I came across a situation recently where the comment "it's a section 21 company, so it must be tax exempt" was made.
First of all, for those who have not come across the term before, a section 21 company is a company which is formed for a non profit-making purpose. Why on earth would a company not want to make a profit, some may ask. The types of organisations that might operate through a non profit company would be those set up for a public benefit purpose for example, to build low-cost housing for the benefit of under-privileged people.
Despite the purposes of the company, it is not a foregone conclusion that it will be tax exempt. The Income Tax Act contains provisions that set out that under certain circumstances entities which satisfy certain criteria may be tax exempt.
However, in a number of instances, even if you believe the criteria have been satisfied, it is necessary to request the South African Revenue Services (SARS) to confirm that the company will qualify under the exemption.
For example, you may set up a section 21 company and it may qualify under one of the exemption provisions if it is formed:
* To conduct or promote scientific, technical, or industrial research;
* To provide medical, dental, blood transfusion or hospital services;
* To engage in or promote nature conservation or animal protection activities;
* To engage in or promote activities which the Commissioner is satisfied are of a cultural nature;
* To provide social or recreational amenities or facilities for the members of such company; or
* To promote the common interests of the members of the company carrying on any kind of business profession or occupation by means other than by trading or carrying on profit-making activities. This scenario envisages providing an exemption to, for example, the governing bodies of the professions eg the Institute of Architects, or Lawyers and so on.
In this instance the company may not participate in any business, profession or occupation carried on by its members, or provide its members with financial assistance or premises or continuous services or facilities for their business, profession or occupation.
For all these types of companies (or even another type of entity) to qualify for the exemption, they must also satisfy the following criteria:
* The activities of the company must be wholly or mainly directed to its principal object;
* It must, in terms of its memorandum and articles, not be permitted to distribute any of its profits or gains to any person and is required to utilise its funds solely for investment or the objects for which it was established; and
* On liquidation or winding-up it must be obliged to distribute the balance of its assets to a company, society or association with objects similar to itself.
If these criteria have not been fulfilled the Commissioner will not grant the exemption and the company will be taxed on its taxable income.
Next time someone says to you "it's a section 21 company, so it must be tax exempt", tell them it's dangerous to make such presumptions, and advise them to ensure that SARS has confirmed the exempt status.