You may hear people suggesting that you could remove your tax liabilities by buying an assessed tax loss, because you can offset your taxable income against the loss. However, there are several things you should know before you even consider such an option:
* A tax entity itself owns the assessed loss and cannot "give" it away. For example, if an individual has an assessed loss, which arose from a business he is conducting as a sole proprietor or in a partnership, he cannot "give" his assessed loss to anyone else.
If a company or close corporation (CC) has an assessed loss it cannot "sell" its loss to someone else. However, if you acquire the shares or membership of a company or CC, which has an assessed loss, the assessed loss may, subject to the points I will raise below, remain in place, even if the ownership of the company or CC has changed.
* If a company or CC has not traded for more than one tax year, any assessed loss which the last assessment reflects will fall away. Although an entity may appear to have an assessed loss, it may in fact have been reduced to zero. It is important to remember that receiving interest or or paying bank charges is not enough for it to be argued that the entity is trading. There must be definite trading activity.
* If there is an assessed loss in one of the companies in your group, it may be tempting to try to move income from one of the profitable companies into that assessed loss company.
There are several ways you might think of to do this. For example, you may consider the assessed loss company charging the profitable one an administration fee. This results in an expense in the profitable company that will reduce tax and the assessed loss will shield the assessed loss company from tax.
Alternatively, you may pass credit notes from the profitable company to the assessed loss company for goods purchased during the year. The credit notes might reflect a discount. One unfortunate group did exactly this, only to find that the South African Revenue Services (SARS) were more astute than it thought. The SARS queried the discounts on the basis that they were nothing more than transactions under a scheme of tax avoidance under section 103(1).
For the section to apply there has to be a transaction operation or scheme; it has to have resulted in avoidance, reduction, or postponement of tax; there must have been an element of abnormality concerned (and saying that it is normal to try to avoid tax does not work!); and the sole or main purpose must have been to avoid, reduce, or postpone tax.
In the tax case that ensued the group which tried to effect the discounts was not able to prove that s103(1) did not apply, and the group was taxed as if the discounts had not been passed.
Entries such as administration fees or discounts can only be made successfully if there is a good commercial reason.
* If you don't have an assessed loss company, but buy one, and sell a profitable business into the company, the SARS may also attempt to prevent the assessed loss being used against the profits of that business by applying section 103(2).
That section applies where the SARS believes that an agreement has been entered into, or there has been a change of shareholding, and as a result the assessed loss company has received income, and the sole or main purpose was to avoid, reduce or postpone tax. If the company is not able to demonstrate a commercial reason for the agreement or receipt of income that is more important than the avoidance of tax, the SARS can tax the profit, despite the existence of a loss.
* Despite the tax aspects regarding assessed losses, it is also important to remember that the reason the assessed loss has arisen may be that the business has done badly. If you acquire such a company, beware of skeletons in the cupboard.
There are many myths about assessed losses. Believing them could prove to be very expensive.