It’s not every day that a farmer takes on the South African Revenue Service and wins, but that’s exactly what happened recently, setting a legal precedent for tax deduction in contingency insurance.
The case centres on a citrus farmer who paid a R10-million premium for self-insurance and deducted it under the Income Tax Act. Three years later, SARS conducted a full audit and issued additional assessments. The farmer took umbrage and took the matter to court.
In December 2024, the Tax Court in Cape Town ruled that SARS had missed the deadline to issue an additional tax assessment related to a contingency policy premium. The court’s decision not only found the assessment to be invalid but also clarified key aspects of contingency insurance.
A citrus-farming company took out a contingency insurance policy in 2017 to protect against risks such as citrus black spot and the false codling moth – threats it had previously covered out of pocket. The policy had a R10m premium, with a 4% underwriting fee, and a risk transfer limit of 20%, bringing the total risk cover to R12m. The premium was allocated to specific orchards based on their type and location, indicating some level of risk assessment.
Under the policy terms, claims were capped at the indemnity limit and paid from an “experience account”. If claims exceeded the account balance, the insurer covered the remaining amount. The policy allowed for cancellation with 30 days’ notice, in which case the insured would receive the balance of the experience account. The company also received monthly statements for this account, and the policy could be used as collateral.
Jean-Roux van Huyssteen, a director and tax attorney at TRM Tax Attorneys who was involved in the case, explained the complexities on The Money Show. According to Van Huyssteen, the farmer’s goal was to protect themselves.
“They operate in the citrus industry, and they had a bad case of black spots and the false codling moth,” he explained. “They were just losing money on the exporting of their citrus, and they were looking for a product that would just help them with insurance, something that they felt there was nothing on the market for.”
The farmer was introduced to what is known as an unconventional insurance product.
“And the reason we say that it’s unconventional is you pay, in this case, R10m, and in exchange for the R10m, you get about R12m, R13m worth of cover. It varies from contract to contract.”
An added benefit of the product was that if the farmer didn’t make a claim during the policy period, they could get their money back, plus some interest.
“And that is where the commissioner had a bit of a problem with the deduction,” Van Huyssteen noted.
SARS’s two main concerns
He explained that SARS had two main concerns with the premiums and the structure of the arrangement. First, SARS argued that the farmer was essentially setting aside their own money and not truly relinquishing it, meaning there was no actual expense. Additionally, even if there was an expense, SARS contended that the farmer was merely creating a capital asset or capital reserves.
The court concluded there was no misrepresentation in this case under section 99(2) of the Tax Administration Act and made the following points:
SARS argued that the insurance premium paid was unusual and did not meet the requirements of section 11(a) because of certain features of the contract.
However, while the insurance premium seemed unusual, because it provided a risk benefit of 120% of the premium over a short period, the court found that the contract still allowed the taxpayer to claim the full risk benefit in exchange for the premium. For example, if a storm had damaged the insured orchards right after the policy was taken out, the taxpayer would have been entitled to claim R12m in insurance cover.
The court also noted that just because the taxpayer could cancel the contract and get back an amount close to the premium did not change the fact that the insurance contract provided coverage while it was active, and the taxpayer was entitled to the benefits in case of an insured event.
Patrick Bracher, director at Norton Rose Fulbright, highlighted another interesting point in the judgment. In a post on the firm’s website, Bracher noted that although it wasn’t strictly necessary for the court’s decision (and might be addressed if the case is appealed on its merits rather than prescription), the court emphasised that the taxpayer’s payment was an amount owed under the policy and involved a shift in assets.
“The transaction was different from the deposit of an amount in a bank account. The premium payment was not equivalent to a deposit in an accessible account. The taxpayer acquired contractual rights (in the form of an insurance policy) to a greater payment than the amount expended, which differentiates the policy from a temporary housing of the amount.”
Bracher further pointed out that the judgment reinforced the idea that the insurance was intended to protect the taxpayer against losses in fruit sales due to the insured events.
“Its purpose therefore was to fill a hole in the taxpayer’s income-earning stream as a result of one of the protected risks eventuating, and not to compensate for the loss of a capital asset. The accrual of notional interest on the experience account does not render the payment one that acquires an independent income-producing concern.”
Supporting this point, Van Huyssteen said the farmer faced the risk that if any issues were identified during exports, such as in Europe, they would have to discard all produce from the affected orchards and those nearby, resulting in significant financial losses.
He noted that the farmer had conducted risk assessments. With more than 100 citrus orchards to insure, but limited cash flow, the farmer identified the 25 orchards most at risk of black spot and false codling moth for coverage.
“At all material times, they were simply trying to protect their business operations,” said Van Huysteen.
He said, given these circumstances, it was clear the taxpayer was not creating a reserve fund or capital asset but incurring an expense to safeguard their income-generating activities.
Consequently, the court ruled that the payment constituted an expense, with one asset exchanged for another, and affirmed that no capital asset had been created.
Unconventional insurance
Interestingly, the court decided not to consider an argument based on section 23(e) of the Income Tax Act because it initially believed that, although the insurance premium was unusual, it was not just a deposit into a fund.
The court found that the premium created insurance obligations for the entire duration of the policy, and it did not fit the definition of “income carried to any reserve fund or capitalised in any way”.
Bracher said the judgment shows a clear understanding of contingency policies and insurance law.
“It is a pity that a contingency policy is described as unconventional insurance. It is either insurance or it is not; and it is insurance.”
He added there are many examples of insurances that do not exactly match traditional thinking such as cell captive insurance, captive insurance, parametric insurance and other insurance arising from the need to cover modern commercial undertakings and catering for limitations on insuring risks under standard policy wordings.
“The judgment demonstrates that SARS has been aware of experience accounts since at least 2017 and has clearly understood and accepted the nature of these transactions, except in the few cases where they have sought to extract additional tax and penalties.
“Contingency insurance is an essential right of policyholders to manage their risks through regulated insurance structures,” said Bracher.
Statutory immunity
This case also introduced an additional layer of complexity related to taxpayer rights, particularly in terms of statutory immunity. Van Huysteen explained that under South African tax law, filing an income tax return grants immunity from SARS raising additional assessments for three years following the submission.
He said that in this case, the taxpayer filed their return, which was then verified. Due to a significant increase of R10m in insurance expenditure, the taxpayer provided explanations, including policy schedules. SARS reviewed the information and confirmed there were no issues. However, after three years had passed, SARS initiated a full audit and issued additional assessments.
A key challenge for SARS was proving that fraud or misrepresentation had occurred, resulting in an under-collection of tax. Van Huyssteen said SARS could not establish this.
“And on that basis, I think that the legality of the matter… it’s not purely a substantive question. So, whether or not they will appeal, we will have to see. Their last day for doing that is early February, but at this stage, we’ve heard nothing about an appeal pending,” he said.
