Shares in companies can be acquired for various reasons. From a tax perspective it is important to establish whether shares are acquired for investment purposes or for speculative purposes.
Shares that are acquired for investment purposes are generally held over a long period of time in order to benefit from any increases in the share price as well as to receive tax-free dividends. Shares acquired for speculative purposes, on the other hand, are generally held for a short period of time and disposal usually takes place when market conditions are favourable to realise profits.
When determining the tax consequences of shares disposed of within three years from acquisition, one needs to refer to the ‘gross income’ definition in section 1 of the Income Tax Act No 58 of 1962 (hereafter referred to as ‘the Act’). Whether the proceeds upon the disposal are treated as revenue in nature (i.e. fully subject to tax) or capital in nature (subject to capital gain tax at a lower rate) depend on various factors, including the intention of the taxpayer and objective factors surrounding the transaction. However, where shares are disposed of after three years from date of acquisition, the Act deems any proceeds from the disposal to be capital in nature and therefore, subject to capital gains tax.
This deeming provision in the Act is found in section 9C. Section 9C(2) determines that any amount that is received or accrued in respect of an equity share that has been held for a period of at least three years, is deemed to be capital in nature and is thus subject to capital gains tax.
There are, however, a few things to keep in mind. Firstly, section 9C excludes amounts that constitute local dividends or foreign dividends. Local dividends or foreign dividends will always be included in gross income by virtue of paragraph (k) of the gross income definition. Secondly, section 9C does not apply to any share, but its application is specifically limited to equity shares. Equity shares are defined in section 9C(1) and specifically includes participatory interests in a collective investment scheme in securities while specifically excluding shares in share block companies, shares in unlisted foreign companies and certain hybrid equity instruments. Section 9C will also not extend to preference shares, unless the preference shareholders have the right to participate without limitation in all distributions from the company.
It is also interesting to note that section 9C(2) does not require the disposal of an equity share for the amount to be deemed capital in nature. It simply requires that an amount be received or accrued in respect of an equity share, provided that the share has been held for at least three years. This matter will be addressed in a follow—up article.
What section 9C does is to remove any uncertainty as to whether or not the proceeds from the sale (for example) of shares are capital or revenue in nature. If shares that have been owned for at least three years are sold, irrespective of whether the intention upon acquisition was for investment of speculative purposes, the proceeds will be capital in nature and subject to capital gains tax.
Mrs Lizelle Bruwer (CA(SA))
Senior lecturer in Taxation
School of Accountancy
University of the Free State