trading, which decreases their financial viability. This, in turn, will result in a need to propose a higher tariff, and there will undoubtedly be renewable energy projects that are declined by the Department of Mineral Resources which would otherwise have been approved, resulting in critical energy and jobs lost.
It is unfortunate that the government waited so long to reduce the CIT rate, when CIT rates globally had been steadily declining for at least a decade. In any event, there may already be a reversal of this trend, with countries under pressure to fund the significant cost of the pandemic. The United Kingdom, for example, recently announced that its headline CIT rate will increase from 19% to 25% in 2023.
CDH recently assisted a client with an investment into Uruguay, and it was noteworthy that the investment would not pay CIT in Uruguay for some 15 years after trading commenced. The investment was not capex intensive or critical for that country, but the rather generous tax incentive arose as a direct consequence of the number of jobs that would be created.
It should be that simple, and leads one to wonder if the policymakers should perhaps go back and start at the very beginning, a very good place to start.
Collop is a Director in the Tax & Exchange Control practice | Cliffe Dekker Hofmeyr.